While the U.S. economy certainly has some considerable cyclical problems to work through right now, we can’t forget the longer-term problems that also plague us—such as the low rate of productivity growth in the United States, fewer business startups, and declining business investment. These problems are not unrelated. The changes in business behavior in recent decades are factors in the recent slowdown in productivity growth.
But how concerned should we be about these trends? Are they cyclical problems that will soon be corrected? Or are they deeper structural changes we should grapple with more?
A couple of speeches by Jason Furman, Chair of the President’s Council of Economic Advisers, provide a good starting point for this conversation. The first speech, delivered at the Peterson Institute of International Economics last July, is about productivity growth. Furman covers a wide range of topics in the talk, but for our purposes, we’ll focus on his analysis of the current productivity slowdown.
Furman focuses on labor productivity, which can be broken down to improvements in “labor quality” (education levels, essentially), increases in capital investment, and total factor productivity. He points out that since 2010, the decline in labor productivity growth in the United States has been driven mostly by a decline in capital per worker—or in other words, by a slowdown in business investment. As Dietz Vollrath points out, the decline in capital per worker has been widespread across all classes of capital.
This, then, raises the question: How do we boost business investment? That brings us to Furman’s second speech, given at the Progressive Policy Institute this past September. Furman cites research that argues the extremely weak growth in U.S. business investment since the Great Recession is due to the nation’s weak economic growth during the recovery. Businesses plan investment based on expectations of future spending by consumers, so investing based on future growth makes sense.
But while this “accelerator” view of the slowdown makes sense, Furman notes some puzzles. In particular, the return to capital has increased substantially while investment has not. What are firms doing with all these profits they’re earning and not investing, then?
The data show that a large chunk of these profits are being distributed to shareholders in the form of increased dividends and stock buybacks—a trend highlighted by economist J.W. Mason of the Roosevelt Institute and John Jay College. Mason noted that this change in the distribution of profits goes back to the 1980s, presenting the possibility that this is a structural impediment to increased business investment.
In his speech (and subsequent work), Furman notes that the increase in the rate of return on capital may be a result of increased rents in the economy, due to increased business consolidation and market power. Given that a more consolidated market will invest less, that’s another possible structural roadblock to higher investment and stronger labor productivity growth.
But let’s return to Furman’s first speech. Although labor productivity has slowed on average, this is not true for all firms. On that front, Furman points to research from the Organisation for Economic Co-operation and Development showing that productivity growth at leading firms is doing well. Again, Furman interprets this as a sign that the recent productivity decline is mostly about the investment slowdown. The problem is that the innovations at “frontier” firms aren’t spreading to the rest of the economy. In part, this may be due to the declining business dynamism in the United States, with fewer firms being started and ended every year. That’s a problem of misallocation that may require a policy response.
Declining business investment and dynamism, insomuch as they are affecting productivity growth, should concern policymakers and everyday Americans. Stronger productivity is a necessary requirement for higher living standards. Of course, we know productivity isn’t always entirely captured by workers. It’s not sufficient, but it is necessary. We should be watching these trends, concerned about them, and wondering how we might be able to change them.