Productivity in most sectors has improved dramatically in the past 200 years, but not in jobs such as the arts, teaching, law and health care, which require a high level of personal input. For those working in such jobs to have anything like a contemporary standard of living, the relative cost of their services must be much higher than it was in the past. As price goes up, supply shrinks. Essential but low-profit industries migrate to the public sector, and government is blamed for spending more than it takes in.
It is said that the problem of our age is that government spending is out of control. Capitalism is doing fine, but government has gone to hell. It cannot control itself or its appetites. Its wants are unlimited and threaten the stability of the society. We must change the government and change the Constitution, even change the ways of democracy. Indeed, it is argued that representative democracy doesn’t work.
Nonsense. Democracy works as well as it ever did. But government is suffering from Baumol’s disease. It’s not a fatal malady, but it won’t go away. And it can be managed if only it is understood.
Baumol’s disease is the construct named for William J. Baumol of New York University. (He calls it “the cost disease of the personal services,” but his fellow academics call it after him.) It is first set forth in his work Performing Arts: The Economic Dilemma, written with William G. Bowen in 1966.
Suppose, Baumol says, a particular service is deemed indispensable, such that we feel that supply must be maintained. Simple. The relative cost of that service will rise. And rise. Start at the beginning. How many man/woman hours are required to produce one weekend of baby-sitting for a two-year-old grandson? Answer, making allowance for light sleep and naps, approximately 80 hours per unit of production. (Details on request.) It was the same a century ago and will be the same a century hence. Same story in kindergarten, high school, college classes. Same size as a century ago.
The performing arts are notorious. The Globe Theatre got back the production cost of a play in one week, which is why Shakespeare saw 37 of his plays produced. It would take a year today. A recent issue of the New Yorker noted that when the magazine “first hit the stands in 1923, there were 228 shows on Broadway.” This was a drop from 1,500 in 1910. Today there are 19. A play still takes three hours to produce and so the relative price of actors also keeps going up, and supply shrinks.
One of Baumol’s discoveries is the persistence in the patterns of differences in productivity growth between economic sectors. In his Philosophical Society paper he writes:
This cost disease phenomenon occurs when the services… are plagued by the cumulative and persistent rises in their costs, increases that normally exceed to a significant degree the corresponding rate of increase for commodities generally, i.e. almost always outstrip the economy’s rate of inflation.
The services in question, which I call The Stagnant Services, include, most notably, health care, education, legal services, welfare programs for the poor, postal service, police protection, sanitation services, repair services, the performing arts, restaurant services…. The common element that characterizes them all is the handicraft attribute of their supply process.
Notice anything? Education, welfare, police, sanitation. All these are public sector activities, or mostly so. Is this immutably the case? Not that long ago, all of the above were in the private sector. Let me offer a subtext to Baumol. Activities with cost disease migrate to the public sector. Hence our quarter-century turmoil over the cost of government and, now, the size of the deficit.
The great migration in our case took place during the John-son-Nixon years, roughly 1964 to 1972. Look back at Baumol’s list. Almost every item can be matched up with a Great Society or New Federal-ism initiative. Medicare, Head Start, Legal Services, Child Nutrition, Safe Streets, Clean Water, the National Endowment for the Arts. From modest beginnings great expenditures grew, and conservatives got alarmed. In the early Reagan years, a budget crisis was deliberately allowed to develop in the expectation that these costs would be cut back. In David Stockman’s account, once a $100-billion deficit appeared “we would have the…craven politicians pinned to the wall. They would have to dismantle…bloated, wasteful and unjust spending enterprises–or risk national ruin.” He had made “fiscal necessity the mother of all political invention.”
Well, not quite. The cuts never came, and in place of tax-and-spend we got borrow-and-spend. The problem was not craven politicians but cost disease. In no time we were a debtor nation–the price of not keeping up with the literature.
It is now the liberals’ turn to face this reality. Or else fail as conservatives failed. The basic liberal argument–complaint would be the better term–is that we don’t spend enough. But cost disease decrees that on matters of special concern to liberals, you can never spend enough. In Baumol’s words, these activities “are condemned to a pattern of spiraling increases in their real prices that appears to put them beyond the reach of both the individual and the state.”
This is, however, only appearance. As productivity brings the cost of commodities down, more can be spent on services without any decline in consumption of goods. Health care reform will be the test.
Baumol’s message is profoundly hopeful: As long as productivity is growing in the economy as a whole, it makes no matter that it is laggard in some sectors. The great educational task, as he writes, is “getting the public to recognize the difference between the reality and the illusion in the behavior of costs.
Daniel Patrick Moynihan is the Democratic senator from New York. This essay first appeared in the Washington Post.
