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The large debt cited above has not gone sufficiently into productive investment but has generated excess liquidity in the financial markets. Inflation in the s is a financial phenomenon. The United States is now an international debtor, and the longer the deficit continues, the greater the trade surplus will have to be in the future to finance the debt. The danger of recession and the consequent increase in the budget deficit is all the greater because government has already used up most of its fiscal and monetary stimuli.

Furthermore, foreigners will at some point cease financing the American deficits. In the excess of spending over domestic production was more than 3 percent of the gross domestic product, and virtually all was financed by borrowing from abroad. This is unsustainable, and when foreign lending diminishes, the standard of living will inevitably decline: Capital for investment will become scarce because of the low net savings rate. Faced with such seemingly intolerable conditions, the government would be sorely tempted to monetize the debt, and with it, reduce its foreign debt while restoring price inflation as a potentially less painful way to reduce consumption.

History suggests that, although there may be some favorable short-term effects, for example in employment, the long-term effects may be very unfavorable. Inflationary expectations produce very short-term horizons indeed. There was another side to this pro-consumption policy in the late s and s, when the surge of the baby boomers and women entering the job market crested.

Because capital was relatively scarce and expensive and these new less-skilled workers were relatively cheap, the baby boomers and women flooded into the service industries, particularly into smaller companies, which play a vital role in new job creation.

The result was an extraordinary boom in jobs Table 2 , wherein the United States did much better than its principal rivals. Europe still has much higher unemployment because of its greater labor and institutional rigidities. But, of course, the productivity of the American economy as a whole suffered by comparison, because policies were not in place to promote more of both jobs and productivity.

All firms aren’t created equal

In effect, American manufacturing remained competitive throughout the s by keeping real. EEC a. EEC b. The corresponding inflation masked the declining competitiveness because prices were raised by firms faster than real wages were adjusted.

The Warning Signs

So, from the early s on, the American manufacturing strategy of the s was ended by the strong dollar; firms were exposed to world deflationary trends and could not mask inefficiencies. The process of recovery, which entails adopting new technologies to regain a competitive edge, will be both expensive and perhaps even destructive of some jobs, of companies, and of certain industries that cannot realistically expect to restore their lost competitiveness.

However, the demographics are also changing—the baby boom is over.

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The Role of Profit in an Economy | Economics Help

The labor force grew at a rate of 2. Meanwhile, managements invested heavily for almost two decades in information technology, which will be required as skilled labor becomes scarcer and more expensive, rather than in assembly line capital. As a result, the ratio of capital to labor rose rapidly in the information sector, while capital per industrial worker stagnated. Nevertheless, the effect of information technology investment shows up in the recovery of manufacturing productivity in the s.


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The service sector should follow. Because foreign capital inflows of the past must be paid for by exports, this policy will require a major increase in U. A trade gap means that a country spends more than it earns, which is identical to saying that it invests more than it saves. If prudent noninflationary long-range macroeconomic policy is to be followed, this would require a tighter fiscal policy reduced dissaving by governments and a looser monetary policy to supply the money for increased growth at lower interest rates, combined with sensible regulatory and legal policies and a tax system that favors investment.

Such a tax system would more nearly resemble that of the Japanese in allowing essentially tax-free saving and lowering the cost of funds. Most economists concur that a consumption tax system of suitable progressivity would favor a higher savings and investment rate. The Tax Reform Bill is not such a system and will in fact probably increase the cost of funds. This is a disastrous trend when capital and its cost have become the principal factors in international comparative advantage and competitiveness. As noted above, this is the other side of the coin of technological innovation.

The current talk of reducing the budget deficit by raising taxes begs this question; if new taxes merely reduce savings in the private sector while producing an equivalent gain in savings in the public sector, nothing fundamental has been accomplished.

How Information Gives You Competitive Advantage

Most probably, to avoid the risk of recession if the budget deficit is brought down too hastily, and of inadequate savings if the trade deficit is sharply reduced, both need to be addressed simultaneously. A beginning has been made, and there is a modest downward trend in the twin deficits as a percentage of GNP. If continued, a cheaper dollar could eventually reduce the trade balance deficit, while the net national savings rate would improve as government dissaving is reduced. The reduced trade deficit would permit domestic demand to replace the loss of demand brought about by lower government deficits, as would increased demand for American exports abroad.

Finally, steps can be taken to improve the savings rate in the private sector, which is a much longer-term but essential problem.

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If the United States falters in following such a benign pro-technical-change policy, it may fall into varying degrees of protectionism, in addition to the perils of inflation. The burden of low productivity growth is forced upon the consumers.


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The consequences will inevitably lower the standard of living and security of the American people, as it is a zero, or negative, sum game. Other countries are sure to retaliate. The United States may then retrace the path of Great Britain. The dividing line between such actions and counterprotectionism is a very fine one, however, and there are dangers inherent in such steps if injured interests can politicize the process. It has also been widely noted that American institutions make it difficult to have a full-fledged industrial policy as advocated by some, but that may be a blessing in disguise.

Government regulatory agencies tend to become the captive of special interests through the political process.

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The rapidly changing conditions imposed by the global pace of technological innovation will make it even more difficult for government to control or direct the private sector, and the interventionist role of the Japanese government in this regard has been exaggerated. In many countries, managed trade is no problem—the business interests and government tend to see things the same way. In the United States, that is not the case. The absence of foreign competition would reduce the pressure on companies to excel and develop.

Protectionism might even extend to capital flows, as happened in the s, which could seriously harm American growth and lead to a decline in the stock market, which has been buoyed by the inflow of foreign capital. Maintenance of American competitiveness in the long run depends on sustained increases in productivity. Effective actions to achieve this will be required in both the public and private sectors.

For example, in addition to those measures already described, technologists in private companies may well be asking themselves whether new high value-added technologies can be developed that are not as capital-intensive as present technologies—perhaps even more knowledge based.

So, a positive-sum strategy boils down to this: Only if Americans become better trained and managed—and invest a great deal more capital and technology in both manufacturing and services—can the standard of living improve at an acceptable rate in a highly competitive world market. The United States has some real historically demonstrated advantages in such a competition, but it must take a longer-term view and pursue those seemingly unexciting few-tenths-of-a-percentage-point increases in growth rate each year. Abramovitz, M.

Resource and output trends in the United States since American Economic Review — Boskin, M. Macroeconomics, technology, and economic growth: An introduction to some important issues. Landau and N. Rosenberg, eds. Washington, D. Working Paper No. Denison, E. Trends in American Economic Growth — Jorgenson, D.

Kuroda, and M. Industry Level Comparisons — Discussion Paper Cambridge, Mass. Gollop, and B. Productivity and U. Economic Growth.