How to Forecast GDP in the Long Run: A Primer

Short-term forecasts of real gross domestic product (GDP) are typically based on assumptions around the expenditure components of GDP, which are consumer spending, government spending, business investment, and foreign trade. Longer-term forecasts of GDP are based on the supply-side factors of production, which are capital, labor, and total factor productivity (TFP). The capital contribution to growth measures the growth in the supply of capital, be it buildings, machinery, or software. The labor contribution to growth measures the growth in the supply of workers (quantity) and the increase in skill levels (quality). Finally, TFP refers to the efficiency with which capital and labor inputs are used in the production process. 

In The Conference Board Global Economic Outlook, the long-term projections of these supply-side drivers of growth are derived as follows. Capital and TFP projections are derived from a regression approach using as independent variables structural factors such as the saving rate, depreciation rate, wages, corruption, growth in R&D, and the Human Development Index. The regression basically estimates the historical relationship between these variables and capital and TFP. Assumptions about the future trajectory of these independent variables then result in capital and TFP projections. Labor projections are done separately. Labor quality projections are based on projections of educational attainment and assumptions around average returns to schooling. Labor quantity projections are based on working-age population growth rates combined with assumptions regarding age-specific participation rates.  

Capital and labor growth rates are then converted to contributions to GDP growth using factor income shares. Capital and labor contributions to GDP growth combined with the TFP projections are then summed up to provide the GDP projections. The resultant GDP projections should be thought of as potential or trend growth rates (i.e., what the economy could be producing when it fully employs its available economic resources at normal levels). The implicit assumption is that the economy returns to trend in the medium to long term. The shorter-term projections for the next two to three years are not the potential or trend growth. The economy could operate below or above the trend, and we adjust the yearly numbers based on the short-term dynamics that depend on demand and business cycle, as well as what we glean from economic indicators. 

For more details, see this methodology working paper.

Long term forecasts of GDP and underlying components are available through The Conference Board Data Central (See 'Global Economic Outlook').