Thursday, February 14, 2013

Current Real GDP 11.4 Percent Below CBO Pre-Recession Forecast: Caused By Decrease In Investment And Capital Accumulation: Investment Growth Less Than Half of Pre-Recession Rates

Posted by Milton Recht:

The higher capital gains tax rates certainly will not help increase investment and capital accumulation.

From Federal Reserve Bank Of Cleveland, Economic Trends, "Behind the Slowdown of Potential GDP" by Margaret Jacobson and Filippo Occhino:
The current level of real GDP is 11.4 percent below the forecast that the Congressional Budget Office (CBO) made back in 2007, before the beginning of the crisis. One reason for the lower-than-expected output is that the recovery has been slow and the economy is still producing much less than its potential output level—the level that could be reached if all available capital and labor were being used at a high rate. The other reason is that the level of potential output itself is now estimated by the CBO to be lower. This downward revision accounts for a little more than 50 percent of the gap between the current level of real GDP and the pre-crisis forecast. Forecasts of future potential output have been revised downward as well, and this will have long-lasting implications for economic activity. The CBO now expects future potential GDP to be lower by about 7 percent relative to its pre-crisis path. Since actual output is expected to converge to its potential over time, the long-run path of real GDP is now expected to be lower by about 7 percent as well.

Source: Federal Reserve Bank Of Cleveland

Source: Federal Reserve Bank Of Cleveland

This evidence points to the drop in investment and the resulting slowdown of capital accumulation as factors behind the loss of potential GDP. [Modified 2/13/13.] Capital growth dropped from rates consistently above 2.5 percent before the recession to rates below 1 percent after the economy bottomed out. This decline was larger and more extended than was typical in past business cycles. The smaller stock of capital will have long-lasting consequences, permanently lowering the future path of capital, potential GDP, and actual GDP relative to their pre-crisis paths.

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