The Great Stagnation

Tyler Cowen is selling a new electronic micro book called The Great Stagnation. It’s a tiny book – essentially just an essay – but it is cheap, $3.99 on Amazon. I like his subject, summarized in the subtitle: How America Ate All The Low-Hanging Fruit of Modern History,Got Sick, and Will (Eventually) Feel Better.

There are a number of interesting ideas, but I liked the last few chapters better than the first. In fact, it didn’t take long for my first symptoms of indigestion to set in.

He has a graph at location 142 tracing growth in median US family income from 1945 to 2007. There are two lines on the graph, one labeled actual, the other labeled “if it had kept pace with GDP per capita.” The graph shows almost steady growth in the GDP per capital line, with median family income faltering and falling well-behind after the early 1970’s. So far, so good, but next he creates a muddle.

You can see the rate of growth of per capita median income slows down…”

Say What?

Do you mean median or per capita? He wants to make the case that median family income is the best measure of economic progress, but then he tries to conflate two measures which he has already shown diverge. There are at least two reasons median income could grow a lot more slowly than per capita GDP: either median family size is decreasing or a larger share of the economy is going to some part of the public other than the median. Neither helps make his case that the real problem is slowing of economic progress. Both happen to be true – families are smaller and the rich are a lot richer.

Cowen’s second graph (location 193), of rate of innovation per billion people since the dark ages is even more problematic. A relatively minor fault is the unreadable lower axis labeling. More to the point are the questions of how such innovation is measured, and the relevance of the per capita divisor. It shows, says Professor Cowen, this measure peaking 1873 and declining exponentially ever since. Pullee-f******-ze!

Far more reasonably, he adds that innovation has become more difficult and expensive. This is certainly true in many fields, but he adds “meaningful innovation has become harder … which means a lower and declining rate of return on technology.” This claim is largely bogus, for a reason which any economist ought to grasp: economy of scale. An innovation in 1800 would likely spread very slowly and accrue benefits only very locally to the inventor, but Steve Job’s latest innovations conquer the world in a heartbeat and he is getting plenty of return on investment.

I like his next point better: “Contemporary innovation often takes the form of expanding positions of economic and political privilege, extracting resource from the government by lobbying, seeking the sometimes extreme protections of intellectual property laws, …” Though I think he goes a bit overboard when he throws Gucci handbags into that mix. This isn’t exactly a new trend, though. Most innovations, from agriculture to the industrial revolution, built and expanded bastions of privilege. Innovations that benefit all tend to be swallowed up by Dr. Malthus.

Cowen has some concerns about measures of productivity, especially the component due to government.

So here is Prof C’s theorem:

1. The larger the role of government in the economy, the more the published figures for GDP growth are overstating improvements in our living standard.

His point, I gather is that production of government goods is valued at cost, a cost which is not based on market values. Thus a billion dollar bridge to nowhere counts as just as much production as a billion dollar research investment that cures cancer. That problem doesn’t arise in the private sector, since we have the price mechanism to sort things out, which is why we know that a billion dollars spent on one guy’s really nice house in India was a more worthwhile endeavor than using the same money to buy a few hundred million healthy meals for hungry Indian children.

Or did I miss some crucial point here?

There is the trivial point that some goods are more critical than others. Deprive the billionaire of food, and eventually his next meal might be worth as much to him as that billion dollar house. Cowen’s problem, I guess, is that he doesn’t trust the political process to allocate resources optimally. Me neither. Only I feel the same way about the market.

For me, the best and most interesting part of his essay is the part on health care. One very striking fact is the relatively low correlation between health care expenditures and objective measures of health outcome: countries that expend a small fraction of what we do on health care have comparable life expectancies, infant mortality, and other such measures. Another fairly familiar fact is that these expenditures are disproportionately for the elderly. The most fundamental problem, perhaps, is the difficulty of judging the value of the care the medical system offers you.

I have on numerous occasions been subjected to extensive amounts of ionizing radiation because a physician thought that I needed it for his diagnosis. In most cases, the upshot was, “good news, you are fine.” In no case was a life threatening and treatable condition found and corrected as a result. The net result: temporary reassurance at the cost of a life shortening dosage of radiation – and money in some medical pockets.

I will briefly mention a few other points that he makes at some length. Inflation adjusted educational expenditures per student have roughly doubled in the last 35 years, but student performance has not notably improved. The internet has become hugely important in our lives and businesses, but in terms of revenue and jobs, it’s a relatively small part of the economy. Multi-billion dollar companies run with a few hundred employees.

Cowen then goes into his basic argument that we had all come to expect too much economic progress, because we had gotten used to it, and that we ran into a wall where technology stopped being the magic breadbasket. So far I’m with him. Next, he extends his idea to explanation of the financial crisis. It’s everybody’s fault he says, we all got to overconfident. Not utterly false, but so encrusted with falsehood as to be deeply misleading.

Most people, including both homebuyers and ordinary investors have neither the resources nor access to the knowledge to independently assess the state of credit markets. They relied on those whose job it was to assess those risks and who had vast resources at their disposal to do so: the investment banks, the ratings agencies, and finally, the federal government regulators. Those people bear the direct responsibility, not Cowen’s vague “all of us.” Equally culpable, perhaps even more culpable, were the economists who sold the lie that all of the foregoing relied on and shuffled their responsibilities on to: the notion that the magic of the market always knew best. Cowen glosses over one crucial detail: those in position to know the most got rich, even extremely rich, selling the lies.

Cowen’s most substantial claim is that the current economic disaster is not (mainly, anyway) due to a failure of aggregate demand, but to a lack of technology to exploit.

Our author naturally has some ideas for fixing the future. He leads with

1. Raise the social status of scientists.

As a scientist, I would hate to dispute this, but I would settle for just undoing the Republican Party’s current plans for gutting the US basic science program. Scientists' status in the US isn’t terribly low, so far as I can tell, and Nobel Prizewinners, so they say, even rate groupies – a circumstance unlikely to improve their productivity.

Another comment adds that we might find something to learn, he says, from the way Japan has handled it’s slow growth economy.

We need to be prepared for a recession that could last longer than we are used to, says the Prof, and beware the next crop of low hanging fruit when we find it – it might turn out to be toxic too.