Tuesday, January 12, 2010

Krugman's Claim that Europe Does as Well as the US

Krugman argues here that Europe's economy is just as productive and vibrant as the United States' even though Europe is saddled with high taxes, a generous social safety net, and a generally greater role for government in the economy.

His evidence is that even though the United States' growth rate in GDP over the last 15 years appears to be higher than Europe's, if one adjusts for the growth in population, the GDP growth rates are almost identical.

I give Krugman credit for bringing up the reasonable idea of making an adjustment for population growth. I have argued for many years that Japan's "lost decade" in the 1990s, in which its GDP growth rate was approximately 1.5 pts less than ours, could be explained almost entirely by the difference in our population growth rates.

Of course, one could argue that a low population growth rate is a consequence of having poor economic policies. Immigration to your country is less attractive to foreigners than it would otherwise be, and perhaps residents are discouraged from having children.

That being said, the whole idea of comparing growth rates to see which economy is more efficient is stupid. One should look at the overall GDP per capita, wealth level, and standard of living to gauge which economy is doing better. The growth rate is not really of much importance if your standard of living is 28% lower. See here for a list of countries ranked by GDP per capita adjusted for purchasing power parity (PPP).

On top of that, it would seem that growing at the same rate is no great accomplishment for an economy operating at lower productivity. It is much easier to copy what works from a more efficient economy (as the Soviet Union did in the 1930s from the West, as Japan did in the 1950s and 1960s from the United States, and as China is doing now from everybody).

Just to make a simple comparison, France's GDP per capita (PPP adjusted) is 28% lower than that of the US's. That's what we should be focused on -- not whether France has just barely managed to match our GDP growth rate over the last 15 years. The French are still poorer on average, and the most likely reason is the stifling amount of government control over their economy.

Oh, and one final note. The Europeans are getting a free ride off of the United States in many ways, and yet they still have a lower standard of living. The main area is defense, where the US essentially shoulders the entire burden of keeping the world peace.

1 comment:

Anonymous said...

Two tangential points:

You pointed out that Europe free rides to some extent off the U.S. in terms of defense spending. The other area that comes to mind is drug development. We effectively subsidize drugs (by paying market prices) and they impose price controls.

Anyway, it was once pointed out that it's possible that immigration makes current U.S. citizens wealthier while at the same time dragging down per capita GDP. (Strangely, this may also increase per capita GDP of the country that lost those citizens to the U.S. I guess that's similar to the Will Rogers Effect.)

In other words, immigration may make us richer but make us look poorer.

One way around this problem is to look at "income per natural", i.e. look at incomes of people born in a particular country regardless of where they work. Here's a blurb on Marginalrevolution about this metric. Btw, the U.S. comes out on top with that measurement.