Tuesday, February 8, 2011

Quick Update on Status of U.S. Economy

For a good quick update read:
Economist (2-3-2011) Turning the Corner

According to this article, "At 3.2%, the rise in [real] GDP is disappointing for this stage in a recovery. At a similar point in the early 1980s business cycle, annual growth was roaring ahead at 7.1%, and employment was growing rapidly."  

To see this more clearly, look at the following graph from the CBO (Congressional Budget Office) Fiscal Year 2011 Outlook. Notice how much steeper the black line for actual GDP was around 1982 (slope about 7.1%, if using regular scale) than it was in 2010 (slope about 3.2%, if using regular scale). This resulted in a quick recovery in the early 1980's and a long recovery now.

                                                   CBO Fiscal Year 2011 Outlook

Borrowing from Aesop's fabled race between the hare and the tortoise - let the blue line represent the path of the tortoise - the fictional economy that grows slow and steady. The y-axis shows distance from the starting line. Let the black line represent the path of the hare - the actual economy which grows in fits and starts. In 2009, the hare turned back in the right direction, but it is not running fast enough to catch the tortoise any time soon. According to the CBO, the hare won't catch up with the tortoise until about 2016.

The slow recovery is not particularly surprising. The U.S. typically recovers more slowly from recessions caused by bursting of financial bubbles (like the housing crisis).

Note that the recent 3.2% growth in real GDP is NOT growth in real GDP per capita. No adjustment was made for changes in population size.

To examine long run growth rates further, consider the following Excel sheet. The numbers for real GDP and population were taken from the front and back flaps of McConnell, Brue and Flynn's  Macroeconomics (18th edition). Computation of average growth rates is always sensitive to the choice of start and end dates. The start and end dates of 1929 and 2007 were chosen because: (1) they both reflect the end of a growth cycle, right before a major recession/depression, and (2) they are the first and last dates listed in the textbook cover tables (students should verify).

Real GDP per capita is calculated by dividing Real GDP by Population. If output were divided equally, each person in the U.S. in 2007 would have had more than 5 times as much "stuff"  as a person in the U.S. in 1929. Note that Real GDP is listed in billions, but population is listed in millions. Therefore Real GDP per capita (Real GDP/population) shown below should be interpreted in thousands. If the real GDP (inflation adjusted) of 1929 was divided equally, each person would receive about 7 thousand dollars (in year 2000 dollars). The same process for 2007 would leave each person with about 38 thousand dollars (in year 2000 dollars).

The average growth rate of real GDP during the 78 year interval between 1929 and 2007 was 3.38% per year (calculated as a geometric mean). This could be used as rough estimate for the slope of the blue line in the CBO graph above (using regular scale).

Population also grew during this interval. So the growth rate of real GDP per capita during this interval was 2.18%. As a rule of thumb, I ask my students to remember that the average annual rate of growth of per capita GDP for U.S. and other early industrializers (England, France, Germany) has been about 2% per year. For the U.S., this rate of growth has been very steady for over one hundred years. 

Using the rule of 70, we would expect real GDP per capital to double about every 32 years (70/2.18).

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