Baumol means bring your knees in tight
We’re in a time warp, sadly:
On the other hand, the experience of the past quarter of a century shows that increasing the productivity of the public sector is painfully difficult. This partly reflects the labour-intensive, human-focused nature of much public sector work: there are only so many ways to check a bedridden patient for pressure sores, or to help an elderly person get dressed. The scope for productivity gains there is simply more limited than in, say, manufacturing.
Yet, as economy-wide wages grow due to productivity improvements elsewhere, wages for nurses and care workers also need to rise to continue to attract workers to those roles. The result is that the cost of providing public services tends to grow faster than other prices, and grows to take up an increasing share of national income – something economists call the Baumol effect.
Not quite, it’s that services will rise in price relative to manufactures - therefore public services will rise in price in respect to manufactures. Whether public services rise in price with respect to other services is an entirely different matter.
Which is where we need that step to the left - hey, public services just will cost more as we get richer - and the step to the right. Well, yes, but is there anything we can do to ameliorate this agreed problem? At which point, yes, obviously - we can work at improving the productivity of services delivery. Which is the other half of Baumol.
For the Good Professor did a great deal of work upon invention and innovation. In his description these are the making of some new whizzy thing and the process of putting things to work. Innovation is not - in this definition - say, the internet, it’s discovering that it’s a great cat picture distribution system. Or that free telecoms can be delivered to half the species, as Meta has done. Baumol goes on to point out that planned economies can invent just as well as market ones - something Ms. Mazzucato continues to shriek at us. But that planned economies find it near impossible to innovate while that does seem to be the driving force of those market economies. No government, anywhere, has created a decent smartphone, let alone an iPhone, despite whatever they did to the base technologies it is innovated from.
We also knew all this back 30 and 40 years. As Paul Krugman has said productivity isn’t everything but in the long run it’s almost everything. As Krugman also retailed there’s an argument that the Soviet Union managed to improve total factor productivity by not one smidge, semi quaver nor iota in its entire 70 years. While the market economies, over the same time period, gained 80% of their growth from increases in total factor productivity.
Our unfortunate time warp is that we seem to have forgotten this basic truth.
Yes, services become more expensive relative to manufactures as we become richer and wages rise because Baumol. It is possible to moderate this effect by exposing services to market competition, that method we’ve got of improving productivity. The logical end result is that given Baumol we’ve got to have as much competition in public services as we can possibly squeeze into such a system. Because in the long run it’s true that it’s not everything but it is pretty much everything.
Which is where we put our hands on our hips and insist upon those knees of the logic being brought in tight. It’s because it’s so difficult to increase productivity in public services that we’ve got to have contracting, outsourcing, market competition in them. Because it’s so difficult we’ve got to devote more effort to that increase in productivity. Anything else would be allowing madness to take its toll.
Tim Worstall