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Economic growth is a direct function of productivity which measures the amount of leverage an economy can generate from its two primary inputs, labour and capital. Without productivity, an economy is solely reliant on the mentioned inputs. Due to the limited nature of both labour and capital, productivity being heavily dependent would cause problems over time.
Leveraging labour and capital, or becoming more productive, provides the dynamism to an economy. Unfortunately, productivity requires work, time, and sacrifice. It’s a function of innumerable factors including innovation, education, government policies, and financial incentives.
Labour is largely a function of the demographic makeup of an economy and its employees’ skillset and knowledge base. In the short run, increasing labour productivity is difficult. Realizing changes to skills training and education take time but they do have meaningful effects. Similarly, changes in birth rate patterns require decades to influence an economy.
Within the labour force, the biggest trend affecting current and future economic activity, both domestic and globally, is the aging of the baby boomers. This outsized group of the population, ages 55 to 73 are beginning to retire at even greater rates. As this occurs, they tend to consume less, rely more on financial support from the rest of the population, and withdraw valuable skills and knowledge from the workforce i.e. more economically damaging than usual.
While the implications of changes in demographics and the workforce composition are numerous, they only require one vital point of emphasis: the significant economic contributions attributable to the baby boomers from the last 30 years will diminish from here forward. As they contribute less, they will also require a higher allotment of financial support, becoming more dependent on younger workers.
Finally, immigration is also an important component in the labour force equation. Changes in immigration policies and laws are easier to amend to foster more immediate growth but political dynamics argue that pro-immigration policies and laws are not likely within the next few years.
Capital includes natural, man-made and financial resources. Over the past 30 years, the U.S. economy benefited from significant capital growth, in particular debt. The increase is stark when compared to the relatively modest level of economic activity that accompanied it.
This divergence in debt and economic growth is a result of many consecutive years of borrowing funds for consumptive purposes and the misallocation of capital, both of which are largely unproductive endeavours. In hindsight we know these actions were unproductive as highlighted by the steadily rising ratio of debt to GDP. Simply, if debt were used for productive activities, economic growth would have risen faster than debt outstanding.
Since 1980, the long term average growth rate of productivity has ranged between 0 to 2 percent annually. This was precisely the result, in part, of the removal of the gold standard and the resulting freedom the Fed was granted to foster more debt. Over the last 30 years the economy had been reliant more upon debt growth and less on productivity to generate economic activity.
Firstly, the simple fact that government debt as a ratio of GDP has continually grown, indicates that the capital misallocated towards the government was not employed for ventures that may have resulted in economically beneficial productivity gains. Secondly, the Federal Reserve has used monetary policy to poke economic growth and deprive the economy of full economic recessions that clean up financial markets. They have bailed out the largest enablers of unproductive debt. Their policies encourage public and private debt expansion, much of which has been unproductive.
Current economic circumstances serve as a killjoy on economic growth and are clearly weighing on productivity by diverting capital away from productive uses in order to service that debt. Impractical policies that impose an over-reliance on debt and demographics have largely run their course.
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