Will the U.S. recover lost output and jobs?
At the last meeting of the American Economic Association in Denver, Giuseppe Fontana discussed the theoretical arguments on whether the Great Recession will generate a permanent loss in output. He argued that, according to the dominant “New Consensus” theory, output should return to its historical path once the shock has been absorbed. Alternative, heterodox theories, suggest that the shock will have permanent effects.
In the chart we plot U.S. real GDP along with its trend, estimated using a simple exponential function over the pre-recession period (from 1970 to 2007). The average growth rate in output over this period was slightly above 3 percent. The dotted red line plots the evolution of GDP, should it resume its average, pre-recession, growth rate. The red line therefore represents the idea that the recession will have permanent effects. The green dashed line has been drawn under the assumption that the economy gets back to its pre-recession growth path by the end of 2015.
Real GDP needs to grow at 5.2 percent from now to 2015, to achieve this result…
ShareThis
Hi Gennaro,
I think the idea itself of potential output (or trend output, I think that these two concepts are very close) is flawed because it is based, roughly on a kind of moving average on the current period. International institutions (like the OECD or the IMF) compute output gaps (gap between current and potential output) considerably lower after the crisis.
If you compare the figures of the output gaps (and hence the potential output) before and after the crisis, you are considerably struck.
I agree with you when you said that ” the shock will have permanent effects “. This conclusion should lead international institutions to renounce to concept like the potential output or the output gap to set theirs macroeconomic analysis.
Jamel, in my view at the core of mainstream macro is the aggregate production function, and therefore suggesting that international institutions renounce the concept of potential output, or output gap, implies a suggestion to abandon mainstram macroeconomic theory.
IMHO that would be a great improvement, given the record of mainstream macroeconomists in foreseeing the Great Recession, but I very much doubt it will happen.
Thanks Gennaro,
I think also that it would be great improvement but there is little chance that such change will occur in next few years for various reasons.