The Scary Debate Over Secular Stagnation Hiccup . or Endgame? by j. bradford delong The first principle of success in practically any endeavor is to move not toward where the ball is, but where it is going to be. Economists, as a rule, ignore this principle, indulging in the likely-to-be-vain hope that Tpolicies that would have worked yesterday will still work tomorrow. tk 34 The Milken Institute Review tk Fourth Quarter 2015 35 secular stagnation I have been losing arguments with him since But now there is hope that economists will I was 20. What’s needed here, though, is not a do better, a hope based on the near-consen- referee’s decision, but a guide to the fight. sus that the modes of thought of the past two The immediate macroeconomic problem generations are obsolete. Ben Bernanke, the is how to cure the hangover from the housing former Federal Reserve chairman, says we bubble in the middle of the first decade of the have entered an age of a “global savings glut.” 21st century – the still-incomplete recovery in Kenneth Rogoff of Harvard points to the the United States and the non-recovery in Eu- emergence of global “debt supercycles.” Prince- rope. But even a straightforward success that ton’s Paul Krugman warns of the return of restored the growth rate experienced in the “Depression economics.” And former Treasury 1990s would not restore the world as we Secretary Lawrence Summers calls for broad thought we knew it. Do we also suffer from Bernanke’s Without governments willing to global savings glut, produced by ill- deal with the structural problems, we are doomed to oscillate between asset bubbles and depression. coordinated national policies toward structural shifts in government policy to deal recovery? His prescription is reform that with “secular stagnation.” gives governments better incentives to pull All of these experts are expecting a future together in harness. Or is it the hangover that will be very different than the second from Rogoff’s supercycle of imprudent debt half of the 20th century, or even the so-far, accumulation that can only be remedied by not-so-good third millennium. But they are painful deleveraging while building an effec- influenced by different inclinations – toward tive macroprudential regulatory framework optimism or pessimism, toward cautious to prevent a repeat performance? Or, as Krug- repairs or an abrupt break with policy as man counsels, is the deeper problem our re- usual – to diagnose the malady and prescribe luctance to use the full panoply of monetary the treatment. policy and fiscal tools that Keynes and his dis- jackson reuters/lucas The debate over secular stagnation is, I be- ciples developed? Or, à la Summers, are our lieve, the most important policy-relevant de- problems more fundamental, requiring a par- bate in economics since John Maynard adigm shift in the means and ends of eco- Keynes’s debate with himself in the 1930s, nomic policy? which transformed him from a monetarist to Successful management of the business the apostle of active fiscal policy. I think Sum- cycle, Summers argues, will also require gov- mers is largely right – but then, I would, since ernments to reduce wealth inequality, stimu- late more productive societal investment and bottom: everett collection inc/alamy. © andrew lichtenstein/corbis. andrew lichtenstein/corbis. bear more of the risk that now weighs heavily © J. Bradford deLong is an economist at the University on households and businesses. Without gov- of California, Berkeley and creator of the blog “grasping ernments willing to deal with the structural reality.” He was deputy assistant secretary of the Treasury in the Clinton administration. problems, he says, we are doomed to oscillate previous page: top: opposite page, 36 The Milken Institute Review tk Fourth Quarter 2015 37 between asset bubbles in which much invest- ment is wasted and growth is below sustain- aging the cycle in the future. able potential, and depression, in which un- Pre-World War I trust in the gold standard, employment is high and output is below combined with the conviction that business sustainable potential. confidence with “her magic wand” (in the Many other economists have contributed words of Alfred and Mary Marshall) must be to this debate – notably, Martin Feldstein, the highest priority of policy, was disastrous Richard Koo, Lars Svennson and Olivier in the changed environment of the interwar Blanchard. However, with Bernanke, Rogoff, years. The tool kits built in the 1930s during Krugman and Summers, we are already jug- the Great Depression focused on the impor- gling four balls, and that is more than enough. tance of decoupling national economies from an unstable world market, the utility of work- can economists learn fast sharing and the potential benefits of cartel- enough? ization in making businesses viable. They had It is a truth too often ignored that economic no application during the long post-World models and rules of