Why are the prices so damn high?

Abstract

The cost of some services, such as education and healthcare, has increased dramatically since 1950, while the price of goods, such as home appliances and telecommunications, has fallen. These rising prices have been blamed on a variety of factors, such as bloat, excessive regulation, and monopoly power, but these explanations fail to account for the long-run trend. The authors argue that the rising cost of services is due to the Baumol effect, which arises from the fact that productivity growth in service sectors tends to be slower than productivity growth in goods-producing sectors. This difference in productivity growth leads to a relative price increase for services, which is not a sign of failure but rather a consequence of success. The authors test their theory using statistical data on multifactor productivity and prices in 139 different industries and find that their results are consistent with the Baumol effect. They conclude by discussing ways to alleviate the cost disease, including technological innovations that increase productivity in service sectors and policies that increase the supply of skilled workers. – AI-generated abstract