While the slope of the regression surface along the left horizontal axis is still downward-sloping, the one along the right horizontal axis is now also downward-sloping. This suggests that deeper recessions may actually be associated with more sluggish economic growth following the first year of revival.
That observation flies in the face of how most people believe the economy “should” perform, but deeper recessions are sometimes followed by weaker growth after the first year of expansion.
Basically, there is no real relationship here. After the first year of recovery the pace of growth has little to do with the depth of the earlier recession.
To be clear, we are not suggesting that this is a model anybody should use to design policy.
The point is that the evidence raises considerable doubt that, beyond the first year of revival, V-shaped recoveries repair the damage done by deep recessions.
Furthermore, the real issue remains the long-term decline in trend growth, which even extraordinary monetary policy efforts cannot change.
Last June, we underscored the simple math underlying the decline in trend growth.
As you know, labor productivity growth and potential labor force growth add up to potential GDP growth.
The Congressional Budget Office now pegs potential labor force growth at 0.4% a year for the next five years, and that’s pretty much set in stone. You see it here as the horizontal red line in the bottom panel of the chart.
Meanwhile, productivity growth has averaged 0.4% a year for the last five years, shown by the horizontal red line in the upper panel. In the words of Fed Vice Chairman Stanley Fischer, it “has stayed way, way down.”