This article originally appeared in the George W. Bush Institute. Click here to read the full article.
By Ike Brannon
One of the ostensible reasons the Fed gave for its recent decision to hold off on the taper is that the economic data haven’t been that great. Chairman Ben Bernanke specifically pointed to the moribund economic growth rates of late as an example of the economy’s doldrums. But while GDP growth is the most salient statistic that exists to tell us how the economy is doing, we might not be reading it correctly — and I include our esteemed Fed Chairman in that royal “we.”
One point that no one seems to get is that since the labor force isn’t growing (it’s barely growing in the U.S., and isn’t growing at all in Europe), the 2% growth of today is akin to 3% growth of the past, when the labor market was growing at a brisk 1% rate and we maintained an average productivity growth rate of 2%. Per capita GDP is a better statistical measure to use for making such comparisons over time, but no one bothers to do so.
More growth would be great, and we do, in fact, have a recessionary gap, with unemployed workers and underused capital sitting on the sideline. So we ought to be able to have economic growth above productivity growth for a while — even for a couple or three years. But without more workers, productivity is the binding constraint on growth, unless people are going to work more hours, or put off retirement, or take less vacation — and even these improvements cannot be maintained forever.
We may need to start ratcheting expectations down a bit, or else (my solution) spend more time paying attention to the factors that would lead to more productivity growth.