There are a couple of arguments that put that latter assumption into question today. One is the secular downshift of nominal economic growth that has occurred during the last two-and-half decades. The graph below plots the rolling 10-year change in nominal GDP. Although a long-term drop in inflation explains part of the decline, the inflation-adjusted also data shows a downshift. Ned Davis typically shows this chart to his subscribers along with one that depicts the increased levels of debt in the economy, making the case that higher levels of debt have been producing lower levels of GDP growth. Another reason for this downshift is that according to Commerce Department data, demographics and other factors have caused the growth rate of "potential GDP" to slow persistently in recent decades. Regardless of the cause, the graph does show that in order to attain high rates of nominal GDP growth from current trends, very high levels of inflation would likely be needed. And historically, abrupt shifts from low levels of inflation to high levels of inflation have delivered investors poor returns.
Estimating Long-Term GDP Growth
There are a couple of ways that we can obtain an estimate of GDP growth over the next decade. One is from combining estimates from economists and bond investors. The Livingston Survey, which is collected by the Philadelphia Federal Reserve Bank, periodically asks economists for their 10-year forecast for GDP growth. The most recent survey showed that economists expect the economy to grow at an average rate of 2.80 percent a year over the next decade, adjusted for inflation. The current spread between 10-Yr nominal Treasury bonds and 10-Yr Treasury inflation-protected bonds is currently about 1.8 percent. That gives us an estimate for nominal GDP to grow at about 4.6 percent a year over the next decade.
We can also obtain an estimate of the likely growth rate of the economy by relying on historical precedent. A paper that was presented at the Kansas City Fed's most recent economic policy symposium can help. The paper – ‘After the Fall' – was written by Carmen and Vincent Reinhart – and it discusses common economic outcomes following major credit crises. The work is an extension of This Time is Different, Carmen Reinhart's collaboration with Ken Rogoff on the periods leading up to and immediately following credit crises. In the paper the Reinhart's extend the window of the research and ask the question: what are the long-term effects on inflation, unemployment, and GDP growth following severe credit crises?
Their findings are sobering. For developed countries, around a standard severe credit crisis – those that were generally country specific – the unemployment rate averaged 2.7 percent in the decade prior to the beginning of the crisis. In the decade that followed, the jobless rate averaged nearly 8 percent. Stunningly, in all five advanced economies and in four out of five emerging economies they studied, the unemployment rate has failed to decline below the levels reached prior to each crisis (even though most of crises in developed economies occurred 20 years ago).
Their data on GDP growth following credit crises was equally uninspiring. For developed countries, GDP growth was typically 1 percentage point lower than the decade prior to the peak. Developed economies grew at an average real rate of 3.1 percent in the decade prior to each crisis, and at 2.1 percent in the subsequent decade. The outcome was even worse for periods that followed severe credit crises which were global in nature. The Reinhart's put the decade of the 1930's and the 10-year period following the 1973 oil shock into this group. Here the rate of economic growth in the decade that followed these global credit crises was cut by half. Developed economies grew at an average of just 1.8 percent a year following global credit crises.
