4th Quarter GDP

The first look at how the economy did in the 4th quarter of 2013 (and for the full year) is out. According to BEA, GDP grew by 3.2% – generally in line with economists’ expectations. GDP had grown by 4.1% in the 3rd quarter of 2013. For the year, real GDP grew by 1.9% due to slow growth in the beginning of 2013. GDP had increased 2.8% in 2012.
The 4Q growth came from consumer spending, exports, business investment and increases in inventories. Residential construction, however, declined by 9.8% in the 4th quarter after rising by 10.3% in 3rd quarter.
Investments in intellectual property products (i.e. research and development; entertainment, literary, and artistic originals; and software) increased by a healthy 3.2% after growing by an impressive 5.8% in the 3rd quarter. Investments in software and R&D increased while investment in entertainment, literary, and artistic originals showed no growth.
IPP percent 4Q13 -1st.png

What I want to hear in the State of the Union 2014

Tomorrow, President Obama will deliver his State of the Union. By all accounts, the address will focus on economic inequality and opportunity. The President is expected to devote a substantial amount of the speech on issues facing the middle class, as he has previously. Thus, I expect to hear about existing programs. What I would like to hear, however, is how we can use innovation and increased competitiveness to address the economic challenges we face. Something like this:

America is coming back from a devastating economic recession. Over the past year, despite ups and down, we have see the recovery of the American economy taking hold. But our job is not done yet. Recovery must be followed by sustained growth and improved economic competitiveness – especially if we expect that rising tide to lift all boats.
Our first task is to make sure the tide continues to rise. Our second is to make sure that the tide does in fact lift all boats. Both of these will require understanding the fundamental changes that are occurring in our economy — and crafting tools that fit this new environment in which we find ourselves.
Let us look more closely one part of that change: the current manufacturing renaissance. More and more, companies are finding it to their benefit to open production facilities in the U.S. as opposed to abroad. But, while manufacturing is coming back to the United States, it is different from the manufacturing that left our shores. It is leaner and smarter — requiring higher levels of workers skills. To keep our competitive edge requires fostering an educational enterprise that can provide the constantly changing skills required in a knowledge- and information-intensive economy.
We now see the fusion of manufacturing and services where companies provide solutions not just products. Customization, speed, and responsiveness to customer needs are the keys to success in this new environment. And as the linkage between goods and services grows, we are seeing international competition in services once thought immune to such challenges.
In confronting these new challenges, we cannot rely on simply repeating the policies of the past. We need a combination both new and old solutions.
For example, basic research helped sustain America’s economy growth in the 20th Century. But basic research is not enough. It is one part of a larger mix that fuels the economy. We moving to a post-scientific economy where, to quote Dr. Christopher Hill, former Vice Provost for Research at George Mason University, “the creation of wealth and jobs based on innovation and new ideas will tend to draw less on the natural sciences and engineering and more on the organizational and social sciences, on the arts, on new business processes, and on meeting consumer needs based on niche production of specialized products and services in which interesting design and appeal to individual tastes matter more than low cost or radical new technologies.”
Education needs to move from the classroom to the living room. Life-long learning should not be a slogan but an ingrained part of everyday activity. And as important as STEM is, our economic future is not solely in the hands of our scientists and engineers. Our future prosperity rest on raising the skills and knowledge level of everyone. Productivity no longer comes just from new machines, but from new ways of organizing work.
So let us be clear. The manufacturing jobs of our father and grandfather are not coming back. But we can create the manufacturing jobs for our children and grandchildren. We cannot — we will not — compete on the basis of a race to the bottom where wages and living standards are lowered to keep jobs from moving elsewhere. We can – and will — compete based on raising the knowledge content of our products — both goods and services. By doing so, we can also raise the living standards for all.
Government can play a major role in raising living standards through increased economic competitiveness via innovation and the development and diffusion of new products. But, innovation policy needs to catch up to the innovation process.
In crafting a new policy, we must recognize three points:
 • the innovation model has changed,
 • it’s all about people and organizations, and
 • technology plays multiple roles.
First, we all need to recognize that the innovation model has changed. It is not the linear process of flowing from basic research to final product that sticks in everyone mind. It is a network process. There are many points on the network where innovation can come from. We have used a number of terms to try to describe parts of the new model: “open innovation,” “user-driven innovation,” and even “design thinking.”
It is also not solely about technology. Technology remains an important component. But, as noted earlier, social innovations, marketing, finance, design and business models are also key sources of innovation as well.
Suffice it to say that innovation policy needs embraced this broader concept.
