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Global Environment

Secular stagnation

Francesco Franco

Nova SBE

November 21, 2014

Francesco Franco Global Environment 1/21

Secular Stagnation

Symptoms

Six years after the Global Crisis exploded and the recovery is still

not going well. Pre- Crisis GDP levels have been surpassed, but

few advanced economies have returned to pre-Crisis growth rates

despite years of near-zero interest rates. Worryingly, the recent

growth is fragranced with hints of new financial bubbles.

•https://www.youtube.com/watch?v=KYpVzBbQIX0


Secular Stagnation

Organizing thoughts

Basic macroeconomics provides a three-pillar framework for

thinking about an economy’s future growth:

•First is the economy’s long-run potential growth rate.

•Second is the deviation of actual growth from its potential.

•Third is one-o� changes in the level of GDP without a change

in the long-run growth rate.


Secular Stagnation

Diminished long-run growth potential

•The first pillar focuses on Solow-Romer factors – growth may

be low since the long-run potential growth rate has fallen.

•Gordon 2012:

•Demography: The population is stagnant, life expectancy is

increasing rapidly.

•Education: The mass education revolution is complete, no

further increase in the average US education level is to be

expected.

•Inequality:The raising share of the 10% of the income

distribution has deprived the middle class of income growth

since 1980.

•Public debt: The gloomy outlook for public debt makes

current public services unsustainable.

•Mokyr Glaeser, Crafts: techno-enthusiasts, distribution


Secular Stagnation

Supply, hysteresis

Figure : Ratchet e�ect


Secular Stagnation

Supply, trends

Figure : Trends


Secular Stagnation

Persistent GDP gaps

Summers: Suppose that the short-term real interest rate that was

consistent with full employment had fallen to negative two or

negative three percent sometime in the middle of the last decade.

...


Secular Stagnation

Output gap

Figure : Below Potential


Secular Stagnation

Real interest rate

Figure : Quo Vadis


Secular Stagnation

Causes for decline in Real Interest rate

•The first factor is the supply schedule for loanable funds,

namely global saving – assuming output at potential

•The second factor is the demand schedule for loanable funds,

namely global investment –again assuming output at

potential.

•The third factor is the relative demand for safe versus risky

assets.

•The fourth is monetary policy.


Secular Stagnation


Slower population and possibly technological growth means a

reduction in the demand for new capital goods to equip new or

more productive workers.

http://www.prb.org/Publications/Datasheets/2013/2013-world-

population-data-sheet/world-

map.aspx#map/world/population/2050p


Secular Stagnation


Lower-priced capital goods means that a given level of saving can

purchase much more capital than was previously the case.


Secular Stagnation


Rising inequality operates to raise the share of income going to

those with a lower propensity to spend.

http://www.oecd.org/social/inequality.htm


Secular Stagnation


Increasing friction in financial intermediation associated with

greater risk-aversion in the wake of the financial crisis and

increased regulatory burdens operates to raise the wedge between

safe liquid rates and rates charged to borrowers.


Secular Stagnation

Safe versus Risky Assets

Figure : Safe Assets evaporation


Secular Stagnation

Safe versus Risky Assets

•Increases in the demand for safe assets and decreases in the

supply of safe assets push down the natural real interest rate.

•This virtuous mechanism equilibrates the safe asset market as

long as central banks accommodate this decline in natural real

interest rates by lowering nominal interest rates.

•But this adjustment breaks down when nominal interest rates

hit the zero lower bound.


Secular Stagnation

Bubbles

•Low interest rate environments are known to be prone to

speculative episodes and the emergence of financial bubbles.

•A financial bubble can arise as an imperfect market solution

to a shortage of financial assets.

•Because bubbles are risky, they do little to increase the supply

of safe assets and, hence, to alleviate the shortage of safe

assets that plagues the economy.


Secular Stagnation


A rising desire on the part of central banks and governments to

accumulate reserves coupled with conservative investment

strategies operates to raise the demand for safe assets, driving

down safe interest rates.


Secular Stagnation

Sketch of a model

....


Readings

*Secular Stagnation: Facts, Causes and Cures Edited by Coen

Teulings and Richard Baldwin, e-book VoxEU.org


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