685   7 April 2003  

"Post-neo-classical endogenous growth theory"

In 1995, I was in the audience at the National Film Theatre, when Gordon Brown referred so authoritatively to "post-neo-classical endogenous growth theory".  I remember the words, I remember where I was sitting, and I remember precisely where the podium was, on the far right of the stage.

I have always understood precisely what the phrase meant, and I have been dismayed at the scepticism of other commentators.  Dismayed at Rory Bremner's ridicule of the Chancellor.  Dismayed too, at Gordon Brown's seeming failure to grasp its significance himself.  What do I mean by it?   Let me explain.

My own studies of economics, at Cambridge in the early-Sixties, were of "neo-classical" economics, starting with Hicks and Samuelson.  Following the golden age up to John Maynard Keynes and WW2, economics had continued to be dominated by concepts of "equilibrium", of markets rectifying disequilibria, prices interacting with demand to move towards new points of equilibrium - even if those points were never reached.  Growth was the consequence of this perpetual interplay of supply and demand, the magical duality of classical economics.   With the aftermath of WW2, with most European economies heavily "managed", those forces were constantly inhibited by Government intervention, and it was difficult to believe in "classical" economics any more - hence the neo- prefix, as the search for new and more sophisticated dualist equilibrium theories progressed.

That search had limited success.  The discipline of "economics" is floundering, intellectually. These days, there is little real understanding of "how a market economy really works" - indeed, the West finds it virtually impossible to explain to the "learning countries" (notably Russia, and Eastern Europe) how a market economy is to be created.  To fill the theoretical vacuum, along came "endogenous growth theory" - attributed to Professor Paul Romer of Stanford University in the 1980s.  You did not need the swings of the market-place, he argued, to achieve economic growth.  The swings of boom and slump were not essential elements in a successful growth economy, as it was fashionable to believe.  You could stabilise economic conditions and achieve growth by tweaking the supply system within the economy, improving productivity and efficiency, constantly re-deploying resources to more and more valuable purposes, driving the economy forward by its own built-in (i.e. "endogenous") impetus.  After all, Romer argued, the remarkable growth of the US economy in the 20th century was an example not of external ("exogenous") economic stimulus (only a small proportion of the US economy is in the export sector) but rather of internal drivers, generating high productivity growth.

Gordon Brown has adopted that theory.  He has done much to reduce the impact of growth and slump - perhaps not to eliminate the swing, but to cushion its impact on average-paid workers.  And he has identified the improvement of productivity as a key policy objective.  Yet it is there that he is failing: UK productivity levels remain stubbornly low, by comparable international standards.

What has gone wrong?  The problem is that productivity gains are not (as the theory requires) good in themselves.  In the business world, they are merely the consequence of commercial pressures to improve performance.  Some low-productivity systems can remain competitively successful.  US productivity is high because the powerhouse of US domestic demands generates draconic competitive pressures, which punish inefficiency in the use of resources (whether of labour or materials).  The American domestic consumerate is steadily growing (now largely by immigration), Americans are physically mobile (facilitating stimulating changes of economic pattern), American mores are consumerist and socially competitive, the US corporate sector has conquered the heights of political power (as they have nowhere in Europe), personal savings are low and capital is relatively cheap (compared with Old Europe, particularly the UK) - the conditions are ideal for innovative trading.  It is that process of perpetual innovation, of entrepreneurial initiative, that drives productivity growth.

Poor ol' Gordon, and poor ol' Patricia Hewitt - they have got their eyes firmly fixed upon the wrong dials on the locomotive.  They are looking at the effect, not the cause, of improved competitiveness.  When it comes to economic growth, innovation is all.  Britain is poor at commercial innovation because of the inhibitions of our class inheritance, because of the high cost of capital and the inadequacy of our financial institutions, because of the risk-averse priorities of a settled (not an immigrant) population - all this "conservatism" runs very deep indeed.  Even when our scientists and engineers generate great ideas, our sclerotic financial and social institutions fail to develop them commercially.  Even the agencies detailed-off to foster entrepreneurial activity (Welsh Development Agency, Training and Enterprise Councils) are themselves sclerotic, staffed by too many dyed-in-the-wool, careful, career-oriented, and risk-averse second-raters.

Gordon, Patricia - it is in the promotion of perpetual commercial innovation that you will find the secret of eternal youth (...sorry, economic growth).  And you will find, at the heart of this problem, a cruel paradox - one which it will be very hard for New Labour to understand.  For the City, with its parasitic and over-remunerated capitalist practices, is totally unsuited to the promotion of these innovative attitudes, in future generations of our children.  Your new-found friends in business are the very worst people to foster new enterprise...

Yep!  That is the ultimate paradox.  Having discovered how a market economy really works, you will find that it can only be delivered by new and more sophisticated forms of public service initiative, cultivating wave upon wave of new business competitors. What a hoot!  The market system can only work within a more sophisticated socialist framework!

• Now why am I not surprised?