As Voters Go To the Polls, Economic Growth Is Still In Play

Voters are going to the polls today with a mixed outlook. On one hand, consumer confidence has reached its highest levels in 18 years, as U.S. equity markets reflect the longest bull-market run in U.S. history. 2018 is also bringing forth a full-year of 3% GDP growth for the first time in 13 years, real wages rising are rising at the fastest clip in a decade, and the unemployment rate is well below 4%.

But per recent polling, whether blaming “Trump” or the “Democrats,” more than half of the electorate seem fearful of a future not as bright as the past. Data from October’s NBC News/Wall Street Journal survey confirm that jobs and the economy, health care, bolstering the middle class, and reining in a corrupt and profligate Beltway, all reduced to concern aboutsustainable prosperity and future financial security, dominate voter concerns.

Both major parties and the media, curiously, seem tone deaf to these primordial pocketbook worries. President Trump seems not to apprehend any popular angst in the slightest: instead he asserts this is the “strongest economy in history,” and has openly proclaimedthis election to be a referendum on him. In stump speeches and on Twitter he’s rattled off the campaign themes he thinks voters care about most: crime, borders, the military/vets, 2nd Amendment, and sometimes tax cuts. Immigration control, security, safety, and law and order are GOP mantras now.

Nancy Pelosi, meanwhile, says her number one priority as Speaker will be campaign/ethics reform, followed by price controls for pharmaceutical drugs and infrastructure spending. Cable news outlets in turn churn out endless hours of airtime with foreign policy, national security, and warfare coverage that collectively are in the low single digits of voter priorities in surveys such as Gallup’s research on the “most important issues.” 

Incoherence about or, worse, disregard of pocketbook issues on the part of Beltway elites is likely one reason for both divided government and an anxious electorate now. But with the unofficial kick-off to the 2020 presidential election cycle upon us, Mr. Trump and his Democratic interlocutors will do voters a great service moving forward if they will now directly address palpable voter concerns about the long term health of the economy, and how best to engender sustainable growth and prosperity that includes funding health care and a secure retirement.

There are three aspects to this debate to be kept in mind ahead of 2020:

First: Policy does matter.  St. Louis Federal Reserve Bank President James Bullard says slow growth is the “new normal”, and that we are boxed-in policy-wise based on demographics and structural factors.  Leading Democratic economists such as former Treasury Secretary Lawrence Summers, Obama White House advisor  Jason Furman, Northwestern University economist Robert Gordon, and Mr. Obama’s last Treasury Secretary, Jack Lew, all agree with this: they are among a chorus of voices on the Left who whine that 2% or so is the unavoidable long-term growth rate for the United States now, thanks to “secular stagnation” in our economy springing from demographic challenges of an aging labor force as well as cyclically-declining productivity.

History and common sense both belie this, however.  Simply put, good policies beget a good economy (and, happily, solid equity and bond markets, too), while the wrong policies make matters worse. 100 years ago, for example, Argentina had the seventh highest per capita GDP in the world, thanks to an influx of immigrants and capital investors drawn to an open, free-market economy that hadgrown by more than 6% per annum since 1870. Having achieved living standards above France and Germany, the future of this fertile, resource-rich, liberally-governed, export-heavy country looked unstoppable. But the Great Depression gave way to military coups, Peronist central planning, and decades of interventionist error-driven decline: last year the IMF ranked Argentina as the 63rd richest country in the world, flanked by Bulgaria and Iran. 

Similarly, in 1960, potential Asian tigers South Korea and the Philippines had virtually identical population and per capita GDP magnitudes.  But in 2018, South Korea’s economy is nearly five times bigger and per capita income nine times greater than that of the Philippines. The two countries of course had very different policy paths in the intervening decades in terms of encouragement of investment, entrepreneurship, trade, taxation and monetary stability (so different, in fact, one could almost consider it a “natural controlled experiment”, to see which policy mix would fare better: a more collectivist approach, or one more market-oriented, given similar cultures and initial endowments).  The average South Korean now lives in the world’s 12th largest economy, and vis-à-vis the average Filipino, faces half the unemployment rate, lives 13 years longer [to age 82], and is 11 times more likely to own a vehicle.

So, yes, policy choices greatly matter, and to co-opt an old movie line, if you build the right economic institutions and incentives, the demographics and investment will come.  

Second: Capital accumulation is essential to better living standards for all.  In simple terms, given eventual limits to labor supply, an economy benefits from an increase in capital intensity – think automated machinery or artificial intelligence-based apps, for example – that increase productivity (per capita output) and raise living standards (this is something universally agreed upon by economists, from Karl Marx and Adam Smith to modern-day analysts such as Paul Krugman or Arthur Laffer). How to generate the investment needed for ever more capitalistic production is thus a big focus for the policy debate.

While no single measure of macroeconomic health is perfect, a country’s GDP growth rate correlates very well over time with the state of the broader economy and material prosperity – and, as it happens, with capital accumulation, too. That is, other things equal, large, sustained leaps in GDP are generally concomitant with sustained growth in capital investment.

*Annual GDP Growth* is therefore a galvanizing metric for a debate about the future. And in recent years it has entered the political lexicon of cab drivers, dentists and everyone in between, a development boosted by Mr. Trump’s incessant broadcasting of quarterly performance.  In reviewing the country’s history of annual GDP rise and fall contextualized by the policy choices that produce growth or decline, the president could enjoin growth-minded Democrats in a needed national conversation about future policy ideals.

