‘Productivity’ refers to the economic output produced by a unit of labor. Why does productivity matter? Suppose productivity is fixed. In order for the economy to produce more output, it must utilize more labor. More output means more income, which increases the quality of people’s leisure time. More labor, however, decreases the quantity of people’s leisure time. Hence, fixed productivity forces workers to choose between a higher quantity of lower quality leisure time, and a lower quantity of higher quality leisure time.
Greater productivity makes choosing between these two options unnecessary. Workers can increase the quantity, or the quality, of their leisure time without sacrificing the other. It’s a win-win…
…for the more productive workers. Where, though, does the added productivity come from? Productivity growth comes from capital accumulation. Capital, in turn, comes from saving–i.e., not consuming. Even though productivity growth is good for the workers whose productivity has grown, it requires sacrifice to bring it about. Some of that sacrifice may come from others (e.g., someone makes a bunch of money, invests it in equities, the purchased companies buy more powerful computers, making their workers more productive). Some of it may come from the worker himself (e.g, someone turns down opportunities to make money in order to go to school, enriching his human capital, making him more productive). But there is always sacrifice involved in bringing about greater productivity.
Productivity, too, therefore, is a matter of choice. Present-oriented people much prefer consumption today to consumption in the future, so choose to save less. This reduces the capital stock, slowing productivity growth, the consequence of which is a difficult tradeoff between the quantity and quality of future leisure. Future-oriented people have a more balanced perspective, so choose to save more. This increases the capital stock, accelerating productivity growth, the consequence of which is a (comparatively) easy tradeoff between the quantity and quality of future leisure.
Of course, it is more than mere choice that matters for productivity. Institutions and public policies, for one, matter immensely. But given a set of institutions and public policies, variations in productivity is largely reflected in variations in the discount rates people apply towards the future.
Market interest rates in the US have been historically low for quite some time now. Even long-term bonds, such as the 30-year US Treaury bond, are yielding extraordinarily low returns. What does this say about future productivity, and more importantly future living standards? To me, it says that people want to sacrifice now to a historic extent for the sake of a more prosperous future, which tells me people think the future is currently looking very dim indeed. When interest rates begin to rise to more historically normal levels, this will be because people have become more optimistic about the outlook for the US economy.
To be clear, I’m not calling for the Fed to raise interest rates. Interest rates are not extraordinarily low because the Fed wants them to be, but rather because the Fed has to follow the market’s lead in order to do its job of macroeconomic stabilization. The Fed is keeping rates low because people are pessimistic–not the other way around. The solution is to make people more optimistic about the future. In the near term, that’s mostly about stimulating demand/NGDP, but over longer horizons, the US needs to do something about what it appears to be headed for: a prolonged period of productivity stasis.