Secular Stagnation

A sterile term like “secular stagnation” could strike fear only into the heart of an economist. But it could be the malaise that defines the economic prospects of our generation.

Secular (here used in the sense of “persistent”, not “nonreligious”) stagnation refers to a long-term climate of low economic growth. In the conventional wisdom, booms should follow busts; recessions should be followed by a periods of high employment and inflation. America technically exited recession in 2009, but the past five years certainly haven’t felt like a boom. In fact, there’s every indication that the economy is operating far from its full potential. Until recently, unemployment has remained stubbornly high, and inflation has stayed low. This continued under-performance in the face of conventional theories about the business cycle is secular stagnation.

But secular stagnation’s roots may reach even farther back than the recent recession. Bubbles should overheat the economy: Inflation should rise, and unemployment may fall to unnaturally low levels. But during the housing boom of the mid-2000s and even the halcyon Clinton tech-bubble years, unemployment was never unusually low and inflation remained stable. In other words, the two largest asset bubbles in recent history produced essentially normal macroeconomic conditions. According to the secular stagnationists (an awkward coinage, I’ll grant), this implies that the economy may need bubbles to reach its full potential.

The theoretical causes of secular stagnation are a little murky. Depending on who you talk to, you will get a different answer. In the original Larry Summers and Paul Krugman flavor (vanilla, if you will), the problem is a shortfall in demand—an aging population with cautious saving habits would create an environment of lower interest rates, which would reduce private investment. This has been Japan’s recent experience. Other theorists point to supply-side constraints: a slowdown in innovation, or a decline in labor-force participation.

Whatever your flavor, the potential costs of secular stagnation are worth taking seriously. When there is an economic downturn, ordinary people rightly focus on the tangible symptoms: massive layoffs and stagnant wages. But secular stagnation, if it exists, would also have a pernicious hidden cost: the lost output from goods not created and investments not made—in economic jargon, opportunity costs. Secular stagnation means that millions of people who would have had jobs in ordinary conditions will not have them; material wealth that in another circumstance could have improved quality of life will simply never exist.

Admittedly, in delving into secular stagnation’s implications we have committed the classic economist’s mistake of assuming too much. Critics of secular stagnation as a concept point out that there’s an epistemological problem: It’s very difficult to distinguish secular stagnation from a poor but prolonged turn of the business cycle. Only in hindsight can we judge if a trend is secular or temporary—and even then economists will disagree.

Economists have not had a great track record with long-term predictions. Three days before the 1929 Black Tuesday Crash, Yale economist Irving Fisher pronounced that “stock prices have reached what looks like a permanently high plateau.” Secular stagnation is no exception to this unfortunate pattern: Harvard economist Alvin Hansen coined the term in the late 1930s to describe his prediction that the United States’ growth potential had been played out. The US economy responded to Hansen by tripling in size from 1940 to 1960.

This criticism is perhaps a little unfair. Secular stagnation is not without precedent; Japan has struggled with low growth and negative inflation since the 1990s—a “Lost Decade” that has dragged on for twenty years. I think the appropriate reaction here is sympathetic skepticism. The secular stagnationists have yet to advance a clear theoretical case for their view, but their empirical evidence is compelling. And the implications of secular stagnation, for the economic welfare of our generation, merit at least thoughtful consideration.

Oliver W. Kim ’16, a Crimson editorial writer, is an economics concentrator living in Leverett House.