Second, innovation is about people and organizations. Skills, not just education, are critical. To both improve our competitiveness and provide for a more shared economic prosperity, we need to continually upgrade the skills of our worker and our workforce. Highly skills workers contribution more to, and benefit more from increased productivity and economic growth.
To create more highly skilled workers, we need to fundamentally upgrade our workforce training programs. Too many of these programs are focused on helping worker upgrade their skills only after they lose their jobs. Don’t get me wrong, job re-training for the unemployed is very important. But we need to also focus more on upgrading work skills (and thereby company competitiveness) so they don’t lose their jobs in the first place. Continual training on-the-jobs training need to become the backbone of our worker training programs – not an afterthought.
That said, we need to recognize that there will be times of slower demand where even the most competitive of companies may need to cut back on production. Rather than using these slowdowns as time of cut backs on training, we should embrace them as an opportunity. One way we can do this is by tying the concept of “job sharing” with worker training. Under a job sharing program, workers cut back on their hours (meaning that the company does not have to lay off workers completely) and the government picks up the cost of those lost hours through a program similar to unemployment insurance. This concept has been credited as one of the reasons Germany was able to weather the Great Recession. But we need to take the idea one step further. Rather than simply reduce workers hours, we should use those hours for training. In other words, when companies need to cut back on production, let’s pay workers to spend that slack time in the classroom or on-the-job training.
Besides continually upgrading workers skills, we need to continually upgrade the workforce itself. America has long been the destination of choice for the brightest and most ambitious. We need to make sure that America remains open and welcoming to those who would seek to improve their lives – and thereby enrich and improve ours. Immigrants have fueled the U.S. economy for generations – from the brightest Ph.D.s to the hard working entrepreneur and employee. We need comprehensive immigration reform to make sure that we can continue to rely on this source of economic growth and vitality.
But upgrading skills in not enough. Both tacit and experiential knowledge, not just codified and science-based knowledge, are also important. In order to put those skills and knowledge to proper use, organizational structure comes into play. The old hierarchical systems of the industrial age are no longer adequate or appropriate. New adaptive organizations which encourage innovation are needed. What we use to be called “High Performance Work Organizations” are needed to effectively utilize worker skills and knowledge.
Such organizations also play a large role in ensuring that the benefits of increased competitiveness are widely shared.
Finally, any innovation policy needs to understand that there are multiple roles for technology. Technology can be a driver of innovation, a tool of innovation, and even sometimes not all that that relevant to innovation. As a driver, the creation of new technology is a major source of innovation – the kind we normally think of when we use the word “innovation.”
But technology is also a tool in the innovation process. Technology as innovation tool works in two ways. One is innovation as the absorption and utilization of technology. For example, the iPod contained little new technology. It utilized the technology in a new way. The other is technology as an enabler. This is especially true in the information technology (IT) area, where IT allows for a myriad of new applications and innovations.
Take the analogy of the railroad. The marrying of the steam engine to a carriage on iron rails brought about far reaching changes in many difference areas. The railroads spurred on development of a number of other industries, most notably the steel industry. They changed opened up vast new markets and changed the retail and wholesale industries. They even gave rise to new management practices and the shift from ownership capitalism to managerial capitalism.
And sometimes technology plays a very minor role in innovation, if at all. Which was more important in creating the American suburbs: the automobile, Levittown or the 30 year mortgage? One was technological; one was design; one was financial. All were important. As a nation we need to recognize and promote multiple forms of innovation.
So here are some policies I plan to put forward. The new demand driven model innovation shows that government procurement and regulations can drive innovation. Government as a demanding customer can create the “thin opening wedge” — new products and services that have a specialized use. Once that specialized use is established, the product or service can be refined and adopted to a broader customer base. The demanding customer in fact becomes a co-creator. Smart regulations can serve the same function by creating demanding customers.
Here is another example of how we can expand our thinking on innovation. We have a program to create and fund Engineering Research Centers (ERCs) in a number of areas. We should create one for design thinking. We should expanding the ERC model to funding research on and demonstration of new business methods and organizational mechanisms as part of our “Catalyze Breakthroughs for National Priorities” element of the innovation strategy. And we should fund more organizationally-focused challenges, such as the famous DARPA “Red Balloon” challenge.
These are but few of the types of new policies we will pursue — beyond the status quo and conventional thinking that government should confine itself to basic research, education and infrastructure. That might be uncomfortable for some to hear. But it is where we need to go if we are to restore long term economic prosperity in this highly competitive global economy.

Economic mobility – is the past prologue?

