GDP slows down

The dramatic news this morning from the BEA on Gross Domestic Product showed economic growth slowing to 1.6%

The deceleration in real GDP growth in the third quarter primarily reflected an acceleration in imports, a downturn in private inventory investment, a larger decrease in residential fixed investment, and decelerations in PCE for services and in state and local government spending that were partly offset by upturns in PCE for durable goods, in equipment and software, and in federal government spending.

One of the negative factors in growth was exports of services. While services export in current dollars increased (as is reflected in my monthly analysis of the trade in intangibles), exports in constant (inflation adjusted) dollars actually decreased by 1.4% in the third quarter. Ominously, this was not due to a surge in inflation – as the price index increase for services exports was actually smaller in the third quarter than in the second.
This worrisome trend will need to be watched carefully.


Business Week asks the question: Can Design Change the World?

The three-year-old Web site has quickly established itself as a source for original, sophisticated reporting on green technology and humanitarian tools and organizational models, among other altruistic topics. The editors’ focus is on how people can cross-fertilize innovative ideas and collaborate on solutions to a variety of international environmental crises ranging from the quest for alternatives to Big Oil to the dearth of clean water in developing nations.
Worldchanging’s executive editor, Alex Steffen, has now edited a book version of the site, Worldchanging: A User’s Guide for the 21st Century, which will be published in November. Part encyclopedia of socially conscious companies and movements, part picture-book (it includes gorgeous color photographs by leading photographers such as Edward Burtynsky), and part how-to instructions on becoming a greener consumer or business, the nearly 600-page volume is an invaluable resource you can use without booting up your computer (and so use electricity) to access

The goal of the project, according to Steffen is nothing less than global innovation and problem solving:

Our site and book are trying to disseminate knowledge from various arenas to spur imaginations and prod them to action.

Sounds like the Whole Earth Catalog for the I-Cubed Economy!

Using an “old” product

Here is a wonderful example of innovation as a “new” use for an “old” product. The Boss Puts The iPod to Work –

When Gaddis Rathel needed to learn Spanish for his job, his boss gave him an unusual tool to help: a black video Apple iPod, preloaded with language lessons.
Last month, Mr. Rathel’s employer — ACG Texas LP, a Plano, Texas, franchisee of the pancake-house chain IHOP Corp. — started testing Apple Computer Inc.’s digital media player on a few employees to save money on Spanish-language classes. Now, rather than sit in a class on company time or read a textbook, Mr. Rathel uses the iPod for audio training in his spare time. “I’ve used it in several scenarios around the house and in the car,” says Mr. Rathel, 45 years old, who, as a manager of field training, spends a lot of time on the road. He also uses it while waiting to pick up his daughter from soccer practice.
People used to hide their iPods from their bosses, if they used them in the office at all. Now the bosses are passing them out to their employees. Companies from health-care suppliers to fast-food chains are handing out free iPods so that employees can download audio and video files of CEO announcements, training courses and sales seminars.

So, how does this get measured in our innovative statistics? (Answer – it doesn’t. It all gets wrapped up in the i-Pod sales numbers.)

Losing US financial comparative advantage

Brad Setser sees the US losing its financial comparative advantage – RGE – One more sign we live in a new gilded age – Europe is once again the world’s financial center …:

In the new Gilded Age, America is once again drawing in capital from the old world.
Those funds are going to build houses, not railroads – but, well, that is the new way of the world. Those funds come, in aggregate, from Asia, Russia and the Middle East – not Western Europe. But Europe – strangely enough – is still the world’s financial intermediary.
That isn’t the way most economists here in the US see it. The US, they say, has a “comparative advantage” at finance, and specifically at generating financial assets the world wants to hold. I disagree. At least in part. The US certainly has a comparative advantage at selling debt to the world’s central banks. But Europe has had no trouble generating assets private investors want to hold. And Europe increasingly seems to have a comparative advantage at financial intermediation.

Brad bases his argument on the flows of funds:

Gross flows into both the UK and the eurozone topped gross flows into the US. The difference? The big inflows into the UK and Europe were used to finance equally big outflows, while the US used the vast majority of the funds coming in to finance its current account deficit. Put differently, Europe still saves enough to finance its own investment while the US has to import savings from the rest of the world to make up for its own lack of savings.

