The Prospects for Growth

You’ve heard that the new economic goal is 3% annual growth in America’s gross domestic product (GDP), which would certainly be good news for an economy that has been languishing at a 1.8% growth rate for the past decade. Tax reform proposals and government budget details already have that 3% assumption baked into them, as if it is already happening.  That basically assumes, if you play the numbers out, that government revenue will be $3.7 trillion higher than currently forecast over the coming decade—this according to estimates by economists at Goldman Sachs Group Inc.  Interestingly, they assume no change in tax rates despite the various proposals that are currently being floated around Congress.

Of course, if GDP stays where it is, and we lower taxes and spend more on infrastructure, the military and other programs, the result could be a fiscal disaster for America’s balance sheet.  So the question becomes: how likely is that 3% number?

You’ve read that lowering taxes, rewriting trade deals and cutting red tape will be the drivers that kick America’s economy into high gear.  But according to a recent article in the Wall Street Journal, the numbers tell a very different story. 

In the long term, the expansion of any nation’s economy is the rough product of two numbers: the growth rate of the working population and any changes in their output per hour—the productivity rate.  If you grow the number of workers producing goods and services, and you make each of those workers, on average, capable of producing more this year than last, you have an increase in overall economic growth.  In terms of GDP, it doesn’t much matter whether these individuals, or their companies, are taxed more or less, or whether they can buy or sell abroad with greater facility.

So what are those numbers currently, and how can they be improved?  Over the past decade, the number of prime age workers has been growing at an annual rate of just 0.1%.  It is helpful to remember that the U.S. is setting more stringent immigration policies and becoming more aggressive about removing undocumented workers from the economic system, which will not facilitate an increase in total number of workers.

That leaves productivity as a potential GDP growth factor.  You can see from the second chart that here, too, the trend is not optimistic.  Workers’ output per hour in the nonfarm business sector rose dramatically in the late 1990s, in part due to the rise of the productivity-boosting power of the Internet.  But since 2010, productivity has been increasinCA---2017-5-15---GDP-Prospectsg only by 0.7% a year, and the trend is down, not up.

Add the two together, and the Federal Reserve projects the American workforce to expand at 0.5% annually over the next decade and productivity to grow at what appears to be a somewhat optimistic 1.3% a year.  Those numbers would put growth at 1.8% a year—about what we’ve experienced for the past decade.

Does that mean these forecasts are totally accurate?  Of course not; it is entirely possible that the economy could surprise, either on the upside or the downside, in the coming years.  But it is unlikely to deviate very far, for very long, from its underlying drivers.  When you see promises of greater economic growth, take a hard look at whether the proposals would impact these drivers—and if not, feel free to wonder whether these are sustainable economic policies or wishful thinking.