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How do you boost economic growth? That is a question haunting the new(ish) British government of Sir Keir Starmer, along with its European counterparts. So, too, in America ahead of its presidential election.
Until now, economists have focused on an obvious answer: growth rises when productivity increases, and this is usually boosted by unleashing research and development. Hence why politicians love to be photographed in telegenic factories and science parks, calling for more crowd-pleasing R&D.
This all sounds sensible. However, this month’s Finance and Development report from the IMF should give investors, economists and politicians alike pause for thought. Ufuk Akcigit, a University of Chicago economist, has crunched US productivity trends and spotted a paradox.
On the one hand, American R&D has risen in recent decades, from 2.2 per cent of GDP in the 1980s to 3.4 per cent in 2021. That reflects a doubling of private sector R&D to 2.5 per cent of GDP. Meanwhile, the proportion of the population involved in patent production nearly doubled in this period.
But there is a big catch. Although “conventional economic models” imply that increases in R&D spending on this scale “should have led to accelerated economic growth”, this has not occurred.
Michael Peters, a Yale economist, lays out the grim news: while labour productivity rose on average by 2.3 per cent between 1947 and 2005, between 2005 and 2018 it fell to 1.3 per cent. This cost America a putative $11tn of output, he calculates.
Why? One explanation might be that the data is wrong. As I have often noted, it is hard to measure productivity in a digital economy since many exchanges occur without money (for instance, when data is swapped for services). Another is that innovation is unevenly spread: although some companies quickly adopt new ideas, sectors like education do not.
However, Akcigit thinks the real culprit is “a significant shift in the US landscape of innovation” affecting “how R&D spending is allocated”. Economists used to assume that R&D would be used by upstart companies to challenge incumbents. However, today, incumbents more often use R&D to entrench their dominance. America’s business giants keep buying upstart challengers or squeezing them out of business, Akcigit laments, while also using their lobbying muscle to “buy” politicians and grab human talent.
So while 48 per cent of all inventors worked for big companies in 2000, by 2015 this had risen to 58 per cent. That served them well: there was a 20 per cent increase in the pay premium offered by large businesses in this period. But, ironically, the research suggests that inventors became less innovative at the R&D departments of those incumbents. More cash for R&D is not always a magic wand — at least not amid more corporate concentration.
No doubt the leaders of tech giants would disagree, particularly given that regulators in Brussels and America’s own Federal Trade Commission and Department of Justice are attacking the likes of Apple and Google over their alleged abuse of monopoly power.
And whenever the name of Lina Khan, the crusading FTC head, comes up in Silicon Valley, there are two arguments that tech luminaries brandish against her campaign to curb Big Tech. The first is that America cannot compete with China if it undermines the dominance of its largest tech companies, since innovations such as artificial intelligence require huge capital expenditure.
The second is that the status quo has delivered so much good — even with concentrated corporate power — that it would be wrong-headed to mess with it. America, after all, has recently produced higher GDP growth than most of the western world, and tech accounts for a third of the US stock market. In the UK it is less than 5 per cent.
Some economists also question whether corporate concentration really does hurt growth. Trelysa Long of the Information Technology and Innovation Foundation argues that “the more concentrated an industry was in 2002, the higher its productivity growth from 2002 to 2017 . . . [and the higher the] increases in hourly compensation”. She concludes that “the push to break up large companies is anti-worker and anti-middle class”.
Such points cannot be dismissed lightly. But if Akcigit’s argument is even half correct — and I think it is — it raises big questions about America’s future. In an ideal world, US politicians would be discussing these right now, drilling into issues such as the R&D tax credit system, protection of patents, enforcement of antitrust laws and political influence of corporate giants.
In the real world, however, this week’s news cycle has been dominated by the dispute around whether Haitian immigrants are eating American pets in Ohio. Vital policy issues are being ignored.
Whenever a tech luminary like Elon Musk jumps into political debates on X, investors should ponder what type of innovation story he represents. Is his a tale of plucky entrepreneurship by an outsider? Or is it a symbol of the rising concentration of political and corporate power and its threat to future innovation? The answer matters enormously, particularly as the AI race heats up.
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