In the first of our Progressive Challenges blogs, Prof. Jason Furman, of the Harvard Kennedy School, draws on his eight years as a senior economic adviser to President Obama to set out the key principles that should shape progressive policymakers’ response to the rapidly changing economy.
Progressives are united in their focus on the fact that income growth has been too slow for too long across the advanced economies. In all countries different combinations of factors have been at play. The United States has had comparatively better productivity growth and associated real wage growth but much worse employment outcomes. In the United Kingdom it has been just the opposite, with a surprising rise in employment rates even in the face of an ageing population, that has happened at the same time that productivity growth has been disappointing and real wage growth nearly flat. In both the United States and United Kingdom high levels of inequality exacerbate these challenges.
Progressives agree on much of a better economic approach that would foster stronger and more sustainable growth in incomes for typical families and a better chance for their children to advance. It starts with getting macroeconomic management right, ensuring a robust fiscal and monetary response to recessions that produces and sustains a high-pressure economy at full employment. The traditional formulas for stronger economic growth do not need updating so much as implementing, including but not limited to expanding trade, having an efficient tax system, and investing in education, infrastructure and research.
We increasingly recognise, however, that these traditional formulas are not enough and that changing economic circumstances may necessitate changes in the way we address these and other policy issues. Let me list four areas where changing economies or changing economics are leading us to rethink economic policy.
First, in a world of low interest rates we have room for a more fiscally robust response to our challenges. Twenty years ago one of the biggest problems facing the advanced economies was high interest rates that constrained business investment. Today we are worried about the opposite, low interest rates distorting the allocation of capital and limiting the ability of monetary policy to respond to the next recession. This change implies that the benefits of lower budget deficits and debts are lower than they were in the past and that the sustainable level of debt is higher than it was in the past. This means policymakers have more fiscal room for investments, but still raises important questions about what they should do with this room and what limits should still be placed on fiscal policy.
Second, we need a broad response to declining innovation and business investment. Innovation is declining and the innovations there are appear to be diffusing more slowly. At the same time, investment has continued to trend down as a share of the economy - despite the fact that the cost of capital is very low, returns to capital remain comparatively high and private inputs to innovation continue to grow. What can we do to address these interrelated challenges? Public investment, deregulation and tax reform could all potentially help but much more is needed. A more robust and dynamic economy, including stronger competition policies, a robust policy response to the increasing importance of intangible investment, identified by Jonathan Haskel and Stian Westlake, and ways to encourage a thriving and competitive tech sector must all play an important role.
Third, we need to do more to improve the market distribution of income. Many countries have made progress on improving the progressivity of tax and transfer systems, mitigating some of the increase in the inequality in market incomes. But much less progress has been made on improving the market distributions of income. Some of the steps in this regard are well understood, like a robust minimum wage and supporting bargaining power for workers. But new questions are arising in a many areas including how to deal with emerging changes in the gig economy, new types of contracts, and other ways that employers use their monopsony power to get a favourable bargain on wages?
Fourth, we need to worry about the increased geographic disparities in wealth and income. The disparities between places, particularly a few prosperous urban centres and the rest of the country is becoming increasingly striking in the United Kingdom, the United States, and most other advanced economies. The traditional economic answers continue to have merit: invest in people not places and allow mobility to help to equalize places. But we are not doing enough to invest in people and mobility is greatly reduced by the extremely, and in some ways artificially high, cost of living in the prosperous areas due to land use restrictions, property transfer taxes and other policies. Policies to invest in places and strengthen communities have been much less successful, even when we have tried them. But it is hard to imagine abandoning that effort, instead refocusing it in a way that complements steps to increase innovation and investment would offer a promising course going forward.
The biggest challenge in all of this is political not economic. A more robust economic response would make a big difference. But can it fully satisfy the increased demands of people for a rapid and large change that protects their existing jobs and places? Can any reality-based answers to our economic problems be as appealing as the false promises offered by populists?
And how to reconcile policy solutions that, in many cases, require increased technocratic efforts by government with the increased, and in some cases justified, public scepticism of experts and lack of democratic accountability for economic institutions? Answering these tough political questions will have to be the starting point for any of the many better economic policies we need.