Larry Summers believes that the U.S. economy has entered a period of “secular stagnation.” Warren Buffett is not persuaded by the arguments of the former Treasury secretary and White House economic czar. In his widely followed letter to shareholders this weekend, the Berkshire Hathaway chairman claims that America’s future has never been brighter. Buffett has history on his side, and in the very long run he’ll probably be vindicated. The immediate prospects for both the U.S. and global economy, however, remain blighted by the unbalanced and unsustainable nature of the post-financial-crisis recovery.
A few years ago, Robert Gordon of Northwestern University first raised the question of whether U.S. economic growth had ground to a halt. The same arguments resurface in his recently published book, “The Rise and Fall of American Growth: The U.S. Standard of Living since the Civil War.” Gordon claims that the economy faces several headwinds. In particular, he argues that negative demographic trends will restrain output and that modern technology is less capable of enhancing productivity than in the past. Neither of these arguments is robust.
Long-term demographic forecasts are prone to error, especially in a country such as the United States, which has traditionally taken in large numbers of immigrants. In fact, the term “secular stagnation” was first coined in the early 1930s by Alvin Hansen of Harvard, who argued that a lack of population growth would lead to a fall in the demand for capital equipment and residential housing. Hansen’s demographic projection was wide of the mark. Since 1930, the American population has expanded by around 160 percent, compounding at just over 1 percent per annum.
The suggestion that future productivity gains will be lower is equally shaky. Gordon argues that the country is losing its educational lead as other nations now send more of their population to university. But the link between higher education and economic output is tenuous. Switzerland is one of the richest countries in the world. Yet at the turn of the century only one in 10 Swiss went to university. Besides, Silicon Valley has proved adept at importing foreign-educated workers to supplement homegrown talent.
Modern technology isn’t resulting in efficiency gains to the same extent as in the past, claims Gordon. The digital revolution, he writes, “provided new opportunities for consumption on the job and in leisure hours, rather than a continuation of the historical tradition of replacing human labor with machines.” This is nonsense. The internet has disrupted, and continues to disrupt, many businesses and industries. The trouble is that too much digital information is delivered free of charge and doesn’t show up in traditional measures of gross domestic product.
Gordon fears that the cost of global warming will also slow economic growth. Others fret that the rising costs of extracting energy will have a similar effect. But this is another way of saying that innovation is coming to an end. As Gordon’s Northwestern colleague, economic historian Joel Mokyr, writes, a “shortfall of imagination is largely responsible for much of today’s pessimism.” Mokyr points to a number of potentially revolutionary new technologies around the corner – 3-D printing, graphene and gene therapy, for instance.
Buffett, who was born during the first onset of secular stagnation, observes that in his lifetime American GDP per capita has increased by a “staggering” six times. “For 240 years,” Buffett writes, “it’s been a terrible mistake to bet against America, and now is no time to start. America’s golden goose of commerce and innovation will continue to lay more and larger eggs … And yes, America’s kids will live far better than their parents did.”
If America’s demography and innovation are not grounds for concern, what of the other arguments for stagnation? Gordon and others believe that inequality is depressing consumption since the rich are less inclined than others to spend their incremental dollars. High levels of household debt also depress demand. A weak jobs market has contributed to a collapse in the U.S. labor participation rate, with a similar dampening effect on consumption.
Yet these supposed sources of secular stagnation are largely the result of poor monetary policymaking over recent decades. High current levels of inequality may have several causes – notably, the impact of globalization and new “winner-takes-all” technologies – but it’s a mistake to overlook the role of the Federal Reserve. Low interest rates and quantitative easing have boosted household wealth to record levels, disproportionately benefiting the richest members of society. Low rates also encourage financial engineering, which has inflated Wall Street fees and stock-based executive compensation. Again, Main Street has been left behind.
Ultra-low interest rates produce economic sclerosis. As Satyajit Das writes in his book, “The Age of Stagnation,” low rates have helped weak businesses survive. The capital of banks is tied up in low-return activities restricting their ability to lend. Creative destruction is impeded. That may explain why the U.S. jobs market has been so lackluster. Low rates also keep the debt overhang in place. In fact, they provide an incentive for further leverage by both the private and public sectors. Low rates have resulted in a “dash for trash.” The rapid decline in underwriting standards in the years after the Lehman Brothers bust poses a threat to financial stability, as Summers has acknowledged. To cap it all, low rates inflate bubbles and foster the misallocation of capital, which damages productivity.
Unsurprisingly, the notion of secular stagnation was first mooted in the aftermath of the Roaring Twenties. The boom, wrote Hansen in 1934, comes about when industry is “artificially stimulated by an overdose of easy credit (which) … is the basic cause of the depression.” Hansen lamented that Americans in the early 1930s had shown a “degree of public nervousness and impatience which has necessitated wholesale experiments with forced methods of recovery.” Similar characteristics resurfaced in the wake of the last financial crisis. Secular stagnation is the unintended consequence of unconventional monetary policies. It’s only while those remain in place that Buffett’s optimism about America’s economic future looks misplaced.