Correct Government Key to Productivity Turnaround

A new report from the McKinsey Global Institute has set off a flurry of economic opinions that aim to solve the problem that the report has unveiled: a global slowdown in economic activity due to slowing employment. The report identifies that global growth will shrink by approximately 40% due to a slowdown of employment growth to 0.3% from 1.7% over the next fifty years. McKinsey, and the vast majority of opinion articles that have been published since its release, attempt to solve the problem by promoting the importance of improving productivity.

One such opinion was penned in today's Wall Street Journal by William A. Galston. Galston argues in the article How to Reverse the Looming Economic Slide that the solution to the global slowdown can be lead by government action which increases productivity. He states that without rapid economic growth, the social costs of an aging population will soon be unbearable. His solution for economic growth flows from the recommendations of the MGI, that government intervention in the form of investments are the key to boosting productivity. Two key areas that he highlights is the importance of government investment in research and development and infrastructure as each of these areas will not see the capital flows needed from the private sector alone. Galston summarizes his conclusion:

The U.S. can remain the world's predominant economic power in the 21st century—if our political system can get the basics right.

While there is no denial that the U.S. government's investment in R&D and infrastructure would help improve productivity, when framed in the current political sphere, this long term plan seems destined to fail. First, given the historically unprecedented levels of government debt, not only in the United States but in Europe and other developed countries, it seems unlikely that governments will have their finances in good standing to provide the capital outlays needed to boost productivity. Realistically, before additional spending can occur in the public sector, governments need to get their finances in order, and by the time that occurs, we could be well into the economic slowdown. The political gridlock in Washington is another factor that hampers Galston's argument. Fiscal conservatives and liberals cannot agree on a plan that they both support, such as a tax overhaul, it seems nearly impossible for them to agree on more polarizing investment and R&D spending.

This is all not to say that the government cannot be a factor in the turnaround of productivity in the United States. In fact, they will play a key role, just not the one Galston has outlined for them.

The role the government should play is outlined in the Harvard Business Review article The Productivity Challenge of an Aging Global Workforce. The authors, James Manyika, Jaana Remes, and Richard Dobbs, offer the prospective of the government as a regulator, providing the incentives necessary for the private sector to boost productivity. Central to their argument is that 75% of necessary growth output per year could come from companies and governments adopting best practices. They highlight reforms in the retail sector:

In retail, for instance, productivity could increase by another one-third in developed economies and double in emerging economies between 2012 and 2025...Government regulation has a central role here. In Russia, retail productivity more than doubled in just 10 years when the government opened the sector to foreign competitors that brought modern formats with them.

This role of "regulator" is one which can easily be achieved by the government. They are able to capitalize on this regulation role by providing incentives through targeted reforms and law revisions. Requiring companies to be compliant with economic best practices or writing tax reforms to reward those companies who are most productive can be a less politically charged way to seek the productivity gains that are needed.