SUSTAINING AMERICA?S PROSPERITY:
HIGHLIGHTS OF THE 2001 ECONOMIC REPORT OF THE PRESIDENT
January 12, 2001
Chapter 1: The Making of the New Economy
This year?s Economic Report of the President examines the emergence of a
New Economy, documenting the breadth of this change, and examining its
implications. The Report defines the New Economy by the extraordinary gains
in performance -- including rapid productivity growth, rising incomes, low
unemployment, and moderate inflation -- that have resulted from a
combination of mutually reinforcing advances in technologies, business
practices, and economic policies.
? New economic trends. Since 1993, real GDP has grown at an annual rate
46 percent higher than in the 20 years before 1993. The combination of this
faster growth, more than 22 million new jobs, widespread gains in real
incomes, and moderate inflation has surprised most observers. In the
second half of the 1990s, the U.S. economy grew faster than that of any
other major industrial country.
? Widespread improvements in labor productivity. Annual labor
productivity growth has accelerated by 1.6 percentage points since 1995.
Increases in capital per worker explain 0.4 percentage point of this
growth, and faster technological change in the computer sector accounts for
0.2 percentage point. The majority (1.0 percentage point), however, stems
from technological improvements in the rest of the economy. These gains
have been pervasive and are particularly apparent in services sectors, such
as wholesale and retail trade and finance, which are major users of
information technology (IT).
? The innovation system has been transformed. Between 1990 and 1997,
the number of IT firms more than doubled. The supply of new technologies
has been boosted by stronger competition, increased spending on R&D, and
new organizational structures for innovation. Small firms linked in
networks and clusters now play a larger role than before. Deregulation and
international competition have stimulated the demand for new technologies.
Financial innovations, such as venture capital and stock options, have
become increasingly common.
? Organizational changes have complemented technological innovation.
New production methods that take advantage of continuous performance
evaluation have been introduced. Inventory and supply chain management
have been revolutionized. Corporate boundaries have been radically
transformed through mergers and acquisitions.
? Economic policies have played a crucial role. Fiscal discipline swung
the annual budget balance by nearly $500 billion since 1993. Surpluses
have led to debt reduction, keeping interest rates relatively low and
encouraging investment. Public investments in people and technologies have
helped supply skills and knowledge. Measures to expand markets at home and
abroad have helped spur competition. Social policies have helped the
disadvantaged while maintaining incentives for work and adaptation.
? The fundamental rules of economics have not been repealed in the New
Economy. Policy remains crucial in ensuring non-inflationary growth,
preserving fiscal discipline, nurturing a vibrant private sector, and
creating an economy that works for all.
Chapter 2: Macroeconomic Policy and Performance
This chapter reviews macroeconomic developments during the past year and
offers the Administration?s economic forecast. It also examines the
long-term fiscal outlook and the importance of preserving the fiscal
discipline that has been so critical to the expansion.
? Another strong year. Economic growth moderated in the second half of
2000. Nevertheless, real GDP grew at a 4.2 percent annual rate over the
first three quarters of 2000, following 4 consecutive years of growth in
excess of 4 percent. The unemployment rate remained between 3.9 and 4.1
percent through the first 11 months of 2000 without generating excessive
core inflation or inflationary expectations. Strong productivity growth
kept employers? labor costs per unit of output from increasing, while real
compensation per hour rose 1.6 percent between the third quarter of 1999
and the third quarter of 2000.
? Effects of the New Economy. Despite the cooling off of the stock
market in 2000, evidence of the New Economy abounds. Reflecting past
growth in stock market wealth, consumer expenditures continued to grow
faster than disposable personal income, driving the personal saving rate
into negative territory. In an investment environment that remained
favorable even without further increases in stock prices, business
investment was strong, especially in information processing equipment and
software. U.S. exports grew robustly in 2000, but imports grew even more
rapidly, reflecting the strong growth in consumption and imported capital
equipment. The large trade and current account deficits can be attributed
to low rates of private saving out of current income and a high rate of
investment that is being financed partly by foreign saving attracted by the
extraordinary New Economy investment opportunities in the United States.
? The Administration forecast. Potential output is expected to increase
at a solid 3.8 percent annual rate in 2001 and 2002, about the same as its
growth from 1995 to 2000. The projected real GDP growth rate of 3.2
percent per year during 2001 and 2002 is somewhat slower than the rise in
potential output; as a result, the unemployment rate is projected to edge
up 0.3 percentage point per year, unwinding any tightness in labor and
product markets. The current situation of low core inflation, high
productivity growth, and lean inventories points to a continuation of the
expansion?though growth is definitely expected to moderate, and more
sharply in the short term than anticipated when the forecast was made.
