What causes prosperity?

For much of human history poverty was our natural state. In 1100, per capita Gross Domestic Product in England was just $1,151 annually (in 2011 dollars). Seven centuries later, it had tripled in real terms to $3,343, a level around Kenya’s in 2018. But around 1800, something incredible happened: per capita incomes began an increase that was both rapid and sustained. The economic historian Deirdre McCloskey calls this “The Great Enrichment.” After 1800, it took just 140 years for England’s per capita GDP to triple, instead of eight centuries, and it tripled again in the 62 years after that. In the United States, per capita GDP increased by 2,074 percent between 1800 and 2018. It is often asked what causes poverty, but the real question – especially if you’re Kenyan – is what causes prosperity?

The correct answer must explain both why the Great Enrichment happened when it did – roughly around 1800 — and where it did — northwestern Europe and its offshoots, such as North America. In a new book co-written with economist Art Carden — “Leave Me Alone and I’ll Make You Rich: How the Bourgeois Deal Enriched the World” – first dismisses several common theories.

The first theory the authors tackle is a popular notion that “the west” became rich through the expropriation and exploitation of empire and slavery. But McCloskey and Carden point out that empires and slavery had existed around the world throughout recorded history without causing a Great Enrichment anywhere else at anytime else. Invoking imperialism or slavery fails to explain why the Great Enrichment happened when it did and where it did.

Capital accumulation is another common theory. But again, McCloskey and Carden explain that people had accumulated capital in many places over many centuries without prompting a Great Enrichment: “Romans and Chinese and all human beings back to the caves have always accumulated capital, abstaining from consumption to get it. Sheer accumulation, without new ideas, runs up against sharply diminishing returns.” The same objection applies to “answers” invoking savings. This, too, is an activity found in many places over many centuries with no resulting Great Enrichment. Once again, these “answers” fail to answer the when and where questions.

Theories invoking geography – a favorable climate or resource endowment – might explain the where, but they fail if they cannot also explain the when. The geography of northwestern Europe or its offshoots did not suddenly change around 1800: “Coal and coastlines and navigable waterways and fertile farmland have sat for millennia without leading to a Great Enrichment.”

Some economic historians have tried to answer both questions by examining
the historical record of Britain around 1800. Around that time, Britain experienced “better property rights, a work ethic, a consumer society, competition, modern medicine, and science.” This approach gets us nearer, but on close examination this still doesn’t answer the when and where questions. While they are all desirable circumstances, McCloskey and Carden note that property rights, commercial competition, hard work, and consumption are all found commonly throughout history; modern medicine and science are results of enrichment, they argue, not its causes.

So what did cause the Great Enrichment? McCloskey and Carden argue that “it was because of a change in ethics and rhetoric and ideology.” Why then and there? “A combination of happy accidents,” they write. These were:

“…embodied in the four Rs…reading, reformation, revolt, and revolution. They led to the fifth R, a revelation of commerce and betterment, plain in literature and political thought…of England and Scotland, culminating in the Bourgoise Deal. The Deal was slowly expanded to all classes and was partially protected from the other B-Deals by liberalism and the success of the innovism among commoners that it inspired”

“Give ordinary folk the right to life, liberty, and the pursuit of happiness – against ancient tyranny (and modern regulation, industrial planning, and occupational licensure) – and they commence thinking up all manner of new ideas” McCloskey and Carden write. “New ideas” which, for example, put accumulated but dormant capital and savings to work utilizing the coal that had lain uselessly under British feet for 300 million years.

But if the Great Enrichment was based on a “change in ethics and rhetoric and ideology,” will it continue if they change again? This book explains how humanity escaped from poverty and how those still stuck there, like our Kenyans, can get out. But, in doing so, it tells us how fortunate we are for that Enrichment. McCloskey and Carden offer an exploration and celebration, but a warning, too.

Misunderstanding Inflation

The Biden administration is working through the stages of grief when it comes to inflation. In July, President Biden said that “no serious economist” was worried about “unchecked inflation.” In October, with inflation still stubbornly high and rising, White House Press Secretary Jen Psaki said that inflation was actually a “good thing” because it showed the strength of the economy’s recovery from the COVID-19 shutdown. In November inflation was no longer a good thing, and the Federal Trade Commission was investigating Walmart, Amazon, Kroger, other large wholesalers, and suppliers including Procter & Gamble Co., Tyson Foods, and Kraft Heinz Co. “to turn over information to help study causes of empty shelves and sky-high prices.”

John Maynard Keynes once wrote, quoting Lenin, that “not one man in a million” understood the mechanics of inflation. Whoever that one man is, he clearly doesn’t work for the Biden administration. But with prices up 6.2 percent in the year to October, “the largest 12-month increase since the period ending November 1990” according to the Bureau of Labor Statistics, Minnesotans cannot afford to remain as ignorant.

Put very simply, the price level, measured by the Consumer Price Index (CPI), is the amount of money spent in a given period divided by the amount of stuff (goods and services) bought in a given period. If the amount of money spent increases faster than the amount of stuff bought, that ratio increases, inflation, in other words.

This is borne out by the close relationship over several decades between the quantity of money per unit of output – a measure of money divided by stuff – and the CPI – a measure of inflation (both series are expressed as percentages of their average values over the period as a whole to make them comparable and the Y axis is logarithmic).

The right side of the chart shows a sharp, recent jump in the quantity of money per unit of output. This is driven by a 37 percent increase in the M2 (money stock measure) money supply between January 2020 and October 2021 while Real GDP – a measure of stuff – increased by just 2 percent between Q1 2020 and Q2 If people had been willing to hold on to this cash it wouldn’t have been inflationary, but they spent a good chunk of it. In the 16 months from June 2020 to October 2021, Personal Consumption Expenditures increased by a monthly average rate of 1.0 percent compared to an average of 0.3 percent for the 16 months from October 2018 to February 2020. This is where our current inflation comes from.

