Resisting the ‘New Normal’

by James Pethokoukis
The pro-growth Fed needs a partner in Congress; so far, it doesn’t have one.

Let’s be optimistic and assume the U.S. economy grew 3 percent in the first quarter, adjusted for inflation (vs. 0.4 percent in last year’s fourth quarter, as the Commerce Department reported last week). That would be no small achievement. Since the recovery began in the summer of 2009, the economy has performed that well or better over a three-month period only three times. But let’s go even further. Assume the economy grows 3 percent for all of 2013. We haven’t had a full year like that since 2005.

Yet it would hardly be time for a victory lap. Americans continue to live with the aftermath of the Great Recession and the financial crisis. Unemployment is still 80 percent higher than it was in the spring of 2007, despite a collapsed rate of labor-force participation. Even with job growth of nearly a quarter of a million a month, as we had in February, it would take nearly six years to return to pre–Great Recession employment levels. Median annual household income, according to an analysis by Sentier Research, is 5.6 percent lower than at the end of the downturn and 7.3 percent lower than when the recession started. And the economy remains far below its pre-recession GDP trajectory. And as long as “trend” GDP is as good as it gets, the growth gap will never close.

So what to do? One option is acceptance. Accept that we will never fully close the growth gap or income gap or jobs gap. Accept that unemployment will never return to the levels of the Bush and Clinton years. It’s time to move on and be grateful that America avoided an outright depression and isn’t suffering recessionary relapse as Europe is. The Dow and S&P 500 are making records, and home prices are again rising. Slow and steady is better than bubbles and busts, right? Forward!

The other option is defiance. Refuse to embrace the “new normal” reality. Refuse to lower expectations of what America can be. As Larry Kudlow likes to say, “Growth, growth, growth!”

On the monetary-policy side, the Federal Reserve should not prematurely rein in its current bond-buying program. Inflation remains low, and joblessness high. One reason the economy might grow 3 percent this quarter despite the Obama tax hikes is that the Fed is maintaining its open-ended bond-buying program.

Now the Fed could be more effective by giving a better sense of how quickly it would like unemployment to pass below its indicated 6.5 percent unemployment threshold. As economist Scott Sumner of Bentley University and the Money Illusion blog said recently at an American Enterprise Institute symposium: “If it takes us 1,000 years to get there, the Fed can say they succeeded, because all they’re doing is promising not to prematurely remove stimulus before those thresholds are hit. There’s no time frame on when they’re going to hit them.#….#And that time frame is the last step that any central bank is reluctant to take, because it really makes them have ownership for failure, at least in the nominal side of the economy.”

Even better, the Fed could take the next logical step in its monetary-policy evolution by publicly targeting the level of nominal gross domestic product. It would also help the Fed’s credibility and mission if politicians quit suggesting that the central bank is on thin political ice. Example: Representative Kevin Brady, a Texas Republican, is pushing a proposal to limit the Fed’s mandate to price stability. The Sound Dollar Act creates a bit more pressure on the Fed to be less aggressive, or at least gives that impression to consumers, business, and investors. Expectations are central to the Fed’s monetary policies, and congressional kvetching undermines them.

For its part, Congress should immediately increase immigration for entrepreneurs and high-skill workers and slash the corporate tax rate. These are obvious pro-growth, supply-side policies that Congress should have supported years ago. They’ve been bogged down, however, in arguments about illegal immigration and the Obama administration’s desire to raise revenue via corporate-tax reform. This is more evidence that the Bernanke Fed is the only institution in Washington that is serious about growth right now. Will the central bank get a partner? There’s no reason to assume it will, and not much reason for optimism.

— James Pethokoukis, a columnist, blogs for the American Enterprise Institute.

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