But there is more to the argument than financial flows. As the Economist put it recently in an article London as a financial centre:

London is a textbook example of an economic cluster, in which businesses locate close to one another because they gain from proximity. “The big warehouse of markets is in London,” says Pascal Boris, chief executive of BNP Paribas’s British operation. The distinctive feature of the City cluster is the pre-eminence of foreign financial firms. In this sense, London has become to finance what Wimbledon is to tennis: a place where the best international players come to compete.
Yet modern communications and information technology allow people and businesses to operate from virtually anywhere nowadays. And there are obvious disadvantages in locating at the heart of a metropolis. Property costs are extremely high in London by international standards. Public transport is overcrowded and often unreliable.
The City’s vibrancy shows that it offers compelling advantages that outweigh these drawbacks. Financial firms cluster in London because they derive external economies of scale. By thronging together, they create large, liquid markets that drive down trading costs and reduce risks by allowing large deals to be handled.
There are further benefits from locating in the cluster. Firms, large and small, can call upon all the external services needed to put together a complex financial deal, such as advice from lawyers and accountants, or the use of specialist markets. This in turn creates a fertile environment for innovation to flourish—a vital attraction for a global financial centre.

New York City understands the competitive pressure and is fighting back. Mayor Michael Bloomberg has appointed consulting firm McKinsey & Co. to examine why more international companies are choosing to raise money outside of New York. Many place the blame for the NYC financial district’s problems on increased regulation, such as the Sarbanes-Oxley Act, and tougher white-collar crime enforcement (notably by New York Attorney General Eliot Spitzer).
But, innovation and utilization of intangible assets are the keys to success in the financial industry – as the Chicago Mercantile Exchange found out in the 1950’s and as I have noted a number of times.
It will be interesting to see what the McKinsey study comes up with. If it is a simple rehash of the anti-regulatory line, you can put it on the shelf and forget about it. But if it really grapples with the issues of creating a self-sustaining cluster – and with the flow of funds issue that Brad Setser raises, then it will be a useful blueprint for NYC’s economic development. The report is due at the end of November. Stay tuned . . .


The question of fluency (versus literacy) seems to be a rising concern in the education community. The problem is this: by measuring reading speed are we teaching children to read fast but not comprehend? A story in today’s Washington Post – In Quest for Speed, Books Are Lost on Children – illustrates the problem:

The result [of recent Department of Education reports], said fluency expert Tim Rasinski of Kent State University, was a message sent to schools to concentrate on speed. “The influence of No Child Left Behind has been such that even schools that aren’t Reading First schools are doing periodic [speed reading] testing of kids,” he said.
In Ottumwa, Iowa, Evans Middle School did it a different way. Evans was declared a school in need of improvement in reading in 2004, and Principal Davis Eidahl said he adopted a program focused on reading fluency using a model constructed by Rasinski aimed at improving comprehension.
Some students, he said, came into the school reading fast but understanding little.
“They read so fast, with no punctuation and no expression, that we’d go back and ask comprehension questions and they weren’t very successful answering them. They hadn’t understood what they read,” he said.
To slow them down and teach them to talk with expression and comprehension, various exercises were used, including having children read passages to each other and listen to how they sound when reading, asking students to repeat passages, and adding 45 more minutes of reading time each day, he said.

I remember the self-paced reading program I went through in (Catholic) grade school. The test was always speed combined with comprehension. But speed was relatively fixed while increasing comprehension was the goal. Later, when I took speed-reading courses, that relationship was reversed: the goal was to increase speed while maintaining an acceptable level of comprehension. It also stressed, however, that speed reading wasn’t appropriate in all situations – for example for reading literature or for highly technical matter.
Similarly, we need to go back to the situation and goals for fluency. If our goal is to produce a citizenry and workforce that can quickly read basic instruction (i.e. don’t stick your fingers in this machine), then speed is the important variable. But that may be an industrial age mentality. If the goal in this I-Cubed (Information-Innovation-Intangibles) Economy is to increase (analytical and creative) thinking, then deeper comprehension may be the desired outcome.
And it the No-Child-Left-Behind Act isn’t fostering that goal, it should be changed.

