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07/27/2013

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I think you've got it. Productivity gains are there to be realized , but only if the spending power is there as well. We've gotten used to the idea that debt could be an effective substitute for sharing those gains in productivity , replacing the wage gains that should have accompanied the productivity increases. Now that it's more difficult to ramp up the debt again , we're stuck.

You might like to read this article by Crystia Freeland about the UK , where a similar dynamic has unfolded :

http://articles.chicagotribune.com/2013-06-27/news/sns-rt-us-column-freeland-20130627_1_middle-class-economy-labor

I have only just discovered your effective demand concept, so forgive me if I have misunderstood it in any way, but I have a few thoughts at this point:

1) If I understand what it is supposed to mean correctly, I think you should rename it potential demand. Even if potentialdemand.typepad.com is taken.

2) Something strikes me as wrong with it just looking at the graph you present of ED over time. In particular, the way it shoots up in recessions and remains flat or declines in booms. If this is some kind of lid on the economy, it makes sense that we would grow toward the lid during a boom, then hit it, then drop away during a recession, but why would the lid race away from us in a recession, and why would the potential demand be attracted downward toward GDP during growth periods? To me, this suggests the equation isn't quite right; that it does tell us when we're up against the lid but isn't giving a reasonable estimate of where the lid is when we're not against it.

3) It surprises me that the balance of trade doesn't enter into effective demand in any way. Or for that matter, government. Do you have a post where you explain this?

4) So a little algebra gets me to the law: capacity utilization * (1 - unemployment) <= labor share. Would I be correct in understanding this to mean that rising profits don't boost demand?

Marko,
I checked out that article. Their explanation for problems in productivity point to flexible labor markets. They don't have a way yet to determined a demand constraint on productivity. We do now.

Eric,
Answers to your points.
1) Effective demand is potential demand and more. It would be better to place potential demand equal to the demand at potential real GDP. Potential demand would then be the center of the business cycle. Effective demand would be the top limit of the business cycle.
2) Effective demand shoots up during a recession because capacity utilization takes a hard hit. For example, in the crisis, capacity utilization dropped by 16%, while employment and real GDP fell by 4.7% each. If capacity utilization had fallen 4.7% too, effective demand would have stayed stable.
and you are right, effective demand acts as a lid, but also shows the extent that labor and capital is not being utilized.
3) Balance of trade and government point to leakages and add-ins in the circular flow of the economy.
Take China for example, they have a huge export industry with low domestic consumption. The result is a low labor share of income. If labor received much more of that export market, labor would have lots of money to buy things. There would be a big inflation problem for one, and less capital investment for two.
I am not answering your question very well. I probably need to do a proper post to explain this.
4) Your algebra is correct. If profits rise and labor share stays the same, labor income will rise with profits. Therefore real GDP will rise. But... the effective demand limit upon utilization of labor and capital will not change.
So rising profits will boost aggregate demand, real GDP and effective demand, but not the effective demand limit on utilization of labor and capital.
Again, I am not answering clearly. I just woke up.
Let me know if my answer makes sense.

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Data as of 3rdQ-2017
Effective Demand = $17.424 trillion
Real GDP = $17.157 trillion
Productive Capacity is rising to next business cycle = $23.558 trillion
UT index is falling= +1.1%
Effective demand limit = 73.9%
TFUR = 72.8%
ED Fed rate rule (down from a peak of 3.8% in 2014) = 2.2%
Estimated Natural Real Interest rate = 2.2%
Short-term real interest rate (fallen from 2.8% peak in 2014) = -1.7%

There is no recession for 3rdQ-2017. Chance of recession is growing as economy heads toward 2nd effective demand limit in this business cycle. I am forecasting economic contraction in 2018.




Click on Graphs below to see updated data at FRED.

UT Index (measure of slack):

The UT Index

z-vertical:

z-vertical

z derivatives in terms of labor & capital:

z derivatives in terms of labor & capital

Effective Demand, real GDP & Potential GDP:

ED, real GDP & pot rGDP

ED Output Gap:

ED Output gap

Corporate profit rate over real cost of money:

Corp profit rate over real cost of money

Exponential decay of Inflation:

Corporate profits impact Inflation

Measures of Inflation:

Measures of Inflation

YoY Employment change:

YoY employment change

Speed of consuming slack: yoy monthly:

Speed of consuming slack

Speed of consuming slack: quarterly:

Speed of consuming slack quarterly

Real consumption per Employee:

real consumption per employee 2

Will real wages ever rise faster than productivity?:

Productivity & Real Wages

Real Wage Index:

real wage index

Productivity:

Productivity

Productivity against Effective Demand limit:

Prod & ED limit

Bottom of Initial Claims?:

Initial claims

Tracking inflation expectations:

Fisher effect?

M2 velocity still falling:

Measures of Inflation

All in one:

All in one

Double checking labor share with unit labor costs & inflation:

ULC LS CPI
My Photo
Edward Lambert: Independent Researcher on Effective Demand.
Some links for economic analysis
Fed Views - San Francisco Fed, around 10th of each month.
Well's Fargo monthly - around 10th of each month
Well's Fargo weekly
Well's Fargo Interest rate report
Well's Fargo Economic indicators
T. Rowe Price weekly market wrap-up
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