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The Slowdown in European Productivity Growth: A Tale of Tigers, Tortoises, and Textbook Labor Economics. Ian Dew-Becker, NBER and Robert J. Gordon, Northwestern University and NBER NBER Summer Institute Macroeconomics and Productivity Workshop July 20, 2006.

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The Slowdown in European Productivity Growth: A Tale of Tigers, Tortoises, and Textbook Labor Economics

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The Slowdown in European Productivity Growth: A Tale of Tigers, Tortoises, and Textbook Labor Economics

Ian Dew-Becker, NBER

and Robert J. Gordon, Northwestern University and NBER

NBER Summer Institute

Macroeconomics and Productivity Workshop

July 20, 2006

The US Accelerates,Europe Decelerates

  • From 1950 to 1995 EU productivity growth was faster than in the US

  • But in the past decade since 1995 we have witnessed

    • An explosion in US productivity growth

    • A slowdown in EU productivity growth equal in size

    • An explosion in research on the US takeoff and but much less research on Europe’s slowdown

  • The magnitude of the shift

    • EU/US level of labor productivity (ALP)

    • 1979 1995 2004


Bringing Together the Two Disparate Literatures

  • Literature #1, why did Europe’s hours per capita decline (hereafter H/N)

    • High taxes, regulations, high minimum wages

    • Europe made labor expensive

    • Movement up Labor Demand curve => low employment + high ALP

  • Literature #1 misses the turnaround

    • Since 1995 decline in tax rates and employment protection measures

    • Big increase in hours per capita, turnaround in both absolute terms and relative to the US Move back down LD curve

Literature #2 on EU-USProductivity Growth Gap

  • Central Focus of Lit #2 on post-1995 turnaround

  • Since 1995 EU H/N has grown faster than US

  • Fully 85% of EU productivity slowdown has its counterpart in a speed-up of EU H/N

    • Europe paid for lower ALP mainly with higher hours rather than less consumption

Primary Attention in Lit #2: The US Revival

  • TFP accounts for most of the ALP gap, capital-deepening relatively little

    • ICT production TFP explains a relatively small share of EU-US difference

    • Most of the difference is TFP in ICT-using industries

    • Of these, the most important are:

      • Wholesale trade

      • Retail trade

      • Financial/securities

  • Caveat – Groningen definition of ICT-Use is obsolete, retail is not ICT-intensive (See Stiroh 2006)

Textbook Labor Economics

The Labor Demand Curve

  • 1970-95 EU climbs to the left

    • Hours per capita decline, average labor productivity increases

    • In this sense much of Europe’s 1970-95 productivity catchup was “artificial,” propelled by policies making labor expensive

      • No busboys, grocery baggers, stores open less, no valets…

  • 1995-2004 EU slides right

    • Hours per capita start increasing while they decline in the US

    • Effects are magnified by slow reaction of capital

This Paper: There is Another Half to the Puzzle

  • The EU-US “turnaround” is the 1995-2004 US acceleration minus the EU deceleration

  • About 1/3 of the turnaround represents Europe’s deceleration, the rest the US acceleration

  • Almost none of the literature on the EU productivity slowdown relates it to the slide down the labor demand curve.

    • Exception: recent paper by Saltari-Travaglini

ALP Growth, 1981-2004

Output vs. Hours

We use a parameter of 1600 rather

than 6400, so we’re picking up business

cycle level movements

EU-US population growth is fairly constant (~.7%)

Turnaround in TFP Growthbut not Capital

As in JHS, we know this is mainly due

to movements in hours, not capital

Since 2000, productivity is not driven by investment

Rather, by TFP growth and hours decline

Defining Tigers and Tortoises, Pop Shares and Private ALP Growth

  • Tigers: Ireland, Finland, Greece

    • Pop Share: 5%ALP 4.79%

  • Middle: Sweden, Austria, UK, Germany, Portugal, France

    • Pop Share: 61%ALP: 2.45%

  • Tortoises: Belgium, Netherlands, Denmark, Luxembourg, Spain, Italy

    • Pop Share: 34%ALP: 0.72%

Within EU, big change from homogeneity to heterogeneity

  • Standard deviation of ALP growth rates across 15 countries, 0.80 1979-95 to 1.23 1995-2004.

