In the 1950s and 1960s the rate of growth of U.S. productivity, and hence of the domestic standard of living as measured by per capita output of economic goods and services, was between 2.5 and 3.0 percent per year. In the 1970s and 1980s, however, this rate fell to less than half its former level. At the higher rate of growth, the standard of living doubles every generation, about every 25 years, but at the lower rate the standard of living increases only by half during a generation. What appears to be a small difference in growth rates has surprisingly dramatic implications for the standard of living in the long run.
It is hard for politicians and even policymakers to become excited about doing something to raise the rate of productivity growth by, say, 0.7 percentage points. Doing so would double per capita real income over 100 years from what it would otherwise be. But the percentage seems so small, and the payoff so far away, that politicians are easily distracted by issues with bigger numbers and more immediate payoffs, such as keeping the economy at full employment. The misery of unemployment and the drama of short-run swings from recession to boom can seduce policymakers into focusing on unemployment issues and theorists into concentrating on business cycle fluctuations. Both groups too easily forget that our material standard of living which many believe to be the most important dimension of economics is determined by forces only peripherally associated with the issue of full employment.
The previous chapter discussed the supply side of the economy, emphasizing the distinction between the short and long runs, but focused on the business cycle fluctuations of output around potential output. The purpose of this chapter is to discuss how potential output is itself growing, a supply-side phenomenon of a different sort, and to try to understand what determines the rate of growth of potential output and what determines productivity growth, which is the prime determinant of our material standard of living.
