How fast a country grows is important. What’s even more important — but harder to know — is how fast the country is capable of growing. The leader of a country that’s growing rapidly may be all smiles, but if the growth is faster than what’s sustainable, it will end in tears — and high inflation, as the demand for goods and services exceeds what the economy is capable of producing in the long run.
Last week the World Bank produced a 564-page report that estimates potential growth rates for 83 countries representing 95 percent of global economic output. It’s a monumental effort. “This is the biggest analytical project the bank has done on potential growth,” Ayhan Kose, the deputy chief economist of the World Bank Group, told me on Friday. “By far the biggest. There is no question about that.”
Kose co-edited the volume, titled “Falling Long-Term Growth Prospects: Trends, Expectations, and Policies,” with Franziska Ohnsorge, a manager in the bank’s equitable growth, finance and institutions practice.
Below is a chart I made from data that the World Bank released on Monday, a week after the report was released. I picked out 12 important countries from the data and showed their estimated average potential growth rates for the five years through 2006 and the five years through 2021. You can see steep declines in the 15-year interval for China, the United States and some other countries. In contrast, the three countries I picked that had the lowest potential growth from 2002 through 2006 — the United Kingdom, Germany and Japan — had as high or even higher potential growth rates in the latest five years.
As I said, it’s hard to know how rapidly a country’s economy can grow; the figures in the chart are estimates based on what economists call the production function. The production function gauges how much an economy can produce by measuring its labor force and capital stock as well as by estimating its rate of technological progress. The report acknowledges that this involves “assumptions that may be viewed as restrictive.” For other perspectives, World Bank researchers consulted outside forecasters’ estimates of long-term growth and did statistical tests on output over time to strip out fluctuations caused by business cycles.
Kose told me that much of the initial coverage of the report focused, understandably, on the World Bank’s warning that this “could be a lost decade in the making — not just for some countries or regions as has occurred in the past, but for the whole world.” The report says the sustainable growth ceiling, or “speed limit,” for many countries has fallen because of slowing productivity, sluggish or no growth in the labor force and “reversals in human capital triggered by the health shock, school closures and learning losses.”
But there’s hope, Kose insisted. Social problems have social solutions. The most important solution, he said, is to increase investment — not only in buildings, machines and software but also in people, through spending on education and health. Some people worry that economic growth is damaging the planet, but the report makes the case that investment in clean technology will help stem climate change while creating jobs and raising living standards.
Governments can’t count entirely on official development aid, Kose said. Most of the extra investment that’s needed will have to come from the private sector, he said. But, he added, “It takes two to tango.” Countries will need to make themselves more inviting to investors by fixing their macroeconomic situations, repairing infrastructure, removing red tape, strengthening institutions and legal systems and upgrading the education and health of their workforces, he said. The Middle East, Africa and South Asia can make “huge strides” by increasing women’s participation in the labor force, he added.
Kose said that World Bank officials will lean heavily on the new volume when they meet in private with government officials at the annual spring meetings of the World Bank and the International Monetary Fund in Washington this year. “Our object is to have a constructive dialogue with our member countries. That dialogue always begins with good data,” he said.
The slowdown in the world’s potential to grow is real, and worrisome. But Kose told me: “We have the tools to reverse the slowdown and we know how to do it.”
Outlook: Kieran Clancy
The outlook for U.S. manufacturing is “grim” despite a slight uptick in an indicator of business activity in the Midwest, Kieran Clancy, a senior U.S. economist at Pantheon Macroeconomics, wrote on Friday. That indicator, the Chicago Business Barometer published by the Institute for Supply Management, rose to 43.8 in March from 43.6 in February, above the consensus estimate for March of 43.4. Nevertheless, Clancy wrote, “we’re increasingly worried that the hit to domestic capital spending from tighter credit conditions will offset any external boost from China’s reopening.”
Quote of the Day
“I, Pencil, simple though I appear to be, merit your wonder and awe, a claim I shall attempt to prove. … Simple? Yet, not a single person on the face of this earth knows how to make me.”
— Leonard E. Read, “I, Pencil,” in The Freeman (1958)
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