Tuesday, 1 February 2011

The long term slowing of the US economy - and its implications

By John Ross

Summary

Current discussions on the US economy have tended to focus on shorter term issues - the likelihood, or otherwise, of a double dip recession, or perspectives of short term accelerations or decelerations in the US business cycle. These are significant issues. But they may obscure a more fundamental but less commented on trend – a long term deceleration of the US economy which has been under-way for several decades.

The long term annual growth rate of the US economy has slowed from its historical average of 3.4% to a 20 year moving average of 2.5% and 10 year moving average of 1.7%. As the US remains the world’s largest economy, and the single most important influence on international economic trends, the importance of such long term deceleration is self-evident.

This article focuses on establishing the facts of this gradual structural deceleration of the US economy. Further implications of this trend are considered in the conclusion of the article.

Background

To understand the significance of the long term deceleration of the US economy it is important to note that, in relative terms, the steady growth rate of the US economy was a central feature of the world economy for the last 120 years.

Taking the historical period 1889 to 2009, US annual GDP growth averaged 3.4%. As shown in Figure 1, with the exception of the fluctuations during and between World Wars I and II, a striking feature of US growth is its regularity. A virtual ruler might be placed along the US growth path for much of this 120 year period - a pattern strikingly differing from the majority of other economies.

Figure 1

11 01 06 US GDP 1889-2009


Long term deceleration

Despite this considerable regularity in US economic growth a very gradual slowdown is visible in Figure 1. This trend may be seen more clearly by taking historical average growth rates over different periods to the latest available annual data - for 2009. Such long term growth rates, taken at 10 year intervals, are illustrated in Figure 2. The number of years indicated under the bars are the period over which the average growth rate is calculated up to 2009 and the percentages above the bars indicate the annual average GDP growth rate during the period.

Figure 2

11 01 07 US Annual Average Growth


Taking first the longest timescales, in the 120 year period 1889-2009, as already noted, annual average US GDP growth was 3.4%. During the 70 year 1939-2009 annual average US GDP growth was 3.6% etc.

Taking very long term 120 to 70 year periods, US growth rates remained essentially constant or arguably mildly accelerated - the lowest average annual growth in this period was 3.3% and the highest 3.6%.

From this point on, however, it may be seen from Figure 2 that US growth decelerates slowly but perceptibly and continuously. The 70 year annual average growth rate to 2009 (1939-2009) is 3.6%, the 60 year rate (1949-2009) is 3.3%, the 50 year rate (1959-2009) is 3.1%, the 40 year rate (1969-2009) is 2.8%, the 30 year rate (1979-2009) is 2.7%, the 20 year rate (1989-2009) is 2.5%, and the 10 year rate (1999-2009) is 1.9%.

The trend of deceleration is unequivocal. The US 10 year growth rate is now only slightly over half of the historical growth rate of the US economy. The more recent the period the slower the average US growth rate - i.e the US economy is decelerating with time.

As will be seen below, extending the data to the most recently available lowers the figures marginally further.

Recent trends

In order to illustrate post-World War II trends in the US economy more clearly, Figure 3 shows a 20 year moving average for US annual GDP growth - the 20 year period being chosen as sufficient to smooth out cyclical fluctuations. The calculation is for each quarter up to the most recently available data - that for the 3rd quarter of 2010.

The gradual, but clear, downward trend in the rate of US GDP growth is evident. The 20 year moving average of annual US GDP growth fell from a peak of 4.3%, in the 2nd quarter of 1969, to 2.5% in the 3rd quarter of 2010. There was some recovery centred on the 1990s, although insufficient to regain previous growth rates, followed by a sharper decline to the most recent period.

If a 20 year moving annual average is compared at 10 yearly intervals, then the 20 year annual average growth to the 3rd quarter of 1970 was 3.8%, to the 3rd quarter of 1980 3.6%, to the 3rd quarter of 1990 3.2%, to the third quarter of 2000 3.2%, and to the 3rd quarter of 2010 2.5%.

In short the recent sharp deceleration of the US economy is an extension of a gradual but clear long term decline in the US growth rate.

Figure 3

11 01 09 20Y Mov Avg


In order to show the timing of the trend more clearly, Figure 4 superimposes a 10 year moving average US annual GDP growth on the 20 year moving average. Evidently a 10 year moving average shows greater fluctuations than the 20 year moving average, but the downward trend is also clear.

The 10 year moving average of US annual GDP growth has fallen from a peak of 5.0%, in the 2nd quarter of 1968, to 1.7% in the 3rd quarter of 2010. The deterioration due to the international financial crisis, of course, also shows more sharply using a 10 year moving average.

Figure 4

11 01 07 10Y & 20Y Moving Averages


Implications

To summarise, the data clearly show a long term slowing of the US economy. The recent worsening of economic performance is not purely cyclical but is superimposed on a more long term slowing of the US economy. There are numerous implications of such a trend. Among these are:

1. It is significant to study short term fluctuations in the US economy, for example whether there will be a double dip recession (unlikely) or how strong will be the short term cyclical recovery. However a more fundamental trend is the long term slowing of the US economy.

2. As US GDP growth outperformed the other main developed economies in Europe and Japan in the most recent periods, but the US economy was itself slowing, this gap was wholly due to the poor performance of Europe and Japan and not acceleration in the US.

3. The lack of success of Reaganite/neo-Liberal policies in the US is evident from the data. Recent US growth rates are slower than those either in the period of "Keynesian" dominance of US economic policy, from World War II to the 1970s, or during US growth prior to World War II.

4. "New economy" claims, that is of a new period of rapid US growth based on Information Technology from the 1990s onwards, do not withstand statistical examination. Higher levels of US investment during the 1990s partially reversed slowing rates of US growth but this was temporary, and was followed by a new decline of US growth to a lower level than previously.

5. Claims by economists, for example Barro, that "U.S. data do not reveal major changes... in the average rate of economic growth" are incorrect.1 On the contrary, as shown above, the US economy is slowing with time.

6. Careful analysis must evidently be made, in the the light of data above, of figures used to project US economic growth. As the US is currently recovering from deep recession, above average trend growth would be expected in the immediate period. This would tend to lead statistically to convergence over the cycle to an average US growth rate. But what average should be taken? It would appear clear from the data above that taking a 3.4% historic US average GDP growth rate is too high. For example, should a 20 year average or a 10 year moving average be taken? As these are respectively 2.5% and 1.7% this is a significant difference.2

7. The rapid growth decrease in the gap in total GDP between developing and developed economies clearly reflects not only acceleration in developing economies but also slow down in the most important developed economy, i.e the US.

As the long term slowing of the US economy is evident from statistical data, it must be integrated into analyses of both the US and international economies.

Notes

1. Robert J Barro, Macroeconomics: A Modern Approach, Thompson South Western 2008 p6.

2. The IMF in its latest World Economic Outlook predicts 1.7% US average GDP growth over the period 2009-2015 – i.e. the 10 year moving average. Long term projections, such as those in the recent PWC study The World in 2050 have tended to use projected US growth rates of around 2.4%. This is not apparently unreasonable, as it approximates to the US 20 year moving average, but given the tendency of the US economy to structural slowing, a downside risk clearly exists in such projections. A 2.4% growth rate would imply significant acceleration from that experienced by the US in the last 10 years - in which case explanation of such acceleration must be supplied given that the US economy has tended to slow and not acclerate.

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This article originally appeared on the blog Key Trends in Globalisation.

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