Getting Past Slow Growth

WASHINGTON, DC – Most economists nowadays are pessimistic about the world economy’s growth prospects. The World Bank has, yet again, downgraded its medium-term projections, and economists the world over are warning that we are facing a “new normal” of slower growth. Where there is less consensus – or so it seems – is in accounting for this weakness.

Almost three years ago, former US Treasury Secretary Larry Summers revived Alvin Hansen’s “secular stagnation” hypothesis, emphasizing demand-side constraints. By contrast, in Robert Gordon’s engaging and erudite book The Rise and Fall of American Growth, the focus is on long-term supply-side factors – in particular, the nature of innovation. Thomas Piketty, in his best-selling tome Capital in the Twenty-First Century, describes the rise of inequality that is resulting from low GDP growth. Joseph E. Stiglitz’s book Re-Writing the Rules of the American Economy: An Agenda for Growth and Shared Prosperity blames political choices for both slowing growth and rising inequality.

These accounts differ in emphasis, but they are not contradictory. On the contrary, while Summers, Gordon, Piketty, and Stiglitz each examines the issue from a different perspective, their ideas are complementary – and even mutually reinforcing.

Summers’s Keynesian argument is that the problem is a chronic aggregate-demand shortfall: Desired investment lags behind desired savings, even at near-zero nominal interest rates, resulting in a chronic liquidity trap. Today’s near-zero – even slightly negative – short-term policy interest rates do not mean that longer-term rates, which are more relevant to investment financing, have also hit zero. But the yield curve in the major advanced economies is very flat, with both real and nominal longer-term rates at historic lows.