Inconsistent research incentives

From the Friday Evening Wrap –

Budget Bots
Building a really, really fast robot just got a lot less lucrative — that is, if you’re looking for a big payout from the federal government. The Defense Advanced Research Projects Agency says a provision in the defense-spending bill signed into law this week by President Bush pulled away $2.7 million in prize money set out for engineers who win a robot race. Winners will now get shiny trophies, paid for out of the pocket of Darpa’s director, instead. The agency, which also fostered the birth of the Internet, has sponsored the cash prize competitions to inspire development of smart vehicles that could be used in the battlefield. But now, the incentives for some competitors are falling away. “The icing on the cake is gone,” Ivar Schoenmeyr, leader of California-based Team CyberRider, which is retrofitting a Toyota Prius hybrid, said to the Associated Press.

Is this anyway to run an R&D policy?

Measuring human capital

Recently, the Lisbon Council for Economic Competitiveness and Social Renewal (a Brussels-based think-tank focusing on the EU’s Lisbon Accord to become the premier knowledge economy) released its European Human Capital Index:

Based on a methodology devised by Peer Ederer, director of the Human Capital Project, the study predicts major challenges for key European countries – such as Germany and Italy – that do too little to invest in and develop their human capital. If current trends are not reversed, the study says citizens of Sweden and Ireland (which invest heavily in their human capital) could enjoy a living standard up to twice as high as citizens of Germany and Italy – a trend which would turn the traditional economic hierarchy of Europe on its head.
Specifically, the study measures human capital stock, deployment, utilization and evolution in 13 EU countries, and ranks those countries by their ability to develop their human capital to meet the challenge of globalisation.

The index is made up of four factors:

1) Human Capital Endowment. This figure measures the cost of all types of education and training in a particular country per person active in the labour force (i.e. employed person). Specifically, we look at five different types of learning for each active person: learning on the job, adult education, university, primary and secondary schooling and parental education. The figure is subsequently depreciated to account for obsolescence in the existing knowledge base and some level of forgetting.
2) Human Capital Utilization. This figure looks at how much of a country’s human capital stock is actually deployed. It differs from traditional employment ratios in that it measures human capital as a proportion of the overall population.
3) Human Capital Productivity. This figure measures the productivity of human capital. It is derived by dividing gross domestic product by all of the human capital employed in that country. This diverges from traditional productivity measures, in that the figure takes account of how well educated employed labour is, instead of just how many hours are being worked.
4) Demography and Employment. This figure looks at existing economic, demographic and migratory trends to estimate the number of people who will be employed (or not employed) in the year 2030 in each country.

An interesting finding of the study is how European nations are diverging, rather than converging in their human capital:

If policy makers in Germany and Italy continue ignoring the human capital dimension of today’s policy mix, economic power will inexorably seep from the centre to the periphery, thereby reversing the traditional economic hierarchy that has defined Europe for centuries. Long-term potential economic growth could start to diverge sharply among European nations, with Scandinavia, Netherlands, UK and Austria replacing “old Europe” as the core of the new European economy.

The study represents an innovative new approach to measuring intangibles. For example, it includes informal parental education (the general skills and cultural adaptation that parents teach their children) and informal on-the-job learning in its measure of human capital endowment as well as measures of formal education. These measures may or may not be the best answer to the question of how to measure intangibles. But at the very least they are a stab in the right direction.
Even more important, by crafting new measures, the study has the potential for re-focusing the policy debate on areas in need of attention. The Economist’s Charlemagne column, The brain business, probably had the most telling comment:

The study is also a timely reminder that much European debate on innovation and the “knowledge economy” is woefully inadequate. The next time you hear Europeans talking excitedly about increasing research and development spending, as they will undoubtedly do at next week’s EU summit, remember that such efforts are only a tiny part of the wider task of building and deploying knowledge.

Substitute the word “US” for “European” and the exact same comment can be made about our side of the pond. Maybe the Lisbon Council’s study can be a mechanism for all of us to focus more on the wider task.

Brazilian cachaça

Speaking of geography (see last posting), Brad DeLong directs our attention to the burning issue of Cachaca! And Free Trade. And Intellectual “Property” – how Brazil is seeking geographical indications rights for its popular drink cachaça.
If the EU can push for “geographical indications rights” to protect produces such as Parma ham, Greek feta cheese and Champagne (and the US can push for protections for “Idaho potatoes”), the Brazilians area well within their rights. (See my blog entry on this of last year). Note that the enforcement of these IP protections is the same as for any other IP (such as music and video) – you threaten the other country with WTO approved retaliatory tariffs if they don’t crack down on the illegal counterfeiting inside their country.
When we opened up trade measures to internal market activities – as with TRIPS – we dramatically altered the dynamics of trade enforcement.
So Brad, when you are having a glass at the Cafe de la Paz in Berkeley, contemplate this bit of wisdom from the trade experts: it possible to enforce IPR on another countries’ internal activities, but not labor or environmental rights (that would be interference with the market and other nation’s laws).