The history of this is instructive. Thanks to policies promoting limited government, sound money, free and open trade, and rule of law, across most of its history the U.S. economy has been a dynamic growth engine yielding ever-rising living standards that have topped the world: from 1790 through 2017, through wars, recessions and depressions, GDP growth has averaged more than 3.7% per year. Even after World War II, a more-mature and far wealthier country grew at more than 3.5% annually through the year 2000.

But since then growth has turned palsied:  in the 17+ years since George W. Bush’s inaugural, output growth has stagnated at 1.9% annually, little more than half the long-term historic rate. Before 2005, Americans could count on resilience and bounce-back in a vibrant, high-energy, entrepreneurial economy where only twice before in U.S. history was there a period of more than three consecutive years without one instance of at least 3% growth (1864-67 and 1930-33); 2018 will, incredibly, end a sclerotic twelve-year run of sub-3% annual growth. Indeed beginning with the 1920s and the advent of modern mass industrial production, there were 41 years of growth above 4% through the end of the Clinton presidency – but none since.

This growth slowdown has, unsurprisingly, come amidst the longest swoon since the Great Depression (almost 8 years) in private capital investment (that, again, yields tomorrow’s higher living standards); a Bush 43 attack on the dollar (that caused U.S. corporate investment to peak more than 2 ½ years before the onset of the 2008 crisis); massive and costly regulatory shocks (e.g., Sarbanes-Oxley, Affordable Care Act, Dodd-Frank, SEC mandates); a big ramp-up in government spending that consumed resources at the expense of the productive private sector; and, American-led warfare that bred global instability and investment fear (9/11, U.S. kinetic attacks in several countries).

All of this has come with severe implications in terms of lost job creation and wage advancement, tax receipts that affect debt/deficits, and coverage for future government obligations such as Social Security and Medicare.

Specifically, had the U.S. economy maintained its post-World War II growth rate in this century, another 13 million jobs would have been created for willing workers, representing, across 18 years, a staggering cumulative $48 trillion in lost output for an economy that would be 28% bigger today, and would have provided around $8 trillion to the U.S. Treasury in additional tax receipts. Alas, the process of capital accumulation was interrupted by the above-mentioned policy shocks, in a real sense eviscerating this wealth build-up.

Third: It is time for Beltway politicians to address the looming entitlement program challenges. Social Security and Medicare/Medicaid were not issues in the 2018 election cycle, but happily can be addressed in the context of stronger sustainable growth.

Thanks to cumulative compounding effects, a higher GDP growth rate dramatically improves the long term outlook for federal solvency by closing the “fiscal gap,” which Professor Laurence Kotlikoff of Boston University tracks closely as the net present valueof all future U.S. government obligations, including discretionary spending, health/retirement entitlement programs, and interest on debt.  Assuming long term GDP growth rates in the 1.8% range as per current Federal Reserve and Congressional Budget Office (CBO) forecasts, total unfunded liabilities of the U.S. government are north of $200 trillion, requiring painful tax increases and/or spending program cuts beginning in the near future (for example, Medicare Part A, the hospital insurance fund, is set to run out of funds in 2026, while Social Security trust funds are depleted  sometime around 2034, the latter requiring an immediate 26% cut in payouts if the math does not change between now and then).

But if GDP growth returns to its historic level north of 3% in the United States, the fiscal gap closes dramatically toward zero, as just demonstrated by the lost wealth accumulation and tax receipts during the moribund economy of the new century.

Indeed looking forward, going out 20 years the difference in output and wealth creation is staggering between a Fed/CBO world of tepid [1.8%] growth, versus that of a return to the U.S. experience across the entire 20th century, through war, recession and depression [3.4%].  In 2018 U.S. GDP will reach $20.8 trillion; assuming 2% inflation per the Fed, a return to historic growth would yield a near doubling of the real economy to $60 trillion in output in 2038. But the Fed/CBO’s expected slow growth path would yield a $44 trillion economy, about 40% bigger than today’s, in 20 years.

The difference, just 20 years out, between an economy 40% bigger and one that is 95% bigger (i.e., doubled), is akin to adding the economies of Japan and Germany, currently the world’s 3rd and 4thlargest, onto the U.S., “for free”, via higher sustained growth. Tens of millions of additional jobs, wealth creation, and higher living standards, plus a much healthier public fisc, await a people blessed with a policy mix conducive to growth.

In sum, the United States  faces great challenges in the years ahead. Nothing is foreordained, however, in the long term. Recurring to 1960 and looking at two almost identical situations, the Philippines and South Korea, we see two impoverished countries with well under $1000 each in per capita income. The two pursued very different paths in terms of economic policy: the former chose a higher dose of statism; collectivist management; public investment; and extensive regulatory and taxation frameworks. The latter meanwhile opted for an approach more centered on rule of law to encourage foreign direct investment; risk-taking entrepreneurship; domestic saving and capital accumulation; and, a tax and regulatory climate more conducive to private sector business formation and export-led profit growth. 48 years later, we see both countries no longer dirt-poor, but South Korea grew at 13% per annum, to 8% in the Philippines. Thanks to a compounding effect evinced in capital-per-worker build-up,  five decades later the output differential is huge, and has led to an equally huge gap in living standards.

There’s surely no Filipino alive today, born in 1960, who wouldn’t rather have lived with South Korea’s economic policy mix. Res ipsa loquitur.