The US economy’s return to equilibrium may be short lived. Its growth rate comes perilously close to sparking inflation.
Emerging from a brutal recession, the US economy is transmitting mixed signals on its progress, creating a challenge for monetary policy. The balance between controlling resurgent inflation and not suppressing the seedlings of recovery is delicate.
How Is This Article Useful to Practitioners?
A rebounding labor market belies a weakening US economy that faces not only sluggish demand but also deficient supply. The consequently lower productivity puts monetary policymakers in a quandary because a more slowly expanding capacity can bring about inflation more quickly. Rate rises intended to check inflation may have the perverse effect of weakening the economy.
The strength in the labor market must be sustainable. Growth not only in the number of people employed but also in their rate of productivity is critical. Such productivity fuels longer-term growth. Separating shorter-term cyclical demand from longer-term supply is difficult because the two are inextricably linked. Demand fuels business investment and employment.
Although the Great Recession upended supply and demand, it is more structural changes than mere knock-on effects that are expected to lower economic growth over the longer term. This result may be attributable to retiring Baby Boomers and weakening labor force participation among those with less education, as well as declining fertility rates and immigration.
Productivity declines are attributable to information technology having reached its full potential. Any future productivity benefits accruing to the economy from social media could take some time to materialize. The US economy may be on a path of slow growth similar to what has transpired in the past two decades in Japan.
There is no easy fix, but possible solutions include an increase in the normal retirement age for receipt of Social Security benefits, lower top corporate tax rates, and reformed support for disabled workers.
The findings presented in this article should inform econometricians and policymakers whose job it is to forecast both short- and long-term changes in the US economy and to develop and implement policy tools to promote sustainable growth.
Economics’ moniker of a dismal science is well deserved. Divining the factors underpinning the state of a nation’s economy has never been easy. This challenge is especially acute when evaluating the state of the US recovery in the wake of a particularly deep recession. The economy’s two-faced nature shows up in weak demand and a waxing and waning labor market. Ostensibly conflicting signals may put policymakers in a bind as they endeavor to right the economy without sending it on a headlong trajectory of unsustainable growth. Getting it right will be no easy feat.