Here’s a troubling fact tucked away in President Obama’s latest budget proposal: For all of the president’s calls for major stimulus spending and job creation for the middle class, the economy may never return to its top speed.
Over the course of five years, the White House has steadily ratcheted down its estimates of just how fast the economy can grow. As the recovery from the 2008 financial crisis grinds along, the new estimates released last week hint at an economic engine that is steadily losing power.
The fiscal 2014 budget plan estimates GDP growth of 2.3 percent this year and 3.2 percent in 2014. It anticipates a slower growth rate between 2013 and 2017 than the previous budget. And with baby boomers starting to retire, the “Analytical Perspectives” addendum to the budget explains, “Real GDP growth in the United States is likely to be permanently slower than it was in earlier eras because of a slowdown in labor force growth initially due to the retirement of the post-World War II baby boom generation, and later due to a decline in the growth of the working age population.”
The decline creates something of a Catch-22 for stabilizing the federal debt—as deficits that exceeded or approached $1 trillion for the past five years have enabled a clear but modest recovery – despite complaints from conservatives that the administration has dangerously saddled the government with excessive debt.
And with Gross Domestic Product growth puttering along around two percent, it may become harder for political leaders to agree on how to pay down the national debt, since they cannot depend on previous growth levels to straighten out the federal balance sheet.
The problem of low growth—largely borne out of changing demographics—complicates any effort by Obama to achieve a compromise with House Republicans, who have insisted on a swift and austere deficit reduction. At the same time, progressive lawmakers see the economic fragility as proof that any deficit reduction should not occur through cuts to entitlement or job creation programs.
Obama’s new budget attempts a balancing act by simultaneously proposing major long term deficit reduction while advocating many billions of dollars in infrastructure construction and educational initiatives to create new jobs. But he is finding it difficult to placate both the right and the left.
“The President clearly is in a difficult position because you have a Republican House that believes the way out of this recession is to simply cut, cut, cut and more austerity for low and moderate-income people,” Sen. Bernie Sanders, an independent from Vermont, told The Fiscal Times Tuesday. “I think that’s a disastrous idea both morally and economically.”
Other lawmakers have latched onto an idea that simplifying the tax code will somehow achieve what the past several years have not, even though total tax revenues are within historical norms.
“Reform itself is going to stimulate growth,” Senate Finance Committee Chairman Max Baucus, D-Mont., told The Fiscal Times. “It would be a much more efficient code that would make our economy more competitive and help reduce complexity. That in and of itself is going to provide stimulus.”
Team Obama still sees brighter times ahead, even though in a major change it no longer predicts that GDP growth will climb above 4 percent at least once in the next decade.
“I am optimistic that we will continue to recover from this traumatic experience—and I’m also optimistic that we will rebuild a stronger economy in the future,” Alan Krueger, the chairman of the Council of Economic Advisers said in a speech Tuesday.
That’s entirely possible. Krueger noted that housing and the stock market have rebounded, earning back almost all of the wealth that was erased in the recession.
But in his address on Tuesday to the American Bankers Association, he also explained that risks abound—the European banking crisis, long-term unemployment, the possible breach of the debt ceiling in May, and the persistence of income inequality.
“From 1979 to 2011, an astonishing 84 percent of all income growth in America went to the top 1 percent of families,” Krueger said. That’s not a sound model to build an economy.”
Given those possible risks, the economist—on leave from Princeton University—expressed a reasonable degree of confidence in the projections behind Obama’s 2014 budget proposal.
They were made last November to give agencies time to prepare their budget and do not factor in the impact of the $85 billion of sequestration cuts, yet Krueger said, “Fortunately, I think we did a pretty good job with our forecast because we were close to the consensus.”
Way back in 2010, Obama proposed a fiscal 2011 budget that anticipated a solid recovery. GDP would increase by 4.3 percent in 2012, 4.2 percent in 2013, and 4 percent in 2014. When that comeback never materialized, the estimates became less ambitious and stretched further into the future. The White House forecasted last year in its budget that GDP growth would peak at 4.1 percent in 2015.
For the new 2014 budget, economic growth would peak at 3.6 percent in 2016. What this means is that during four years, the White House has slashed its GDP projections for 2020 by an astounding $1.1 trillion.
The challenge is whether the economy will ever again return to full throttle. It last moved at a steady clip of more than 4 percent during the tech bubble and the Clinton administration from 1997 to 2000.
Multiple theories abound over what has choked off growth. House Republicans have argued that the $16.5 trillion national debt has hobbled growth, along with the usual suspects of government regulation and taxes.
On Monday—Tax Day—House Speaker John Boehner, R-Ohio, appeared on a YouTube clip with the seven-foot tall stack of regulations from the Obamacare health insurance law and noted that the tax code is four times longer. “Closing tax loopholes and lowering rates will mean more jobs, higher wages, and a stronger economy,” Boehner assured viewers.
Much of the GOP solution relied on a study by economists Ken Rogoff and Carmen Reinhart that a debt-to-GDP ratio of more than 90 percent crippled economic growth, a claim that was thrown into doubt Tuesday as claims of spreadsheet errors in their research became public.
Progressives counter that income inequality explains much of the slowdown, since consumption accounts for 70 percent of GDP and flat incomes translate either into more personal debt or less spending.
“We're now witnessing what happens when all of the economic gains go to the top, and the rest of the population doesn't have enough purchasing power to keep the economy going,” Robert Reich, a University of California at Berkley professor who served as Clinton’s Labor secretary, wrote Tuesday. “The underlying problem is the vast middle class is running out of money. They can't borrow more –and shouldn't, given what happened after the last borrowing binge.”
Another explanation emerged Tuesday in an analysis of employment by Michael Feroli, an economist for JP Morgan Chase.
Feroli wrote that the unemployment rate usually falls at a fixed rate relative to economic growth, a principle known as Okun’s Law. But the job gains in 2012 occurred with a GDP that climbed by just 1.7 percent. Under Okun’s Law, it would have taken GDP surging at 4.9 percent to justify the unemployment rate dropping from 8.5 percent to 7.8 percent.
The unemployment rate has risen as growth has been sluggish for two reasons, Feroli said. Half of the story involves workers exiting the labor force, so they’re no longer included in calculations of the unemployment rate.
But Feroli suggests another major factor—the productivity boom no longer seems to be that strong. If accurate this would suggest that hiring will be stronger, but actual growth—and all the other benefits that come with it—could still be abysmal.
“The other half is due to productivity being unusually weak over the last few years,” Feroli wrote. “Slow productivity growth means that each added dollar of GDP requires more labor input than would be the case if productivity grew more normally.”