  • Mainly accounted for by non-ICT TFP

    • Tortoises actually have negative non-ICT TFP growth

      • Spain and Italy are negative overall

  • Where is this coming from? Is it concentrated in one industry like retail or across many industries?

  • No spillover effect from capital deepening to non-ICT TFP growth

Comparison of Heterogeneity within Europe and within the United States

  • Use gross state product per employee in the US vs GDP per employee in the EU – thanks, Susanto

  • The three American Tigers are Arizona, Massachusetts, and Oregon

  • Acceleration ‘80-’95 vs ‘95-’04 was exactly 1.91 in both the EU and US Tigers

  • Comparing eight BEA regions to five large EU nations,

    • US eight regions, 1.77 to 2.77

    • Big EU countries, 0.0 to 2.10

  • Initial obvious explanations: automatic fiscal stabilizers in the US, labor mobility

Productivity vs. Share Effectsin EU-US, 1995-2003

Manufacturing is nearly as important

as retail

But ICT is tiny

Only ~2% hours share

ALP growth multiplied by nominal shares

US acceleration is widespread, not just in retail

and manufacturing.

EU weakness is also widespread

Tigers vs. Middle, It’s AllManufacturing

Of the 1.95 percentage point gap, ~3/4

is due to manufacturing

Tortoises vs. Middle

Failure is more widespread.

Totally unrelated industries account for the decline

Note that this is largely driven by productivity,

not share effects

Interpreting the TortoiseProblem after 1995

  • Failure is across the board

  • Consistent with basic theme of paper, that there is a macro cause, a reduction in taxes and in regulations

  • Understanding Share Effects

    • ICT Share higher in US vs EU and also middle vs tortoises

    • Big EU share deficit in retail/wholesale and services, consistent with high tax story

  • Part of Tiger success is moving resources, out of agriculture for Greece and Ireland, into ICT mfg for Ireland and Finland

ALP and Simple Labor Economics

  • Y/H is only half the welfare story – H/N tells us the other half

  • Decline in H/N in Europe vs US -- 88% to 74%

    • In 1960, US was lowest; by 2004 it’s highest

  • Big turnaround after 1995

  • Growth rate of H/N

    • 1979-95 -0.6%

    • 1995-2004 +0.5%

  • Our current empirical investigation of H/N vs. taxes and regulations is still in its early stages

The Tortoises are on a Hours Growth Tear,How Much Due to Taxes?

  • Tortoise growth in H/N was 1.74 percent post 1995, vastly outstripping the US and EU Middle countries

  • But Ireland also grew at 1.8%

    • Reflects massive investment and associated TFP growth

Average Tax wedge

Note that the Tortoises are always highest, followed by Middle countries,

followed by the Tigers and then the US

All countries markedly reduce taxes around 1997

Reactions of Hours to Taxes

  • Regressions of H/N on tax wedge

    • Using H/N is a first approximation, need to study separate effects on E/N and H/E

  • Double-log specification, estimated elasticity of H/N to tax wedge is -0.4

  • Changes after 1995 don’t match the tax changes very well, but they go in the right direction

  • Middle countries are the exception

  • While everybody else was increasing H/N, middle countries were working less – counter to tax story

Add in reaction of capital to hours

  • In the short run, unit elasticity – i.e. capital moves slowly

  • Long run, zero reaction – capital adjusts

  • We can multiply the labor elasticity (.4) by the reaction of capital to hours (1) by capital’s share (.33) to get the short run reaction of ALP to a 1% tax shock: .4*1*.33=.132.

  • In other words, a 5% tax increase could be expected to lower short run ALP growth by ~.66%.


  • EU productivity growth decline is across-the-board and not concentrated in retail. Durable manufacturing and ICT are culprits

  • Similarly, failing in Tortoises compared to EU average is across the board, with a significant contribution of manufacturing

  • Our bottom line is a mix of exogenous tax effects and exogenous decline in TFP growth

  • Analogies with US 1972-95 slowdown, Europe ran out of ideas

What to Remember from this Paper

  • Recent Reports by the OECD and others join together high unemployment and slow productivity growth as part of a general malaise.

  • Our focus is different

  • Labor market and tax reforms have raised hours per capita after three decades of decline.

  • Rising hours per capita and declining growth of output per hour are signs of victory for European labor market reforms, not signs of defeat.

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