Tuesday, November 9, 2010

Don't Focus On Consumer Spending

Contrary to popular belief, increases in aggregate spending (e.g. consumer spending) is not what leads us to a higher standard of living. Nevertheless, both in good times and bad, consumer spending is the gauge the media focuses on as a barometer of how we're doing; but consumer spending is only a measure of short-term demand. Increases in standard of living, however, come from our ability to do our jobs more efficiently.

For example, consider a plant that employs 1000 workers and makes one widget per day. Suppose one day the plant manager comes up with a new method of making that widget, and only requires 500 workers to do it. The remaining workers just got richer, because now the revenue from the widgets sold is spread over fewer workers. (In practice, of course, this process would take time, and the higher profits would be shared among owners and labourers through market forces. Furthermore, the 500 laid off workers would undergo short-term difficulties until they could join a company that's expanding, unless there is a market demand from the company to make 2 widgets per day.)

The aggregate nation-wide level of these efficiency improvements is referred to as productivity growth. Here's a look at US productivity growth (in percent) over the last 60 years:

Millions of tiny innovations (and some not so tiny, such as the wheel, the light bulb, and the internet) have contributed to human productivity growth over the ages. And millions more are on the way, if we are to see continued growth in our standard of living.

Productivity numbers are reported every quarter, but are not given the attention they deserve. Government policy should be geared towards encouraging productivity gains, which come from savings which leads to investment. Instead, governments often focus on increasing consumer spending through debt, which causes short-term pick-ups in demand (and therefore increases GDP and reduces unemployment in the short-term), but makes us no better off in the long-run.


K2 said...

excellent post

Paul said...

I agree with you 100%, Saj.

If you want to run for public office, you have my vote! :)