Why Economic Growth Is So Lackluster

Theories on what’s behind one of the biggest puzzles facing America today

U.S. economic growth is anemic, and the country needs to do something about it, quickly. This was one of the central themes of the third presidential debate. “China is growing at 7 percent. And that for them is a catastrophically low number. We are growing—our last report came out, and it is right around the 1 percent level,” Trump said Wednesday night.  “Look, our country is stagnant.”

Trump is right that U.S. growth has not been very impressive of late, especially when compared to rates of the past. Though the United States gross domestic product (GDP) grew at a rate of more than 3 percent for much of the 1980s and 1990s, the rate has slowed significantly since the recession, according to the Bureau of Economic Analysis. In the second quarter of this year, for instance, GDP increased at a rate of just 1.4 percent. After a recession, an economy should come roaring back, but this time around, it hasn’t, and that’s left many concerned about the state of the  economy. GDP growth, economists say,  helps raise wages and living standards, and increases the size of the entire economic pie—making it possible for more people to have a bigger share.

But economists aren’t quite sure why the pie—the country’s gross domestic product—has stopped growing as quickly as it used to. GDP is the total value of goods and services produced in a country during a year. The more workers there are in the labor force and the more each individual produces, the more a country’s economy grows. But even as the U.S. economy keeps adding jobs, growth has remained sluggish. And productivity is barely budging, too. Output per hour has expanded at a rate of just 1.3 percent per year, the worst run of productivity growth since the recessions of the 1970s.

So what’s the problem and how can it be fixed?

The most depressing theory about what’s going on is that the pace of American innovation has slowed for good, and growth will, too. This is explanation comes from Robert Gordon, an economist at Northwestern, whose book, The Rise and Fall of American Growth: The U.S. Standard of Living Since the Civil War, is a hot topic of discussion in economic circles. Gordon argues that the period of growth between 1750 and 2004 was a unique episode in human history, during which time humans invented things that dramatically improved both productivity and living standards, including the internal combustion engine, airplanes, highways, and the internet. Many of these inventions can happen only once in human history, and now that they have occurred, there’s little room to add more time-saving inventions. Many recent innovations, such as apps like Twitter, Snapchat, and Instagram, are extremely popular among users, but aren’t exactly creating large leaps in productivity. “Innovation is occurring only around the fringes of the economy, not at the core areas that account for the most output and most employment,” Gordon told me in a phone call last week.

There’s another reason that there may not be much innovation in the U.S. economy: People aren’t creating new firms and businesses to challenge existing ones. In fact, the pace of new firms entering the market is at a worrisome low. Small, new start-ups tend to produce more innovation than big, established firms, Robert Litan, a former fellow at the Brookings Institution who studies entrepreneurship, told me. “An economy that’s more dominated by big firms is less likely to produce disruptive innovations,” he said. Small, new firms also hire more people on the margins of the economy, bringing people into the workforce who might otherwise have sat on the sidelines, Dane Stengler, a vice president of Research and Policy at the Ewing Marion Kauffman Foundation, said. It’s possible that the rise of monopolies has made it harder for start-ups or smaller firms to compete, Litan said. When there’s a concentration of big firms located in a city, workers tend to stick with large, established firms, rather than striking out on their own.

Another slow-growth theory argues that U.S. companies are sitting on billions of dollars of cash that could be put to better use. Rather than spending on research and development—which could in turn lead to innovations that make employees more productive—companies are just holding onto their money. Some economists think this is a result of what’s called “quarterly capitalism,” which puts pressure on companies to make bigger and bigger profits each quarter, or risk pushback from shareholders. Quarterly capitalism, also known as short-termism, can mean that companies don’t want to spend cash to innovate, preferring instead to pad their bottom line or to return profits directly to shareholders. “This is the trend in corporate governance, towards a lower level of investment,” Mike Konczal, a fellow at the Roosevelt Institute and the author of a paper on short-termism, told me. After all, interest rates are low right now, which would usually motivate corporations to borrow money and invest. The fact that they’re not “means something fishy is going on,” he said.

It’s not just corporations that are holding onto their cash, though. Consumer spending has been slow to recover from the recession, and though it’s ticked up this year, economists aren’t sure the trend will last. It’s possible that spending is slow because there are so many working-age men who aren’t in the workforce—and thus don’t have wages to spend—or because wages haven’t kept pace with inflation in the post-recessionary period. Either way, it means that there’s less demand for goods, and so less production of goods by the companies that make them, which in turn dampens GDP growth.

Some economists suggest that this period of slow spending and demand might be the new normal. This idea, often put forth by former Treasury Secretary Larry Summers, is called secular stagnation. It essentially means that the U.S. economy has stopped growing because some of the fundamentals have changed—for instance, consumers and companies are saving more than economists would want. The consequence is that the normal levers used to spur GDP growth, such as monetary policy, are no longer be effective in stimulating the economy. What would be effective in jump-starting growth? Rising demand for goods and services, though such demand in today’s economy might take the form of unsustainable booms like the one that led to the housing crisis.

There are also economists who blame the lack of GDP growth on the aging population. As people age, they may drop out of the labor force and retire, which means there’s a lower fraction of the population working, and thus adding to overall productivity. Every 10-percent increase in a share of a state’s population over the age of 60 reduces per capita GDP growth by 5.5 percent, according to a paper published in July by Nicole Maestas of the Harvard Medical School and Kathleen J. Mullen and David Powell of the RAND Corporation. Powell told me they weren’t quite sure why an aging population would lower GDP growth. One theory is that as older, experienced workers leave the labor force, they aren’t as able to help young, new workers learn the tricks of the trade. Another is that older workers are transitioning from their careers to other jobs that are less demanding and less productive.

Of course, there is a slightly more optimistic answer to the question of why growth has stagnated. It’s that economists are just measuring growth the wrong way and aren’t capturing all the innovation that is happening in the economy. Much of what is invented in Silicon Valley, for instance, is free, so that may not factor into GDP numbers in the same way that advances in manufacturing or transportation once did. “There is a lack of appreciation for what’s happening in Silicon Valley because we don’t have a good way to measure it,” the economist Hal Varian told the Wall Street Journal this summer. Our economy may be growing, then, but the numbers don’t show it.

With so many different theories as to what is causing slow growth, it’s hard to come up with solutions. But many economists agree that lackluster GDP growth could be attributable to a number of factors. Address one problem, then, and perhaps the slowdown will began to ebb. This could mean investing in infrastructure so that there are more people working and more demand for products. It could mean putting money into government research and development so that if the private sector isn’t innovating, government might. It could mean opening the borders to more immigration to offset the aging population. One thing’s for sure: There’s no easy prescription, and addressing slow GDP growth will be a tough problem for the next president to sort out.