? The importance of fiscal discipline. Over the past 8 years, a
combination of restrained growth in spending and increased revenues
associated with strong economic growth have created a situation in which
the Federal debt held by the public is on track to be eliminated around the
end of the decade, if fiscal discipline is maintained. However, the course
of the budget and the economy in the years ahead remains highly uncertain,
and pressures on the budget will mount as the effects of an aging
population on Social Security and Federal health care spending begin to
kick in. Used wisely, today?s surpluses can help prepare for this
demographic challenge by encouraging national saving and investment that
will keep the economy on a robust growth path.
Chapter 3: The Creation and Diffusion of the New Economy
This chapter looks at the sources of performance improvements in plants,
firms, and industries. It traces these improvements to innovation in
information technology (IT), complementary changes in organizational
practices that enhance the productivity of firms using IT, and the
emergence of a more competitive business environment.
? How much technology? The rapid growth of the IT sector was one of the
most remarkable features of the 1990s. The last decade saw a rapid
convergence of several key technologies?processing power, data storage and
transmission, and software?that translated recent technological innovations
into real performance gains. Domestic revenue in the IT sector grew by 120
percent during the last decade, while quality-adjusted prices for computers
fell by over 80 percent. The Internet has recently spawned thousands of
new companies and created billions of dollars in market value. Wireless
telephone carriers alone now employ over 150,000 people in the United
States and generate 10 times the annual revenue they posted a decade ago.
? Why is the U.S. awash in technology? Several factors in combination
have created a uniquely favorable climate for innovation and
entrepreneurship in the technology sector. Deregulation and open,
competitive markets have created a strong demand for new technologies among
firms. Entrepreneurial ventures have found ample funding. During the
1980s, venture capital investment grew on average by 17 percent per year.
In the 1990s, the pace doubled. Total venture capital investment jumped
from $14.3 billion in all of 1998 to $54.5 billion in the first three
quarters of 2000. In addition, initial public offerings have raised over
$300 billion since 1993, more than twice the amount raised in the previous
20 years, even after accounting for inflation. Research and development
spending?which grew nearly 40 percent faster than the economy as a whole
from 1995 to 1999?continues to expand the base of scientific and technical
know-how, and strong legal protection for intellectual property has
rewarded innovators for their R&D efforts.
? Why technology matters. The adoption of IT has led to performance
gains in many sectors of the economy. Manufacturing plants and service
firms are increasingly automated, while workers are given more flexible job
assignments and stronger incentive pay, leading to improved performance.
Supplier relationships are becoming more closely integrated through use of
computer systems that coordinate the various aspects of production and
warehousing, allowing firms to reduce inventories dramatically. Firm
boundaries are also shifting, as firms outsource non-core activities and
move toward flexible, collaborative relationships like strategic alliances
with suppliers, customers, and even rivals.
? The challenges ahead. The end result is an economy that has been
unusually vibrant, dynamic, and entrepreneurial, with high rates of
business formation?and business failure. Innovation is by nature a risky
endeavor: equity values will continue to fluctuate, and the economy as a
whole will continue to experience the rise and fall of the business cycle,
making underlying productivity trends difficult to discern. It is
important that this dynamic, competitive framework be retained. While
government action is often needed to lay out the ?rules of the game,? it is
important that market participants be allowed to innovate and experiment.
Chapter 4: The New Economy in a Global Context
This chapter describes how U.S. participation in the global economy has
been critical to the emergence of the New Economy. Improved technology
leads to increased international trade and investment, while deeper
integration into the world economy makes available larger markets and
lower-priced imports that spur innovation and benefit both consumers and
? Technology and globalization. The effects of new technologies are
apparent in U.S. international trade. Over 70 percent of U.S. export
growth since 1996 has consisted of capital goods, including items such as
computers, semiconductors, and telecommunications equipment. Exports of
services that reflect the fruits of U.S. innovation, such as royalties and
business and financial services, have likewise grown faster than other U.S.
service exports. Meanwhile, imports?of which capital goods are the largest
component?have supported the investment that underlies our superior
economic performance. An example is in computers, where imports account
for more than 60 percent of U.S. computer purchases, even while U.S.
computer exports have grown rapidly, supported by the availability of
low-cost imported components. This sort of globalization helps all
Americans, as consumers gain from increased competition and lower prices,
while firms benefit from global suppliers and larger export markets.
