It Ain’t All About the Double Dip

August 13th, 2011 at 10:40 am

A lot of economy watchers understandably obsess over whether there’s a double dip lurking out there somewhere, asking whether real GDP will soon begin to contract again.  But I obsess about something different, and I’d argue more important: whether GDP is below potential.

Crossing zero—growing vs. shrinking—is obviously a big deal, and it’s easy for folks to wrap their heads around: economy growing=good; economy shrinking=bad.

But many economists define “bad” as not shrinking but growing too slowly.  And “too slowly” in GDP-terms means below potential.  GDP’s potential growth rate is the sum of the underlying trends in productivity growth plus labor force growth, which according to the Congressional Budget Office, amounts to 2.4% these days.

(Want some simple algebra?  If Y is output and L is labor, then Y=Y/L*L…take natural logs and differences, so you’ve got growth rates, and you get the potential growth summation just noted.)

If we’re growing below potential, we’re not creating enough jobs to absorb new folks coming into the job market and most importantly of late, to re-employ the un- and underemployed.

And we are already growing below potential.  The figure shows actual growth rates of GDP since the recession began plotted against the 2.4% potential.  We were above potential for a couple of quarters, but we’re below it now.  That’s why unemployment’s been stuck at such high levels.

Sources: BEA, CBO

It’s called a “growth recession” and while an actual double dip would of course mean we were even further below the straight line in the graph–and sure, that would be worse—the goal isn’t to stay above zero.  It’s to grow fast enough to put people back to work.

(Note: See my CBPP colleague Chad Stone’s revealing graph here on how the output gap in this period is so much larger than that of comparable periods in the past.)


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3 comments in reply to "It Ain’t All About the Double Dip"

  1. Sandwichman says:

    Y=Y/L*L? A rose is a rose is a rose? I’m afraid the apparent identity is misleading. The “L” in Y/L is only retrospectively the same as the “L” in *L. This may be hard to spot at first glance because one forgets that statistics are only a static snap shot of a dynamic process.

    The Y/L in the formula is meant to stand for — or indicate — productivity. It is sloppily called “productivity.” It is not productivity. Productivity is the result of the complex interaction of management decisions and work effort that can be summed up as the effort bargain.

    Output is the outcome of this process. It summarizes the result. It doesn’t describe or explain the process.

    Here we have a perfect example of the treachery of models. Instead of revealing more about the workings of the economy than meets the eye, this “simple algebra” conceals (and thus quietly denies) exactly the mystery that needs to be explained — “why is productivity growing?” Instead of an understanding, we are backed into the corner of an article of faith: “technology”. Bollocks.

    Over at “Worthwhile Canadian Initiative,” Nick Rowe reduces this ideological model hide-and-seek to its absurd (or naive?) conclusion: output varies in direct proportion to hours worked. But there is an even odder proposition underlying that conclusion. This is the notion that “politics will drown out the macro,” as if the macro isn’t steeped in politics from the get-go. “Let’s all have a nice civil a-political discussion about politics.”

    Well, the difference between “Y/L” and the effort bargain is about nothing else but politics. Y/L is about the politics of denying the politics and effort bargain is about foregrounding the politics of the production process.

  2. Michael says:

    I have never understood why the arbitrary “zero” is chosen for a “recession” and not the growth rate of the labor force. It seems like the latter would be a much more natural boundary for what people living in an economy would characterize as “net growth.”

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