A Critique of Grantham and Gordon: The Prospects for Long-term Growth
The vigorous global economic growth of the last two centuries is over, according to Jeremy Grantham and Robert Gordon. That prediction, if correct, has profound and worrisome implications for investors. And the short-term trend is indeed disquieting: Growth has been close to zero over the last decade in advanced countries. But the most likely outcome is that per capita GDP growth going forward will approximate its U.S. historical average of 1.8%, and it will grow faster in developing markets.
Gordon, a highly distinguished Northwestern University economist with a lifelong interest in productivity growth, recently published a paper, Is U.S. Economic Growth Over? Faltering Innovation Confronts the Six Headwinds, in which he argues that the revolutionary innovations that have driven past growth are not likely to be repeated any time soon. Even more recently, Jeremy Grantham, who has previously argued that increased natural resource costs are likely to choke off global growth, published his quarterly commentary, which supported and extended Gordon’s position, with his characteristic focus on resource constraints.
Gordon identified six headwinds, mostly having to do with growth in the United States, which represents 5% of world population. And, indeed, if you only care about people in the United States, these are troubling times. These troubles will pass, but not before wrenching adjustments are made to education, entitlements, and industrial structure.
But the outlook for the developing world has never been better, a prospect to which Gordon gives insufficient weight.
Let’s consider Gordon’s headwinds – and why I believe he has overstated the dangers that they pose to growth. I’ll then turn to Grantham’s arguments, and conclude with an optimistic forecast for global GDP.
The three industrial revolutions and the growth of real per-capita GDP
Following convention, Gordon attributed the productivity surge of the last two and half centuries to three distinct Industrial Revolutions. The first saw the introduction of the cotton gin, the mechanized loom, the steam engine, the railroad, and the factory system. Gordon dated this first revolution to 1750-1830. (I use slightly different dates, 1776-1826.)
The second revolution ran from about 1876 to 1926 (my dates this time) and saw the invention of the telephone, audio and video recording and playback devices, electrical appliances, the delivery of electric current to businesses and households, the automobile, the airplane, radio, and the first flickers of television. The third epoch of innovation was the computer and Internet revolution. For the sake of data analysis, I’ll say it started in 1976, when both Microsoft and Apple were founded, although Gordon argued, with some validity, that much of the benefit of computers came earlier.
At any rate, the dates I’ve chosen break up American history into 50-year periods, limited only by data availability, thus reducing the temptation to monkey with the data periods to get a desired result.
Figure 1 shows the growth rate of real per capita GDP in the United States over the full period considered and each of the subperiods – all three revolutions, plus the interim periods between them – although the first few years’ data are missing.1 While the growth rate looks almost constant in Figure 1, breaking the time into subperiods reveals considerable variation in growth rates, and the recent (post-2000) stagnation has been dramatic. Nevertheless, the average growth rate during industrial revolutions, 1.84%, is essentially identical to the average growth rate between the revolutions, 1.85%.2 Note that we’ve examined U.S. data for lack of anything better before about 1950; the relevant growth rate is for the world, because investors can hold global portfolios that take direct advantage of worldwide GDP growth.
While the almost-exact equality of within-revolution and between-revolution rates is purely a coincidence due to the dating used, the lack of a relationship between industrial revolutions and growth rates calls out for explanation. My conjecture is that it takes a long time for cutting-edge, productivity-enhancing technology to be absorbed into the general economy, causing the benefits of a given industrial breakthrough to be spread out over generations or even centuries. It is said, for instance, that half the world’s population has never made a phone call.3 If this is even approximately true, the world is still experiencing welfare gains from the adoption of a device invented 136 years ago. No wonder industrial revolutions don’t line up neatly with periods of rapid GDP growth!
Another example of this principle, cited misleadingly by Gordon, is transportation speed. The speed at which passenger travel occurred, he writes, “increased steadily until the introduction of the Boeing 707 in 1958. Since then, there has been no change in speed at all, and, in fact, airplanes fly slower now than in 1958 because of the need to conserve fuel.” This observation misses the point. We know perfectly well how to fly at three times the speed of sound, and the military does it every day, but it’s fuel-intensive and costly. We’ve chosen not to spend valuable resources on faster passenger travel. It’s fatuous to think we never will or never could.We should thus expect the dissemination of already-invented technology to be reflected in world GDP growth well into the next century. There will undoubtedly be more technological innovation, but we do not need to have another industrial revolution to get meaningful increases in the global standard of living. (That said, we may well be in the beginning stages of a biotech revolution, one that will continue to improve health outcomes and make the global food supply cheaper and more varied than it is now.) What we do need is continued improvement in efficiency – doing more with less, making existing resources work harder, finding new resources to replace those that become scarce and expensive, and creating new human capital through education that fits the skills that the future will require.
1. I use the United States because of the superior quality of the data for the early years. Angus Maddison has collected real per capita GDP for the world, but, despite his heroic efforts, the data are sporadic until 1950. They show that the world had slower growth than the U.S. until about 1950, then faster growth since then. See Maddison, Angus, “The West and the Rest in the World Economy: 1000–2030,” World Economics, October–December 2008; underlying data are available on the web site maintained by Groningen University in memory of the late author at http://www.ggdc.nl/maddison/.
2. While the growth rate of real per capita income has slowed in the post-1976 period, the tremendous increase in the number of households over that period means that the growth rate of real income per household has not slowed nearly as much. In fact, the latter may have grown at the historical rate of 1.8%. (I don’t have the data.) It takes a lot of money to support the unprecedented proportion of single adults and single parents in the population.
3. This may be apocryphal. There exist, of course, no definitive statistics on this. But, whether it’s literally true or not, it certainly has – if you’ll excuse the pun – the ring of truth. Kofi Annan, Al Gore, Newt Gingrich, and a number of prominent technology executives have all said it.