Promoting the economic rebound

By Lawrence H. Summers, Published: March 25

Lawrence H. Summers, a former economic adviser to President Obama, was Treasury secretary in the Clinton administration.

Economic forecasters divide into two groups: those who cannot know the future but think they can, and those who recognize their inability to know the future. Shifts in the economy are rarely forecast and often not fully recognized until they have been underway for some time. So judgments about the U.S. economy have to be tentative. What can be said is that for the first time in five years a resumption of growth significantly above the economy’s potential now appears to be a substantial possibility. Put differently, after years when the risks to the consensus modest growth forecast were to the downside, they are now very much two-sided.

As winter turned to spring in 2010 and 2011, many observers thought they detected evidence that the economy had decisively turned, only to be disappointed a few months later. A variety of considerations suggest that this time may be different. Employment growth has been running well ahead of population growth. The stock-market level is higher and its expected volatility lower than at any time since the crisis began in 2007, suggesting that the uncertainty hanging over business has declined. Consumers who have been deferring purchases of cars and other durable goods have created pent-up demand. The housing market seems to be stabilizing. For years the rate of family formation has been way below normal, as young people moved in with their parents. At some point they will set out on their own, creating a virtuous circle of a stronger housing market, more family formation and demand, and further improvement in housing conditions. Innovation around mobile information technology, social networking, and newly discovered oil and natural gas is likely, assuming appropriate regulatory policies, to drive significant investment and job creation.

True, salient risks remain of high oil prices, further problems in Europe, and financial fallout from anxiety about future deficits. Unlike in 2010 and 2011, however, it is likely that these risks are already priced into markets and factored into outlooks for consumer and business spending. There has already been a significant escalation in oil prices. The European situation is hardly resolved, but it is unlikely to deteriorate as much in the next months as it did last year. And market participants report great alarm about the deficit situation. So it would not take great news in any of these areas for them to actually contribute to upward revisions in current forecasts.

What are the implications for macroeconomic policy? Such recovery as we are enjoying is less a reflection of the natural resilience of the American economy than of the extraordinary steps that both fiscal and monetary policymakers have taken to offset private-sector deleveraging — a process that is far from complete. A convalescing patient who does not finish the full course of treatment takes a grave risk. So too the most serious risk to recovery over the next several years is no longer financial strains or external shocks but that policy will shift too quickly away from maintaining adequate demand toward a concern with traditional fiscal and monetary prudence.


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