Some thoughts on secular stagnation

Via Paul Krugman, I saw that Larry Summers had given a presentation on the topic of secular stagnation at the IMF conference (admittedly, I wasn't invited this year, well, the letter must have been lost in the post ;-) ). If you'd rather read than watch, Krugman's summary is a nicely written one, and adds a few comments which can be interesting in themselves.

Well, I have not usually been inclined of late to say nice things about Larry Summers, although that was probably more about Summers the political persona. His academic research deserves more credit. So, much of it is interesting, although some of the conclusions he derives (and here Summers the neoliberal may be showing, for instance when he suggests that proper financial regulation may be a bad thing in the context of stagnation, which is bonkers) appear to either be there purely for provocation sake, or to be pre-conclusions looking for a justification. Still, I would have a few things to add, and I believe that the conclusions fall short in a couple of ways.




First of all, I'll start by the end of Krugman's description: "What Larry did at the IMF wasn’t just give an interesting speech. He laid down what amounts to a very radical manifesto." Well, while this is probably true in the circles of power, this may be saying more about those circles than about the speech itself. For those points have long be made on many an economics or politics blog -European Tribune very much included.

I will not spend too much time on the reminding that, in a liquidity trap (and yes, we really should call the situation by its name, even if the name makes us think of Keynes, which seems to make some people sick. The problem is with them, not with Keynes), increasing savings is folly, and reducing State spending is deep in insane territory. This has been obvious for five years, and in fact well documented for 80 years, it is conventional macroeconomics, even though a whole cult developed that is dedicated to ignoring those facts.

So, Summers suggests that since 1980, the economy has needed bubbles to be at full employment, as evidenced by the colossal rise in household debt. This is evident in the graph for the US (courtesy to Krugman):


And it is very much the same for the UK. A proper academic or, for that matter, a proper blogger, would have the graph at hand to insert, but I don't right now. Still, the extremely high level of household debt in the UK since the 80s is a well reported fact.

Now, debt does not prove Summers' point that it was needed for full employment. After all, maybe the economy was overheating? But, as Summers points out, then you would have had to expect either strong inflation, high interest rates, or both. But what happened was falling inflation AND interest rates, quite the opposite.
Again, this very argument has been made on economic blog (OK, on liberal economic blogs) for as long as I've been reading them, which is around 10 years now, and maybe more. Its being revolutionary is a sign of the isolation of people in power.

Summers then suggests that this is due to secular stagnation, and there I fear he may be sleazy. Krugman doesn't jump on him at this point, though I expect that Dean Baker already has by now.
The thing is, while I have much admiration for Krugman, I have long believed that he has a blind spot there. He has it for very commendable reasons actually: because his personal inclinations would make him want to make what is, I believe, a correct conclusion, he is especially careful about it and, since his reading of the data does not show it, he excludes it from his further reasoning until proven.

This is the correct way to proceed, and also an extremely rare one. There are many reasons why it is rare. One is confirmation bias. But careerism too: my career has certainly suffered a lot from proceeding on those lines, even though it made my conclusions more robust. And this may be why Summers' speech appears revolutionary: people who made it to the positions where they could influence the circles of power probably mostly had a policy to conclude what their bosses wanted them to conclude.

Anyway, here is what is, I believe, a correct assessment of the key cause: inequality. Krugman is careful of reaching that conclusion because he already has many reasons to believe inequalities should be reduced, and:
-You can make a theoretical model of an economy serving a small subset of super rich people with full employment
-If you look at the data, there was no negative correlation between the increase of inequality and growth.

We can quickly dispose of the first objection: yes, you can build them, but they require hypothesis that seem at odds with the real world. The consumption rate simply does not stay as high as incomes shoot up, despite all the conspicuous consumerism at the top. Besides, super wealthy are largely a transational class these days so the model would only work if most of the world applied it (admittedly, we're well on our way...), otherwise much of the top incomes' spending would get spent elsewhere, thereby reducing domestic consumption some more. And that is whil excluding the likelihood of civil unrest.