A new study on economic mobility is out that raises questions and issues about the dynamics of the U.S. economy. The study finds that the rate of economic mobility has been stable for the last 50 years. In other words, a child born in 1993 is just as likely to move up or down the economic ladder as a child born in 1970. So while income inequality has grown, mobility has remained the same. The study also points out that economic mobility in the U.S. is less than in most other developed countries.
Depending on your point of view, the study allows for multiple interpretations. For example, the Washington Post argues that the study

suggests that any advances in opportunity provided by expanded social programs have been offset by other changes in economic conditions. Increased trade and advanced technology, for instance, have closed off traditional sources of middle-income jobs.

The Wall Street Journal notes that the study “contradicts the narrative in Washington that economic mobility has declined in recent years.”
What I find most important in the study is whether the trend in economic mobility will stay stable. The primary data they used is for children born between 1971 and 1983 – i.e. who are at least 30 years old. A different set of data is used for those who born between 1983 and 1986. For those after 1986, income is measured based on college attendance rates (used as a predictor of later earnings). Given the changes in the structure of the economy and the recent economic situation, one has to ask the question whether college attendance is still a good proxy for future earnings and economic mobility.
The study does note the increasing importance of the “birth lottery”, i.e. who your parents are in determining your economic future. As is pointed out in the New York Times story,

The results suggested that other forces — including sharply rising incomes at the top of the ladder, which allows well-off families to invest far more in their children — were holding back talented people, the authors said.

Such an dynamic does not bode well for future economic mobility.
Thus, while the study may indicate a current stability in economic mobility, that trajectory may be changing. In the future, the past may no longer be prologue.

Event on OECD knowledge-based capital report – video available

Last week I was pleased to be on a panel at ITIF on “The Role of Intangible, Knowledge-based Capital in Economic Growth” — video of the event is now available for those of you who missed this interesting discussion. The event focused on the OECD’s project on knowledge-based capital, aka intangibles assets (New Sources of Growth: Knowledge-based Capital) and two reports: Supporting Investment in Knowledge Capital, Growth and Innovation and the Science, Technology and Industry Scoreboard report for 2013. (See earlier postings for more on the reports).
As many of you know, that OECD project was kicked off at our May 2011 conference on New Building Blocks for Jobs and Economic Growth. For more on that conference see the Intangibles Conference Report September 2011 and my white paper New Building Blocks for Jobs and Economic Growth: Intangible Assets as Sources of Increased Productivity and Enterprise Value — Conference Observations. A one-page summary of the paper is also available and more materials are available at the conference archives.

December employment

Surprising news this morning on jobs. The BLS reports that the unemployment rate fell to 6.7% in December. BUT, total nonfarm payroll employment only grew by 74,000. Economists surveyed by the Dow Jones Newswires had expected a job growth of 200,000 with the unemployment rate holding steady at 7%. The combination of a falling unemployment rate but weak jobs growth may be partially explain by the fact that number of unemployed persons declined by 490,000. Essentially, these people didn’t find jobs; they apparently dropped out.
The number of involuntary underemployed (part time for economic reasons), however, remained essential unchanged from November. Involuntary underemployment is still well above pre-Great Recession levels.
Involuntary underemployed December 2013.png

November trade in intangibles

Good news this morning from BEA on the trade deficit. The deficit dropped by $5 billion to $34.3 billion in November as exports grew by $1.7 billion and imports declined by $3.4 billion. The decline caught analysts off guard, as economists had expected a deficit of $40 billion — close to October’s level. Most of the improvement was attributed to a combination of greater exports and a drop in oil imports. As the chart below indicates however, the biggest decline was in petroleum goods whereas the deficit in non-petroleum goods was about the same as the previous month. And, notwithstanding the good news about November, the overall goods deficit (including oil) seems to be bouncing around the $60 billion level for the past few years (see chart below).
The not so good news is that the November trade surplus in pure intangibles was basically the same as October, rising by only $22 million to $16.3 billion. Exports grew only by a small amount, but the increase was still marginally faster than the small growth in imports.
The Advanced Technology deficit was slightly smaller in November, dropping by $500 million to $9.3 billion. An increased deficit in information and communications technology was roughly offset by improvements in other areas, especially in life sciences, opto-electronics and aerospace.
Advanced Technology goods also represent trade in intangibles. These goods are competitive because their value is based on knowledge and other intangibles. While not a perfect measure, Advanced Technology goods serve as an approximation of our trade in embedded intangibles. Adding the pure and embedded intangibles shows an overall surplus of $7 billion in November, compared to $6.5 billion in October (revised).
Intangibles trade-Nov13.png
Intangibles and goods-Nov13.png
Oil goods intangibles-Nov13.png

Note: we define trade in intangibles as the sum of “royalties and license fees” and “other private services”. The BEA/Census Bureau definitions of those categories are as follows:

Royalties and License Fees – Transactions with foreign residents involving intangible assets and proprietary rights, such as the use of patents, techniques, processes, formulas, designs, know-how, trademarks, copyrights, franchises, and manufacturing rights. The term “royalties” generally refers to payments for the utilization of copyrights or trademarks, and the term “license fees” generally refers to payments for the use of patents or industrial processes.

