Can We Restart This Recovery All Over Again?

Andy Atkeson, Lee Ohanian and Bill Simon recently published a nicely-reasoned article about why the US economy can acheive 4% growth.  They argue that with the right policies there is “far more room for the economy to rebound today than after previous recessions” because the recovery from the 2007-2009 recession has been so slow (“virtually non-existent”).

A graph of real GDP and alternative paths can help illustrate the situation. Consider the one below which I published in a special issue of the Journal of Policy Modelling edited by Dominick Salvatore. It is a few years old, but because the same slow (2.2 % growth) recovery has continued you can just move the years out: Make 2016 the starting point rather than 2014.  Catch-up graph - JPMThe thick red solid line shows real GDP. The blue line shows a 2.5% trend, the average growth rate from 2000 until the recession began. If the current recovery was like previous recoveries, including the early 1980s, then real GDP would be back at trend GDP.   Instead the gap remains very large. The light red line continues the slow growth rate experienced since the start of the recovery.

The dashed lines illustrate of the benefits of a policy reform program. There are two inter-related paths.  First, the recovery speeds up.  If it speeds up to 4 percent, then it will be 2021 before the economy has returned to normal.   Second, the long-run growth path speeds up. The dashed blue line shows trend GDP growth at 3.0%, or 0.5 percent higher than the recent 2.5% trend. These lines represent a reasonable goal for economic growth with a policy reform program such as the tax, regulatory, and budget policies that Atkeson, Ohanian and Simon recommend.

I have argued for some time that a change in policy could transform the not-so-great recovery into a great one of the kind experienced following earlier financials crises.  But many now say it’s too late: if you missed the fast growth of a V-shaped recovery at the start, you’re not going to get it now. In several respects, however, the current position of the economy is like the bottom of a recession. The labor force participation is lower than at the bottom of the recession and productivity growth is down.  From this position a change in policy could generate a post-recession-like boom for several years and a higher steady state growth rate thereafter, just as in the graphs.  At the least it is an issue for debate, and it looks like I’ll have a good one at the upcoming session on this topic at the AEA meetings in January with Blanchard, Feldstein, Fischer and Stiglitz.

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