April 10, 2019

Designing a Regulatory System for Future Generations

Testimony before the Ohio House State and Local Government Committee

Chairman Wiggam, Vice Chair Ginter, Ranking Member Kelly, and members of the committee:

Thank you for allowing me to speak today with regard to the regulatory environment in Ohio. My name is James Broughel, and I am a senior research fellow at the Mercatus Center at George Mason University and an adjunct professor of economics and law at George Mason University. My research focuses on state regulatory institutions and procedures, the economic analysis of regulations, and economic growth.

The message I want to convey this afternoon is simple: actions policymakers take today have repercussions that will reverberate for years, decades, and even longer. It is all too easy to lose sight of the long run and focus on day-to-day politics and the 24-hour news cycle. We cannot afford to do so, however, if we want future generations to inherit the best possible world. In other words, there are difficult tradeoffs policymakers must consider between the short-run sense of security regulations often provide, and the long-run prosperity and progress humanity relies on to advance well-being and civilization.

Today, I have these broad points to make:

  1. First, there is considerable evidence—empirical and theoretical—that regulations slow economic growth.
  2. Second, even small reductions in growth rates will have profound negative consequences for the well-being of people in the future. By extension, small sustained improvements in growth rates have profound benefits.
  3. Third, placing limits on the accumulation of regulation is a way to boost growth and therefore, well-being for people today and especially in the future.

Regulations Slow Growth

The empirical connection between regulation, economic growth, and the known contributors to economic growth has been made many times in the peer-reviewed academic literature. A 2013 study in the Journal of Economic Growth estimates that federal regulation has slowed the growth rate of the US economy by 2 percentage points per year on average since 1949. This estimate suggests that, had regulation remained at its 1949 level, 2011 GDP would have been about $39 trillion, or 3.5 times higher than it actually was.

A study published by the Mercatus Center estimates that growth has been slowed by 0.8 percentage points per year on average by federal regulations implemented since 1980. That number may sound small, but in fact it suggests that had the federal government imposed a cap on regulation levels in 1980, then by 2012 the economy would have been $4 trillion larger, which amounts to $13,000 per person in the United States.

Notably, the legislation being considered before this committee today, House Bill 115, would place similar limits on the overall amount of regulation issued by Ohio regulatory agencies.

Researchers at the World Bank have estimated that countries with the least burdensome business regulations grow 2.3 percentage points faster annually than countries with the most burdensome regulations.

One study, published in the Quarterly Journal of Economics, a top-ranked economics journal, found that countries with heavier regulation of business entry have higher corruption, larger unofficial economies, and less intense competition among firms, all without corresponding improvements in the quality of public or private goods. In the words of the authors of the study,

We do not find that stricter regulation of entry is associated with higher quality products, better pollution records or health outcomes, or keener competition. But stricter regulation of entry is associated with sharply higher levels of corruption, and a greater relative size of the unofficial economy.

Numerous other academic studies have confirmed the negative effects that product market regulations can have on important contributors to economic growth, including investment rates, innovation and research and development spending efficacy, employment, and productivity growth.

Regulations, by definition, restrict the scope of activities that entrepreneurs can engage in. Restricting access to new technologies can be especially problematic, since technology is known to be a fundamental driver—if not the fundamental driver—of economic growth. Regions and industries that are further from the technological frontier (i.e., that are less technologically developed) are likely to enjoy greater benefits from liberalization reforms, such as regulatory reduction efforts. Poorer, less technologically developed US states may be disproportionately burdened by regulation for this reason; and manufacturing may be particularly burdened, relative to services industries, by excessive regulation.

Outside this robust empirical literature, economic theory also supports the notion that regulations hinder growth. Leading growth economists readily admit their preference that policy aim for a rate of growth below the economy’s maximum sustainable rate of growth.Why? Because many economists find it optimal to transfer consumption from the future to the present (i.e., for present citizens to consume at the expense of future citizens). These economists believe this would bring about a more equitable distribution of wealth across generations. Unfortunately, these economists conceal value judgments about their preferences for intergenerational equality in arcane technical aspects of policy analysis. For example, although cost-benefit analysis (CBA) is sometimes undertaken before regulations go into effect, CBA also allows policies that provide short-term, temporary benefits while slowing long-run economic growth to pass a cost-benefit test in many instances.

