In an influential speech on November 8, 2013 at the IMF Annual Research Conference, Larry Summers suggested that slow economic growth in the years following the 2007–2008 financial crisis might be due to "secular stagnation" (a concept introduced in 1938 by Alvin Hansen in his book Full Recovery or Stagnation?). The Financial Times defines "secular stagnation" as follows:
Secular stagnation is a condition of negligible or no economic growth in a market-based economy. When per capita income stays at relatively high levels, the percentage of savings is likely to start exceeding the percentage of longer-term investments in, for example, infrastructure and education, that are necessary to sustain future economic growth. The absence of such investments (and consequently of the economic growth) leads to declining levels of per capita income (and consequently of per capita savings). With the reduced percentage savings rate converging with the reduced investment rate, economic growth comes to a standstill – ie, it stagnates. In a free economy, consumers anticipating secular stagnation, might transfer their savings to more attractive-looking foreign countries. This would lead to a devaluation of their domestic currency, which would potentially boost their exports, assuming that the country did have goods or services that could be exported.
Persistent low growth, especially in Europe, has been attributed by some to secular stagnation initiated by stronger European economies, such as Germany, in the past few years.
I think it may be useful to include a brief summary of Alvin Hansen's original secular stagnation theory. Paul Sweezy summarises the theory as follows:
Hansen’s position was best summed up in his 1938 book Full Recovery or Stagnation? [...]
[Joseph] Schumpeter labeled Hansen’s theory the “theory of vanishing investment opportunities,” and it is an apt characterization. According to this theory, the modern developed capitalist economy has an enormous capacity to save, both because of its corporate structure and because of the very unequal distribution of personal income. But if adequate profitable investment opportunities are lacking, this saving potential translates not into real capital formation and sustained growth but into lowered income, mass unemployment, and chronic depression, a condition summed up in the term stagnation. (The framework of this analysis was of course derived directly from Keynes’s General Theory, which was published in 1936, and of which Hansen was the best known interpreter and champion on this side of the Atlantic.)
To complete the theory, what was needed was an explanation of why there should be such a dearth of investment opportunities in the 1930s as compared to earlier times. Hansen’s attempt to fill this gap ran in terms of what he considered to be certain irreversible historical changes which had begun to build up in earlier decades and finally came to dominate the scene after what Schumpeter called the “world crisis” began in 1929. To oversimplify somewhat, these changes, according to Hansen, were (1) the end of geographical expansion, sometimes put in terms of the “closing of the frontier” but interpreted by Hansen in a wider global sense; (2) a decline in the rate of population growth; and (3) a tendency on the part of new technologies to be less capital-using than in earlier stages of capitalist development. In Hansen’s view, all these changes operated to restrict the demand for new capital investment and in this way transformed the system’s great capacity to save into a stagnation-producing force rather than an engine of rapid growth." (Paul M. Sweezy, "Why Stagnation?", Monthly Review, June 1982)
I think the meaning of factors 1) and 2), as described above by Paul Sweezy, is fairly clear. To clarify the meaning of factor 3), I will quote from Alvin Hansen's 1938 book Full Recovery or Stagnation?, in which he introduced the term "secular stagnation":
A capitalistic economy with a machine method of production has taken the place of a handicraft economy with its direct production processes. The transformation of a rural economy into a capitalistic one is something distinctly different from the further evolution of a society which has already reached the status of a fully-developed machine technique. It is true that we are still engaged in making labor-saving inventions. Extremely important, however, is the question: Are these new labor-saving techniques likely to be preponderantly capital-using or neutral with respect to the use of capital?
If the labor-saving inventions are used to tap potential consumer demand through a sensible price policy, a widening of capital will of course occur. The importance of a flexible price structure thus comes again to the fore.
It appears that the great advance made in the productivity of manufacturing in the United States in the decade of the twenties was made by reason of innovations in methods of production that to a large extent did not involve the use of more capital. I do not make any forecast; but it is a grave question whether inventions and innovations are not likely in the future to be less capital-using than in the nineteenth century. In contrast, while we were in process of changing over from a direct method of production to an elaborate capitalistic technique, as in the last century, innovations perforce had to be capital-using in character.
It has been asserted that an increasingly rapid rate of obsolescence is likely to absorb large amounts of capital. Unfortunately, however, the high risk incurred in an economy with a rapid obsolescence rate forces corporate officials almost of necessity to set aside abnormally large depreciation reserves. Thus we encounter a vicious circle with attendant deflationary consequences. [...]
Technical innovation may still bring about a very large increase in efficiency, even though manufacturing is not absorbing any appreciable amount of new capital. It is quite possible to have a continued rise in productivity even though there should be no material increase in producers' capital in the narrow sense of the term. Improved equipment, financed mainly out of depreciation allowances, will continue to raise the per capita output." (Alvin Hansen, Full Recovery or Stagnation?, 1938, pp. 314–316, in Chapter 19 entitled "Investment Outlets and Secular Stagnation")
In his speech at the IMF, Summers said: "Suppose that the short-term real interest rate that was consistent with full employment had fallen to -2% or -3% sometime in the middle of the last decade." Edward Lambert of Effective Demand Research explains what this means in this Youtube video.
