Paris, 1 June 2016

OECD ECONOMIC OUTLOOK

SPECIAL CHAPTER

Promoting Productivity and Equality:A Twin Challenge

www.oecd.org/economy/economicoutlook.htm

ECOSCOPE blog: oecdecoscope.wordpress.com

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Key messages

The productivity slowdown and the rise in inequality• Productivity has slowed markedly since the mid-2000s• Income inequality is at its highest level in 30 years• Slowing productivity + Rising inequality = Weak median income growth

The policy package I: Macroeconomic policy • Monetary policy cannot work alone• Fiscal policy can strengthen investment, productivity and employment• Higher public investment would expand demand and supply

The policy package II: Structural and financial reforms• The pace of pro-competitive reforms has slowed• Priority should be to enhance people’s skills and business dynamism• Financial reform should focus on reducing private-sector leverage

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Productivity has slowed markedly

GDP per hour worked, annualised growth

Productivity growth in OECD countries has more than halved since the 1990s

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Weak demand contributes to the slowdown

Growth of GDP per worker, OECD average

Labour productivity has on average grown below trend since 2007

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Investment has been sluggish and total factor productivity has slowed

Decomposition of trend productivity (GDP per worker) growth, OECD average

Trend productivity has slowed: • Before the crisis mainly due to slowing TFP• Since the crisis due to sluggish investment

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Slowing innovation and diffusion may contribute to weak productivity

Labour productivity, average of 24 countries

The gap between the globally most productive firms and the rest has widened

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Wages have grown less than productivity

Hourly values, annualised growth, 1990-2013

Many workers have been hit by a “double whammy”:(1) The productivity slowdown, and (2) even weaker growth in wages

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Income inequality has increasedHousehold disposable income, OECD average

Average income growth per year – Top 10%: 1.2% ↔ Bottom 10%: 0.2%

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Wage inequality and productivity dispersion are strongly correlated

Correlation vs. causation: Does productivity dispersion boost wage inequality?

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The productivity slowdown+

The rise in inequality

What can policy do about it?

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Macroeconomic policy

Productivity and inequality since the global financial crisis• Weak demand explains half of the productivity slowdown since 2007• The post-crisis decline in employment has increased inequality• Macroeconomic policy can strengthen productivity and employment

Monetary policy • Reliance on unconventional tools has been strong (euro area, Japan, etc.)• Concerns are growing over distortions and effectiveness• Macro policy mix needs to shift to an enhanced use of fiscal policies

Fiscal policy• Fiscal stance is broadly neutral in advanced economies• But: Government borrowing costs are very low, even over long horizons• Collective fiscal expansion would increase productivity, income and jobs

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Public spending policies

Improving government effectiveness• The quality of public services (education, health, transport) matters• Growth, productivity and equality gain from effective government

Priority I: Education • Investing in education improves human capital and productivity• Early childhood, primary education enhances equality of opportunity

Priority II: Public investment• Infrastructure in many countries is perceived to be deficient• Reprioritising spending to public investment would improve

productivity and leave inequality broadly unchanged

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Shifting spending to public investment can deliver large income gains

Long-term income gains from raising public investment in low-investment countriesto the level in high-investment countries

More public investment increases household income across the distribution

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Competition and innovation policies

Reforms of product markets• Countries have ample scope to facilitate entry and exit of firms• Enhanced product market competition would boost productivity and jobs• Effects on income inequality tend to be small

Innovation policies • Innovation and R&D are important to raise total factor productivity• Examples are fiscal incentives for R&D and patent rights protections• Effects on income inequality tend to be small

Coherence between policies• Policies need to work together to enhance overall well-being and equality• Product market reforms increase transitions in and out of work• Complementing them with activation policies helps low-income workers

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Less regulation of network industries increases productivity and income

Household income gains after a 1% reduction in the OECD regulation index

Income rises across the distribution, leaving inequality broadly unchanged

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Financial market policies

Finance and productivity growth• Finance is important to fund investment and innovation• But: Too high leverage was a key factor in the crisis• Credit supply constraints may exacerbate the investment slowdown

Finance and income inequality • Financial expansion tends to increase income inequality• Bank credit goes more to high- than low-income households• Earnings in the financial sector are very high

Reforming finance• Further write-downs of non-performing loans would reduce leverage• Faster bank recapitalisations would facilitate the provision of new credit• Reducing too-big-to-fail guarantees would lower bank leverage

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The financial sector wage premium increases along the earnings distribution

Average of 18 European countries, controlling for many potentially confounding factors

High wage premiums increase inequality and are likely to reduce productivity

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Summary

Productivity growth has slowed markedly and income inequality has risen to new highs

The combined effect of these two trends yields low rates of income growth for many workers

Comprehensive monetary, fiscal and structural policies can tackle the productivity slowdown and the rise in inequality together

Collective fiscal expansion, in particular through stronger investment, would increase productivity, income and jobs

Structural and financial reforms are important to improve people’s skills, revive business dynamism and reduce financial leverage

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Disclaimers

Disclaimers:

The statistical data for Israel are supplied by and under the responsibility of the relevant Israeli authorities. The use of such data by the OECD is without prejudice to the status of the Golan Heights, East Jerusalem and Israeli settlements in the West Bank under the terms of international law.

This document and any map included herein are without prejudice to the status of or sovereignty over any territory, to the delimitation of international frontiers and boundaries and to the name of any territory, city or area.