The Productivity Puzzle and the Role of AI in Our Future

July 18, 2023

As a fiduciary wealth manager, it is important to understand the impact of productivity growth on the economy. Productivity growth, achieved by generating more output from the same amount of work, holds the key to a prosperous future. In this blog, I'll explore the elusive nature of productivity booms and how AI, Artificial Intelligence, could potentially play a transformational role in the next wave of productivity growth.

Point 1: The Mystery of Productivity Booms

Productivity is a crucial economic metric that measures the efficiency of labor and output per unit of work. However, it's not easy to quantify and often subject to revisions. Productivity booms are particularly elusive, challenging to predict, and even harder to create deliberately. These booms have historically been triggered by truly transformational inventions during the industrial revolutions.

  1. The Steam Age (1750-1830): The first industrial revolution was driven by breakthroughs like steam power, the cotton gin, and railroads, which took several decades to have a significant impact across the economy.
  2. The Age of Electricity (1870-1900): The second industrial revolution saw the widespread adoption of the internal combustion engine and indoor plumbing, leading to substantial improvements in quality of life over time.
  3. The Computer Age (1960-Today): The third industrial revolution brought mainframe computing, the internet, and e-commerce, contributing to a brief productivity resurgence in the late 1990s to early 2000s.

Point 2: AI as a Transformational Force

AI is currently considered a potential catalyst for the next productivity boom. However, it is crucial to differentiate between AI's transformational and marginal impacts.  One question is; if AI indeed sparks another productivity boom, should investors should consider owning the firms that provide AI software and hardware to various industries?  Potentially...yes... and most people who are invested in the stock market already do.  Zooming out, while not all AI innovations may lead to transformational gains, individual firms can still experience powerful efficiency gains from AI integration and this applies to pretty much all industries.

Point 3: Challenges and Caution with AI

While AI shows tremendous promise, there are significant obstacles to address:

  1. Valuations and Profitability: Many AI stocks are currently priced for a world with low bond yields, easy globalization, and friendly inflation. At a price-to-earnings ratios 50% higher than the general market, and with a third of AI firms being unprofitable (twice the Nasdaq rate), caution is necessary.*
  2. Obstacles and Regulation: AI implementation may face hurdles such as data lockouts, scarcity of power, and increased regulatory scrutiny, affecting the speed and scale of its impact.

Conclusion

AI holds the potential to be the next frontier in productivity growth, and its potential impact on GDP growth and capital markets could be substantial. While challenges exist, adopting a cautious yet optimistic approach seems appropriate. The bottom line is that AI is here to stay.  The doomsday crowd will always prophesize the end of civiliztaion as we know via a "Terminator 2: Judgement Day" type scenario. Call me a hopeless optimist but I think the more likely outcome is for incredible inovation, higher standards of living, and the potential for a new productivity revolution that is transformative beyond our comprehension.

*Source: Thomson One