The lead article in the Economist this last weekend focused on why the United States is not growing faster.
Recently, it seems as if everyone has lowered the rate at which they expect the United States to grow in the near future. We are talking here about the potential growth rate of the country.
The International Monetary Fund just reduced its estimate of America's potential growth rate to 2.0 percent. The Economist reports that other economists have lowered their expectation to 1.75 percent. This is down from earlier estimates…say ten year ago…that placed expectations in the 3.0 percent to 3.5 percent range.
This is a serious reduction for it means that if the United States is only able to grow this fast in the future, then it is going to be very difficult to employ the number of working age people in the country and it means that with aggregate incomes lower, things like expenditures on investments will be lower, housing construction will be lower, and tax collections will be lower, among other things.
The article concentrates on labor and labor productivity as the "most powerful way to boost growth." This is what most analysts focus on.
I am not saying that this area is not very important. It is and we need to be concerned about what is happening in this area. I am especially concerned about the decline in the labor force participation rate, which has fallen to 62.8 percent, the lowest level this statistic has hit since the middle of the 1970s when more and more women were entering the work force.
What I want to concentrate on now is the state of the physical capital in the United States. Here we look at the capacity utilization rate of manufacturing, the area where most of the physical capital used in the United States is located. This measure is a little bit like the labor participation rate in that it measures how much of the total physical capital in manufacturing is being used.
Take a lot at the graph. For June 2014, the capacity utilization rate is 79.1 percent. It looks as if it is near of getting close to a cyclical peak.
But, the important thing to me, since we are discussing the potential growth of the economy in this post, is the secular decline in the whole series. That is, if we drew a line from one cyclical peak to the next cyclical peak, the line would be declining from left to right. In a secular sense, the rate at which the manufacturing capacity is being used has been falling for fifty-some years.
This declining capacity utilization number, to me, is significant of some of the underlying problems that exist within this economy. If the near-term peak is around 80.0 percent, as stated above, the that means 20.0 percent of our manufacturing capacity is not being used…will not be used…and this number will grow with the next cycle.
This is down from about 82.0 percent before the 2007 recession hit; down from around 85.0 percent in the late 1980s and middle 1990s; down from around 87.0 percent before the 1980 recession, and down from around 89.0 percent in the late 1960s and middle 1970s.
I have argued that there are two basic reasons why there is this secular decline in the rate of capacity utilization.
First, over time, more of the capital stock in place will become technologically out-of-date and hence will not really be used in ways it once was because it has become less and less productive than the more up-to-date. That is, as the technology of the country improves, more and more of the existing capital stock is fully used because it is being replaced by stock that allows the company to be more competitive in the marketplace.
Second, credit inflation puts the pressure on companies to put the "new" capital into place at a faster and faster pace. But, studies have shown that capital that is rushed into place tends to have a shorter life span that capital that is put into place at a slower pace. That is, this capital that is rushed into place tends to have a shorter life span than capital not rushed into place.
The consequence of this is the amount of manufacturing capital that is recorded for this statistical series is over-stated. That means that the amount of unused plant and equipment that is measured in the series is too high, meaning that capacity utilization could be higher.
Both of these arguments point to the possibility that there may not be as much manufacturing plant and equipment available as the series seems to indicate. That is, just as the way the statisticians measure the availability of labor in the workforce may overstate the "employability" of the workers, the measure used to determine capital utilization may overstate the "employability" of the capital stock.
In other words, one could say that existing labor productivity is down because the labor force needs to catch up with the technology available to the economy, the capital stock needs to catch up as well. And, this dilemma may be an interactive problem. One could argue that if the labor force needs more training and education, companies have not gone ahead with the most productive plant and equipment they could obtain because they don't have the workers that can work in such a technologically advanced workplace.
If things like I have writing about are true, then we have a major structural problem in the United States economy…a problem that is not going to be solved by trying to create more and more aggregate demand.
That is, we have a supply-side problem, something that is going to take quite a bit of time to correct. And, politicians that just focus on getting elected in the next election are not going to solve this problem. This seems to be one reason why countries like China and Germany, whose leaders tend to think more about longer-term horizons, are having less of a problem with economic growth than the United States…or France…or Italy…
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.