The Next (Nasty) Economic Surprise?

By Robert Samuelson

 

WASHINGTON -- We live in the shadow of "secular stagnation," to use a phrase now fashionable among economists. Even assuming a full recovery from the Great Recession, it's widely expected that the economy will grow more slowly in the future than in the past. In part, this reflects baby boomers' retirement, which reduces expansion of the labor force. Pre-recession growth was also artificially boosted by cheap credit. Forecasts have been cut, but they haven't been cut enough, says economist Robert Gordon.
If he's right, this could be our next nasty economic surprise

Gordon, a respected Northwestern University scholar, contends that mainstream economic growth predictions are wildly optimistic. His own calculations are more restrained. By 2024, he reckons, the economy's annual output (gross domestic product) will be nearly $2 trillion lower -- almost 10 percent -- than projected by the Congressional Budget Office (CBO). Government debt will be 87 percent of GDP in 2024 instead of the CBO's estimate of 78 percent. Disappointing output will also pressure the Federal Reserve to move earlier against inflation by tightening credit, he says.
The gist of Gordon's argument is that the nation's productive capacity -- what economists call "the supply side" -- will expand only slowly. It won't keep up with the stronger consumer demand embodied in other forecasts. As a result, inflationary pressures will be higher and GDP lower. The "economy is on a collision course between demand-side optimism and supply-side pessimism," he writes in a study released by the National Bureau of Economic Research.



Although Gordon's analysis concerns economics, the underlying issues are political. Since World War II, advanced democracies -- Japan, Western Europe, the United States -- have depended on strong economic growth. It was a political narcotic. Growth raised wages and living standards. It generated taxes to pay for generous "safety nets" and welfare benefits. People took the fruits of growth for granted.
The financial crisis shattered that complacency, and the prospect now is for years of modest or, in Europe, possibly nonexistent growth. How will political systems cope? Will class warfare intensify as groups battle harder for bigger shares of a stagnant pie? Without an expanding economy as a shock absorber, will racial, ethnic, religious, generational and ideological conflicts worsen?
No one denies the reality of slower growth; the question is, how much slower. From 1950 to 1973, the U.S. economy grew almost 4 percent annually; until 2001, growth average slightly more than 3 percent a year. By contrast, the CBO's projection for the next decade is 2.1 percent annually, and Gordon's baseline estimate is a meager 1.6 percent. Small annual differences, in a $17 trillion economy, quickly translate into hundreds of billions of dollars.
To forecast the economy's potential growth rate, economists estimate its two component parts: first, changes in the labor force and total hours worked; and second, changes in productivity (efficiency), reflecting technologies, worker skills, management and the like. Retiring baby boomers are a big drag on growth. Their exodus from the labor force means that millions of younger workers aren't expanding the labor force. They're simply replacing retirees. As a result, labor force growth now is about a third or less of the post-1950 average.
More controversial is productivity. Among economists, Gordon is a prominent techno-pessimist. He believes that a burst of higher productivity from 1996 to 2004 was a one-time event reflecting the "invention of the Internet, Web browsing and e-commerce." Exclude these years, he says, and productivity has grown slowly since the early 1970s, too long a stretch to ignore. He doesn't expect much change; other economists are more optimistic.
Who's right? All the anecdotal evidence seems against Gordon; hardly a day passes, it seems, without a new digital product or a corporate shakeup intended to enhance productivity. But statistics are firmly on his side; since 2010, annual productivity gains have averaged less than 1 percent.
While the economy operates above "full employment" -- usually estimated as an unemployment rate between 5 percent and 6 percent -- arguments about "potential" GDP growth seem academic. The economy can temporarily exceed its potential growth by absorbing the unemployed and idle business capacity. But we are approaching an inflection point (August's unemployment rate was 6.1 percent), and Gordon's projections, though not preordained, are plausible. Of course, they're subject to many influences. Additional business investment might improve productivity. A tight job market might raise wages and labor force participation.
Recovery from the Great Recession won't solve all our problems. We need to improve our long-term prospects. This is admittedly difficult. Economic growth is too complex a process to be easily manipulated by a few policy changes, even if they are desirable. But prolonged sluggishness would turn the economy into a zero-sum game, where one group's gain is another's loss. This is no formula for social peace.