Pretty much all the economic debate is about monetary and fiscal policy, which are ways of manipulating (possibly weakly) aggregate demand, rather than aggregate supply. However, with labour productivity growth is at a record low, surely we need to think about the supply-side too.
I am not unusual in worrying on this score. Andrew Sentance said last night that the output gap might be smaller than thought, which is consistent with the notion that the recession has permanently reduced our supply potential. And in its green budget, the IFS forecast that productivity growth will average only around 1% a year over the next five years.
So, what can be done about the supply-side?
One possible answer is: nothing. Maybe productivity has slowed because we’ve just run out of the technological changes that have caused it to grow rapidly in the past. There’s not much we can do about this. Or maybe the changes we’ve had are welfare-enhancing rather than productivity-enhancing. The interweb gives us free music and news, and so reduces the measured output of the news and music businesses without actually hurting aggregate well-being. Or maybe I’m just wrong and we will soon get a vigorous procyclical rise in productivity.
Another possible answer is to the free market one; shrinking the state, cutting taxes and removing regulation will raise productivity. I fear, though, that such proposals contain a high ratio of prejudice and self-interest to empirical evidence; looking at the time series of productivity growth, you’d struggle to identify a successful Thatcher revolution.
Indeed, I fear that memories of Thatcherism are downright pernicious here. Too many people have associated supply-side policies with mere attacks upon trades unions and welfare benefits, with the result that they have failed to think more seriously about the supply-side policies.
So, can I suggest three other possibilities?
1. Reducing barriers to entry. It cannot be stressed enough - which is why I bang on about it even though no-one else does - that productivity growth comes (pdf) from the entry and exit of firms, and not so much from incumbent ones upping their game. This implies that obstacles to new business formation must be removed. Whether these are mostly red tape, the lack of finance, or whatever, is moot. The point is that serious economic policy would give a huge weight to removing them.
2. Active labour market policies. One aspect of the productivity slowdown is a mismatch between unemployed workers and available vacancies. Policies that help match workers to vacancies are thus necessary. One important dimension here is the need for training, especially of the young unemployed.
3. Immigration. Migrant workers can help relieve labour shortages, and so should be encouraged.
4. Infrastructure investment or (more radically) ending presenteeism. Commuting is so burdensome that a day’s work is often a mere postscript to the effort of getting there. This, surely, must change.
You might add to this welfare reform. But it’s not clear to me that shortages of unskilled workers are a significant supply-side problem.
I’ll grant that I’m being vague here. But that’s because I hope to encourage better, more detailed ideas. My points are simply that monetary and fiscal policy are not enough.