TFP: "Understanding what is driving the slowdown is key"

From an IMF working paper, U.S. Total Factor Productivity Slowdown: Evidence from the U.S. States (PDF, 24 pages):

U.S. total factor productivity growth has slowed since mid-2000s. After growing at about 1¾ percent per year during 1996–2004, average total factor productivity (TFP) growth rate has halved since 2005 (Chart). This suggests that the reasons of the slowdown go beyond the effects of the Great Recession. Understanding what is driving the slowdown is key to assessing the future potential growth of the U.S. economy.

TFP growth depends on many factors besides advances in technology. In general, TFP captures the efficiency with which labor and capital are combined to generate output. This depends not only on businesses’ ability to innovate, but also on the extent to which they operate in an institutional, regulatory, and legal environment that fosters competition, removes unnecessary administrative burden, provides modern and efficient infrastructure, and allows easy access to finance...

You can find anything on the internet.

I am particularly pleased to find someone saying that TFP depends on more than just technology. Pleased to hear them say it depends on "access to finance" among other things. For if TFP depends on access to finance, it must also depend on financial cost.

But if I know you, when I say "financial cost" you think I mean "interest rates". That's not it.

Interest rates influence new borrowing. They influence borrowing at the margin -- the next dollar borrowed. Interest rates encourage that next dollar to be borrowed a little sooner, or a little later. That's all.

Imagine, until we finish reading this paragraph, that all economic activity pauses for the four seconds it takes to read. Okay, all activity stopped? Good! Let me ask a question: Is all the debt gone now? Of course not.

All the debt existing at the start of that brief pause was still existing at the end of it. People still had principal to repay, and interest.

We can add up all of the interest owed, and call it financial cost. Add in the principal too, if you like. Come up with a number.

That number was there, representing financial cost, all during the moment that we had the economy on pause. Financial cost does not occur only at the time you are taking out a loan. It exists until the loan is completely paid off. Financial cost exists as long as there is any debt at all.

Financial cost is not the interest rate you'll have to pay when you take out a loan today. That's just an addition to financial cost. Financial cost is all the interest owed on all the debt outstanding. And maybe all the principal too, depending how you define it.

At a given level of interest rates, an economy with little outstanding debt has little financial cost; an economy with a large outstanding debt has large financial cost. And then, interest rates vary, too. Plus, new borrowing adds to it.

Up to a point, Total Factor Productivity is enhanced by the growth of finance. Beyond that point, TFP is held back by the growth of finance. Finance is the grease that makes for a smooth-running economy, but too much grease gums up the works.

What's driving the slowdown? Too much financial cost. Too much debt.