Is Slow Economic Growth the New Normal?

Chances are if you ask an American how the economy is doing, he or she will tell you not so good.

According to a poll by the Wall Street Journal and NBC, around 76 percent of Americans do not think their children’s generation will have a better life than they do. Some 71 percent of Americans think the country is heading in the wrong direction.

In addition, seven in 10 survey respondents blamed the state of the economy more on Washington than on any deeper economic trends.

Economic growth has been accelerating and the unemployment rate has been falling. Yet, five years after the official end of the most recent economic downturn, economic growth in the U.S. has averaged only about 2 percent a year – well below its historical average of 3.4 percent.

The period following deep recessions associated with financial crises is typically distinguished by a V-shaped pattern: a sharp decline followed by an equally quick recovery. Even after the prolonged Great Depression of the 1930s, growth averaged about 10 percent in the three years following the recession.

This recovery, however, as noted by economist Michael Bordo of Rutgers University, is slower than every preceding U.S. recession with a financial crisis.

The recession and the following slow recovery have “left lasting scars on the economy,” the Labor Department concluded late last year in a report that declared slower growth “the new normal” for the American economy.

The Federal Reserve said in June that it no longer expected a full recovery in the near future. Fed Vice Chairman Stanley Fischer said recently that the factors contributing to the sluggish economy might reflect “a more structural, longer-term shift.”

Between 1950 and 2000, according to Third Way’s Jim Kessler, the annual rate of growth exceeded 3 percent a total of 34 times. Since 2001, growth has reached 3 percent just two times and did not reach 4 percent at all. Since the beginning of the recovery from the Great Recession of 2008-09, annual growth has not yet reached 3 percent.

Growth is getting harder for the U.S. economy, and there are reasons for thinking that growth rates over the next decade will fall short of the long-term U.S. historical average.

The Congressional Budget Office (CBO) recently updated its fiscal projections, and they reflected a gloomier view that the future of the U.S. economy will be characterized by slower growth.

In its most recent budget and economic outlook, the CBO foresees an average of 2.6 percent annual growth over the next 10 years.

The emerging view espoused by a wide range of economists accepts that slower growth is partly the result of long-term trends that predate the Great Recession. This view, by no means the prevailing one among economists, has sparked a debate within the economics profession about the causes of slow growth after the financial crisis.

In a recent book, Larry Summers, Paul Krugman, and Barry Eichengreen, among other renowned macroeconomists, suggest that structural changes in the global economy have ushered in a period of slow growth.

This theory, known as “secular stagnation,” posits that we have entered an era of slower growth brought on by an aging population, slowing technology expansion, and increasing income inequality.

One version of this theory, which Summers has consistently endorsed, says that a savings glut (an excess of savings over investment) has pushed the real interest rate (the inflation-adjusted interest rate) “consistent with full employment” into negative territory since the mid 2000s. Because the low demand for investment funds and the high supply of funds are not in equilibrium, the economy will experience higher than normal rates of unemployment.

Typically, interest rates are pushed downwards until savings and investment are brought into balance again. In the meantime, this fall in the interest rate spurs investment and generates growth. But with interest rates currently at or near zero, it is hard to get real interest rates down enough to provide these incentives. Hence, the economy runs at a slower pace than its full potential.

Other economists, who still ascribe to the view that anemic growth is here to stay, argue that declining rates of innovation and productivity growth have been the main contributors to slower growth.