Conservatives Don't Have a Secret Formula for Growth

Their economic reforms offer one-time boosts, not long-term gains.

Offering one-time bumps for growth.

Photographer: Joshua Roberts/Bloomberg

John Cochrane, a highly respected finance professor at University of Chicago's Booth School of Business, has posted a long manifesto about how to boost U.S. economic growth. He offers a very standard list of conservative and libertarian ideas -- lower taxes, slash regulation, privatize education and increase immigration. Some of these are good ideas, others are neutral and others would be counterproductive. But a full evaluation of the entire standard conservative policy platform is too big a job for one column. 

Instead, I want to focus on one bad argument that Cochrane uses. Most of the so-called growth policies Cochrane and other conservatives propose don't really target growth at all, just short-term efficiency. By pretending that one-shot efficiency boosts will increase long-term sustainable growth, Cochrane effectively executes a bait-and-switch. 

Cochrane sells us on the need for growth policies by citing the undeniable benefits of long-term economic growth:

Small percentages hide a large reality. The average American is more than three times better off than his or her counterpart in 1950. Real GDP per person has risen from $16,000 in 1952 to over $50,000 today, both measured in 2009 dollars...If the US economy had grown at 2% rather than 3.5% since 1950, income per person by 2000 would have been $23,000 not $50,000. That’s a huge difference. Nowhere in economic policy are we even talking about events that will double, or halve, the average American’s living standards in the next generation.

This is certainly true. Small differences in growth rates really add up over long periods of time, thanks to the math of compounding. But most of the policies Cochrane recommends are most certainly not things that would increase the growth rate for decades on end! 

For example, take taxes. Basic economic theory says that taxes cause a loss of economic efficiency, a so-called deadweight loss. They do this by driving a wedge between the price that consumers pay for a good or service and the price that suppliers receive. When suppliers are forced to accept lower prices they produce less, and when consumers pay more they buy less -- hence, a smaller amount gets produced overall, and the economy suffers a loss of efficiency. 

Now suppose we cut taxes. According to Econ 101, the deadweight loss goes away. That boosts economic output to its efficient level (while also robbing us of the ability to use tax revenue to do whatever it is we wanted to do, such as maintain a military or give food to the poor). But it most certainly doesn't increase the long-term rate of growth. It provides a one-time bump, but nothing more. 

The same is true of most regulation. Government interventions such as occupational licensing restrict economic activity much the same as taxes do. They force producers to find expensive work-arounds, while reducing the amount of goods and services they provide. But as with taxes, eliminating this inefficiency would only produce a short-lived fillip to growth. 

If you doubt my argument, consider what the world would look like if tax rates produced permanent differences in growth. Countries with tax rates just 1 percent lower than their neighbors, or regulations slightly less onerous, would eventually be infinitely richer. That's not only implausible, but it also doesn't fit the facts. 

What we actually see is that rich countries all grow at about the same rate. The U.S., the U.K., Japan, Germany and France all have per capita growth rates in the same range, despite substantial differences in tax rates and regulatory environments. Yes, there are differences in the level of income -- the U.S. is about one-third richer than the large rich nations of Europe and East Asia. Those differences probably do reflect differences in economic efficiency. But the differing tax and regulatory policies of these nations haven't resulted in divergent long-term growth patterns. 

So what does determine long-term growth? Economists believe that this is fixed by the rate of technological progress. Government policies come and go, but the state of human knowledge keeps steadily increasing. Technology, and the productivity it creates, is the reason we drive cars and watch TV and eat so much that we have to go on diets, instead of scrabbling to eke a living out of the soil and sleeping on dirt floors. 

Most of Cochrane's proposals would do little or nothing to increase the rate of technological progress. There are one or two exceptions -- for example, an easing of Food and Drug Administration regulation might enable biotechnology to progress more quickly. That really might help deliver a long-term growth boost that would transform our society. And Cochrane, unlike many conservatives, does recommend spending more government money on basic research, which also has a chance of creating a true growth acceleration. 

But for the most part, Cochrane proposes policies that even if successful, are only efficiency boosters rather than long-term growth boosters. These policies might be good ideas, and they might not, but they have no chance of fulfilling the tantalizing promise of permanently higher growth. 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.