? The role of policy. The Administration?s international economic
policy has fostered globalization, thereby providing incentives for
competition and innovation. Openness has been spurred by more than 300
trade agreements, including historic agreements such as the North America
Free Trade Agreement, the Uruguay Round trade agreements, permanent normal
trade relations with China, a moratorium on tariffs on e-commerce, and
market-opening agreements in sectors central to the New Economy such as
telecommunications, information technology equipment, and financial
services. High-tech exports have boomed, with the value of computer and
semiconductor exports growing more than 50 percent faster than overall
exports since 1996. The opening of markets matters as well for
non-technology U.S. exports: for example, shipments of U.S. oranges to
China went from far less than 1 million kilograms in 1999 to more than 10
million kilograms in the first 9 months of 2000.
? Global challenges in the New Economy. Technology raises a number of
issues in the international context, including effects on workers, the
environment, and challenges such as money laundering and tax evasion. The
widened U.S. current account deficit can be related in part to the effects
of the New Economy in spurring U.S. productivity and thus raising our
output growth ahead of our major trading partners. While annual U.S. labor
productivity growth increased after 1995, productivity growth actually
slowed in the six other largest world economies, including an average
annual decline of more than 0.8 percentage point in Japan. Superior U.S.
performance has been reflected in capital inflows, as foreigners have
sought to invest in the United States. The current account deficit?the
counterpart of capital inflows?has thus supported rising investment, which
has grown by 4.6 percentage points as a share of GDP from 1992 to 2000.
This contrasts with the experience of 1980-88, when the declining current
account balance was associated with a nearly 1 percentage point decline in
the share of investment in GDP.
Chapter 5: Living in the New Economy
This chapter describes how the New Economy and Administration policies
combined to improve the quality of life for the vast majority of Americans.
A key theme is the continuing need for government involvement to enable all
to share in the benefits of the New Economy.
? Good news from the American economy. As a result of a strong
expansion and innovative policies, real median household income reached a
record high ($40,816 in 1999) and the unemployment rate is lower than it
has been in 30 years. Some of the largest gains accrued to the least
well-off groups. African-American and Hispanic households had record high
income levels and record decreases in poverty. The African- American
unemployment rate fell from 13.0 percent in 1993 to 7.6 percent in the
first 11 months of 2000. The Hispanic unemployment rate fell from 10.7
percent to 5.7 percent.
? Helping families help themselves. Since 1993 the number of people on
welfare has fallen by 8.3 million, or 59 percent, and many of those leaving
welfare are now working. The transition from welfare to work has been made
easier by policies that make work pay, such as the Earned Income Tax
Credit. Nearly 19 million 1999 tax returns claimed the EITC, and the
credit helped lift an estimated 4.1 million people out of poverty in 1999.
Increases in child care subsidies and efforts to help custodial parents
collect child support have also helped low-income families. Other
programs, such as the Empowerment Zone/Enterprise Community initiative have
targeted impoverished communities. Poverty rates in central cities fell
from 21.5 percent in 1993 to 16.4 percent in 1999, and the unemployment
rate fell from 8.2 percent to 5.3 percent.
? Education in the New Economy. In elementary and secondary education,
the Federal government promotes new investments and innovation, especially
for lower-income schools. Federal funds pay for one-fourth of all new
computers in schools, and the Federal E-rate program provides $2.25 billion
per year to subsidize telecommunications services in schools and libraries.
These investments have contributed to the near-tripling of Internet access
in public schools since 1994.
? Innovation and access in health care. Recent technological
innovations have enabled better diagnosis and treatment of many diseases,
but they contribute to increases in health expenditures. Innovations in
the health care delivery system, particularly the growth of managed care,
have helped slow the growth of expenditures, but the system remains
imperfect. Rising costs are particularly burdensome to the 43 million
Americans who lack health insurance coverage. Extending coverage was an
Administration priority, as exemplified by the 1997 creation of the State
Children?s Health Insurance Program.
? Building livable communities. The strong economy has brought rapid
growth on the outskirts of many metropolitan areas, with an average of 2.3
million acres of land being developed each year. The chapter describes
efforts to discourage sprawl and encourage smart growth.