Other Private Services – Transactions with affiliated foreigners, for which no identification by type is available, and of transactions with unaffiliated foreigners. (The term “affiliated” refers to a direct investment relationship, which exists when a U.S. person has ownership or control, directly or indirectly, of 10 percent or more of a foreign business enterprise’s voting securities or the equivalent, or when a foreign person has a similar interest in a U.S. enterprise.) Transactions with unaffiliated foreigners consist of education services; financial services (includes commissions and other transactions fees associated with the purchase and sale of securities and noninterest income of banks, and excludes investment income); insurance services; telecommunications services (includes transmission services and value-added services); and business, professional, and technical services. Included in the last group are advertising services; computer and data processing services; database and other information services; research, development, and testing services; management, consulting, and public relations services; legal services; construction, engineering, architectural, and mining services; industrial engineering services; installation, maintenance, and repair of equipment; and other services, including medical services and film and tape rentals.

Sen. Patty Murray gets it

Senator Patty Murray is the Chair of the Senate Budget Committee and a chief architect of the recently enacted Bipartisan Budget Act. Say what you will about that budget deal (too much, too little, just right), it has become clear that part of the impetus for the deal was Senator Murray’s understanding of the role of investment in intangibles as a driver of economic growth. Evidence for this is the following quote in a recent Washington Post Wonkblog column on “Sen. Patty Murray’s graph of the year

(s)imply slashing investments in education, worker training, research, infrastructure, and key parts of the safety net won’t truly address our fiscal challenges and actually makes our economic challenges worse. These domestic investments aren’t driving our long-term budget deficit . . . and cutting them will only increase our country’s deficits in jobs, skilled workers, innovation, technology, and more. We should be investing in the areas that will drive broad-based growth, not cutting back on them.

Clearly, Senator Murray gets it.
Now, we will have to see over the next few weeks if the Congressional appropriators will follow up with real money for those domestic investments.

Agriculture as a knowledge intensive industry – the case of Denmark

One of the great misconceptions of the “knowledge economy” is that there is a separate set of knowledge intensive industries. Nothing can be further from the truth. Any sector can be knowledge intensive. For example, as we pointed out in our Policy Brief Intellectual Capital and Revitalizing Manufacturing and numerous earlier postings, manufacturing is an knowledge and intangible asset based activity with a emphasis on “production” beyond “manufacturing.”
But the issue goes beyond manufacturing. A recent story in The Economist on Denmark’s agricultural sector (“Bringing home the bacon”) illustrates this fact:

The [beef and pork processing] cluster also has a collection of productivity-spurring institutions such as the Danish Cattle Research Centre and the Knowledge Centre for Agriculture. Danish universities remain at the forefront of the agro-industry: at Danish Technical University (DTU) 1,500 people work on food-related subjects. A tradition of public-private partnerships, which began with farmers forming co-operatives to improve production and marketing in the late 19th century, continues to flourish. An Agro Food Park near Aarhus, backed by the industry and the regional government, is nearing completion. It employs 800 people already and is expected to have 3,000 staff by 2020.
The Cattle Research Centre, for example, demonstrates that there are dozens of ways to boost bovine productivity. Robots can do everything from milking cows to keeping them washed and brushed to mucking out their living quarters. The milking robot can also act as a “lab in the farm” by analysing the milk for signs of health problems. Microchips can keep an eye on cows’ behaviour. Carefully screened “Viking semen” can improve the quality of the stock.
The word on everyone’s lips is “innovation”. Big companies are building centres to develop new products. Arla is spending €36m on one in the Agro Food Park. DuPont’s centre in Aarhus is part of a global network with branches in America, Australia and China. They are also abandoning their insular ways, collaborating with startups and sponsoring food festivals and star chefs. Universities are adding departments: Aarhus now has a centre devoted to consumer behaviour in regard to food and DTU is focusing on “bio-silicon”–applying IT to food.

The key is how an industry creates and utilizes knowledge – not what the underlying activity is. Yes, some industries and some companies can and will resist the trend to a more knowledge-intensive activity. But there is nothing inherent in any economic activity that precludes it from generating and using knowledge that will make it more effective, efficient and productive. It just takes people who understand that knowledge is an important input to the production process. It is not something that exists “out there” but something that is everywhere. As more industry leaders understand that simple truth, the vision of knowledge economy will finally unfold.