Okuns GDP Gap

The economy is never cool after a stock market crash. When is it going to recover?

I have been looking at the question since 1982 when it first perplexed me. Financial people will never talk about it because for most of the cycle they are too busy studying quarterly returns (and 52% of the time they are winning). Only analysis that moves beyond quarters can deal with Okuns GDP Gap. Only a massive drop in the Stock market gets this problem attention.

This stock market drop was waiting for us even before the virus. You can think of the Virus as a War, and while we focus on it, we bury ourselves further and further into Okun's GDP Gap.

This debate squats like a toad over economic history and development economics. Why do we struggle to maintain potential GDP? After looking at it for 40 years I have to conclude that  it is our cost of having the capitalist system on our side. This will be heresy to financial analysts because they cannot move out of the framework that the market is the ultimate allocator of capital - it is not. The market has no vision  -  it always thinks too short-run. Payments on the Porshe dominate the market's thinking.

There is a nasty book called The Deluge, by Adam Tooze  ( I read it at Pinnacle Point in Dec) that covers the 1914- 1929 period. Churchill got the Nobel prize for literature for his study on this period. Both Churchill and Tooze bind the cycle not from 1929 to 1945, but all the way back to Widrow Wilson in 1914. The period  1914 to 1945 is known in economic political history as the Second 30 Year War.

In the same way, as the US moved in the post-1929 period to become GDP dominant, expect China to do the same - the US is likely to be the big loser here, starting with this $2.2 Trn package spilling out into nowhere. It has nowhere to go except to possibly inflate financial assets and food prices, but it can't fix GDP.  You can't eat sháres and in the modern digital day you can't even wípe your ass with them, you need to binge-buy toilet paper to do that.

It is a 200-year-old problem, as old as capitalism itself. Without War, capitalism is not able to bootstrap itself out of deflation.

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  • You either believe  Keynes or you do not. If you do, then you believe Robert Solow. Solow describes the "Knife-edge growth" of GDP. It's like a goldilocks need for investment. If you overinvest, then you get these scares and drops. And if you will stop for one moment, to try to understand what I am saying - they are asymmetrical - GDP drops much easier than it rises and the investors generally keep overreacting (Pasinetti , 'Fluttuazioni ciclich e sviluppo economico",1960) - that is what makes Okums GDP GAP, which is why, as Helen Zille (or was it Hitler)  said, a little bit of Fascism is not always a bad thing.

    As Keynesian policymakers, we don't mind the market doing whatever they like as long as that means that they are doing what we want. If you have beliéved all your life that the market is the final arbiter then you need to read The Deluge to find that it is, in fact, the politicians that make these ghastly final decisions. The market acts for the capitalists and the politicians are only interested in getting reelected. It is a toxic soup for the little guy standing in the trench or the ICU unit at the front.

    OK so we are in agreement? - we have to forecast GDP - let us try to do that :

    Here is the initial starting point. Social distancing will have an effect on GDP probably about 50%. (In the same day you won't pay the traín driver, the hotdog stand and the guys who makes your suits) even of you are able to produce the same output, GDP will drop.

    The effect of Lockdown (excluding businesses) is closer to 100%

    So a lockdown of three weeks (a real lockdown ) costs about 10% of annual GDP (after multipliers)  - I am not seeing any estimates of this drop (I see estimates of 2%)- because we have not seen the US and UK actually make these moves.

    This cost is PER MONTH. If the lockdown goes on for three months, GDP is likely to fall by closer to 20%!

    Now we come to my really dark point - just as the virus kills, the GDP Gap kills. There is a link between GDP Gap and life expectancy. What we are seeing here is the GDP Gap widened not only by the inappropriate actions of the market but also by the reaction to the virus. This is what makes the need to return to functioning compartments, so urgent.

    Too early  to make a solid conclusion, but if I look only at the fundamentals, then the market has not written off enough. First, you have to take away the "financial drop" - go read the Solow model, the markets were overvalued even without the virus. This does not mean that the stimulus will not pump them up again - it may well do that - but it won't raise GDP and that is the two hour traffic of our stage.

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    There are two models that have to be built and maintained, a micro model and a macro model. I have built them for the first phase, but they keep moving and need ongoing work, which needs contributions. The mico model is for community (ward up to county) sized decision making and the macro for canton to country policy. This we can do this if we can find contributions.

    Then to get out of lockdown,  we will need an app,  which will take more money than I have :

    The Chinese and Koreans have started theirs, but we will need to write our own, It is a big data tracker, that follows the movement of the carriers (or potential carriers). Only people that give up their data privacy are allowed to move. They are too dangerous otherwise. 

    Failure to build an app leaves us in the position we are in now. Not able to control lockdown and not able to control the spread of the virus. Flattening the curve is based on the assumption that health care can help. So far that is a suspect claim.

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