July 03, 2003

Economic Growth Forecasts

The Wall Street Journal's stable of forecasters is looking for a strong rebound in economic growth after the most recent three bad quarters.

WSJ.com - Economists Forecast A Second-Half Rebound: ...Last year at this time, for example, after the magnitude of the accounting scandals had already become clear, the consensus was still predicting a return to growth rates of about 3.5%. Instead, the economy grew at a 1.4% annual rate in the fourth quarter of 2002, and repeated that performance in the first quarter of this year. The second-quarter growth rate is believed to have been close to the same tepid level. The Commerce Department will report preliminary second-quarter growth later this month.

These are the perils of predicting the future. Even the Federal Reserve has had its share of missed forecasts in recent years. In 2001, for example, Fed economists predicted the economy would grow by a little more than 2% and the unemployment rate would drift up to 4.5%. Instead it grew by 0.3% and the unemployment rate shot up to 5.8%. And last year at this time, the Fed was also predicting growth rates in excess of 3.5% by now.

What is so alluring about the 3.5% growth number that both the Fed and mainstream economists keep coming back to in their forecasts? Since 1930, that is exactly what growth has averaged. Economists call it the long-run growth trend and they believe that through the ups and downs of economic cycles that is what economic growth will revert to. It is also the number that is considered the minimum needed to keep unemployment from continuing to rise. The surprise this time around has been that it is taking so long for economic growth to get back to its long-term trend. But many economists believe it is inevitable.

"The economy doesn't grow at 1.5% forever. It grows at trend," said Joel Prakken, chief economist with Macroeconomic Advisers LLC, a forecasting firm. Mr. Prakken is in the camp of optimists who believe the economy has now worked through many of the shocks and is primed for a spell of good growth. He forecasts growth averaging 4.5% in the next two quarters and 4% in the first half of 2004...

Posted by DeLong at July 3, 2003 08:19 PM | TrackBack


It'd be fun to compare that with the nearly identical articles the Journal has probably run for the last 2 years.

Posted by: Jon H on July 3, 2003 10:15 PM

Economic forescasts have a comical tinge. If you are a Republican and enjoy being invited to an occasional Washington love-in, you have been bullish since January 2001. [Got to get Diane Swonk on PBS, Lawrence Kudlow on CNBC, any American Enterpriser on Fox.] If bullish economic forecasts are not realized, mention the recession of Bill Clinton and the delayed impact of tax cuts.

Happy days are coming.

Posted by: lise on July 4, 2003 07:35 AM

Unless there is a pronounced increase in corporate investment, I do not see how GDP growth of 3.5% can be sustained. This seems to be the sort of growth we need to keep unemployment from worsening. This should account for growth of the labor force and productivity growth. We need 5% sustained GDP growth to bring unemployment back to 4% by 2005.

The problem? There is little reason to look for a significant spurt in consumer demand and unlees consumer demand spurts there is little reason for corporate investment to spurt. We may well have a 4% quarter soon, but sustaining such growth will be difficult.

If the growing unemployment limits growth in comsumer spending, we may be sluggish for quite a while.

Posted by: anne on July 4, 2003 08:16 AM

Also, I wish to mention again, this slow growth period has not been equally painful for households. African-American households are losing significant ground in employment after have made ground through the 90s'.

Posted by: lise on July 4, 2003 08:45 AM

Isn't it Fed policy to adjust interest rates to control the rate of economic expansion? Maybe the steady rate is an effect of policy? Unfortunately, our economy is in a state where Fed policy makes little difference. Sound fiscal policy is needed but not forthcoming.

Posted by: bakho on July 4, 2003 09:17 AM

Though there was cheering that the labor force expanded in the midst of job losses in June, the strong sense is that people are not finding all sorts of job openings. Rather, long term unemployment is growing in numbers and length of time and people are doing all they can to work.

The sluggishness in the labor markets is at least as severe as in any period since 1945.

