What People do at Work Counts #1

Photo by fauxels on Pexels.com

This is the first of what will be an occasional series of posts pointing out something that should be obvious, but has been long forgotten by mainstream macroeconomics. What people actually do at work, not just that they have some job, is important to a country’s economic success. Here is an example:

The 1950s are often considered a golden era for the US economy, and one can see why. With factories around the world flattened in WW2 and many skilled workers in Europe and Asia killed or injured in the war, the US was the dominant manufacturer of nearly everything. US-made cars in the 1950s not only had nearly 100% of the domestic market, but also a substantial percentage of the world market, as did many other US manufactured products.

Starting in the late 1960s, and for a least three decades thereafter, Japanese companies such as Sony, Panasonic, Hitachi, and others started taking over consumer electronics. They did it with a stream of innovative and desirable new product categories, like VCRs, camcorders, and personal music devices like the Walkman, as well as higher quality TVs and stereo equipment than what the major US manufacturers like Philco, RCA, Magnavox, and Zenith were offering.

Toyota became the world’s largest car maker, with Nissan and others close behind. German companies also became major car makers, and as in Japan, many of their companies excelled in machine tools, chemicals, drugs, and other products that required engineering excellence.

What helped German and Japanese companies do so well was the perception that their products were better designed and made than American products. At the time they really were, and in many cases still are today. Germany and Japan also happened to have been our main enemies and the losers of WW2. How did they go from losers to winners? Was it just some odd coincidence that had nothing to do with the war?

Quite the contrary. From the point of view of their economies ever since, the best thing that ever happened to Germany and Japan was losing WW2.

Because of that, both countries were forced to have only the most simple military defenses, and were forbidden to work on the advanced military systems to which the US over the years has devoted so many trillions.

In the US, from the late 1940s and for many decades after, the top graduates of MIT, Cal Tech, and other engineering schools mostly went to work for aerospace and defense contractors. The hot, best paying jobs, attracting the best engineering students, were with the aerospace beneficiaries of that spending.

German and Japanese engineering graduates didn’t have that option, so instead they were stuck with jobs designing cars, electronics, scientific instruments, industrial machinery, and other products with no particular defense application. Over time their skills made their products in those categories better than those from the US, and consumers worldwide figured that out.

The cost to the US of leading the world in military technology was not just the money spent. The diversion of so many scientists and engineers from consumer markets toward military projects had a very high opportunity cost, the drastic shrinkage of the US auto and consumer electronics industries, among others.

I’m not suggesting that only economics should count. The USSR was clear about its wish to impose communism on the rest of the world one way or another. Perhaps if we had not developed such advanced military equipment the USSR might have started a war that would have cost us a lot more than just loss of consumer market share.

But we paid a heavy price, not only the costs of military output, which was over 10% of GDP for much of the 1950s and remained high ever since, but also the loss of many industries where we were out-engineered by those who were forbidden to work on military technology.

This is worth thinking about today. The US and other developed country governments have put into place massive incentives and subsidies for climate-related projects of any and all kinds. There is no doubt that the smartest scientists and engineers will go where the big money is, to develop better ways to reduce our carbon output.

On the surface that seems like a good idea because success will reduce the need for people in the future to spend heavily to ameliorate the effects of climate change. But what is the overlooked tradeoff? Our best engineers and scientists can’t do that and also do what they did before, which is work in companies improving products and processes for the goods and services that people actually want, and don’t have to be subsidized or forced by the government into buying.

As discussed throughout Economics Reimagined: Nature, Progress and Living Standards, my book that will be published on November 8th, business investment in R&D, engineering, new equipment and other things that increase productivity are the prime drivers of better living standards. Higher productivity works both by allowing employees to produce more valuable output, which pushes companies to pay them more or lose them to competitors, and by reducing costs which lead to lower prices, through what in the book I call the Progress Mechanism.

One’s living standard can rise either through higher income or lower prices, and having smart people working on business investment projects results in both those things. Take those smart people and instead put them on projects that, whatever their effect on the climate, do not increase our productivity, and the chances are good that, looked over a period of decades, we will sacrifice a great amount of income in order to reduce a small amount of spending, leaving us much worse off.

It is unfortunate that the level of ignorance about how economics works is so great that when politicians propose massive spending projects, they only talk about the expected benefits, and never what we must give up to get them.