thumb have the func- War II boom. And policymakers who viewed tional lifespan of fresh fish on a hot day. Ap- those golden years as confirmation of Keynes- proaches that help us to understand (and ian fine-tuning as the fix for all seasons left would have successfully managed) the busi- themselves deeply vulnerable in the face of ness cycle in the past are more likely than not the adverse supply, productivity and expecta- jim west/alamy jim useless, or even worse than useless, for man- tive shocks of the 1970s. © 38 The Milken Institute Review Everybody, it seems, is inclined to fight to- century and Eric Brynjolfsson of MIT pro- day’s battle with yesterday’s stratagem. Think jects a future in which our principal eco- of the economists who came of age in the nomic problem is not scarcity, but finding 1970s. Ever since then, they have seen infla- useful and meaningful work to do. tion, currency debasement, low productivity growth and excessive government deficits the debate over secular lurking at every turn. They have had nothing stagnation constructive to offer since 1990. Economists worth listening to are not just And what of those who took the long, sta- saying the future is likely to be different from ble boom of 1984-2006 as an indication that the past; they are staking out turf as to how the macroeconomy had undergone a “Great it will be different. Of these, the most contro- Moderation” and could be managed with a versy has been generated by Summers’s secular- very light policy and regulatory touch? They stagnation thesis. were blindsided by 2007 and thereafter. Why Summers’s analysis is not, however, the have economists’ business-cycle theories al- right place to start. His interpretation is easier most invariably been wrong? Well, why to understand as the most recent in a string of should their theories be right? new approaches. The debate really started Inertia and hubris drive economics (and back in the late 1990s with Krugman’s book, so many other disciplines). Because they were The Return of Depression Economics. But that successful in answering past questions, econ- puts the cart before the horse. Let’s start with omists place heavy bets at unfavorable odds what “Depression economics” really replaced. on the proposition that the major shocks will What might be called “inflation economics” be of the same type and that changing insti- was born of the stagflation of the 1970s and Why have economists’ business- tutions will not materially change the way cycle theories almost invariably economic shocks are propagated. Of been wrong? Well, why should course, the bettors almost always crap out. Finally, however, there are signs that their theories be right? economists (the smart ones, anyway) are learning that past shocks doesn’t tell us much early 1980s and focused on two goals. The about future ones. They are instead painting first was keeping expectations of inflation low. possible “if these trends continue” scenarios A central bank that sought to avoid inflation of major transformations. – and all central banks sought to avoid infla- Thus, Thomas Piketty of the Paris School tion – needed to either keep expectations of of Economics speculates about a scenario in inflation low or incur the heavy cost of engi- which wealth inequality brings about the end neering sufficient unemployment to lower of the social democratic era that began at the those expectations. Second, subject to that ex- start of the 20th century. Robert Gordon of pectations-management constraint, central Northwestern looks toward the likely end of banks sought to manage interest rates to keep the buoyant GDP growth brought on by the them in the sweet spot where inflation was second industrial revolution in the late 19th contained and the gap between actual and Fourth Quarter 2015 39 secular stagnation subject to that, finding the aforementioned potential output was minimal. sweet spot for interest rates. Second, and in Why manage interest rates? Why couldn’t a particular: monkeying with spending and central bank simply set a neutral monetary taxes to try to balance the economy was ask- policy? Because nudging interest rates to the ing for trouble. Indeed, double trouble, if the level at which investment equals savings at government sought to accomplish its goals by full employment is what a properly neutral running large deficits that could produce an monetary policy really is. Over the decades, unsustainable debt burden. many have promised easier definitions of Third, once central banks became the cred- neutrality, along with a rule for thumb for ible guardians of low inflation and learned to maintaining it. All had their day: advocates of manage interest rates to sustain full employ- the gold standard, believers in a stable mone- ment, there was little reason for maintaining tary base, devotees of a constant growth rate the Depression-inspired straitjacket on finan- for the (narrowly defined) supply of money cial markets.