Posted by: jd on July 4, 2003 09:39 AM

Several comments noted the ease of employment in the technology sector through 1999. There has since been much development of the technology sector in Asia, especially programming in India and hardware fabricating in east Asia. Thus, I am worried about whether we can soon expect a return to robust employment growth in technology. Also, month after month with no let up manufacturing employment is shrinking. Will the quality of service sector jobs that open be on the order of manufacturing jobs that we are losing?

Posted by: jd on July 4, 2003 10:26 AM

I've been puzzled by the forecaster bias I've observed. I haven't been logging the forecasts, and don't know where to get the records, but it seems to me that they've been full of it since 2001, at least.


Posted by: Barry on July 4, 2003 11:48 AM

You guys are funny / sad.

You sound just like liberals who are rooting for a disaster in Iraq. Rather than consider the simplest explanation that the indicators lead the econometric models to predict "average" growth, it just another call to bash republicans.

You guys are like a Bayesian prior that cannot be influenced by new information.

Its okay to have views but its sad when these views cause blindness.

Posted by: M on July 4, 2003 04:42 PM

The simplest explanation is that Mr. Bush does not know what he is doing on domestic policy and is pursuing a policy of tax cuts for the wealthy / let the states eat cake that provide none of the short term stimulus needed for the economy while racking up bodacious deficits. Democrats are not rooting for a bad economy or disaster in Iraq but are commisserating that the fool in charge is clueless git who has not done enought to stimulate the economy or prevent disaster in Iraq and cannot be removed before 2005.

We could use a few more good allies in Iraq but Mr. Bush had to honk them off so they won't help and refuses their help even when they offer. Even Canada is sitting on her thumbs. As for the economy, the Democrats called for a summit on the economy back in 2002 and Mr. Bush refused their help and advice, preferring his own my way or the highway policies. Warning someone that driving the wrong way down the highway can get them killed is not the same as rooting for it to happen. However, when the inevitable happens we do get to say I told you so.

Posted by: bakho on July 4, 2003 05:28 PM

"I've been puzzled by the forecaster bias I've observed. I haven't been logging the forecasts, and don't know where to get the records, but it seems to me that they've been full of it since 2001, at least.


Because the playbook they're using doesn't have anything for an economy in the nether region between inflation and deflation. You have to go back over a century to find that, and most of these guys would never think to look back further than six months.

Posted by: David Thompson on July 4, 2003 05:40 PM

Somehow the bald statement that, "[The economy of the USA] grows at trend," seems more like a statement of dismal faith than of dismal science.

Posted by: Bob Webber on July 4, 2003 07:03 PM

This really is a different economic cycle than those experienced since 1945. Brad DeLong, Lawrence Summers, Stephen Roach and Paul Krugman began suggesting by Spring 2001 that this cycle might be the sort that was typical before 1945. A cycle that was characterized by low capacity utilization that would take considerable time to be put to use. The world is still awash in capacity and demand is growing slowly. Why then should corporations invest heavily in new capacity?

Of course, GDP growth will accelerate in time but perhaps more slowly yet than often suggested. There is a reason the Fed has lowered the funds rate to 1%, the Fed is quite worried. I am most cautious about how much of a stimulus there will be from the tax cut since yet again this tax cut has not been directed to those most likely to add to comsumption.

Posted by: anne on July 5, 2003 09:54 AM

Listening to mid-year investing perspectives, I am struck at how uniformly bullish analysts are. Perhaps there will be 4% GDP growth by Winter, but can this turn what seem to be most expensive stocks to cheap stocks.

Though I may be thinking incorrectly, I have learned that when stocks are so expensive they do not become cheap because economic conditions are favorable. Coca Cola was expensive in 1998, no matter the projections of how many families in China were going to bathe in Coke. I am puzzled. Are stocks somehow cheap?

Posted by: anne on July 5, 2003 10:23 AM


The Fed statement last week hoped for a turn in growth, but noted that there was yet NO sign of a return to sustained growth. Though I hear over and again that stocks really are cheap because interest rates are so low and because valuations are always high in a recession, I also think stocks are expensive. What happens when interest rates rise? When I look at valuations in the other recessions since 1980, I still find that stocks are far more expensive now.

