How in­no­va­tion in­creases well­be­ing

The Amer­i­can econ­o­mist Paul Romer showed how new dis­cov­er­ies cre­ate a vir­tu­ous cy­cle of growth

Herald on Sunday - - BUSINESS - Noah Smith

The 2018 eco­nom­ics No­bel prize went to Paul Romer and William Nord­haus, an ex­tremely de­serv­ing pair of econ­o­mists. In ad­di­tion to hon­or­ing two schol­ars whose con­tri­bu­tions have deeply in­flu­enced their field, the award points to a cru­cially im­por­tant is­sue that the world is be­gin­ning to give short shrift — eco­nomic growth.

That’s bad news. Of course, it’s good for peo­ple in the US, France or Ja­pan to have higher liv­ing stan­dards. But rich-coun­try growth is also cru­cial for poorer na­tions.

When they’re grow­ing faster, rich coun­tries have more pur­chas­ing power with which to buy poor coun­tries’ prod­ucts.

Even more im­por­tantly, rich­coun­try growth means that the liv­ing stan­dards of peo­ple in places like In­dia or Viet­nam can rise with­out threat­en­ing the liveli­hoods of the mid­dle classes in de­vel­oped na­tions. Growth is what al­lows the world econ­omy to avoid the kind of ze­ro­sum game in which beg­gar­ing one’s neigh­bor is the only way to im­prove a na­tion’s ma­te­rial well­be­ing.

So why are rich coun­tries grow­ing so slowly? Part of it is due to the lin­ger­ing ef­fects of the Great Re­ces­sion, but part is due to a slow­down in the rate of pro­duc­tiv­ity growth.

Pro­duc­tiv­ity is any econ­omy’s long-term un­der­ly­ing en­gine of growth: Once you put all of a coun­try’s peo­ple to work and pro­vide them with as much cap­i­tal equip­ment as they can use, fur­ther growth de­pends on the ef­fi­ciency with which they can cre­ate goods and ser­vices — i.e., on pro­duc­tiv­ity.

In poor coun­tries, pro­duc­tiv­ity can be in­creased rel­a­tively rapidly, by copy­ing for­eign tech­nolo­gies and ways of do­ing busi­ness. But for an in­dus­tri­alised na­tion, fur­ther gains must come from hard-won im­prove­ments in tech­nol­ogy, busi­ness meth­ods or govern­ment pol­icy. In the long run, tech­nol­ogy is the driver — even the most well-run coun­try in 1920 wouldn’t be par­tic­u­larly rich by mod­ern stan­dards, due to all the in­no­va­tion that has hap­pened since then.

The in­ven­tion of au­to­mo­biles, tele­vi­sions, and other con­sumer tech­nolo­gies is only part of the story; im­prove­ments in pro­duc­tion pro­cesses, ma­te­ri­als and IT al­low prod­ucts to be made more cheaply and bet­ter than be­fore.

The prob­lem is that no one re­ally knows how to in­crease the rate of tech­nol­ogy growth. Some freemar­keters are hope­ful that sim­ply get­ting govern­ments out of the way of in­no­va­tion will do the trick. Oth­ers think that fis­cal and mone­tary stim­u­lus can in­duce com­pa­nies to spend more on up­grad­ing their tech­nol­ogy to meet the needs of a boom.

But the global uniformity of the pro­duc­tiv­ity slow­down, de­spite dif­fer­ences in reg­u­la­tory sys­tems and stim­u­lus poli­cies across var­i­ous de­vel­oped coun­tries, means that we

should tem­per our ex­pec­ta­tions for these mea­sures.

There is, how­ever, a third op­tion — spend more money on re­search. This is where Romer’s work comes in. In a pair of fa­mous pa­pers, the first in 1986 and the sec­ond in 1990, Romer laid out a math­e­mat­i­cal model in which re­search spend­ing gen­er­ates new ideas, lead­ing to eco­nomic growth, which pro­vides the re­sources for yet more re­search spend­ing, gen­er­at­ing a vir­tu­ous cy­cle.

Test­ing these math­e­mat­i­cal mod­els is very dif­fi­cult. But there are plenty of suc­cess sto­ries in which govern­ment fund­ing has helped give birth to trans­for­ma­tive tech­nolo­gies, es­pe­cially in the US.

Nu­clear power, hy­draulic frac­tur­ing, the in­ter­net, glob­al­po­si­tion­ing sys­tems, mo­bile phones, and lithium-ion bat­ter­ies are just a few ex­am­ples.

Many of these ad­vances have come via spe­cial-pur­pose ini­tia­tives like the De­part­ment of De­fense’s DARPA, while many oth­ers come from govern­ment fund­ing of ba­sic re­search at uni­ver­si­ties and na­tional lab­o­ra­to­ries. Read­ing the his­tory of these suc­cesses is like watch­ing Romer’s math take phys­i­cal form.

Tech­nol­ogy is also the key to com­bin­ing eco­nomic growth with en­vi­ron­men­tal sus­tain­abil­ity.

Nord­haus, the co-win­ner of the No­bel mainly for mod­el­ing the eco­nomic im­pact of cli­mate change, has ar­gued that en­sur­ing the longterm sus­tain­abil­ity of in­dus­tri­alised economies re­quires find­ing ev­er­more ef­fi­cient ways to use the planet’s re­sources, largely through im­prove­ments in en­vi­ron­men­tal tech­nol­ogy.

In re­cent years, how­ever, the US has dropped the ball when it comes to re­search spend­ing. Fed­eral re­search spend­ing as a per­cent­age of gross do­mes­tic prod­uct has fallen.

Since 2010, the trend has got­ten worse, with spend­ing fall­ing out­right.

Mean­while, the US as a whole, in­clud­ing pri­vate com­pa­nies, spends less of its out­put on re­search than Ger­many, Ja­pan or South Korea.

This is ex­actly the wrong di­rec­tion for the coun­try. As growth slows and pro­duc­tiv­ity stag­nates in the rich world, Romer’s in­sights are more im­por­tant than ever.

For the world to avoid stag­na­tion and zero-sum think­ing, con­tinue up­lift­ing the global poor and im­prove en­vi­ron­men­tal sus­tain­abil­ity, the US govern­ment must spend more, not less, on the tech­nolo­gies of to­mor­row.

No­bel eco­nom­ics prizewin­ner Paul Romer.

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