A March 31st blog post from former Fed chair Ben Bernanke explains what the term “secular stagnation” really means, and then explains why he thinks the U.S. is not headed that direction. Bernanke argues that fellow economist Larry Summers’ secular stagnation hypothesis — that it will be very difficult to balance full employment, inflation ad financial stability in the current economic environment — doesn’t take several important factors into account.
Origin of the term “secular stagnation”
The term “secular stagnation” was coined by Alvin Hansen in his 1938 American Economic Association presidential address, “Economic Progress and Declining Population Growth.” Writing in the latter stages of the Great Depression, Hansen argued that, because of apparent slowdowns in population growth and the pace of technological advance, firms were unlikely to see much reason to invest in new capital goods. He concluded that tepid investment spending, together with subdued consumption by households, would likely prevent the attainment of full employment for many years.
Bernanke’s first point is that extremely low interest rates will eventually overcome secular stagnation because any investment is profitable. He offers an extreme example to make his point: “For example, at a negative (or even zero) interest rate, it would pay to level the Rocky Mountains to save even the small amount of fuel expended by trains and cars that currently must climb steep grades. It’s therefore questionable that the economy’s equilibrium real rate can really be negative for an extended period.”
The biggest flaw in the secular stagnation hypothesis is that it doesn’t sufficiently consider the international dimension. Bernanke says the “availability of profitable capital investments anywhere in the world should help defeat secular stagnation at home.”
He points out that foreign exchange is one mechanism through which this could work. If American firms and investors start investing abroad, the outflows of financial capital would weaken the dollar, eventually boosting US exports. Bernanke goes to say: “Increased exports would raise production and employment at home, helping the economy reach full employment. In short, in an open economy, secular stagnation requires that the returns to capital investment be permanently low everywhere, not just in the home economy.”