Why is the U.S. Economy Growing so Slowly?

Since the current economic recovery began in July 2009, the economy has grown for six and one half years at an annual compound rate of 2.1%. This is the slowest economic recovery since the World War II.

Below are two reasons why. Of the two explanations presented here, one focuses on the demand side of the economy and one focuses on the supply side.

On the demand side, Larry Summers, economist and former U. S. Secretary of the Treasury, presents one of the more complete examinations of this dilemma in the recent issue of Foreign Affairs, "The Age of Secular Stagnation: What it is and What to do about it."

Summers argues that the basic problem of secular stagnation is that the "neutral real rate" of interest is too low, which in the current case is a problem of the economy's real rate of savings being too high relative to the amount of investment demand that exists within the economy. (The "neutral" real rate of interest is that rate at which the real rate of savings would equal the real rate of inflation at full employment.)

And who can fix this problem?

Summers: "The primary responsibility for addressing secular stagnation should rest with fiscal policy. An expansionary fiscal policy can reduce national savings, raise neutral real interest rates, and stimulate growth."

That is, deficit spending would include large public investment programs, federal infrastructure programs, and "other structural policies that would promote demand include steps to accelerate investments in renewable technologies that could replace fossil fuels and measures to raise the share of total income going to those with a high propensity to consume...."

Secular growth problems, Summers suggests, began in the late 1970s and were only exacerbated by the monetary tightness of the 1980s followed by the move to a fiscal surplus by the end of the 1990s. The efforts in all these periods contributed to a growth in savings relative to business desires to invest and this continued on into the 2000s.

Summers sees this problem as a world problem and not just a U. S. problem.

A new book by Robert Gordon, The Rise and Fall of American Growth, provides another way to look at the slowdown in economic growth over the past forty years or so.

Gordon agrees with Summers that economic growth began to slow in the 1970s. However, Gordon points to the fact that the growth rate of the U.S. economy has been more a result of the slowdown in "Total Factor Productivity," or TFP.

Economists claim that there are three major factors that contribute to economic growth: growth in educational attainment; growth in capital deepening; and the TFP, which is defined as the impact to innovation and technological change on economic growth.

Gordon looks at the U.S. over the period from 1870 to 2014 and divides it up into three periods: 1870-to-1920; 1920-to-1970; and 1970-to-2014.

Overall economic growth was much the same in the first and last periods coming in at 1.50% and 1.62%, respectively. However, in the middle period, overall economic growth was 2.82%.

Interestingly enough, the three components of growth made roughly the same contributions in the first and last periods. In the middle period the contribution of innovation and technological change was way more than twice that of the other two periods.

The concern, Gordon expresses, is that in the current period we just are not experiencing as much cumulative effect of innovation and technological change as the era that was completed before 1970. There was a surge in the 1994-to-2004 period, but that dissipated up to the current time.

Gordon argues that we are not going to get another surge soon and that there are several headwinds that are going to work against faster growth, including income inequality, education as a differentiator and not an equalizer, the debt overhang, and demography.

Thus, economic growth will be more in the 2.00%-to-2.5% range. And, this will be the case in the world.

Summers dismisses the argument of Gordon by saying that "if the primary culprit were declining supply (as opposed to declining demand) one would expect to see inflation accelerate rather than decelerate."

But, I find the argument of Summers disingenuous, in that he has criticized economists with more of a monetary bent, who argued that the Fed's quantitative easing would cause the U. S. economy to experience inflation, higher rates of inflation, and even hyperinflation. He can't have it both ways.

The point is, something is going on impacting the economic growth in the United States and of other areas in the world. The problems seem to be more structural than problems of stimulating aggregate demand. This would mean that the solutions to the world's problems will take much more thinking and much more time to accomplish than just pumping up government spending.

 

 

  This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

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