What happens next? If the two lines on our chart are to converge and reestablish their historical relationship, then one or a mixture of three things needs to happen:

1. A decline in the quantity of money (affecting the red line)
2. An increase in Real GDP (affecting the red line)
3. An increase in the CPI (affecting the blue line)

A decline in the quantity of money necessary to bring the two lines together is unlikely. Going back to at least 1960, the M2 money supply has never fallen year over year, and it continues to increase at rates well above historical trends. In no single month between November 1983 and April 2020 did the M2 money supply increase at double digit monthly rates: it hasn’t increased at a single digit rate in any month since. GDP growth is also slowing back to historical rates after the initial snapback as economies reopened late last year. That leaves the CPI to do most of the work to bring these two lines back together – if the red line won’t fall, the blue line will have to rise – and that means more inflation.

What can be done about this? The Federal Reserve ought to slow its money creation. The federal government should pursue supply side policies to increase the amount of stuff and it should abandon plans to dump trillions of dollars of spending into the economy. Sadly, the prospects for any of this happening – and, hence, of our outlook for slowing inflation – are not good. To paraphrase another Bolshevik, “You may not be interested in monetary economics, but monetary economics is interested in you.”

Minnesota should join the national Nurse Licensure Compact

This letter originally appeared in the Fargo-Moorhead Forum

In our new policy briefing “Minnesota should join the national Nurse Licensure Compact,” we explain why state policymakers should sign our state up to this arrangement.

When the COVID-19 pandemic hit, Minnesota needed all the qualified medical professionals it could get, but licensing proved to be an obstacle to qualified health care workers from outside the state putting their skills to use here. Gov. Tim Walz eventually signed an order allowing health care workers licensed in other states to work in our state, but a permanent solution would be for our state to join the national Nurse Licensure Compact.

The compact allows a nurse to have one license in their primary state of residence with authority to practice in person or via telehealth in other compact states, with the requirement that they follow the nurse practice act of each state. As the Minnesota Board of Nursing says, the compact “advances public protection and access to care through the mutual recognition of one state-based license that is enforced locally and recognized nationally.” At present, 34 states are members of the compact.

This policy seems, on the face of it, absurd, so why do we have it? The answer is the power of vested interests.

Opposition to Minnesota’s entry into the compact comes from the Minnesota Nurses Association. The nurses union called the compact “a direct threat to MNA as a professional association and sole collective bargaining agent for nurses in MN.” Yet, when the Minnesota Board of Nursing surveyed all registered nurses and licensed practical nurses in 2017, “more than 80% of respondents to the survey were in favor of Minnesota joining the NLC.”

As noted, Walz temporarily relaxed some of these restrictions during the pandemic. But if this is good policy in bad times, how can it be sound policy in good times?

The health care of ordinary Minnesotans should come before vested interests. As the pandemic has shown, Minnesota should join the Nurse Licensure Compact.

Inflation up, real earnings down

Today, the Bureau of Labor Statistics (BLS) announced that inflation rose by 7.0 percent in the year to November. This is the fastest annual rate of increase since June 1982. Stripping out volatile food and energy prices to get ‘core inflation,’ prices were up 5.5 percent over the last year, “the largest 12-month change since the period ending February 1991.”

The BLS reports that:

Increases in the indexes for shelter and for used cars and trucks were the largest contributors to the seasonally adjusted all items increase. The food index also contributed, although it increased less than in recent months, rising 0.5 percent in December. The energy index declined in December, ending a long series of increases; it fell 0.4 percent as the indexes for gasoline and natural gas both decreased.

These numbers are bad. I wrote in October about how America might be in for higher inflation, and, I’m sad to say, the data is bearing that out so far.

Another BLS release today illustrates why this is a problem. Data for real earnings — that is, adjusted for inflation — showed an increase of 0.1 percent from November to December, owing to “an increase of 0.6 percent in average hourly earnings combined with an increase of 0.5 percent in the Consumer Price Index for All Urban Consumers (CPI-U).”

But over the past year, the BLS reports,

Real average hourly earnings decreased 2.4 percent, seasonally adjusted, from December 2020 to December 2021. The change in real average hourly earnings combined with no change in the average workweek resulted in a 2.3-percent decrease in real average weekly earnings over this period.

You might have more dollars in your paycheck than you did this time last year, but, on average, they will buy less. And it is real, inflation-adjusted numbers that matter for economic wellbeing, not nominal ones.

It isn’t clear that policymakers understand yet where this inflation is coming from. We have to hope they figure it out quickly or this squeeze on living standards will continue.

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Join us live to learn more!

Want to learn more about surging U.S. prices and what we can do about it? Join expert economists John Phelan and Christopher Phelan as they break down the highest consumer prices in 40 years.

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Christopher Phelan is currently a professor of economics at the University of Minnesota, and an advisor to the Research Department at the Federal Reserve Bank of Minneapolis. He has served in various capacities with the Federal Reserve Bank of Minneapolis since 1998, and has taught economics at Northwestern University and the University of Wisconsin–Madison.

Disclaimer: The views expressed in this online discussion by Professor Phelan are his alone and not necessarily those of the Federal Reserve Bank of Minneapolis or the Federal Reserve System

John Phelan is an Economist at Center of the American Experiment, and a graduate of Birkbeck College, University of London, where he earned a BSc in Economics, and of the London School of Economics where he earned an MSc.

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