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Philippe Aghion and Aymann Mhannedi advocate two policies that can help spur a dynamic and equitable economic recovery

Business / analysis
Philippe Aghion and Aymann Mhannedi advocate two policies that can help spur a dynamic and equitable economic recovery
Flexicurity

The COVID-19 pandemic has highlighted major weaknesses of both the US and European models of capitalism. In the United States, the crisis has shown the limits of an economic system that fails to protect individuals against the effects of creative destruction and the social consequences of a macroeconomic shock. In Europe, it has revealed the insufficient dynamism of the region’s innovation ecosystem – particularly in the biotech sector, which holds the key to ending the pandemic. For all the harm it has caused, therefore, the COVID-19 crisis is also a wake-up call to rethink capitalism.

We do not regard the US economic model’s lack of protection and inclusiveness as a necessary price to pay for greater innovativeness. Nor do we think that Europe’s lack of innovativeness is a natural consequence of greater inclusion and better social protection. So, besides calling for greater investment in education, we advocate two policies that should both stimulate innovation-based growth and make it more inclusive and/or protective: beefed-up competition policy, and a Danish-style “flexicurity” system in the labor market.

Competition-policy discussions should start by asking why the innovative US economy, which spearheaded the information-technology revolution, has suffered from declining productivity growth over the past two decades. Among the various possible explanations for this trend, two have emphasized a competition problem.

In his 2019 book The Great Reversal, Thomas Philippon argued that the main reason for the slowdown in US productivity growth was the weakening of antitrust policies. According to Philippon, this gradual shift has led to greater concentration in many economic sectors and eroded business dynamism, especially the creation of new firms.

An alternative explanation, which one of us (Aghion) developed with Antonin Bergeaud, Timo Boppart, Peter J. Klenow, and Huiyu Li, also features inadequate competition, but centers on the IT revolution. In a nutshell, rapid technological advances have enabled superstar firms – those that have accumulated social capital and know-how that is difficult to imitate, and/or have developed strong networks – to control a larger share of economic sectors. This explains the acceleration of US productivity growth between 1995 and 2005, especially in IT-related sectors.

But in the longer term, superstar firms will discourage innovation by non-superstar firms in all the product lines they control. This is because challengers attempting to dethrone a superstar firm must drastically reduce their prices and thus their innovation rents. So, the IT revolution, by enabling superstar firms to grow rapidly and control ever more sectors, ends up reducing market entry, innovation, and growth in the overall economy.

This explanation implies that maximizing the IT revolution’s growth potential requires reforming competition policy to account better for the effect of mergers and acquisitions on future innovation and market entry. Such an approach should both foster innovation-led growth and make it more inclusive by allowing new innovative players to enter the market. That innovation, particularly by new entrants, should also encourage greater social mobility.

Flexicurity schemes, meanwhile, can help to address deep-seated labor-market problems, including in the US. In a 2017 articleAnne Case and Angus Deaton showed that, following a long period of decline, mortality within the middle-aged (45-54), non-Hispanic white population in the US began to rise in the early 2000s, and accelerated sharply after 2011-12. Their most striking finding was the rapid increase in what they called “deaths of despair,” resulting from suicide or substance abuse, primarily among low-skilled workers. This phenomenon has no contemporary equivalent in other developed countries.

Deaton and Case attributed this trend reversal in mortality among America’s non-Hispanic white population to mounting job insecurity associated with creative destruction, which often results in increased family household instability. More generally, we have moved from a world where many people could expect to spend their entire career in the same firm, with the likelihood of moving upward, to one where frequent disruption has become the norm.

Is it possible to design a system that makes creative destruction more palatable by allowing individuals to navigate periods of unemployment with greater serenity and in a way that benefits the economy as a whole? An important 2017 study by Alexandra Roulet suggests that Denmark, which introduced a flexicurity system in 1993, may have found the right formula.

The Danish system has two pillars. It makes the labor market more flexible by simplifying employee-dismissal procedures for firms. But, to protect laid-off workers, the government provides generous unemployment benefits, as well as substantial investment in professional training to give people the skills they need to re-enter the labor market.

Roulet compared the health of Danish workers whose workplace closed between 2001 and 2006 with that of workers with the same profile (including age, experience, and skills) whose employer did not close. Her findings were striking: firm closures did not affect some important individual health indicators, in particular the consumption of antidepressants or the probability of consulting a general practitioner. Nor did a firm’s closure affect the mortality rate among its workers.

By establishing its flexicurity system, Denmark achieved two goals simultaneously. First, it fostered innovation-led growth by making creative destruction easier to implement and also more efficient (owing to the accompanying public investment in professional training). Second, the scheme made innovation-driven growth more protective and inclusive by providing income support to facilitate laid-off workers’ re-entry into the labor-market employment.

