Needs lift.

Photograph: Hulton Archive/Getty Images

The Case for Stimulus, in Three Charts

Narayana Kocherlakota is a Bloomberg View columnist. He is a professor of economics at the University of Rochester and was president of the Federal Reserve Bank of Minneapolis from 2009 to 2015.
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After seven years of growth, there are still signs that the U.S. economy isn’t running at full capacity. It's a problem that the Federal Reserve and Congress can and should address.

The expansion that began in mid-2009 has fallen far short of expectations. As of the end of 2015, inflation-adjusted gross domestic product was about 8 percent lower than the Congressional Budget Office predicted in August 2009, and 10 percent lower than what Federal Reserve staff forecast in November 2009.

One reason is much slower-than-expected growth in productivity, or the output produced by a given amount of labor and capital. However, even taking this into account, there's a lot of evidence that those resources -- labor and capital -- are being underutilized.

Consider labor share, the ratio of workers' compensation to the value of the goods and services they create.  It’s near the lowest levels on records going back to the 1940s -- a phenomenon that, though perhaps partially attributable to mismeasurement, suggests that labor is very cheap given what it produces. Here's how that looks:

Another signal is the return on business investment.  As economists at the Federal Reserve Bank of St. Louis have reported, these returns (excluding housing) are high by historical standards (see chart below). This suggests that capital is unusually inexpensive given its productivity -- a conclusion reinforced by the low rate of return in financial investments.

If capital and labor are unusually cheap, it makes sense that profits are unusually high. Here, for example, is a chart of U.S. corporate profits as a share of gross domestic product:

All three charts point to the same conclusion: The benefits of producing more goods and services outweigh the costs. So why isn’t the private sector exploiting this opportunity? I see at least three possible explanations.

For one, businesses might be concerned about the possibility of a future increase in taxes, which could ultimately render any expansion unprofitable. Second, they might worry about the possibility that the demand for goods and services will fall off like it did in 2008, with similar effects. Third, because many industries are getting more concentrated, with less competition to keep prices and wages in check, business might fear that their own expansion will push down output prices and push up labor costs.

Whatever the explanation, though, the prescription is the same: If the economy isn't utilizing its available resources effectively, the government should provide subsidies to stimulate economic activity. The Fed can do its part by keeping interest rates low. Congress can help by providing tax incentives for consumer and business spending. All that's needed is the will.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

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