The missing ingredient: For economic growth you first need the potential for growth

In an 18th century recipe book by Hannah Glasse, the recipe for jugged hare supposedly began with the words “first catch your hare.” The quotation is apocryphal, but it says so much about the food culture of the time – or rather the food culture of our time, in which we simply assume the availability of basic ingredients.

Much the same can be said for contemporary economics. The partisans of stimulus and austerity may disagree as to the best recipe for growth, but both assume that the basic ingredients will be available.

But what are the ingredients?

In a must-read report on innovation, the Economist makes an immensely useful distinction between two kinds of growth – extensive and intensive:

• “Extensive growth is a matter of adding more and/or better labour, capital and resources. These are the sort of gains that countries saw from adding women to the labour force in greater numbers and increasing workers’ education...
• “Intensive growth is powered by the discovery of ever better ways to use workers and resources. This is the sort of growth that allows continuous improvement in incomes and welfare, and enables an economy to grow even as its population decreases.”

Immediately, these concepts help us to understand the long-term growth challenges that face us in this country and across the western world. Most fundamentally, the potential for extensive growth is substantially exhausted. For instance, most women in Britain have already joined the (paid) workforce. As for population growth, we are doing quite well to avoid the demographic slumps that are on the way for countries like Japan and Germany. And on the issue of capital, the last few years have shown what happens when governments allow the availability of credit to exceed reasonable limits.

Therefore, more than ever, our future economic prospects depend upon intensive growth:

• “Economists label the all-purpose improvement factor responsible for such growth ‘technology’—though it includes things like better laws and regulations as well as technical advance—and measure it using a technique called ‘growth accounting’. In this accounting, ‘technology’ is the bit left over after calculating the effect on GDP of things like labour, capital and education.”

An increasing number of economists believe that the rate of technological progress is slowing down – and it is this that provides the ultimate explanation for the economic troubles of our age. Other economists, however, are more optimistic. We are making progress in some areas, they say – especially information technology – it’s just that we’ve yet to apply it properly:

• “Research by Susanto Basu of Boston College and John Fernald of the San Francisco Federal Reserve suggests that the lag between investments in information-and-communication technologies and improvements in productivity is between five and 15 years...
• “Full exploitation of a technology can take far longer than that… Steel boxes and diesel engines have been around since the 1900s, and their use together in containerised shipping goes back to the 1950s… Roughly a century lapsed between the first commercial deployments of James Watt’s steam engine and steam’s peak contribution to British growth.”

Compared to manufacturing, the service sector appears to be particularly slow on the uptake. Given that many services are, in fact, public services, there is great deal more that governments could be doing, both directly and indirectly, to unleash the power of innovation.

Certainly, this would be more productive than the sterile economic debate that assumes that economic growth can be conjured out of thin air – which is no more true of GDP than it is of jugged hare.