No, We Can't Wave A Magic Demand Wand Now And Get The Recovery We Threw Away In 2009

Includes: RINF
by: Brad DeLong

The estimable Mike Konczal writes:

Mike Konczal: Dissecting the CEA Letter and Sanders's Other Proposals: "I would have done Gerald Friedman's paper backwards...

...He gives a giant headline number and then you have to work into the text and the footnotes to gather all the details. But a core assumption within the paper is that we are capable of getting back to the 2007 trend GDP through demand. We can get the recovery we should have gotten in 2009...

He is wrong.

We cannot get back to the 2007 trend GDP through demand alone.

For one thing, demand for investment spending has now been low for almost a decade. Since 2007, we have foregone relative to the then-trend:

  1. 16%-point-years of GDP of housing investment.
  2. 6%-point-years of GDP of equipment investment
  3. 5%-point-years of government purchases--of which roughly half have been investments.
  4. 4% of our labor force from their attachments to the labor market.
  5. A hard-to-quantify amount of development of business models and practices.

FRED Graph FRED St Louis Fed

These are principal causes of "hysteresis". I do not believe that the output gap is the zero that the Federal Reserve currently thinks it is. But it is very unlikely to be anywhere near the 12% of GDP needed to support 4%/year real growth through demand along over the next two presidential terms.

We could bend the potential growth curve upward slowly and gradually through policies that boosted investment and boosted the rate of innovation. But it would be very difficult indeed to make up all the potential output-growth ground that we have failed to gain during the past decade of the years that the locust hath eaten.