Last month in this space I argued that we may be in a period of secular stagnation in which sluggish growth, output and employment at levels well below potential, and problematically low real interest rates might coincide for quite some time to come. Since the beginning of this century U.S. GDP growth has averaged less than 1.8 percent per year. Right now the economy is operating at nearly 10 percent — or more than $1.6 trillion — below what was judged to be its potential path as recently as 2007. And all this is in the face of negative real interest rates out for more than 5 years and extraordinarily easy monetary policies.
Some time ago speaking at the IMF, I joined others who have invoked the old idea of secular stagnation and raised the possibility that the American and global economies could not rely on normal market mechanisms to assure full employment and strong growth without sustained unconventional policy support. My concern rested on a number of considerations. First, even though financial repair had largely taken place four years ago, recovery since that time has only kept up with population growth and normal productivity growth in the United States, and has been worse elsewhere in the industrial world. Second, manifestly unsustainable bubbles and loosening of credit standards during the middle of the last decade, along with very easy money, were sufficient to drive only moderate economic growth. Third, short-term interest rates are severely constrained by zero lower bound and there is very little scope for further reductions in either term premia or credit spreads, and so real interest rates may not be able to fall far enough to spur enough investment to lead to full employment. Fourth, in such a situation falling wages and prices or inflation at slower-than-expected rates is likely to worsen economic performance by encouraging consumers and investors to delay spending, and to redistribute income and wealth from higher spending debtors to lower spending creditors.