So just how badly did the financial crisis screw up growth prospects for the United States? Moodys chief economist Mark Zandi has an answer. And it's disturbing. His testimony (.pdf) before the Financial Crisis Inquiry Commission addresses precisely this topic. I found the most alarming section of his testimony Moodys' projection of would happen to GDP in the long run, due to the crisis. The associated chart provides a frightening picture of the depth of its effects.

Here's the full section about GDP in the Long Run, which includes the chart:



Fallout from the financial crisis will continue well beyond the current recovery. Most critically, it will likely lower GDP for an extended period. That is, GDP will not return to the level that would have prevailed if the financial crisis had never occurred, at least not for the next five to 10 years. This is similar to the experiences of other economies that have suffered similar financial crises. Real U.S. GDP is expected to be some 4% lower 10 years from now than it would have been if the financial crisis had been avoided (see Chart 10).


GDP Long Run Zandi 2010-01.PNG


The lower GDP stems from a smaller labor force--some unemployed workers never find a job and eventually give up looking--a lower capital stock due to less investment, and reduced total factor productivity. There is strong evidence that the labor force will be smaller. Labor force participation has fallen to 64.6% from 65.8% a year ago and above 67% at its peak a decade ago. Workers in their 50s and 60s with less education and skill face dim job prospects and are more likely to be forced into retirement. Many held manufacturing and construction jobs that are gone forever, and live in parts of the country where it will be difficult to sell a home and move.


Business investment spending has also been severely depressed by the financial crisis, causing the nation's manufacturing capital stock to decline. During the 12 months ending last November, capital stock fell almost 1%. The only other such decline came in the technology bust a decade ago, which followed a lengthy boom in the late 1990s. In the expansion leading up to the current period, the fastest the capital stock grew was closer to 2%.


If Zandi's right, then this is really bad. That graph shows the effect of the financial crisis on real GDP all the way through 2020 -- more than a decade after it took place. It shows that if the U.S. economy would have had, say, 6% real GDP growth between 2015 and 2020 -- which is pretty healthy, by the way, then that real GDP will now be a meager 2% instead, courtesy of the financial crisis.*

*Correction: As a few commenters have pointed out, this chart is actually talking about simple % decrease of future GDP -- not GDP growth -- in the years shown. Probably 99 times out of 100 when you see a graph dealing with GDP that has % on the vertical axis and years on the horizontal axis, it's talking about growth, which is why I interpreted it in this way. Zandi's office confirmed that this is that other rare case.

So the graph isn't nearly as dramatic. It says that, after 2010, growth will no longer be affected, which is actually surprisingly optimistic in my opinion. But even then, it still shows that the U.S. will have taken a permanent hit in GDP. In other words, we'll never get back some of the economic value lost during the financial crisis. So I think the graph is still scary, but not as scary as originally thought.

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