“CBO estimates that about two-thirds of the difference between the growth in real GDP in the current recovery and the average for other recoveries can be attributed to sluggish growth in potential GDP.”
From the newly released CBO report:
In the current recovery, both potential GDP, a measure of the underlying productive capacity of the economy, and the ratio of real GDP to potential GDP have grown unusually slowly. Because potential GDP is an estimate of the amount of real GDP that corresponds to a high rate of use of labor and capital resources, it is not typically affected very much by the up-and-down cycles of the economy; in contrast, because the ratio of real GDP to potential GDP depends on the degree of the economy’s use of resources, it captures cyclical variations in real GDP around its potential level. In the first 12 quarters after the last recession, both potential GDP and the ratio of real GDP to potential GDP grew at less than half the rate that occurred, on average, in the aftermath of other recessions since World War II. Disaggregating the unusually slow growth in output since the end of the last recession, CBO’s analysis shows that that pace is mostly owing to slow growth in the underlying productive capacity of the economy and to a lesser extent, to slow growth in real output relative to that productive capacity.
Specifically, CBO estimates that about two-thirds of the difference between the growth in real GDP in the current recovery and the average for other recoveries can be attributed to sluggish growth in potential GDP. That sluggish growth reflects weaker performance than occurred on average following other recessions by all three of the major determinants of potential GDP: potential employment (the number of employed workers, adjusted for variations over the business cycle); potential total -factor productivity (average real output per unit of combined labor and capital services, adjusted for variations over the business cycle); and the productive services available from the capital stock in the economy. Although some of the sluggishness of potential GDP since the end of the last recession can be traced to unusual factors in the current business cycle, much of it is the result of long-term trends unrelated to the cycle, including the nation’s changing demographics.
The remaining one-third of the unusual slowness in the growth of real GDP can be explained by the slow pace of growth in the ratio of real GDP to potential GDP—which in CBO’s assessment, is attributable to a shortfall in the overall demand for goods and services in the economy. To identify the causes of that shortfall in demand, CBO analyzed the contribution of each main component of demand. Compared with past recoveries, this recovery has seen especially slow growth in four of those components:
- Purchases of goods and services by state and local governments,
- Purchases of goods and services by the federal -government,
- Residential investment (consisting primarily of the construction of new homes, home improvements, and brokers’ commissions), and
- Consumer spending.
Among those four components, purchases by state and local governments account for the largest portion of the unusual weakness.
Figure 4 from the CBO report illustrates the difference in state and local government spending in this recovery.
Source: CBO (2012).