Economists, like policymakers, too often focus on the short run, but both groups should not lose sight of the long run.

Slow Growth has Dire Consequences for Human Well-Being, Especially in the Future

The empirical academic literature suggests regulations could slow annual economic growth by a percentage point or more. To put this in context, in 2017 Ohio real GDP grew 1.6 percent, and the 2007–2017 compound annual growth rate for Ohio real GDP was 0.9 percent,[17] so adding a percentage point or two to annual economic growth could double or even triple Ohio’s current growth rate. A difference of one or two percentage points in lost growth may not sound like much, but small reductions in growth rates have enormous consequences for living standards over long periods.

Growth of 1 percent a year means it takes 70 years to double real GDP, just nine years shy of the life expectancy of an American born in the year 2014. When the economy grows at 2 percent annually, the time to double GDP falls to 35 years—roughly half a lifetime. An economy growing at 3 percent will double GDP in 24 years, roughly the time it takes to graduate college. These small differences in growth rates mean the difference between an economy doubling one, two, or three times in a lifetime.

It is difficult to even conceive of what the US economy would be like were it two to three times as large as it is today. The benefits in terms of technology, wealth, and opportunity stretch the bounds of the imagination. The miracle of compound growth becomes more evident when considering longer time horizons, as demonstrated in table 1 below. Table 1 presents how a theoretical $100 investment would grow over time at various annual rates of return.

As should be clear, the difference between 1 percent annual growth and 10 percent annual growth is beyond night and day. And while national or state economic growth on the order of 7 to 10 percent annually is probably unrealistic, growth in the range of 3 to 4 percent is not. Some states’ economies are growing north of 3 percent annually right now. And while GDP does not measure all aspects of human well-being, the income generated by a vibrant and growing economy can improve living standards in countless ways. With more wealth, Ohioans would have far greater opportunity to increase investments in health and education, pass along bequests to their children, and pursue the kind of life they and their offspring think is best.

At some point, an economy that grows more quickly than another economy is so much richer, in terms of wealth, technology, and opportunity that one can say that it is objectively better off in terms of human well-being. Every state in the country should be concerned about growth, especially Ohio, with growth rates below the national rate and regulatory restrictions far above the state average.

The Moral Case for Controlling Regulation

Regulation affects nearly every aspect of modern human life. Toothbrushes are treated as medical devices and are regulated by the FDA. The amount of water toilets use when they flush is regulated by the Department of Energy. The EPA regulates shower heads. And the Consumer Product Safety Commission even regulates matchbooks. States impose countless additional restrictions on top of these federal mandates.

While many of these rules have benefits associated with them, the accumulation of regulations also slows economic growth. It would be one thing if the burdens of reduced growth fell primarily on current citizens—they would bear the consequences for any mistakes made by the leaders they elected. But in fact, the burdens of the current generation’s mistakes fall primarily on others—people in the future—when regulations slow economic growth.

Regulatory cleanup is therefore more than a matter of simple good housekeeping. Managing regulatory burdens is necessary if the current generation is to be a good steward of civilization and leave behind the best possible world for future generations.

Conclusion

Regulatory reform is atop many states’ agendas, including Ohio’s. Numerous states have engaged in red-tape-cutting reforms in recent years. Virginia is one notable state with a bipartisan regulatory reduction effort underway. Even Idaho, one of the least regulated states (according to Mercatus Center data), is engaged in comprehensive regulatory reforms.Some of these efforts have been ongoing for years with no detrimental effect on public health, safety, or the environment observed.

With House Bill 115, Ohio may be poised to be the next leader among the US states when it comes to meaningful regulatory reforms. This bodes well for the well-being of state residents now and in the future.

Thank you for granting me the opportunity to speak today. I’m happy to answer any questions you may have.