Tags: Natural | Economic | Growth | Rate

There Is No Natural Economic Growth Rate

By    |   Wednesday, 30 May 2012 04:55 PM

There is no natural economic growth rate. That’s right. Not for any country. Never has been. Never will be.

There is simply no such thing as natural economic growth. All economic growth stems from population growth and productivity growth. The two of those are related to some extent. Higher agricultural productivity will lead to a larger population.

However, our focus should be on productivity since we are primarily interested in becoming wealthier per person, not just having a larger economy with lots and lots of poor people.

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So, productivity is the source of economic growth. Hence, economies will only grow when they are increasing productivity. And increasing productivity is not natural. It has to come from changes in the way we produce goods and services. This involves changes in the way we do business and that often involves changes in government and changes in technology.

China is a great example. What was China’s “natural” growth rate in the 1960s? What was its natural growth rate in the 1990s? We all know it was much higher in the 1990s than in the 1960s. Hence, there is no “natural” growth rate for China (or for any other country). It varies—quite a bit actually—depending on governmental and business actions.

Growth was higher in the 1990s because China had made numerous important changes in the way they conducted business and in the way their government worked. Entrepreneurship was encouraged, free markets were encouraged, and more input from foreigner investors and businesses was encouraged. This made a huge difference in the productivity levels of their people.

So, if China, or any other country, wants its economy to grow, it will have to continue to increase productivity. Yes, some of that productivity will continue to improve due to changes made in the past, but eventually the impact of those changes will diminish and economic growth will plateau if people don’t continue to make more improvements in productivity.

This may sound a lot like me telling you “there’s no free lunch” and that’s true.

But, it has enormous importance for how many economists are looking at the economy. Many economists are assuming that any downturn in our economy is simply a diversion from our “natural” growth rate.

In fact, you will even see that term used in many financial and economic articles.

Nobody is questioning where that growth is coming from—they are simply assuming it is there and that our economy will naturally bounce back into growth mode. They are assuming that productivity is naturally growing all the time, even when economic history clearly shows it is not and that there is no “natural” growth rate.

In fact, rather than staying the same, productivity growth in this country and in the other major industrialized nations in Europe and in Japan has been slowing dramatically. Productivity growth in the last quarter of the 20th century was much slower than in the first three quarters. These are long periods of time.

That’s how real productivity improvement works. It is a very long term process. You should almost completely ignore the government “productivity” statistics or “output per man-hour.” Not that they are biased or wrong, but they don’t give you a true idea of real productivity growth. For example, productivity by that measure can be improved enormously by simply stopping all research and development. It’s a dumb measure of productivity.

I wrote quite a bit about productivity in "Aftershock," which describes this issue in much more detail. I can’t go into that detail here, but suffice to say, productivity growth in the United States (and Europe and Japan) is slowing down and, as I said in the book, slowing productivity growth is the real trouble underlying the bubbles.

It’s also why the economy is not rebounding despite massive and unprecedented stimulus in the form of government borrowing and money printing.

Yes, there are always articles on productivity improvement in manufacturing (the Wall Street Journal had a good one on steel recently), and that is true, but frankly such productivity improvements are almost meaningless. That’s a bit of an overstatement, but manufacturing is now only 10 percent of our economy.

It’s simply not that important to our current economy. Our economy is now almost entirely service based. As an economist, what I want to see are articles on big improvements in productivity in healthcare, education and government services. That’s almost half our economy. When was the last time you read such articles? Hah! People almost laugh at the thought, but it’s crucial to getting our economy back on track without massive stimulus (or once the stimulus blows up our economy in the Aftershock).

In fact, most of those sectors have actually had falling productivity. A college degree from the University of Texas-Austin now costs $40,000 and it isn’t any better than the one that cost $2,000 30 years ago. I’ll have more to say on education productivity and the student debt bubble in a later blog.

This thinking that we have a normal growth rate is also behind the European discussion of stimulus vs. austerity. It’s also the same argument in this country.

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The idea is that if we just stimulate the economy enough, its natural growth rate will come back and then we can pay back all the stimulus. Again, Hah!

Does anybody really think we are better able to pay off our $16 trillion debt now than when we had a $12 trillion debt in 2007? Honestly, if there was a massive underlying natural growth rate, there might be some degree of truth to this argument. We couldn’t pay it off, but we might have a shot at reducing it.

But, with limited or no economic growth (because there is limited or no productivity growth) this argument becomes a farce. Again, there is no “natural” growth rate that will save us.

We have to work for every bit of productivity improvement and make changes in our government and businesses that will improve productivity.

It won’t come like the spring rain. Never has. Never will.

About the Author: Robert Wiedemer
Robert Wiedemer is a managing director of Absolute Investment Management, an investment-advisory firm for individuals with more than $200 million under management. He is a regular contributor to Financial Intelligence Report, the flagship investment newsletter of Newsmax Media. Click Here to read more of his articles. Discover more about his latest book, "Aftershock," by Clicking Here Now.

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