One of the COVID-19 pandemic’s many economic lessons is that innovation and inclusion need not be mutually exclusive. By pursuing the right policies, Western governments can promote both and thereby help to bring about a dynamic and equitable recovery.


Philippe Aghion, a professor at the Collège de France and the London School of Economics and Political Science, is a fellow at the Econometric Society and the American Academy of Arts and Sciences. Aymann Mhammedi is a research assistant at the Collège de France. Copyright: Project Syndicate, 2021, published here with permission.

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4 Comments

The blind leading the blind.

 

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Not only the USA that has the issue of large companies monopolizing sectors of business and destroying competition even in nz that is the case . These companies need to be looked at throughout the west as they also seldom shoulder their fair share of tax , which could feed back into some training more like the Danish system . Unfortunately the common response by many western conservative governments is to bring in more immigrants to lower wages and create a negative feedback loop leading to the despair of particularly the lower skilled who are most impacted , a good example is what is happening in Australia right now in regard to the intention to bring in 200000 migrants specifically to lift GDP at the expense of per capita growth .

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Good article, especially considering the authors professional bases. And room for thought especially, you'd think, for a so-called govt of change, like our one? Yes? However, I'm not sure they have the life experience or indeed, the intellectual capacity to implement something along these lines. Perhaps it's an angle for a new conservative govt? Mmmm. I won't hold my breath.

There is a lot of issues to consider in the article, but I will focus on two of them. The business cycle itself, which is termed in various ways, but is cyclic none-the-less. And the Danish welfare innovation which is clearly 3rd or 4th generation welfare thinking, something which sadly NZ is lacking in.

The business cycle is just that, a cycle of business as they innovate, scale & then try to dominate the markets. Quick to say, but can take decades or generations to go through. The post WWII boom for the West in particular, saw these stages play out many times in many different industries, at many levels. The most successful being big oil, big auto, big building, big city, big education, big innovation, big banking & big govt. These are some but not all of them. Today we see that many of those big success stories are coming to their natural end. This happens. Nothing is forever, at least not this side of the grave. Business by nature is dynamic & cyclic, even though those who are most successful at it are trying to protect their domains, even getting big govt to legislate in their favour. Or, as in the most recent case, getting a big shock to work in their favour, as the global covid driven dismembering of small businesses right across the globe is testimony to, much to big businesses glee. Big bus will also buy up their competition, as long as their regulators will agree, which we are witnessing today with Google, Facebook & co, but this is not a new phenomenon. Every great business or industry has done this throughout the ages, by hook or by crook. But today we see the media blaming big business for their greed, when in actual fact, it is poor law, driven by poor regulators, some of whom are bought out or compensated for their favours. This is happening all the time and is now endemic in the greatest business culture planet Earth has ever seen - The United States of America.

Secondly, & apologies if this is dragging on. However, welfare reform is an essential ingredient for every successful Western nation during the 21st Century. Those that don't, will decline, fail & disappear. Those that progress to better welfare, not bigger welfare, will win. This is fascinating to watch. Already, and as mentioned in the article, it is being progressed in Denmark as well as anywhere, and if we've got any brains, we will watch & copy as best we can. It relates to the fact that welfare is dependent on continuing education, & here I'm referring to education that works, not what most people think of as education today. Our education systems, along with our educators are failing us badly. The political driven agenda is suffocating growth, people, society, even families & relationships at an alarming rate. Why? Because their agenda is based on hate, not really in the nation's best interest agenda. It is, in the words of a once very capable PM of ours, Helen Clarke, "Not very helpful." Somebody told me 30 years ago, that these people were so far left, that they would be left behind. I laughed. Not today. Today, & over the past half century, they have taken our culture, society, world (whatever you want to call it) so far left, that we are being left behind. Case in point? Asia. Yes, I know not everybody is on the receiving end of it yet, but in Singapore, we see the model that includes everybody, or at least everyone that wants to work, that is.

In summary, the article is timely & thought provoking, especially on the progressive welfare side. Thank you David. Believe me, if we can't (or will not) get this right then we're all in big trouble.

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Lotta words - but based on a flawed assumption (as ifs the article).

Growth is exponential; no matter how many time you say 'cyclical', it is not. Exponential based on stock draw-down, is linear. And exponential and linear together equals Limits.

Second, don't fall for the left/right sideshow. Both want to increase consumption of said resource stocks - just to the benefit of a different cohort. Physics doesn't give a rodent's backside what political hue is doing the consuming.

And blaming 'others' is invalid; we are the most-consuming cohort the planet has ever seen. Temporarily, that is.

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