William Baumol, an influential economist, passed away on May 4th. Perhaps his most important insight was called “cost disease.” I apologize if I distort Baumol’s thesis, but my understanding goes like this:
Services that relies largely on the activities of people such as the arts, education and healthcare, are more difficult to make more productive than areas that where productivity improvements allow for more output with fewer labor hours. The famous example was that it will always require four musicians to play a string quartet by Beethoven and that a 20-minute long quartet will always take about 20 minutes to play unless, for some reason, the audience and musicians decide that the quartet is just as enjoyable if the musicians played it twice as fast.
The result is that productivity grows (more value created with fewer labor hours) in some parts of the economy which means that not only can those areas afford to pay the workers more money, but it needs to pay more money to attract the kinds of skills needed in a technology-intensive sector. People-intensive things like education and healthcare, in order to compete for talent, need to raise wages even though their productivity may have risen more slowly.
This, however, sets up two quite remarkable implications, either of which represents a big paradigm shift.
The first implication: despite the advances in artificial intelligence and robotics, let us suppose that sectors like healthcare and education continue to have relatively low increases in productivity and that their costs continue to increase. Baumol argued that if there was sufficient increases in productivity and purchasing power in other parts of a society, that we could and should invest increasing money in areas like education and healthcare. Baumol was not arguing against improving the efficiency and effectiveness in these sectors but rather was warning of the dangers of cutting funding to these areas in order to keep spending at a lower level. This implication represents a considerable shift in the thinking of many politicians and voters.
The challenge, according to Baumol, is to bring about reforms in areas such as healthcare that reduce costs (such as better procurement practices to reduce drug costs) while at the same time recognizing the difficulty in raising the productivity in these areas and the need to fund them accordingly. In effect, the productivity gains in one part of the economy support other areas that are less productive.
The second implication: let us say that advances in artificial intelligence and robotics does make it possible to greatly reduce the need for humans in education and healthcare, in such a situation
as machines become better at doing things, the human role in generating faster productivity growth converges to zero. At that point, so long as society expects everyone to work, all spending in the economy will go towards services for which it is crucial that productivity not grow, in order to provide jobs for everyone. (The Economist, May 13th 2017)
This second proposition forces us as a society to think about whether we should deliberately spend significantly in the few areas not susceptible to technology-driven productivity increases such as the arts, for example, in order to create jobs. This line of thinking opens up the possibility of a world where the arts becomes the largest employer and source of work.
Or should societies deliberately throttle-back technology-driven advances in certain sectors in order to create jobs? This would literally require a decision to limit, in order to create jobs, the use of labor-saving technologies. I personally am skeptical that this is enforceable.
The implications of cost disease — its continuation or its demise — demands that we think about the nature of a “job” and whether it is essential to human well-being and societal cohesion, or whether it is something that requires that we redefine the purpose and nature of “jobs” and “work.”