The big jump in capacity utilization for November 2014 shows the economy blowing past the effective demand limit. Does that mean that my research could be false? No... As a researcher, I am excited about the big jump in capacity utilization. Why?
The effective demand limit is the first limit. The economy has surpassed this limit many times since the 1960's, but not by much. Yet, there is another limit that the economy has never surpassed since the 1960's. And the big jump in capacity utilization is pushing that limit, but does not look to have gone past it yet.
I wrote about this harsher limit back in March 2013 referring to this graph. The downward sloping red line is the effective demand limit. Where it crosses the horizontal dashed line of the current real GDP projects the effective demand limit upon real GDP. Yet it is the vertical yellow line that is the harsher limit.
"Real GDP in the economy has at times gone passed the red vertical line for brief periods. But real GDP has never gone passed the yellow vertical line, which is the intersection where Effective demand = potential real GDP." (March 2013)
As of 3rdQ 2014...
- effective demand = $15.979 trillion
- potential GDP = $15.917 trillion
So effective demand is still above potential GDP. The yellow harsher limit was not surpassed in 3rdQ 2014.
But what about 4thQ 2014? Could potential GDP surpass the effective demand limit? How could it do that?
Assume these numbers for 4thQ 2014...
- unemployment = 5.8%
- capacity utilization = 79.8%
- Real GDP = $16.280 trillion
Then what minimum labor share index would keep the effective demand limit above potential GDP?
- Labor share (non-farm business) = 96.6
- effective labor share = 73.9%
I am projecting a labor share index higher than 97, so this harsher limit does not look like it will be surpassed.
If this harsher limit holds, then the economy has pushed as far as it can... and the economy will spring backwards.
I think the economy is overheating in desperation due to unusual monetary policy. But we will see...