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Thursday, November 22, 2012

Let's Avoid 'Undercooked Turkey'

I'm not so thankful for this:

Ben Bernanke pessimistic on potential GDP growth, by Gavyn Davies: Ben Bernanke’s speech to the New York Economic Club on Tuesday ... seems to have accepted that the rate of growth in potential GDP has fallen sharply in recent years, which is not something he has emphasized in the past. If he persists with this more pessimistic interpretation of potential GDP growth, it would imply that there is a speed limit on the pace at which the economy can recover in the next few years, and that the Fed might need to tighten policy earlier than previously assumed.
Ever since the financial crash, Mr Bernanke has consistently emphasised that US GDP is well below its potential... The implication has been that a shortage of demand is responsible for most of the output loss... Fix the shortage of demand as quickly as possible, and you minimize the total losses of output that will be incurred during the recession. This has resulted in the assumption that the Fed would remain extremely accommodating...
What changed in this week’s speech? Importantly, the chairman did not change his view of the natural rate of unemployment. He continues to suggest that this is about 5.5 per cent to 6 per cent.. However, he now says that the potential growth of GDP is lower than the 2.5 per cent that was in place before the crisis. ...
Mr Bernanke offered three reasons why the growth in potential GDP might have declined since 2009: a decline in fixed investment, reducing the capital stock; a mismatch between the skills of unemployed workers and the needs of the industries that are expanding; and tight credit conditions, along with higher risk aversion...
The bottom line of this analysis is that the Fed may be satisfied with a much lower growth rate over the next four years...
For the time being, this will not shift the Fed away from its dovish stance. After all, actual GDP remains well below any of the potential GDP paths shown in the chart. But it does mean that, if the economy embarks on a firm recovery path, the Fed Chairman might favor an earlier tightening than some of his earlier speeches have implied. ...

It's true that the turkey will continue to cook even after it is removed from the oven (i.e. there are policy lags, so the heat should be turned off a bit before we reach our full employment goal). But I hate raw turkey, and if we are going to make a mistake on when to turn off the oven, let's make it one where labor markets are a bit overheated rather then underheated. Please.

    Posted by on Thursday, November 22, 2012 at 11:10 AM in Economics, Monetary Policy, Unemployment | Permalink  Comments (20)

          


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