Understanding structural impediments to growth

In today’s low-growth economy, it’s imperative we identify the real factors contributing to anaemic growth. Only then can we begin to address the problems at hand.

When considering the low levels of economic growth around the world and the structural forces at play, and then juxtaposing these forces against a rising tide of populism, nationalism, rejection of mainstream politicians and opposition to free trade and immigration, it becomes increasingly apparent that these are very much linked.
We have had interest rates at or near zero for more than seven years, unprecedented monetary stimulus from the world’s central banks and a demand for money so weak that interest rates are now negative in parts of Europe. While certain equity markets have trended higher, the historic stimulus has produced little in the way of strong economic growth, which shows that these structural forces are powerful indeed. So powerful, intertwined and complex that most politicians have been unwilling or unable to adequately explain them to voters.
Below are a series of reasons why economic growth is anaemic. There are a multitude of causes, and it is their combination that makes them so powerful. Some of these structural deficiencies can be tackled head-on. Others are harder. However, I am convinced that, if we begin to address these problems, a better growth picture will emerge.

DEMOGRAPHICS
Economic growth is driven by population growth and the productivity of the working population. Unfortunately, both are declining. In advanced economies, working-age populations are now declining, and while population growth in emerging economies is positive, the rate of that growth is also declining. The result is that total world population growth is now below 2% on an annualized basis.
The productivity of the population has also declined, and this is more of a mystery. Jim Cielinski, our global head of fixed income, offered some thoughts on the decline in productivity in his blogpost: ‘The productivity crash: time to pay attention.’ There are some of us who are scratching our heads over productivity declines in a world where technology is both ubiquitous and powerful.

SHIFTS IN CAPITAL SPENDING AND TECHNOLOGY
During a recent trip to Washington, DC, I checked into my hotel room using the hotel’s app, avoided the check-in line at the front desk and used the electronic key on my phone to unlock my door. I had breezed past the lobby, went to my room and didn’t have to interact with anyone. As I marvelled at today’s technology, my thoughts turned to the impact on the hotel workforce. The cost to produce the app was likely relatively low. Its benefits in terms of cost savings for the company could be huge, but it comes with an effect on people if they cannot adapt quickly, re-engineer processes and deliver additional value.
We may not yet fully understand the huge and largely deflationary impact technology is having on the economy. I do not believe we measure technology’s positive impact on productivity, nor do I believe that we adequately measure technology’s impact on certain industries that results in structurally slower economic growth. For instance, Larry Summers, the economist and former US Treasury Secretary, has pointed out that the technology that powers Airbnb and Uber is having, or will have, a negative impact on the hotel and automobile industries. He also points out another interesting aspect about technology that is contributing to lower economic growth: “Ponder the fact that WhatsApp has a greater market value than Sony, with next to no capital investment required to achieve it. Ponder the fact that it used to require tens of millions of dollars to start a significant new venture, and significant new ventures today are seeded with hundreds of thousands of dollars. All of this means reduced demand for investment. …”
Summers essentially frames an argument around slower long-term growth by noting that many forces are reducing demand for investment, which manifests itself in very low interest rates. In relative terms, the proportions of capital spending relative to financial success are minor. It costs a lot to build a steel plant but a mere fraction of that to build an app.

WEALTH INEQUALITY
Much has been written about the growing inequality of wealth across most major economies. Simply put, a small segment of the population is accumulating a greater share of the world’s wealth. This, too, is a structural force that is lowering GDP. Wealthy people do not spend all their income; in general, they tend to be net savers. Meanwhile, those in lower income brackets spend, and they have largely seen wages stagnate over the last 20 years. The problem for the global economy is that we need those in lower income brackets to be able to both spend and save, especially in an economy driven by consumption like the US. Free trade and immigration are seen to be job destroyers, and while that may be partially true, the real issue is that incomes have not grown for far too many people for far too long. Meanwhile, income has increased exponentially for a small segment of the population.

THE PARADOX OF THRIFT
The paradox of thrift is an economic concept that – in its simplest form – posits that if everyone saves and nobody spends, the economy will not grow. Ultra-low interest rates were designed to reflate risk assets and push the consumer off the side-lines and back into consumption mode. The problem is that those very low rates are now causing people to worry about rates of return on savings. Instead of spending, more people are now saving more. Look no further than Japan for the extreme version of this phenomenon. Almost two generations have grown up with low interest rates and low economic growth. They have saved more in return despite many attempts to encourage people to spend. There are reports of cash hoarding in Switzerland, where rates are negative. In short, some people are literally putting cash under the mattress.

SOLUTIONS
There are multiple solutions to address the structural causes of lower growth:

• Immigration or increases in the birth rate can spur population growth. Interestingly, China has ended its one child policy in response to a population that is ageing too rapidly.
• Productivity is a tougher challenge. I would suggest that further work is needed in studying whether productivity is being measured correctly in this era of rapid technological and mobile advancements. Who is measuring my personal productivity gain by not having to wait to check into my hotel room, for instance?
• Inequality can be addressed in multiple ways, not the least of which is sensible tax reform and a hard look at wages.
• We can take care of the paradox of thrift by returning to a more normal interest rate policy. Central banks have done their job. It’s now time for government to do its work. Summers, who has written extensively on what he calls ‘secular stagnation,’ believes that the problem lies in the lack of aggregate demand. As such, his antidotes include fiscal stimulus, including a massive infrastructure repair in the United States. This would have the benefit of putting more money in people’s pockets through wages, which would reduce wealth inequality and increase demand. Summers also calls for regulatory reform, business tax reform and other measures to boost business confidence, which he calls the ‘cheapest form of stimulus.

Ted Truscott – Chief Executive Officer – Columbia Threadneedle Investments