The Productivity Slowdown in Advanced Economies: Common Shocks or Common Trends?
INSEAD, John Fernald, Federal Reserve Bank of San Francisco, Robert Inklaar, University of Groningen, Dimitrije Ruzic, INSEAD – 2023
This papers contrasts two potential explanations for the common slowdown in productivity, as measured by TFP, across multiple advanced economics post-2007:
- A common shock, i.e. the Great Recession
- A common slowdown in trend
In this sense the paper is one big trend / cycle decomposition, where the question is whether the change in TFP growth across these advanced economics has been driven more by a major shock or a shift in trend.
The reason to doubt the shock explanation a priori is that prior research doesn’t show a clear level or growth effect of recessions on TFP. The research much more strongly suggests that such recessionary shocks have a persistent effect on labor markets. Another reason to doubt this version of the story is that the slowdown in TFP for the U.S. actually predates the Great Recession, which makes it less likely as a cause.
The common trend slowdown could be explained by the general technology-driven productivity boost of the mid-1990s finally loosing steam by the mid-2000s.
Growth decomposition
Multiple forms of an aggregate growth decomposition are defined, with various strengths and weaknesses. The author eventually lands on the following, which helps deal with some of the endogeneity issues inherent in such an accounting exercise:
- The left hand side represent growth in output per hour worked.
- The first term on the right hand side represents the change in capital-output ratio, or “capital deepening”
- The second term is change in labor composition
- The last term of is growth in TFP in “labor-augmenting” terms
The reason to use the capital-output ratio rather than capital alone is due to the endogeneity of capital with respect to output:
- In most models, capital formation (investment) is endogenous, which to say it is itself determined by output in addition to driving output. This could drive interpretation issues in such a decomposition.
- However, in many models capital is cointegrated with output in the steady state and their ratio is relatively stable even in during a slowdown in technology or labor. Thus any deviations of the ratio over time can be more plausibly categorized as exogenous.
Note that this decomposition is effectively a productivity decomposition rather than an aggregate growth decomposition.
This decomposition is used across various time periods and countries to break down labor productivity growth into the various drivers:
