Before last week’s FOMC meeting, there was much debate about whether the Fed would officially draw attention to the awful US productivity data that have been published lately. Both William Dudley and Janet Yellen have highlighted the problem in recent speeches, and there was speculation that some members of the FOMC might revise down their estimates for potential GDP growth at the June meeting.
In fact, however, they did not do so, preferring to sweep the problem under the carpet for at least another meeting. Instead, they focused attention on the “gradual” nature of the likely upward path for interest rates after lift-off, which now seems marginally more likely to start in December than in September 2015.
The FOMC’s range for long run GDP growth fell sharply from 2011 to 2013, but has not been changed now for about a year. Potential GDP growth depends on underlying productivity growth, and on the projected growth in the labour force, which is about 0.4 per cent per annum at present. So the Fed’s central projection of 2.15 per cent for potential GDP growth implies a productivity projection of about 1.75 per cent.
The problem, however, is that this range is not consistent with the actual productivity numbers that have been published at any stage during the present economic recovery. Since 2009, productivity has risen at an average of 1.5 per cent per annum while over the past two years it has risen at only 0.5 per cent. Normally, as a recovery matures, productivity growth should be speeding up, but that is not happening this time. At some point soon, the FOMC will need to acknowledge this. Read more