Tyler Cown has an interesting “Economic View” column in Sunday’s NY Times. Much of it is a plug for his new e-book “The Great Stagnation”. Cowen may or may not be right in asserting that the pace of technological change will be slow in the future. Fast growth, in Cowen’s view, will be limited to emerging countries, as they ‘catch up’ by adopting current technologies. Even if Cowen’s forecast is correct, I do not see any great problem with this. The current per capita income of North America and Europe is high enough to provide a decent life for everyone – although political will is needed to eliminate poverty and provide adequate public goods. If emerging countries like China and India grow at a fast pace, this is potentially a good thing, not a process to be feared.
One passage of the column did catch my attention, however.
When it comes to measuring national income, we’re generally valuing expenditures at cost, rather than tracking productivity in terms of results. In other words, our statistics may be deceiving us — by accepting, say, our health care and educational expenditures at face value.
Tyler Cowen, “Innovation Is Doing Little for Incomes“, New York Times, 30 January 2011.
My first reaction was to say, “This can’t be right”. Gross Domestic Product (GDP) is measured at market prices, not production costs. On further thought, I remembered that goods provided by government enter GDP at cost, even if there are no markets and even if the consumer pays nothing. All expenditure on police and military forces, for example, adds to GDP even though ‘consumers’ pay nothing out of pocket for the services. (They do pay taxes, but taxes paid bear no relation to a taxpayer’s ‘consumption’ of police or military services, which in any event cannot be measured.) Similarly, parents with children typically pay no tuition to public schools, yet the full cost of education forms part of GDP. Health care, also. is often provided by government at no cost – or with only a small co-pay. Again, this is a service that does not pass the market test of ‘willingness to pay’.
What about goods and services provided in free markets, without government subsidy? Can their costs also exceed their ‘real value’ to consumers? On reflection, I think that this might be true for at least two industries: finance and health care.
Financial services are seldom provided by government, yet the cost of this service – duly recorded in a nation’s GDP – seems to be much higher than its value to consumers. NYU economist Thomas Philippon, at the onset of the financial crisis, looked at the historical series for the share of financial services in GDP. (See his graph, reproduced below.) Payments for financial services collapsed after 1929, falling to 2.5% of GDP by 1947. They then recovered slowly until the late 1970s, when they grew quickly, reaching an unprecedented 8.3% of GDP in 2006. Philippon suggests that the increased payments from 1980 to 2001 might have been justified by the need to finance the IT revolution, but, after that, it is difficult to rationalize the high fees paid to to Wall Street financiers.
From 2002 to 2006, I am not quite sure what the financiers were doing. Or rather, I am not sure that the services provided by insane trading volumes and real estate derivatives were worth the price tag.
Thomas Philippon, “The future of the financial industry“, Stern on Finance, 16 October 20008.
Tomorrow I look at private health care, another expensive service whose cost seems to exceed ‘real value’ to consumers, even though consumer expenditure on health care is soaring, especially in the USA.
