Fiscal policy is the only tool to offset secular stagnation
Summers and Stansbury argue that reducing interest rates may not be merely insufficient, but actually counterproductive, as a response to secular stagnation. Because:
- The negative effect of reductions in interest rates on disposable income has increased as government debts have risen;
- Declining interest rates in the current environment undermine financial intermediaries’ capital position and hence their lending capacity;
- As the economic cycle has globalized, the exchange-rate channel has become less important for monetary policy, and;
- With real interest rates negative, it is doubtful that the cost of capital is an important constraint on investment.
If reducing rates will be insufficient or counterproductive, central bankers’ ingenuity in loosening monetary policy in an environment of secular stagnation is exactly what is not needed. What is needed are admissions of impotence, in order to spur efforts by governments to promote demand through fiscal policies and other means.
Whither Central Banking?
By: Lawrence Summers and Anna Stansbury – Harvard University
Applauding Summer’s volte-face
[Summers] has embraced Keynesian and post-Keynesian ideas originating with the General Theory. For instance, nowhere in the article by Summers and Stansbury is there mention of the negative natural rate as the explanation for an incapacity of central bankers to deal with secular stagnation. Is that because he has now abandoned the loanable funds theory, which remains at the core of mainstream thinking and to which he had previously subscribed? Nor do he and his coauthor suggest now that activist fiscal policy to combat secular stagnation is needed as a temporary measure to kick-start an economy stuck in a liquidity trap.
Central Banks, Secular Stagnation, and Loanable Funds
By: Mario Seccareccia, Marc Lavoie – University of Ottawa
Fiscal policy is not the solution
John Cochrane writes that his “jaw drops” at Summers’ supposedly ‘left turn,’ as he cannot understand why anyone can seriously be talking about “lack of demand” right now. After all, the US economy is at full employment with the unemployment rate at 3.7%, lower than it has ever been since December 1969, labor force participation is trending back up and rising wages. Slow GDP growth must come from too slow productivity growth, which he thinks is due to supply-side bottlenecks including over-regulation of labor and product markets, excessive taxation and red tape. Cochrane’s suggestions on how to fight stagnation includes liberalization, tax cuts and deregulation.
Summers tweet stream on secular stagnation
By: John Cochrane – Stanford University