The second objection is a much stronger one. But there's the catch: yes, there was no negative correlation in the US and the UK. But, the observation that the economy had needed a debt bubble to be sustained is restricted to... the US and the UK (more generally, English-speaking countries, who adopted the Thatcher-Reagan mantra). The absence of high household debts in countries like France was well-noted (and indeed, Sarkozy, our very own would-be Thatcher, claimed during his campaign that this was a sign of France being an archaic economy and that encouraging private debt was the way to make France competitive. Way to go, right-wing economics). And so was the lack of super-concentration of income and wealth. Courtesy of Simon Wren-Lewis:




While the English-speaking world was busy returning to the Gilded age, other countries stayed more or less stable. And those countries experienced similar growth, without needing the bubbles. In effect, the household debt bubble replaced the income that was being lost by all but the top 1%. Because it came as a replacement, it had no additional inflationary effect. But it was not sustainable.

In other words, if you are going to have an economy dedicated to the top 1%, you need to run unsustainable private debts -unsustainable to the point where they will not be repaid. You might argue that it is possible, provided you have a debt jubilee every now and then. Indeed, that was a recurrent solution in history, usually as a result of too great inequalities there too. But then, you are de facto giving extra income in the form of the debt forgival and thus have not managed to keep your unequal economy running. That societies did resort to the chaos of debt jubileed when the alternative was too awful to contemplate should have given us pause long ago.

And so Summers, while correct in pointing out that the US economy as it is has been feeding on credit bubbles for over 30 years, he is missing the elephant in the room by not noticing how the period neatly corresponds to the launch of Reaganomics. Revert the inequalities, and watch this effect disappear. Larry, there are non English-speaking world economies out there. It's time to include them in your radar, and not just to scare the audience. Neoliberals have spent those 30 years (and more) stating that this was the only way to run an economy. Well, it's time to wake up to the fact that they were just forgetting the words into the ground.


So, do I reject the idea of secular stagnation? As it happens, no. While the effect that Summers identifies should be attributed largely to inequalities, I also strongly believe that we long ago passed the point when the long term trajectory should stop being upwards. We have long past the point where we should expect to be able, long-term, to produce as much as our productivity would allow.

There are (at least) two major reasons for that:
-Companies have long needed planned obsolescence and increasing efforts of marketing to play on the worst of our insecurities and other flaws to make us purchase things and services that we have little need for and soon regret buying. Just looking at the room where I type this, and despite being a particularly reluctant consumer, I can see many things that serve little purposes. Many of them were received as "obligatory" gifts, often for our two sons, despite our insistence that no present was the best policy on their birthdays. Productivity has become too high for genuine needs to absorb it -this should not be a problem if we could find a way to convert that into extra free time rather than extra useless consumption.

-Resource constraints are with us now -in fact, they have been for a long while, but we could keep depleting without noticing too much until recently. No matter how hard you try, exponential growth cannot keep going forever, and indeed the right time to stop was 35 years ago at least, so now we even have to do a considerable amount of reversing.


But -aye, there's the rub- the first remarks of Summers that I quickly passed remain true: all things equal, reducing consumption will lead to deflation and sky-high unemployment. And those two are terrible things we should avoid at all costs (indeed, we realise now, better than 80 years ago when Keynes was writing, that employment is so very important not just for income sake, but also for the feeling of belonging in society). Still, even with a Brave New World level of planned obsolescence and manipulation to consume, you can't beat physical constraints. So what gives?

It's the "all things equal" that must -and that is where the solutions given by Summers are not adequate, rooted as they are in the old paradigm. Employment should be favoured. This can be done in several ways: strong regulations (and taxation of externalities) that would favour labour-intensive processees over resource-intensive ones; reducing the work week, increasing holidays, earlier retirement...

In the short term, it may lead to renewed investment (if the processes have to change, you may need to rethink your whole production system), but certainly the restriction of the quantity produced could reduce it in the long run, with a deflationary effect, and I did say that deflation should be avoided. Well, that too can be fought. For instance, the central bank could credit every resident of the country with an equal sum, and keep increasing it until the desired inflation is achieved. It would do wonders for the reduction of inequalities, too. Or governments could increase the minimum wage by the desired inflation plus a fixed percentage. I am not saying that this is the best solution necessarily, just pointing out that the problem can be solved.

I realise that such actions are unthinkable in the current paradigm. But, precisely, Summers shows that the current paradigm is inherently flawed. He then proceeds to suggest solutions rooted in the old neo-liberal paradigm (less regulation to promote lending, thus not addressing the increasing inequality, and boosting production, ignoring the physical constraints that make a secular shrinking unavoidable). We should welcome that the ideas of the unsustainability of conventional policies, and the folly of austerity, should be making it into the circles of power. But they should not be allowed to become a justification for doubling up on neo-liberal madness.