Future of the Economy #2(b) – Productivity is Prosperity

It’s been quite a while since my last post in this series, but I will finish it eventually.

Anyway…last time, I laid out the key axiom that Wealth = (Existing Resources + Production) – (Consumption + Waste), and discussed two reasons – exogenous and cyclical – that the wealth of nations changes over time. This post focuses on the third class of reasons – “the secular” (meaning “long-term” in this context.)

We’ll need two key concepts: 

1)  Ability to produce/consume

2)  Propensity to produce/consume

“Ability” is simply “how much could you do in a given amount of time, applying maximum effort?” For production, it’s a simple product of the number of appropriately skilled workers (“the labor force”) multiplied by the potential output of a single worker (“productivity”). For consumption, the limiting reagent is usually “how much can you acquire?” which equals the amount of money you have divided by the price of what you’re consuming.

“Propensity” is about preferences –it means “given how much you could consume, how much will you consume?” Even if I could afford to exclusively drink coconut water, I would still sometimes prefer regular water. My propensity to consume coconut water is less than 100%.

Forecasting the economy is hard because these four fundamental variables form a twisted chain of causality where each is directly dependent on the past state of each of the others. But most of the variables economists obsess over – inflation, growth, and asset prices – are the output of that chain.

I may someday write more about how the current economic malaise is the result of an imbalance between the world’s ability to produce and propensity to consume. But for this series, we only need to understand the ability to produce. If you want more, read this excellent summary by my former employer.

My claim: Increases in society’s collective ability to produce economic goods (broadly understood) are the single greatest driver of increases in human quality of life and wellbeing.  That’s a strong statement but I mean it.

Nearly every major social advance in history has come from an increase in our ability to produce. Better medicine, agriculture, and synthetic materials have massively reduced disease, starvation, and the power of brutal extractive social orders.

Because the growth of the labor force is constrained by the birthrate, the only way we can improve our ability to produce is by increasing the quantity and quality of the work that a single human can do in a unit of time. Any other route to apparent prosperity– like the borrowing that fueled the housing bubble – is a dangerous and unsustainable mirage.

In the end, productivity is prosperity

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