I’ve often referred to the output gap as one of the primary components of my deflation argument. I ran across this excellent chart and commentary from The Center on Budget and Policy Priorities that gives a nice 30,000 foot view of just how much damage was done by the Great Recession:
“In the second quarter of 2010, the demand for goods and services (actual GDP) was over $800 billion (6 percent) less than what the economy was capable of supplying (potential GDP). This large output gap, which is manifested in a high rate of unemployment and substantial idle productive capacity among businesses, is the legacy of the Great Recession. Congressional Budget Office projections show the gap closing slowly over the next several years as actual GDP grows only moderately faster than potential GDP.”
“GDP growth slowed to a disappointing 2.4 percent in the second quarter — that’s barely enough to keep up with growth in the economy’s potential to produce goods and services stemming from labor force and productivity increases. Growth of 4 percent or better is needed to propel the economy back toward full employment more rapidly.”
This is interesting because the US economy is a lot like a freight train which has consistently barreled down the tracks while confronting a few roadblocks along the way. The most recent roadblock was particularly large in historical terms and the train is having a great deal of difficulty getting back up to its full capacity (and make no mistake – this train is not permanently broken). The conductor has attempted to throw an excessive amount of coal into the engine, but it’s just not humming like she used to. Something is impeding its progress. This is where the problem of debt comes into the equation. This train is unlikely to reach full capacity until the problem of debt has been largely alleviated (read, private sector balance sheet = healthy). Until that occurs the conductors can continue to throw more and more coal into the engine and they’ll continue to fail to generate any sort of positive results until they recognize and accept the actual impediment. Unfortunately, conductor Bernanke continues to throw coal into the engine hoping that it will eventually ignite some growth. He’s focused on all the wrong things, however.