Demand: The Neglected Participant in the Long Run U.S. Productivity Record
Walker, John F., Vatter, Harold G., American Economist
John F. Walker [*]
Harold G. Vatter [**]
Emphasizing the empirical record, demand influences in U.S. post-World War II economic history are shown to have played a focal role in the standard production function. Public spending appears to have been a strategic component of demand influence on productivity over extended periods.
Neither capital nor labor shortages appear in the longest post-war expansions. Neither hours worked nor changes in capital stock regularly vary directly with output.
"Perhaps Denison...would say it is desirable (to) focus exclusively on the supply side of economic growth. Such a separation will, in my opinion, lead to erroneous conclusions, because changes in demand developments may have a significant effect on the supply factors." Gerhard Colm, American Economic Review, (May, 1962), p. 87.
"There was one bad by-product of this focus on the description of technology. I think I paid too little attention to the problems of effective demand." Robert M. Solow, American Economic Review (June, 1988), p. 309.
The fundamental philosophical defense of a market economy in both the long and short run is that it is demand driven. In microeconomics, when the demand for good A declines and demand for good B increases the market responds by decreasing the output of A and increasing the output of B. Consequently, both the total output (A+B) and the composition of output (A/B) is largely determined by demand. In Keynesian economics aggregate demand performs the same roles. An increase in aggregate demand driven by some combination of monetary policy, animal spirits, net exports, or consumers, leads to increased total output. Depending upon which demand increase is in operation, the composition of output, as well as total output, changes.
All of this can be thwarted if the resources to produce the increased output demanded cannot be summoned to work. That is the supply constraint. In this paper it is found that there have been few if any supply constraints on U.S. output since World War II.
If both labor and capital have significant unemployment rates, the increases in total output from an increase in demand are not constrained by supply shortages. In such a case only demand change explains output change, which is the numerator of the productivity fraction.
Modern macro and productivity theories assume that the long run normal state of the economy is full employment of all resources. Since between 25 and 50 percent of all years in this century have been recession years, and most non-recession years are well below previously experienced full employments of both labor and capital, such a Panglossian view is clearly unscientific.
The supply side approach to productivity overwhelmingly dominates current economic thought. Its rule began with Ricardo and surged in contemporary times with the attack on Keynesianism during the stagflation of the seventies and the concomitant spread of monetarism. Long run productivity analysis never really broke out of its classical, production-side confinement.
In saying herein that public demand is a particularly neglected participant in contemporary long run aggregate productivity theory, it is by no means intended to overlook any component of the total demand stream. The matter of components becomes important only when we turn to specific historical performance and policy considerations. For the pure theory of long run productivity change, demand is demand.
The productivity relationship is output over input. In the mainstream orthodoxy today, this fraction is interpreted to mean that output is a "function" of input. A nice production function does the trick. Output is therefore not a function of demand, any more than inputs are. Q.E.D.
Not so. Demand can clearly influence not only the rate of increase of production but also the increase of the flows and stocks of inputs as well as the rate of utilization of stocks for production purposes. …