Larry Summers recently reiterated his assertion that we are in an era of secular stagnation, suggesting in a new paper that low-interest rates and an aging population may have caused this. However, the U.S. economy has recently shown substantial signs of growth, which appears sustainable. If President Trump can restrain his enthusiasm for low-interest rates, Summers and his neo-Keynesian colleagues may definitively be proved wrong.
Summers’ thesis is that the aging population in the West has a positive effect on output while real interest rates are positive because the stock of capital increases. However, when real interest rates go negative, the aging comes to have a negative effect on productivity, because the additional capital (as older people save more) subtracts from output.
Summers assumes however that the negative real interest rates are an Act of God, that the equilibrium market interest rate suddenly for some unknown reason turns negative. He suggests this may be caused by the aging itself, and by the increased saving it causes, but elementary market theory suggests that this is nonsense. Increased saving would indeed reduce the return to saving, but under no plausible supply/demand curve could it make the return to saving negative unless savings became essentially infinite.
The real culprit was Summers himself and his little friends in the world’s central banks, who, faced with a medium sized financial crash in 2008, decided to take Keynesian theories of interest rates to their extreme, force interest rates below the rate of inflation and keep them there. It was this, not any excess saving among the impoverished pensioners of the Western world, which took away the productivity growth in the global economy. Not only in the United States, but in Britain, the Eurozone (but not in those parts of Central and Eastern Europe sensible enough to resist the euro) and Japan did productivity growth, in varying states of health before 2007, disappear almost completely thereafter.
To any competent non-Keynesian economist, it is clear why this happened. With real interest rates set below zero, all investments became profitable, and so the markets’ normal discrimination between them disappeared. Over time (and this lunatic policy was given a decade in which to operate) the good productivity-enhancing investments were swamped by the rubbish. Pointless real estate projects, hopelessly loss-making virtue-signals in the “clean technology” area, tech ideas generated in a basement and inflated to the mega-billions of dollars, and share repurchases that left the companies concerned bereft of capital and horribly vulnerable to the next downturn in their business: all have successfully competed for investment dollars, there being no rigorous way of excluding them. The result was productivity growth that first turned sluggish, then disappeared altogether. Contrary to Professor Robert Gordon’s thesis, the death of productivity growth had nothing to with humanity having exhausted the possibilities of technological innovation.
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