Friday, August 31, 2012

Restricted Growth

Is it game over for the developed world - including Ireland? Robert Gordon has written a fascinating paper about the six headwinds confronting the United States and why the United States will likely return to the (very) long run norm of next to zero growth over the rest of the century. His six headwinds include:

  1. A reversal of the demographic dividend (increasing participation in the workforce driven especially by female participation will give way to falling participation due to an ageing population).
  2. A plateau in educational attainment in terms of participation in higher education.
  3. Rising inequality, dragging down median real income growth even if overall incomes rise.
  4. The combination of globalisation with information and communications technologies, the factor-price equalisation theory.
  5. Energy and the environment, pushing up costs to further industrialisation and the price of production.
  6. Household and government debt, and the great de-leveraging that follows.
Five of these six headwinds apply to Ireland - only the reversal of the demographic dividend is not affecting us right now, but we're simply a decade or two behind the United States in that regard.

Of course, the developing world still have some way to go: the three 'industrial revolutions' Gordon describes still have to be experienced by billions of the world's people. So they will enjoy a certain amount of catch up in the decades ahead (subject to more global headwinds, such as 5 above). 

Not everyone agrees with Gordon, of course, with some expecting a fourth 'industrial revolution' in the years and decades ahead brought about by Artificial Intelligence (AI), robotics, and new breakthrough energy sources. Still others think we need to lose our fixation with growth altogether, adjusting our attitudes to a more 'grown up' outlook about what's feasible in a finite world. An idea which suffers from 'first mover disadvantages' unfortunately.

All of which is very interesting except for the fact that many of the problems we face in Ireland can only be solved by growth (and rather more than the 0.2% per annum extrapolated in Gordon's chart above). Take just one problem: debt. The chart below - from a chirpy little study entitled The Continued Economic Decline of the West - should help make it clear:

It's going to be a long time before we can shrink our debt hydra to more manageable sizes. 

There's another reason why Ireland desperately needs growth: demographics. When that headwind finally reaches us we'll need a very big nest egg to see us through. But the nest egg will only get bigger if the economy grows. Irish pension funds have experienced an average annual return growth rate of -2.1% over the past five years, though a healthier 7.7% over the past 20 years. But is the past 20 years a good guide to the next 20 years? Gordon would suggest they are not as the benefits of the first three industrial revolutions have already been fed through the economy.

We shall see. No doubt there will be opportunities to raise Ireland's long run productivity (and hence economic growth rate - ceteris paribus): the coming revolution in education is just one example. But there are no easy options, and they will all require tough decisions by our political leaders - and that's one headwind we will be buffeted by for some time to come.

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