IMF budgets for growth

Nan Li and Diaa Noureldin, researchers at the IMF – International Monetary Fund – have just published a thoughtful article entitled ‘ Eliminating the Productivity Drag’ – they detail specific reforms needed to address the ‘misallocation of resources’ and so boost productivity enough to revive stagnating global growth.

Their thoughts are particularly interesting when compared with the steps proposed in the UK Labour government’s budget, disappointing to many for being an historic tax-grab despite having been widely advertised beforehand under such banners as ‘Going for growth – Invest, Invest, Invest – Not hitting the working man’s pocket’. 

Wealth creation in any country derives mostly from the success of its private sector – its growth and productivity, and so profitability, not only determine the standard of living of all its citizens but also pay for the range of public services needed which the private sector does not or cannot provide. 

A top priority for any government, therefore, should be to help the private sector be as successful as possible.

However, the UK government seems to have put the cart before the horse – they’ve poured billions more of tax-payers’ money into specific public sector areas, sadly without any clear explanation of why specific amounts are being channelled where, for what expected benefits when – but there’s no clear exciting plan for growth upfront – no overarching strategy we voters can understand for building on the UK’s undoubted potential for growth – no clear formula for creating the extra wealth to pay for their total spending.

Ever optimistic, however, perhaps there’s such a plan in the small print? 

If so, ministers might well compare it with extracts from what the IMF say below

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• The global economy has been struggling to regain its footing since the 2008–09
  global financial crisis.
• Forecasts for medium-term growth continue to be downgraded.
• Advanced economies have seen a deterioration in growth since the early 2000s, and
  emerging markets experienced similar challenges after the financial crisis.
• Our recent study suggests that without timely policy interventions or breakthroughs in technology and
  its adoption, global growth could stagnate at just 2.8% by the end of the decade – that is a significant drop of 1 percentage point from prepandemic levels.
• But this outcome is not preordained.
• Currently, the United States leads the world among our sample countries in allocative efficiency, a measure of how well an economy’s resources are distributed to its most productive uses.
• Structural reforms addressing regulatory barriers, labour market rigidity, and access to financing are key to achieving this.
• The benefits of economic growth are well known.
• Growth leads to improved living standards, more tax revenue for public services, and increased
  investment in new technologies and businesses, including needed investment to combat climate
  change and the transition to renewable energy.
• This is why higher productivity is so important.
• Higher productivity means more output from the same amount of input.
• Two main factors drive productivity growth:
  • Within-firm productivity gains:
    • They are achieved through better technology, improved management practices, and innovative processes:
    • Companies that adopt state-of-the-art technologies and attract top talent can significantly enhance their productivity
    • For example, a tech company that invests in cutting-edge research and development can create new products or improve existing ones, thereby expanding its market share and increasing its competitiveness
    • The problem is, returns on investment in R&D are diminishing
    • For instance, in the semiconductor industry, more researchers are needed to double
      the density of chips
    • This trend also spans various sectors, including information and communications technology, where rapid gains have notably plateaued since the early 2000s
    • Therefore, it is imperative to look to other sources of enhanced productivity to sustain economic growth.
  • Economy-wide allocative efficiency:
    • This is about how well an economy’s resources are distributed across businesses for their most productive uses
    • Imagine an economy as a large farm – if the best land is used for growing the highest-value crops, the farm will be more productive overall
    • In the same way, if an economy’s resources flow to the most innovative and efficient companies, those enterprises can grow and drive economic progress
    • This process ensures that the best businesses thrive, while less efficient ones exit the market.
• Unfortunately, misallocation of capital and labour across companies within sectors has increased
• This misallocation of resources has been dragging down productivity growth
• Without this increase in misallocation, productivity growth could have been 50% higher.
• The rise in misallocation stems primarily from uneven productivity growth among companies, hampered in many countries by economic frictions that prevent efficient reallocation of resources
• Structural frictions, such as regulatory barriers, rigid labour markets, financing constraints, and lack of trade openness tend to be associated with higher misallocation.
• Our study finds that two-thirds of the observed misallocation is attributable to persistent structural issues – this suggests that targeted policy interventions, addressing these inefficiencies, could substantially boost productivity and foster growth.
• One policy that supports this goal is the reduction of barriers to market entry and increasing competition.
• For example, India in 1991 embarked on wide-ranging economic reforms that included the regulatory framework and ensuring transparent and fair market practices can create a more dynamic and productive economic landscape.
• Emerging technologies, such as artificial intelligence, supercomputer chips, biotechnology, and
  green technologies, have the potential to lift productivity and boost economic growth:
  • For example, AI can optimise supply chains, reduce operational costs, and improve customer service, all of which contribute to higher productivity
  • In health care, AI-driven diagnostics and personalised medicine are revolutionising patient care, making it more efficient and effective
  • Similarly, in manufacturing, AI-powered automation is increasing production speeds and reducing errors, leading to significant cost savings and productivity gains.
• Governments should foster an innovation and adoption ecosystem that supports creativity and minimises frictions in reallocation of research resources.
• Technological advances are pivotal in enhancing productivity because they allow firms to operate more efficiently and compete effectively in the global market.
• CONCLUSIONS:
  • The global economy stands at a pivotal moment
  • The path forward requires decisive action to enhance productivity through better resource
    allocation and technological adoption
  • Historical lessons and many analyses converge on the same point: effective policy interventions can halt and reverse the trend of declining growth
  • By creating environments where the most productive businesses can thrive and by leveraging the potential of emerging technologies, countries can set the stage for a new era of economic prosperity.