Tuesday, February 14, 2012

The Remarkable Consistency of Long-Run U.S. Economic Growth

President Obama's proposed budget for FY 2013 came out yesterday, and I did what I usually do: Skip the details of the budget proposals, and in particular skip the projections for years off in the future , which are under every president a mix of political calculations and feigned optimism about what will be enacted into legislation. Instead, head for the volumes labelled "Analytical Perspectives" and "Historical Tables."

For example, the "Analytical Perspectives" volume of the proposed FY 2013 budget has some discussion of whether the U.S. economy will eventually bounce back all the way from the Great Recession to its earlier trendline of growth, or whether the Great Recession will cause a drop of the economy to a lower growth path. A figure illustrates that from 1890 to the present, the U.S. economy has followed a very consistent growth path.

The vertical axis of the graph shows per capita GDP measured by it natural logarithm. For those eyeballing the graph, the natural log of $40,000 is 10.6--roughly the present level of per capita GDP. The natural log of $5,000 is 8.5--roughly the level of real per capita GDP back in 1890. A straight line on a log graph means that the variable is growing at a constant percentage rate: in this case, at about 1.8% per year.

Here's how the budget discusses the question of whether the economy will eventually return to trend:

"Recent recoveries have been somewhat weaker than average, but the last two expansions were preceded by mild recessions with relatively little pent-up demand when conditions improved. Because of the depth of the recent recession, there is much more room for a rebound in spending and production than was true either in 1991 or 2001. On the other hand, lingering effects from the credit crisis and other special factors have limited the pace of the recovery until now. Thus, the Administration is forecasting a slower than normal recovery, but one that eventually restores GDP to near the level of potential that would have prevailed in the absence of a downturn. Some international economic organizations have argued that a financial recession permanently scars an economy, and this view is also shared by some American forecasters. On that view, there is no reason to expect a full recovery to the previous trend of real GDP. The statistical evidence for permanent scarring comes mostly from the experiences of developing countries and its relevance to the current situation in the United States is debatable. Historically, economic growth in the United States economy has shown considerable stability over time as displayed in Chart 2-7. Since the late 19th century, following every recession, the economy has returned to the long-term trend in per capita real GDP. This was true even following the only previous recession in which the United States experienced a disastrous financial crisis – 1929-1933 ..."
Of course, past performance is no guarantee of future results, as the investment adviser are quick to remind you. Still, those who believe that the Great Recession will move the U.S. economy to a permanently lower growth path are making a prediction that flies in the face of the last 120 years of U.S. economic experience.