US productivity growth slowing...

According to the Wall Street Journal, the US productivity growth is slowing from an impressive high of around 4% in 2004 to just 1.4%. The Economist newspaper highlighted this in 2006. If this is not just a glitch then it would suggest that we are unlikely to grow as fast without incurring the cost of inflation. The WSJ suggests that the lull in productivity is due to technology already achieving it's impact and that there is little productivity growth to be squeezed out from IT. While this might be contributing, I tend to disagree that this is the biggest part. There are huge sectors of the economy that still haven't embraced IT such as medicine and construction. Furthermore, there are still huge strides to be made in automation such as automating IT support and supply chain automation across all sectors of retail (not just the Walmarts).

Here's my theory: Productivity growth is slowing partly because of the increased regulatory burden in the US.

Productivity growth depends on output increasing per worker (I could be mean and suggest per hour worked but let's move on). In a tough regulatory framework, companies are forced to spend more on tasks that don't increase their ability to produce. This usually entails hiring more people, which works to reduce productivity growth.

The last few years has seen one of the most aggressive increases of regulation in the US for the last 20 years - Sarbanes Oxley. Section 404 of SarbOx requires firms to place strict internal controls on finance such as record keeping, auditing etc. This means huge spending on IT such as storage, security and software without squeezing any benefit from it. So for many large firms a part of their IT budget has been sunk into SarbOx without giving them the benefits from that expenditure.

Another less direct impact has come from the post September 11 paranoia of foreigners studying in the US. This has led to a massive drop in the import of talent that in the past has fuelled many of the bright young start-ups that have contributed to the growth in productivity.

While regulation alone probably doesn't explain the dramatic drop in productivity growth, I certainly see it contributing a fairly large component of it.

Ronald Coase the Nobel Prize winning economist first coined the word "Transaction Cost" to describe the costs associated with an economic exchange. He related transaction costs to the size of the firm. Regulators should keep this in mind when they place new shackles on business.