SOLVING THE PRODUCTIVITY PUZZLE: THE ROLE OF DEMAND AND THE PROMISE OF DIGITIZATION FEBRUARY 2018 AboutSince itsMGI founding in 1990, the McKinsey Global Institute (MGI) has sought to develop a deeper understanding of the evolving global economy. As the business and economics research arm of McKinsey & Company, MGI aims to provide leaders in the commercial, public, and social sectors with the facts and insights on which to base management and policy decisions. MGI research combines the disciplines of economics and management, employing the analytical tools of economics with the insights of business leaders. Our “micro-to-macro” methodology examines microeconomic industry trends to better understand the broad macroeconomic forces affecting business strategy and public policy. MGI’s in-depth reports have covered more than 20 countries and 30 industries. 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Copyright © McKinsey & Company 2018 SOLVING THE PRODUCTIVITY PUZZLE: THE ROLE OF DEMAND AND THE PROMISE OF DIGITIZATION FEBRUARY 2018 Jaana Remes | San Francisco James Manyika | San Francisco Jacques Bughin | Brussels Jonathan Woetzel | Shanghai Jan Mischke | Zurich Mekala Krishnan | Boston PREFACE Few topics in economics today generate as much debate For their guidance, insight, and encouragement, we as the productivity-growth slowdown in advanced would like to thank our MGI colleagues Michael Chui, economies. While productivity growth has been declining Diana Goldshtein, and Sree Ramaswamy, together in the United States and across much of Western Europe with Tera Allas at the McKinsey Center for Government, since a boom in the 1960s, that decline accelerated and MGI Council members Eric Labaye, Scott Nyquist, after the financial crisis. Exceptionally weak productivity Gary Pinkus, Sven Smit, and Eckart Windhagen. We are growth in recent years has raised alarms at a time when very grateful for all the help we received from current and advanced economies depend on productivity growth former McKinsey colleagues and in particular would like more than ever to promote long-term economic growth to thank: Praveen Adhi, Míriam Álvarez, Konrad Bauer, and prosperity. In an age of digital disruption, when Christian Begon, Andreas Behrendt, Simon Bills, companies are focused on implementing digital solutions Urs Bingelli, Riccardo Boin, Adrian Booth, Jaap Bower, and harnessing innovations such as automation and Andreas Breiter, Margaux Constantin, Andreas Cornet, artificial intelligence, disappearing productivity growth Filippo Delzi, Maarten Duyck, Liz Ericson, Guenter Fuchs, is even more puzzling. Yet for some time now, the only Nishant Garg, Anna Gomulec, José Luis Gonzalez, consensus about what is behind this weakness is that Badri Gopalakrishnan, Eric Grunberger, Gaurav Gupta, there is no consensus, leaving decision makers in both Vasudha Gupta, Philipp Härle, Ludwig Hausman, the private and public spheres without a clear perspective Kersten Heineke, Russell Hensley, Anuj Kadyan, from which to chart a path forward. Philipp Kampshoff, Chandan Kar, Szabolcs Kemeny, Attila Kincses, Stefan Knupfer, Sajal Kohli, This report is our attempt to help fill that gap. It expands Dymfke Kuijpers, Laura LaBerge, Nicholas Laverty, on a March 2017 discussion paper, The productivity Sebastien Leger, Michael Linders, Tomasz Mataczynski, puzzle: A closer look at the United States, that examined Duncan Miller, Timo Moller, Steve Noble, the slowdown from a micro and sectoral perspective. Jesse Noffsinger, Tunde Olanrewaju, Scott Pearl, It also builds on decades of McKinsey Global Institute Arnout de Pee, Peter Peters, Raghav Raghunathan, research focused on productivity growth from a supply Esteban Ramirez, Kevin Rebbereh, Robin Riedel, perspective. This report extends our analysis of the Roger Roberts, Jesús Rodríguez, Matt Rogers, productivity-growth decline from the United States Eivind Samseth, Roland Schneider, Sebastian Schneider, to Western Europe, uses a multisector approach that Jules Seeley, Laurens Seghers, Celine Shan, integrates supply and demand factors, and focuses Emily Shao, Bonnie Shaw, Patrik Silen, Bruno Silva, on the slowdown since the mid-2000s, as productivity Vivien Singer, Bram Smeets, Christoph Sohns, growth remains near historic lows in this period. Looking Kara Sprague, Sebastian Stoffregen, Shannon Sweeney, closely at this recent period allows us to identify short- Maciej Szymanowski, Zubin Taraporevala, term factors that are likely to be resolved and long-term Andreas Tscheiner, Charlotte van Dixhoorn, trends that are likely to remain in place, helping us to Jasper van Wamelen, Jonas Wannefors, and determine the potential for productivity growth in the Bill Wiseman. future. A final goal of our year-long research effort into understanding the productivity-growth slowdown is to We would like to thank our academic advisers who provide a way forward to restart productivity-enabled helped shape this report and generously offered their time growth, one that reckons with new forces at work in a and feedback at every stage: Martin N. Baily, Bernard digital age. L. Schwartz Chair in Economic Policy Development and senior fellow, economic studies, Center on This research was led by Jaana Remes, a partner of Regulation and Markets at the Brookings Institution; the McKinsey Global Institute; James Manyika, a senior Richard N. Cooper, Maurits C. Boas Professor of partner of McKinsey & Company and chairman of International Economics at Harvard University; Hans- MGI; Jacques Bughin, a senior partner of McKinsey & Helmut Kotz, a visiting professor at Harvard University Company and a director of MGI; Jonathan Woetzel, a and a senior fellow of the Center for Financial Studies as senior partner of McKinsey & Company and a director of well as program director of the SAFE Policy Center, both MGI; Jan Mischke, an MGI partner; and Mekala Krishnan, at Goethe University; and Rakesh Mohan, senior fellow a senior fellow at MGI. The project team included at the Jackson Institute for Global Affairs, Yale University, Manuel Ariztia, Marc Canal, Samuel Cudre, Susie Gomm, and distinguished fellow at Brookings India. Octavio Figueroa, Abhishek Gupta, Mac Muir, and Ravi Ram. We are very grateful for the collaboration and Frank E. Buck Professor of Finance, emeritus, at the discussions we had with a range of institutions. From Stanford Graduate School of Business; Andrew Sharpe, the Bank of England, many thanks go to Andy Haldane, founder and executive director of the Centre for the chief economist, Sandra Batten, senior economist, Study of Living Standards; Michael Spence, professor Patrick Scheider, economist, and Gabor Pinter, of economics at NYU; Chad Syverson, J. Baum Harris adviser; from BEIS, Alison Kilburn, deputy chief Professor of Economics at the University of Chicago; economist, Dan Mawson, senior economic adviser, Jean-Luc Tavernier, director-general of INSEE; and Stian Westlake, economic and policy adviser to Ignazio Visco, governor, Banca d’Italia; Hal Varian, chief the Minister of State; from CBI, Anna Leach, head of economist at Google and professor emeritus at the economic intelligence, Mia Andersson, head of industrial University of California Berkeley; Axel A. Weber, chairman strategy and regional policy, and Rain Newton-Smith, of the board of directors, UBS; Thomas Wieser, president chief economist; from HM Treasury, Tom Aldred, of the Economic and Financial Committee of the EU; and head of growth economics, Tom Yeomans, economic Guntram Wolff, director of Bruegel. adviser, and Johanna Cowan, deputy director, financial This report was edited and produced by senior stability; from the National Bank of Austria, Ewald editor Anna Bernasek, editorial production manager Nowotny, president, and Peter Mooslechner, executive Julie Philpot, senior graphic