In an interview with Chrystia Freeland on April 15, 2014 at a meeting organized by the Institute for New Economic Thinking (INET) think tank, Summers elaborated on his suggestion that recent slow economic growth is a result of secular stagnation. In particular, Summers listed several possible causes of secular stagnation. The whole interview can be watched on Youtube:
https://www.youtube.com/watch?v=WjyRNiwlJ_U
Freeland asks Summers about the causes of secular stagnation at 28 minutes, 23 seconds in the video. I have taken the liberty to transcribe Summers' answer (I added line breaks and numbers from (1) to (5) to distinguish the five possible causes mentioned by Summers).
Chrystia Freeland: Moving to causes of secular stagnation. What do you think is driving it?
Larry Summers: You know, I think this is something that there's room for a lot more research on and I certainly haven't done formal research. I think the first thing to say is that if you look at either econometric attempts to estimate the equilibrium real interest rate for the United States, or as the IMF has recently done, for the world, or you look at indexed bond yields, what you see -- and particularly forward indexed bond yields -- what you see is a clear downward trend going back fifteen to twenty-five years. So there's pretty clearly a phenomenon there, and then the question is, what's the explanation?
I can't give weights to these factors and I suspect the appropriate weight on the different factors I'm gonna mention, Chrystia, changes over time. But here would be a number of them:
(1) Greater concentration of wealth and income means lower spending propensities and more incipient saving
(2) A desire on the part of emerging markets to accumulate large amounts of reserves, and in particular by running current account surpluses, and in particular to hold those reserves in highly liquid instruments like U.S. bonds, tending to depress yields
are two major factors on the savings side.
On the investment demand side,
(3) Slower population growth and labour force growth
and possibly also
(4) Slower technological change -- though that can be very much debated -- operates to reduce investment demand.
(5) My explanation that feels right to me is that there have been structural changes in the economy that reduce the demand for investment in fundamental ways. Think about this: WhatsApp [an instant messaging app for smartphones] cost 19 billion dollars and it was 55 people working in some building in rented space. Sony is tens of thousands of people, it's capital, it's factories, it's all that stuff, and it's 18 billion dollars. Think about what the world was like when General Motors or AT&T or Exxon or IBM were iconic companies. They were issuing debt. They were investing on a massive scale to expand capacity and to build networks. Now think about iconic companies of today like Apple and Google. They have more cash flow, fundamentally, than they know what to do with. And the result of that, of course, is an excess supply of savings. Another way to approach the question is to say, what's happened to the relative price of durable equipment, either producer equipment or consumer equipment, appliances? And the answer is those prices have gone way down. Well, when those prices go way down it means a given unit of savings goes much further.
All of that, it seems to me, operates to reduce real interest rates. In just what sequence, and just which factors are most important at particular points of time, I think is very much open to question and research. But I think for now, we have to maintain a significant presumption that equilibrium real rates are lower than they have been in the past. That probably living with those low real rates... Well, pushing real rates well above equilibrium real rates, as many in the central banking community continue to advocate, and not doing anything else, is, it seems to me, a prescription for protracted stagnation. Accepting the reality of those lower real rates raises the questions that I posed before around financial stability. And what we need to be thinking about is how to do things in our economies... And I think increasing public investment where there is high-productivity public investment to be done, is the easiest and best way to do this. That will operate to raise equilibrium real rates and raise output at the same time.
Of these five possible causes of secular stagnation identified by Summers, 1) is basically the old underconsumption argument going all the way back to Simonde de Sismondi's Nouveaux principes d'économie politique in 1819. 3) and 4) are factors included in Alvin Hansen's theory of secular stagnation.
5) is similar to a factor that has been discussed before in the literature on secular stagnation. Anthony Scaperlanda, in his article "Hansen's Secular Stagnation Thesis Once Again" (Journal of Economic Issues, Vol. 11, No. 2, June 1977, pp. 223–243) notes that "a number of recent innovations have been capital saving." On page 231, he identifies the data processing industry as one industry in which this has taken place:
In summary, one can identify a number of new industries in recent decades. They, no doubt, stimulate autonomous investment. Without knowing precisely how much investment was stimulated it is easy to recognize that unless still newer industries are stimulated by technological innovation, this influence will not elicit as much autonomous investment as it has in the immediate past.
This is especially true since a number of recent innovations have been capital saving. For example, in the major new industry of data processing the technological improvements and refinements have been so rapid that total investment may have increased very little vis-à-vis what would have taken place in precomputer machines to handle data processing. Focusing only on the technological advances which have occurred in the computer-based data processing industry, one can note that "on an early vacuum tube computer the cost to the customer of performing 100,000 multiplications was 1.38 dollars; in the second or 'transistorized' stage the cost was 24 cents; and in the current microminiature-circuit stage, the cost is down to 3.5 cents or less." [John M. Blair, Economic Concentration: Structure, Behavior, and Public Policy (New York: Harcourt Brace, Jovanovich, 1972), p. 147]
One possible cause of secular stagnation which Larry Summers does not mention is increasing degree of monopoly in the economy as a whole. Josef Steindl argued in his 1952 book Maturity and Stagnation in American Capitalism that "development of monopoly ... is ... the main explanation of the decline in the rate of growth of capital which has been going on in the U.S. from the end of the last century. This is not to say that other factors have not played a role..." Other economists such as Paul Sweezy, Paul Baran, and Keith Cowling have also argued that a high degree of monopoly in the economy as a whole causes secular stagnation.
What theories have been proposed to explain secular stagnation? It might be interesting and useful to contrast alternative explanations of the phenomenon. What books or articles expound these alternative theories?
