The (inadequate) case for economic pessimism

(Bloomberg View) — Is the U.S. economy stuck in an endless loop of sluggish growth and high unemployment? Many distinguished economists think so, and there is some evidence to support them. But looking at much the same data, I come to the opposite conclusion: The U.S. could soon experience a period of strong economic growth once deleveraging is over.

No doubt, the economy is now growing too slowly, at an annual pace of only 2.2 percent real gross domestic product in this recovery, which started in mid-2009. That’s about half the speed you’d expect after the worst recession since the 1930s. And the sluggishness is global, with tiny growth in the euro area, a pattern of rising and falling economic activity in Japan, and a slowdown in China (where the official growth rate of 7 percent is probably twice the actual number). 

Many forecasters believe slow global growth will last indefinitely. They think developing economies are reaching the limits of easy growth based on emulating Western technology, while advanced countries are increasingly oriented toward services, with less scope for productivity gains. 

The pessimists believe that productivity growth — it has averaged just 1 percent annually in this recovery, the slowest by far for any post-World-War-II cycle — is destined for more of the same while the retirement of postwar babies and poor education and training constrain market supplies. 

This camp also points to increased government regulation, income polarization, and too much saving and not enough spending on a global basis as reasons for the slow growth. They note that these trends have been going on for decades, but were hidden in earlier years by the dot-com speculation of the late 1990s, the housing bubble in 1995-through-2005 years, the early-1980s-to-mid-2000s consumer spending spree, and the euphoria in the euro zone after its 1999 launch. 

I agree there have been some profound economic changes in recent decades. I attribute them largely to globalization, with more and more goods and services production shifting to economies with much lower labor costs. Not coincidentally, since the 1990s there have been much slower post-recession recoveries than normal for payroll employment. 

Many other reasons have been advanced for slow economic growth indefinitely. Harvard economists Carmen Reinhart and Kenneth Rogoff concluded in a 2010 paper that when central government debt exceeds 90 percent of GDP, the economies of developed countries contract at a 0.1 percent annual rate. Since people saw the Reinhart-Rogoff high-government-debt scenario playing out right before them, they believed that chronic slow growth was inevitable. 

Glenn Hubbard, dean of Columbia’s business school and a former chairman of the president’s Council of Economic Advisers, and Tim Kane, a former chief economist of the Hudson Institute now at the Hoover Institution, express even more basic concerns in their book “Balance: The Economics of Great Powers From Ancient Rome to Modern America.” They believe great powers fall into the trap of “denying the internal nature of stagnation, centralizing power and shortchanging the future to overspend on their present.”

Harvard’s Larry Summers, the former U.S. Treasury secretary and National Economic Council director, is concerned with “secular stagnation.” By that, he means chronic slow growth due to slow labor-force expansion and muted productivity growth. 

Then there’s Robert Gordon of Northwestern University, who, in the tradition of Thomas Malthus, believes that all the big growth-driving technologies are fully exploited. He cites past marvels, including Edison’s electric light bulb and power station, which spawned all manner of electricity use, from consumer appliances to elevators. He sees nothing to rival the economic impact of the automobile, telephone, phonograph, motion picture, radio, television, air conditioner, jet plane and interstate highway system. 

Computers and the Internet are essentially fully exploited, he and other techno-pessimists believe, meaning the 1891-through-2007 years of 2 percent annual output growth per capita are over. And with postwar babies leaving the workforce, America’s lousy education system and growing income inequality, real annual GDP growth of only 1 percent is likely. The vast majority of Americans, he thinks, will see their incomes grow just 0.5 percent annually. 

The recent weakness in productivity is especially worrisome for slow-growth adherents. For only the third time in the last three decades has productivity suffered two consecutive quarterly declines (outside of recessions). Without productivity growth, the only way the economy can advance is by adding hours worked. Without productivity growth, the only way individuals can increase their real income is if others lose some of theirs. So productivity growth has social as well as economic significance. 

Many economists, including those at the Federal Reserve Bank of Atlanta, attribute slow productivity gains to subdued capital spending growth in recent years and the resulting aging of capital equipment. The Atlanta Fed researchers conclude that the rise in GDP in the recovery, weak as it has been, is due primarily to more hours worked and not more output per hour. 

A hotly debated academic explanation for slow capital spending is that real interest rates, as measured by Treasury yields, are too high to induce businesses to spend on new plants and equipment. And since nominal interest rates can’t go below zero, real rates — the difference between nominal rates and inflation — can’t be pushed into negative territory to encourage investment when inflation is essentially zero.