🔄 Learning from Europe's Doom Loop of Decline

“It feels like a perma-freeze in living standards”

Quote of the Issue

"Just as electricity’s true potential was only unleashed when the broader benefits of distributed power generation were understood and exploited, AI will only reach its true potential when its benefits in providing prediction can be fully leveraged." - Ajay Agrawal, Avi Goldfarb, and Joshua Gans in Power and Prediction

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The Essay

🔄 Learning from Europe's Doom Loop of Decline

It was back in 2019 that I started reading about how Europe considered its regulatory prowess as a “competitive advantage.” That, particularly as it concerned technology companies. The EU was taking action to rein in the power of Big Tech, unlike America. One example: the Global Data Protection Regulation, which went into effect in 2018. The rule meant to establish stronger regulations around collecting, storing, using, and sharing the personal data of EU citizens. It also aimed to give people more privacy rights and control over their information. If regulation were indeed a superpower, then GDPR was Europe’s regulatory superhero. And plenty of tech policy activists in the US pointed to the GDPR as a model worth emulating here.

Five years on, the GDPR has proven to be an effective instrument for litigation, with countries suing various American tech firms for violating the rule (although the anti-tech and privacy obsessed have clamored for more and faster punishment). But not just that. As many GDPR critics predicted back in 2018, the power of online advertisingadverage giants Facebook and Google has been “relatively unscathed” — FYI, regulation often entrenches the power of big incumbents — even as the supposed privacy benefits “have come at substantial costs in foregone innovation,” according to the 2022 NBER working paper “GDPR and the Lost Generation of Innovative Apps.”

As it turns, the pre-pandemic year 2019 — when I became aware of the odd European view of regulation — also figures prominently as the year of comparison in a new Wall Street Journal piece, “Europeans Are Becoming Poorer. ‘Yes, We’re All Worse Off.’” From the deeply reported piece by Tom Fairless:

Life on a continent long envied by outsiders for its art de vivre is rapidly losing its shine as Europeans see their purchasing power melt away. The French are eating less foie gras and drinking less red wine. Spaniards are stinting on olive oil. Finns are being urged to use saunas on windy days when energy is less expensive. Across Germany, meat and milk consumption has fallen to the lowest level in three decades and the once-booming market for organic food has tanked. Italy’s economic development minister, Adolfo Urso, convened a crisis meeting in May over prices for pasta, the country’s favorite staple, after they jumped by more than double the national inflation rate. … Noa Cohen, a 28-year old public-affairs specialist in London, says she could quadruple her salary in the same job by leveraging her U.S. passport to move across the Atlantic. Cohen recently got a 10% pay raise after switching jobs, but the increase was completely swallowed by inflation. She says friends are freezing their eggs because they can’t afford children anytime soon, in the hope that they have enough money in future. “It feels like a perma-freeze in living standards,” she said.

Fairless goes on to describe a kind of Doom Loop of Decline of which constrianed consumption is only one factor or symptom:

➡ Europe has an aging population that values its free time and social benefits over work and productivity. (This reduces labor force participation, innovation potential, and the economic growth of the continent.)

➡ Europe also has a high dependence on imported energy, especially natural gas from Russia. (This makes it vulnerable to supply disruptions and price shocks, especially in the context of the ongoing war in Ukraine.)

➡ The combination of low growth and high energy costs erodes the purchasing power and the living standards of Europeans. (This leads to lower consumer spending, lower business investment, and lower tax revenues even thought the tax burden is already high compared to other rich nations.)

➡ The lower tax revenues and higher inflation-driven borrowing costs limit the ability of governments to provide public services and social benefits. (This further lowers the quality of life and the happiness of Europeans.)

➡ The lower quality of life and happiness reduces the motivation and willingness of Europeans to work harder, innovate more, or adapt to economic change. (This reinforces the low growth and high energy dependence cyle.)

➡ Europe has an aging population that values its free time and social benefits over work and productivity.

Rinse and repeat.

And the Doom Loop of Decline has led to this sorry state of affairs:

The eurozone economy grew about 6% over the past 15 years, measured in dollars, compared with 82% for the U.S., according to International Monetary Fund data. That has left the average EU country poorer per head than every U.S. state except Idaho and Mississippi, according to a report this month by the European Centre for International Political Economy, a Brussels-based independent think tank. If the current trend continues, by 2035 the gap between economic output per capita in the U.S. and EU will be as large as that between Japan and Ecuador today, the report said.

A recent Financial Times column “Europe has fallen behind America and the gap is growing” by Gideon Rachman offered similar perspective as the WSJ piece::

• The seven largest tech firms in the world, by market capitalization, are all American with only two European companies in the top 20, ASML and SAP. Rachman: “The development of AI is also likely to be dominated by American and Chinese firms.” (Europe will apparently settle for being a leader in AI regulation.)

• Although Britain has a few top universities, such as Cambridge and Oxford, “the leading universities that feed the pipeline of tech start-ups in the US are lacking in the EU.”

