J. Bradford DeLong | October 4, 2002 | Version 2.0
Last year Western Europe's real GDP grew by only 1.5 percent, even though the average unemployment rate fell by 0.8 percentage points. This year Western Europe's real GDP will grow by less than one percent per year, and unemployment will rise by half a percentage point. Western Europe's economy is stagnating.
Western Europe's recent economic performance is even more disappointing when compared to America. Consider that the surprisingly-large American productivity boom of the second half of the 1990s that has not yet come to an end. Over the past seven quarters, America's unemployment rate has risen by 1.8 percentage points. In every previous recession such a large rise in unemployment would be accompanied by flat or falling real GDP. Because of not surprisingly- but astonishingly-large productivity growth, the past seven quarters have seen America's real GDP not fall but rise by 3.1 percent. Even in a full-fledged unemployment recession with the number of people without jobs growing by half, production keeps rising. The American economy is not stagnating.
This continuation of rapid productivity growth through the recession is what gives us confidence that our new semiconductor- and glass fiber-based technologies are powerful and useful, and that America's medium-run economic future is very bright indeed. And this continuation of rapid productivity growth makes Western Europe's puzzle even worse. Why was the boom in productivity--why is the boom in productivity--confined to the US? Is there something in the water, is there something in the air, that makes high-technology equipment work better in Palo Alto, Austin, or Cambridge (Massachusetts) than in Edinburgh, Cologne, or Cambridge (England)?
Over the past four years lots of analysts have made a pretty good living flying back and forth across the Atlantic setting forth hypotheses for the mysterious failure of the European productivity-growth dog to bark in the nighttime. The remnants of the lost tribe of Keynesians have argued that businesses will invest heavily in high-tech only when demand is high, and that Europe's central bankers (in sharp contrast to Alan Greenspan) have been unwilling to risk even a little more inflation to ignite the new-economy transformation. Other analysts have argued that the difference between American and European statistical systems creates the illusion of a difference in growth--that actually Europe is doing fine. Still others say that the U.S. boom was a fake and a fraud--that the U.S. pushed employment too high and invested too much in telecommunications and computers, and that when the dust settles there will be little left of the "new economy." Still others say, "wait a while": a decade ago people worried about why the computerization of the U.S. economy had not led to any acceleration in productivity growth, the answer turned out to be that although we could hear the locomotive the train had not yet reached the station, and that if we just wait five or ten years Western Europe will have as large an acceleration in growth as the U.S. has had since 1995.
Last, the U.S. Federal Reserve and the International Monetary Fund believe that the real problem is too much European red tape: businesses invest heavily in high-tech only when they can smell immediate productivity gains from reorganization and restructuring, and European red tape keeps firms from being allowed to reorganize and restructure.
It would be surprising if all of these were not somewhat true. There was hype, froth, and irrational exuberance in the NASDAQ bubble. European central bankers are too cautious and stingy. There are important (but mind-numbingly boring) differences between European and American statistical systems. But as we look more deeply into the detailed patterns of growth in the late 1990s, it becomes more clear and more likely that the last two possibilities are playing the largest role: the Western European productivity miracle is coming down the track, and it is being hobbled and slowed by European red tape.
We now know that *all* of the difference between Western European and American productivity growth rates in the late 1990s is due to wholesale and retail trade, financial transactions, and other service industries that intensively use information and communications technology [ICT]. Measured American labor productivity growth in these sectors acclerated from 1.6 to 4.8 percent per year between the early and the late 1990s, while European productivity growth in ICT-using services remained stuck at a measly 0.8 percent per year. We know the American companies that are leading this productivity revolution driven by the application of information technology to distribution: WalMart, Amazon, Land's End, WebVan (oops!). It's not that the rest of the computer-intensive American economy is doing badly: the productivity acceleration in ICT-producing manufacturing has grown even faster, and the acceleration in ICT-using manufacturing is clearly visible as well. But the big differences between America and Western Europe is that America has been using ICT to improve service-sector productivity, and Western Europe has not.
European red tape clearly plays a substantial role in this. But I cannot help but be reminded of how a decade ago American economists and business analysts made light of the computer revolution: after all, they said, computer power had been multiplying for decades without having any visible effect on the economy as a whole. What this conventional wisdom missed was that growing sectors--even rapidly growing sectors--don't have an impact on the economy as a whole until they achieve critical mass and can be applied to a large chunk of the entire economy. This lesson is very old. It was first taught by those who noticed that historians of technology date Britain's industrial revolution to 1780-1830 (the age of the key inventions) while social historians date it to 1830-1870 (when steam, iron and the factory achieved critical mass and turned Britain from a nation of shopkeepers into one of factory workers).
Even with all the red tape, much of Western Europe today is in the same situation as the US in the early 1990s, simply waiting for the next turn of the business cycle and the continued diffusion of technology to achieve the necessary critical mass. The computer and communications revolution is already transforming the economies of Finland, Sweden, Ireland, Australia, and a few others. My money is on Western Europe's economy-wide revolution in productivity growth being only a few years away.
Source: Calculated from Table 1 of Bart van Ark, Robert Inklaar, and Robert H. McGuckin (2002), "'CHANGING GEAR': Productivity, ICT and Service Industries: Europe and the United States" (New York: Conference Board: <http://www.j-bradford-delong.net/movable_type/refs/Mozilla_Scrapbook/ChangingGear.pdf>).
Posted by DeLong at October 06, 2002 08:14 PM | Trackback