A Conversation with Edmund Phelps, Moderated by Peter Passell

Event Overview and Participants

• Host and Organizer: The event was co-hosted by RAND's Labor and Population director Krishna Kumar and the Milken Institute to discuss economic policy and innovation.
• Key Speaker: Nobel Laureate Professor Edmund Phelps (2006) presented arguments from his book, Mass Flourishing.
• Moderator: Dr. Peter Parcell, editor of the Milken Institute Review and former New York Times economics columnist.

Core Economic Arguments: Modern vs. Corporatist Prosperity

• Two Distinct Models: Phelps distinguishes between "classical prosperity" (wages rising due to general market forces) and "modern prosperity" (driven by individual innovation, new insights, and personal satisfaction).
• The Engine of Modern Prosperity: The widespread prosperity seen from 1815 to 1940 was driven by "indigenous innovation"—grassroots tinkering and experimentation by large numbers of non-scientists, rather than just academic discovery.
• The Shift to Corporatism: Phelps argues that the modern economy was undermined by a rise in "corporatism" (associated with values like patriotism, conformism, and family over the individual) starting in the 1930s.
• Value Clash: Modern economies rely on individualism, self-reliance, and the quest for exploration; corporatist economies prioritize traditional values like staying with the group and conforming to established norms.

Data on Innovation Decline and Productivity

• US Growth Rate Drop: The residual productivity growth (output per man-hour not explained by capital growth), attributed to innovation, fell from approximately 2% per annum (1922–1972) to 1% per annum (late 1970s onward).
• Innovation Implication: A 1% annual growth rate implies productivity would double only every 72 years, a timeframe that masks the lack of visible innovation in the economy.
• Sectoral Decline: Innovation has significantly declined in established industries within the American heartland, dominated by large, incumbent corporations.
• China's Emerging Rate: Preliminary calculations suggest China's indigenous innovation rate is approximately 2% per annum, matching the US historical peak and exceeding its current US rate.
• Productivity Drivers in China: China's growth is currently fueled by three factors: indigenous innovation, technological transfer from the US, and "technological diffusion" (the spread of existing technologies from coastal firms to the rest of the country).

Barriers to Innovation and Economic Structure

• Incumbent Protection: Large, established corporations (duopolists/oligopolists) utilize special tax deductions and regulatory carve-outs to block startups, removing the incentive for both new entrants and incumbents to innovate.
• Cultural Shifts: There is a perceived downgrade of creativity in public discourse, with a shift toward criticizing historical innovators (e.g., Hubble, Hopper) rather than celebrating their contributions.
• Entitlement Culture: Phelps argues that the welfare state has fostered a "culture of entitlement," where individuals expect government support for lost shares of income, reducing the motivation for initiative and risk-taking.
• Social Stigma of Failure: While the US culture allows for failure and a second chance, countries like Italy and China exhibit high stigma or fear regarding bankruptcy, which discourages entrepreneurial risk.
• Defensive Innovation: Phelps questions the theory that foreign competition forces US firms to innovate defensively, noting that regulatory burdens (like high corporate taxes) may discourage domestic innovation entirely.

Historical Context and Future Outlook

• Britain's Trajectory: Britain maintained productivity growth until the 1930s but suffered a severe decline post-WWII due to rising corporatism; Margaret Thatcher's reforms attempted to reverse this but results remain debated.
• Japan's Slowdown: Japan's high growth ended in the 1980s/1990s because it exhausted the potential for "low-hanging fruit" technological transfers from the US, hitting a wall due to its inherent corporatist structure.
• Current High-Innovation Nations: Denmark and South Korea (specifically regarding Samsung) are cited as having significant dynamism, though their depth of creativity is questioned compared to the US model.
• Policy Limitations: Phelps asserts that standard economic policies (tax optimization, market efficiency improvements) cannot directly increase "dynamism"; only a cultural shift toward valuing exploration and individual expression can reverse the decline.
• Future Requirement: Reversing the trend requires society to recognize the "social costs" of traditional values (like pressure to stay local or conform) and actively celebrate creativity and the courage to fail.