Posted by: jd on July 5, 2003 11:08 AM

With a GDP gap of 5% and potential GDP growth at 3.5%, a bullish forecast would be 8.5% growth to return to full employment. Anything less than a 4% growth should be considered bearish as it would mean a continuing gap and high unemployment. What would be a rather modest forecast for GDP growth if one believed either: (a) claasical theory that the economy returns to full employment by itself; or (b) the Bush package will get us there? I'd say a 6% growth rate for the year. After all, a 6% growth rate would cut the gap in half. But no one is forecasting anything close to this - so how can anyway say they have bullish expectations for the year?

Posted by: Hal McClure on July 5, 2003 03:41 PM

The TV analysts are mostly cheerleaders, they provide little analysis. Stocks are not cheap. P/E ratios are still at historical highs. No bull market has ever started with P/E ratios this high. There are more than a few analysts that think the market is in a secular bear state. In this state, there will be bullish run ups such as we have seen but also stock plunges. IF the market does not overcorrect by taking P/E ratios to reasonable historic levels, then the market is likely to just go sideways for a long period (think 1970s) until earnings get big enough to drop the P/E ratio below irrational exuberance levels. In other words, look for a repeat of last summer.

Posted by: bakho on July 5, 2003 05:23 PM

Interesting comments!

Posted by: emma on July 6, 2003 08:14 AM

Remember, Japan has not had pronounced growth and decline cycles rather shallow cycles. Japan is not in a recession but contiues slow growth. The safety net of employment has cushioned the slow growth effects, but slow growth may continue for some time.

[I am actually becoming more optimistic that Japan may surprise a bit in growth, but not because of American growth rather because of Chinese growth. This surmise will little effect America or Europe, I think.]

Posted by: anne on July 6, 2003 10:23 AM

Hal, I used the term 'biase', not 'bullish'. The reason was that [to the best of my recollection, as I haven't been keeping notes] I have seen many forecasts that were overoptimistic, compared to what happened, but few which undershot.


Posted by: Barry on July 7, 2003 06:19 AM


The Bloomberg survey of professional forecasters (which includes between 40 to 60+ forecasters, depending on the edition), in Q4 of 2001 had a median estimate of GDP down 1.4% in Q4, 2001 and down 0.1% in Q1, 2002. The results, as reported, were +2.7% and +5.0%. By the end of Q1, 2002, the Bloomberg survey had a median estimate of 4.2% growth for Q2, much closer, but still low. In Q1 of this year, Bloomberg forecasters expected 2.0% growth, rather than the 1.4% they got, a modest miss in the other direction. The first half of 2003 did enjoy higher expectations from forecasters than will probably prove warranted, but we do not yet know by how much.

So forecasters may have been full of it, but there is no evidence, at least in recent Bloomberg surveys, of a systematic upward bias to forecasts. That, I think, is pretty impressive, given that there is an evident "return to the mean" notion built into at least some forecasting models. After a period of below-trend growth, those "return to the mean" forecasts ought to have an upward bias, but it is hard to find the effect in the Bloomberg survey.


I like your first post, as it includes the possibility of growth at trend or above, which then turns to tears. That seems the big risk right now. As the WSJ notes today, there are signs of a pick-up in tech investment still to come. That is on top of an 11.3% 3-month annualized pace of growth in core capital goods (ex-defense and aircraft) as of May. So despite all the gloom in this series of postings regarding the output gap (not necessarily misplaced), it may be capital goods demand, and attendant inventory building, that puts H2 growth around trend. The problem is, again as you point out, sustainability. I would think that would depend on employment growth. Trend-like growth doesn’t have to mean absorbing 94% of new labor market entrants in the short run. Managers have proven very good at producing growth on fewer workers. If there is hesitation in hiring, the H2 pick-up may falter next year.

Posted by: K Harris on July 7, 2003 06:39 AM
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