• The US dollar as the world’s reserve currency gives the US easy credit access, deep domestic capital markets offer the same for US companies, and the US economy is powered by cheap and plentiful domestic energy supplies.

• Rachman concludes: “The aggregate figures are shocking. Underpinning them is a picture of a Europe that has fallen behind — sector by sector.”

So what's Europe’s problem? There are a few obvious answers: lack of access to venture capital, inflexible labor markets, and a heterogeneous home market of distinct languages, cultures, and regulations. One French tech entrepreneur has described America's edge this way: "The confluence of a large pool of capital, world-class talent, vibrant support infrastructure, and a risk-loving culture has bred a self-fulfilling cycle of innovation and entrepreneurship."

The bit about culture strikes me as pretty important. A European Commission study found Europeans more skeptical of entrepreneurship than Americans, and possessing a higher level of uncertainty avoidance. The churn of American society — companies starting and dying, workers switching firms — is also key to America's innovative and productive capacity. In a 2016 analysis, San Francisco Federal Reserve economist John Fernald notes that America's "economic fluidity and dynamism" helps spread ideas throughout the private sector. It's why Europe invested a lot in computers in the 1990s but never got a tech boom that boosted productivity, Fernald explains.

I think the macro lesson here is bad things happen when you stop valuing innovation and the benefits of creative destruction. (Of course, it would be even worse if the US went down the EU path since at least the EU can benefit from American innovation.) We’re already seeing Europe embrace the precautionary principle with AI, with plenty of American policy activists and policymakers suggesting the same here. I hope the US continues to show that its competitive advantage is mostly avoiding the anti-progress mistakes that Europe continues to make.

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Micro Reads

▶ Rethinking the Inflationary Effects of Deglobalization and the Green Transition - Goldman Sachs Economics | One often-cited potential deflationary force for the years ahead is artificial intelligence. Artificial intelligence could exert downward pressure on consumer prices if it provides the sort of large, sustained boost to productivity growth that we expect. In the late 1990s and early 2000s, a similar productivity boom led by the technology sector enabled the Fed to let the labor market become quite tight by historical standards without running into an inflation problem.

A future productivity boom should have similar effects, but one subtle difference with the earlier period could lessen the impact on the inflation statistics. Much of the productivity growth in the earlier period took the form of quantifiable improvements in consumer technology goods—a larger hard drive or a faster CPU—that were easily captured as quality adjustments to price deflators and therefore had a direct and mechanical impact on the inflation statistics, as shown in Exhibit 9.

Artificial intelligence, in contrast, is more likely to boost productivity by lowering production costs and improving consumer goods and services in more qualitative ways. These effects should also lower measured consumer prices, but they are less mechanical and a bit more at risk of being partly lost in the translation to the official statistics. For example, while the effects of labor-saving technological progress seem likely to flow through straightforwardly to lower costs and consumer prices, monopoly power might cause some of the productivity gains to show up as higher profit margins rather than lower consumer prices, and quality improvements such as a better digital assistant on a smartphone or a better medical diagnosis might prove hard to measure accurately in the inflation statistics.

▶ Mega Firms and Recent Trends in the U.S. Innovation: Empirical Evidence from the U.S. Patent Data - Serguey Braguinsky, Joonkyu Choi, Yuheng Ding, Karam Jo & Seula Kim, NBER |

▶ Moonshot: Public R&D and Growth - Shawn Kantor & Alexander T. Whalley, NBER |

▶ The Model T - Shari Eli, Joshua K. Hausman & Paul Rhode, NBER |

▶ Regulating Transformative Technologies - Daron Acemoglu & Todd Lensman |

▶ Two Theories of What I’m Getting Wrong - Ezra Klein, NYT |

▶ Can I-95’s Repairs Teach Us to Build Faster? - Aidan Mackenzie, Institute for Progress |

▶ A Closer Look at the Incredible Potential of Molecular Machines - Beatrice Erkers, Foresight Institute |

▶ Chatbot vs Medical Student Performance on Free-Response Clinical Reasoning Examinations - Eric Strong, MD, Alicia DiGiammarino, MS, and Yingjie Weng, MHS; et al, JAMA |

▶ The $1 billion gamble to ensure AI doesn’t destroy humanity - Dylan Matthews, Vox |

▶ Artificial Intelligence and Inflation Forecasts - Miguel Faria e Castro and Fernando Leibovici, St. Louis Fed |

▶ This company plans to transplant gene-edited pig hearts into babies next year - Jessica Hamzelou, MIT Tech Review |

▶ Google AI helps doctors decide whether to trust diagnoses made by AI - Chris Stokel-Walker, New Scientist |

▶ Hollywood’s Future Belongs to People, Not Machines - Madeline Ashby, Wired |

▶ ‘Not for Machines to Harvest’: Data Revolts Break Out Against A.I. - Sheera Frenkel and Stuart A. Thompson,NYT |

▶ CRISPR Gene Editing Used To Build a Better Forest Tree for Sustainable Fiber Production - SciTechDaily