Here's the Real Reason the Global Economy is Slowing Down

Forget China, Brexit or global debt -- deceleration of productivity growth is the real reason the global economy is growing so slowly.
By Kim Iskyan ,

Well before Brexit -- which may or may not depress global economic growth -- the global economy was slowing down. And that will continue, regardless of Brexit.

The global economy grew 3.6% a year (on average) over the past 25 years, as measured using GDP growth. But in 2014, the economy grew 3.4%. In 2015 that number was 3.1% and analysts expect it to be 3.2% this year.

Despite central banks' best efforts (like negative interest rates) and trillions of dollars of stimulus, global economic growth is at a standstill -- at best. So, what is happening?

The Financial Times recently had this to say about the U.S. (the world's largest economy): "Economists warn of 'pernicious' trends that could hit economy."

The ongoing deceleration in productivity is one of the "pernicious" (or harmful) trends the Financial Times refers to. Janet Yellen, head of the U.S. Federal Reserve, added that "... the longer-term prospects for the country could be hampered by the depressed rate of productivity growth."

Yellen is saying that one of the main reasons why GDP growth is slowing is related to productivity. If productivity doesn't improve, slower economic growth will be the "new normal." And this is a global problem.

What Is Productivity?

Productivity is measured by how much a country, business, or person produces over a set period of time. For example, let's say a factory produces 1,000 widgets in an 8-hour workday. That works out to 125 widgets an hour (1000/8 = 125). If the factory has 100 workers, it means each worker produces 1.25 widgets an hour. In economic terms, the factory's daily "output" is 125, and each worker's "output" is 1.25 widgets. Productivity is the growth in outputs per hour, or day or worker, that is used to measure growth.

So if the factory starts producing 1,050 widgets a day, it means that productivity has grown by 5%. That's because it is producing 5% more outputs per day.

For entire economies, the percent increase in GDP per hour worked is often used to measure productivity. Higher productivity can be the result of higher efficiency, technological innovation and whatever else makes people work more productively.

Higher productivity, and productivity growth, results in a growing economy and higher living standards. But slower productivity growth can lead to slower improvements in living standards, lower profitability and slower wage growth.

Productivity and GDP Growth

Global GDP growth and productivity growth are closely correlated. Increased productivity is a major contributor to economic growth (measured by GDP). The more a country produces, the more it grows, as shown below.

From the chart, we can see that global productivity briefly recovered after the 2008/09 recession before stalling out. And global GDP growth has followed suit.

In 2016, productivity growth is forecasted to be an unimpressive 1.5%. While this is slightly better than 2015's 1.2%, it is only half of what it was 10 years ago.

The two biggest economies in the world -- the U.S. and China -- both have low productivity growth. This is one of the main reasons why global productivity has slowed.

Since 2010, U.S. productivity (excluding the farming sector) has seen growth of just 0.4% in GDP for every hour worked. This is just a fraction of the 2.6% average growth it saw from the mid-90s to 2010.

The Conference Board, a global research firm, projects that productivity growth in the U.S. will continue to fall, and may even turn negative.

Productivity growth in China is dropping quickly, too. In 2014, its productivity growth per worker reached 5.2%. It hit 3.3% in 2015. China is expected to do a little better this year with GDP growth increasing to 3.6%. But this is still only half of the 7% productivity growth it saw between 2007 and 2013.

Why Is Productivity Falling Despite All This New Technology?

Technological advancements normally mean higher productivity. But recently, this hasn't been the case.

The past decade has seen advancements in robotics, cloud computing, smartphones, and more. But, despite this, productivity has struggled.

Economists refer to it as the "productivity puzzle." All this new technology should be helping boost productivity, but it hasn't so far. There are a few theories for this.

One theory is that recent technological advancements pale in comparison to past breakthroughs. For example, while the iPhone is revolutionary, it doesn't compare to electricity being widely accessible for the first time. The marginal improvement delivered by new technology won't have the same impact as it did in the past.

Another theory suggests that there's a time lag before new technologies affect productivity. There is a learning curve as businesses and workers adjust to technologies, and not every worker can use and maximize technology right away.

Since the financial crisis of 2008, investment in new technology that could improve productivity has been weak. Once this changes, or if it does, productivity may increase.

It could also be that there's just too much technology. Social media (think Facebook and Twitter) and smartphones could actually be hurting productivity. People around the world spend about 50 minutes a day on social media, including Facebook and Instagram. If that's done during working hours, it means that fewer widgets are produced.

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One thing is certain: If global productivity does not improve, global economic growth will remain slow. This could result in lower wage growth and slower growth in living standards worldwide.

So, if you really want to know when the global economy will recover, keep your eyes on productivity. Once it improves, the global economy will soon follow.

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Kim Iskyan is the founder of Truewealth Publishing, an independent investment research company based in Singapore. Click here to sign up to receive the Truewealth Asian Investment Daily in your inbox every day, for free.

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

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