Geography still matters

A new study by Josep M. Vilarrubia of the Banco de Espana on the Neighborhood Effects of Economic Growth looks at the geography of growth and the geographic spillovers.

One of the most striking features of the world economy is that wealthy countries are clustered together. This paper theoretically and empirically explains a mechanism for this clustering by extending the Acemoglu and Ventura model so that it takes real geography into account. Countries close to fast growing economies experience faster growth in aggregate demand for their exports, stimulating faster domestic growth. As a result, a poor country that is surrounded by other poor countries finds it more difficult to grow because its terms of trade shift against it. When this model is estimated on data for 1965 to 1985, we find statistically and economically significant effects. If the typical European country were located in Africa, these terms of trade effects would have lowered its growth rate by almost 1 percentage point per year. The results strongly suggest that it is very difficult to raise income in poor countries without dealing with regional problems.

An interesting finding. I have to assume that part of it works for localized economies (such as regions/states in the US) as well.

US Japan royalty payments balance of trade

I recently came across a 2004 Bank of Japan analysis of the Japanese balance of trade in royalty payments. Japan recorded its first surplus in royalty payments in 2003, following a shift of industrial production overseas that resulting in greater income from overseas factories.
But the overall US-Japan balance of trade in royalty payments remains in the US favor. The US-Japan royalty balance in industrial property (trademark rights, right of registered designs, utility model rights and patents) turned to a Japanese surplus in 2002, mainly due to automobile, electrical machinery, and IT industries. That surplus is overwhelmed by the trade deficit with the US in copyright royalties, mainly in software. As the report notes:

As the United States maintains a position of overwhelming technological strength in the area of computer programs, roughly 60-70% of Japan’s total deficit in its balance of copyright payments is accounted for by its deficit vis-à-vis the United States.

The report’s conclusions are mixed:

What is the outlook for Japan’s balance of royalties and license fees? As it is unlikely US companies will easily lose their superiority in the area of software, Japan’s deficit in its balance of copyright royalties can be expected to remain basically unchanged for the time being. On the other hand, some significant changes can be expected with regard to China, which currently accounts for only 3.5% (first half of 2003) of Japanese exports (receipts) of royalties and license fees. As the Chinese authorities have eliminated their previous general restrictions on royalty amounts, once the manufacturing subsidiaries established during recent years of extremely active foreign direct investment in China begin to show profits, the flow of royalty payments from China can be expected to rise sharply. The royalty incomes of Japanese automobile manufacturers can also be expected to increase steadily as a result of a continued growth of local output in North America and Southeast Asia centered on Thailand. Royalty income will also be boosted by the continued rise in local content ratios. Therefore, we conclude that Japan’s total balance of payments of royalties and license fees will continue to move in the direction of larger surpluses.
However, a closer look at Japan’s balance of payments of royalties and license fees reveals that the current surplus is not the result of an increase in income from licensing intellectual property to non-residents (third parties). Rather, the bulk of the increase is due to payments for trademark and technical instruction received from non-residents (overseas subsidiaries) reflecting both the overseas shift of manufacturing facilities (structural factors) and the increase in overseas output resulting from buoyant economic conditions (cyclical factors). It is also necessary to keep in mind that, in the case of intra-firm trade, the policies of the parent company regarding the recovery of R&D expenditures etc. can significantly affect royalty income (size of surplus). Reviewing the US balance of payments of royalties and license fees from this perspective, it is notable that the US intrafirm trading ratio peaked over a decade ago and has been following a downward trend in recent years. In light of this trend, US companies have maintained their royalty income by licensing software and other core technologies to non-group companies. In its progress toward a truly technology-based economy, it will be desirable for Japan to boost receipts from extra-firm transactions in both software and hardware by achieving higher levels of technology and maturity.

That is the Japanese strategy. What is ours?