On Growth and Inequality

A lecture by Institute Research Council member Kevin Murphy

January 17, 2013

5:15pm 7:15pm

Charles M. Harper Center

Two major challenges for the U.S. economy today—low growth and rising inequality—stem from the same root cause: a lack of the right human capital.

Kevin Murphy explained the connection with a simple supply-and-demand story at a talk for about 80 guests of the Institute on Jan. 17. The talk was the latest in a series sponsored by the Institute to share world-class economic thinking with broader audiences.

Economic growth results from three factors: investments in physical capital and in human capital, plus advances in technical knowledge. “The three fit together, but I think it happens in the reverse order,” said Murphy, George J. Stigler Distinguished Service Professor of Economics in the University of Chicago Booth School of Business. “We develop new technologies that cause us to invest in physical capital, which allows and requires us to invest in human capital, education, and skills.”

The goal of economic policy should be to provide an environment and incentives to encourage all three elements, Murphy noted.

Bucking the Growth Trend

For the last century, investments in all three have been propelling the U.S. economy along a steady growth trajectory. Murphy showed that despite booms and bad times, the economy has always returned to that growth line—until recently. Since the “Great Recession” of 2008–09, weak growth remains below the long-term trend line.

Part of the problem is a shortage of skilled, educated workers needed to drive growth in a modern technological economy. Murphy offered data showing that demand for educated workers drove up wages, and people responded by going to college, gaining skills, and earning high salaries. But technical advances continually require more human capital, and with a 30 percent high school dropout rate, our workforce isn’t meeting that demand, hindering growth.

Meanwhile, unskilled jobs disappeared, and competition for such jobs drove wages down, increasing the wage gap. “It’s rising demand for the most skilled workers, with no opportunities for the bottom tenth percentile of the labor force, that has driven inequality up,” Murphy said.

“The rising inequality is important,” he continued. “It tells us we’re not keeping pace with what we need for the third piece of puzzle. We need more human capital to keep up with the demand.

“Our future prospects depend on growth, and on addressing inequality going forward. If we can find ways to improve growth of human capital, it will solve both our problems,” he concluded. “It will help move up the red line but also help the people at the bottom of the income distribution.”

Murphy took questions from the audience, and guests enjoyed the chance to speak with him before and after the event. Several returned for the next talk on March 5, braving a blizzard to hear Board of Overseers Chairman Edward Lazear. He continued the conversation, examining prospects for economic growth from a macroeconomic perspective.

January 17, 2013 - 5:15pm 7:15pm