RebelCapitalist: Financial Information for the Rest of Us | President’s Chief Economic Advisor Rejects “New Normal”

President’s Chief Economic Advisor Rejects “New Normal”

Oct 12, 2009 | By: Mr_Blue | (0) Comments | Permalink | Tags: economy, new normal, economic growth

Larry Summers, the President’s chief economic advisor, has rejected the idea of a “new normal” for economic growth. The “new normal” means one to two percent annual future economic growth - hardly enough growth to generate enough jobs. This “new normal” would mean significant high and long-term unemployment. It matters what Larry Summers believes.

It matters what Larry Summers believes because obviously he has the President’s ear on economic issues. Now, it could be that Larry Summers believes in the “new normal” but for political reasons he has to reject it in public. The “new normal” is an incredible liability for incumbent national politicians because what matters the most are JOBS. Jobs would be in very short supply in the “new normal”.

Publicly, this is what Larry Summers said:

“I would be very reluctant to accept the idea that the American economy no longer has the potential to grow rapidly,” Summers told a forum in New York yesterday organized by Bloomberg LP, the parent of Bloomberg News. “The American people have not become less capable of entrepreneurship. They have not become less dedicated to hard work, and the productive potential of this economy has not declined.”

Fine, let’s assume he believes what he says. “Old normal” growth means 4% - 5% annual growth. Does this assume we have an economy still driven by high consumption? We have done nothing to change this model. If, economic growth is dependent on consumption but people are unemployed right now or are still loaded with debt how can one expect consumption to lead us to economic growth?

The jobs hole left by this Great Recession is very deep. According the Economic Policy Institute:

Since the start of the recession in December 2007, an estimated 8.0 million jobs have been lost. This number includes both the 7.2 million jobs lost in the payroll data as currently published plus the announced preliminary benchmark revision of -824,000 jobs to last March’s employment level. And even this number understates the magnitude of the hole in the labor market by failing to take into account the fact that the population is always growing. To keep up with population growth, the economy needs to add approximately 127,000 jobs every month, which translates into 2.7 million jobs over the 21 months since the start of the recession. This means the labor market is currently 10.7 million jobs below what’s needed to return to the pre-recession unemployment rate. To demonstrate how large this gap is and the level of growth needed to bridge it, consider the following: in order to fully fill in the gap in the labor market by September 2011, employment would have to increase by an average of 573,000 jobs every month for the next two years straight.

Get that - just to get back to normal job growth we need 573,000 jobs every month for 2 years. As of last month (Septemeber) we lost 263,000 jobs. If we don’t have jobs or are worried about losing our current jobs then we are not going to consume. So, again where will this economic growth of 4% - 5%, that Larry Summers believes in, going to come from?

Is Mr. Summers counting on the government’s economic stimulus plan? Could be. Only problem is that it may be too small to provide that much growth:

The most important question facing Obama that day [December 16, 2008] was how large the stimulus should be. Since the election, as the economy continued to worsen, the consensus among economists kept rising. A hundred-billion-dollar stimulus had seemed prudent earlier in the year. Congress now appeared receptive to something on the order of five hundred billion. Joseph Stiglitz, the Nobel laureate, was calling for a trillion. Romer had run simulations of the effects of stimulus packages of varying sizes: six hundred billion dollars, eight hundred billion dollars, and $1.2 trillion. The best estimate for the output gap was some two trillion dollars over 2009 and 2010. Because of the multiplier effect, filling that gap didn’t require two trillion dollars of government spending, but Romer’s analysis, deeply informed by her work on the Depression, suggested that the package should probably be more than $1.2 trillion. The memo to Obama, however, detailed only two packages: a five-hundred-and-fifty-billion-dollar stimulus and an eight-hundred-and-ninety-billion-dollar stimulus. Summers did not include Romer’s $1.2-trillion projection. The memo argued that the stimulus should not be used to fill the entire output gap; rather, it was “an insurance package against catastrophic failure.” At the meeting, according to one participant, “there was no serious discussion to going above a trillion dollars.”

This all matters because as the above quote shows Mr. Summers may not be giving the President the full extent of our economic problems. And if Mr. Summers doesn’t believe that the “new normal” is possible and is advising the President accordingly how can the Administration develop policies that combat this “new normal”? For our sake, I hope there is someone in the White House advocating the possibility of this “new normal”.