Secular Stagnation or Self-Inflicted Malaise?

by Hans-Werner Sinn

Hans-Werner Sinn, Professor of Economics at the University of Munich, was President of the Ifo Institute for Economic Research and serves on the German economy ministry’s Advisory Council.



MUNICH – Almost exactly eight years ago, the Lehman Brothers collapse plunged the global economy into recession. The interbank market collapsed, and the entire industrialized world was thrown into the worst crisis since the end of World War II. Though central banks have maintained ultra-low interest rates, the crisis hasn’t yet been fully overcome. On the contrary, numerous economies, such as the southern European countries and France, simply aren’t making any headway. And Japan has been on the ropes for a quarter-century.

Some economists believe that this is evidence of “secular stagnation,” a phenomenon described in 1938 by the American economist Alvin Hansen, who drew on Karl Marx’s Law of the Tendency of the Rate of Profit to Fall. Owing to the gradual exhaustion of profitable investment projects, according to this view, the natural real interest rate has continued to fall. Stabilizing the economy thus is possible only by an equivalent decline in policy interest rates.

In view of the huge credit bubble that preceded the crisis in Japan, the United States, and southern Europe, and the aggressive policies pursued by central banks over the last few years, I doubt that this theory is correct. In fact, I find it plausible that a very different mechanism lies behind the post-2008 stagnation, which I refer to as “self-inflicted malaise.”

This hypothesis is best understood in the context of the economist Joseph Schumpeter’s theory of the business cycle. Faulty expectations on the part of market participants regularly cause credit and asset-price bubbles. Investors, expecting prices and incomes to rise, purchase residential and commercial properties, and they take chances on new business ventures. Real-estate prices start to rise, a construction boom occurs, and a new phase of rapid expansion begins, partly sustained by the revitalization of the domestic economy, including services. The growth in incomes increasingly emboldens borrowers, which further heats things up.

Then the bubble bursts. Investment collapses and real-estate prices fall; businesses and banks go bankrupt; factories and residential buildings are vacated; and employees are laid off. Once prices and wages have fallen, new investors step in with new business ideas and establish new firms. After this “creative destruction,” a new phase of rapid expansion sets in.

In the current crisis, however, monetary policy preempted the creative destruction that could have formed the basis for a new upswing in growth. Asset holders talked central bankers into believing that Schumpeter’s economic cycle could be overcome by large-scale bond purchases financed via the printing press, and by corresponding interest-rate reductions.

To be sure, these measures stopped the fall in asset prices halfway and thus saved much wealth. But they also prevented sufficient numbers of young entrepreneurs and investors from risking a new start. Instead, established firms remained in place, keeping themselves afloat but lacking the wherewithal for new investments. In Japan and Europe, in particular, large numbers of such zombie firms and banks survived, and they are now blocking would-be competitors able to drive the next upswing in growth. The resulting economic ossification looks like the secular stagnation that Hansen described; in fact, the malaise is self-inflicted.

And, because low interest rates have reduced asset managers’ returns, some central banks – and the European Central Bank, in particular – have relied on successive interest-rate cuts in an effort to engineer ersatz value gains for assets. The economy is thus caught in a trap, forcing the ECB to engage in ever more radical monetary-policy measures. Its current program of quantitative easing is meant to double the money supply in a very short period. Further guns are being moved into position, such as successively more negative nominal interest rates or so-called helicopter money.

The only way out of the trap is a hefty dose of creative destruction, which in Europe would have to be accompanied by debt relief and exits from the eurozone, with subsequent currency devaluations. The shock would be painful for the incumbent wealth owners, but, after a rapid decline in the dollar values of asset prices, including land and real estate, new businesses and investment projects would soon have room to grow, and new jobs would be created. The natural return on investment would again be high, meaning that the economy could expand once again at normal interest rates. The sooner this purge is allowed to take place, the milder it will be, and the sooner Europeans and others will be able to breathe easy again.


Hans-Werner Sinn, Professor of Economics at the University of Munich, was President of the Ifo Institute for Economic Research and serves on the German economy ministry’s Advisory Council.

Copyright: Project Syndicate, 2016.
www.project-syndicate.org

 


This article is brought to you by Project Syndicate that is a not for profit organization.

Project Syndicate brings original, engaging, and thought-provoking commentaries by esteemed leaders and thinkers from around the world to readers everywhere. By offering incisive perspectives on our changing world from those who are shaping its economics, politics, science, and culture, Project Syndicate has created an unrivalled venue for informed public debate. Please see: www.project-syndicate.org.

Should you want to support Project Syndicate you can do it by using the PayPal icon below. Your donation is paid to Project Syndicate in full after PayPal has deducted its transaction fee. Facts & Arts neither receives information about your donation nor a commission.

 

 

Browse articles by author

More Current Affairs

Added 20.06.2018
Sessions quoted a line written by the apostle Paul to a small community of Christians living in Rome around 55AD to defend the Department of Justice’s approach. He said: "I would cite you to the Apostle Paul and his clear and wise command in Romans 13, to obey the laws of the government because God has ordained them for the purpose of order." Sessions used the Bible because one of the most vocal opponents of the crackdown on asylum cases has been the Catholic Church. It’s no surprise that Sessions appealed to Romans chapter 13 verse 1 in response: not only did he hope to undermine Catholic authority by using the Bible against them, he cited a statement so broad that one might use it to defend anything a government does, good or bad. Picture below St Paul writing his epistles, by Valentin de Boulogne, via Wikimedia Commons.
Added 19.06.2018
 

I find it exceptionally irritating when I hear liberals worry about whether Israel will be able to remain a "Jewish and Democratic State" if it retains control of occupied Palestinian lands.

Added 18.06.2018
Daniel Wagner: "My prediction Korean War will be formally ended, the peninsula will be denuclearised, and a lasting peace will be the result."
Added 14.06.2018
Extract: PiS [ the ruling Law and Justice party] has established the most significant addition to the Polish social safety net since 1989: the Family 500+ program. Launched in 2016, Family 500+ embodies the nationalism, traditional family values, and social consciousness that the PiS seeks to promote. The program pays families 500 złoty ($144) per month to provide care for a second or subsequent child...........The program has been enormously popular. Some 2.4 million families took advantage of it in the first two years. The benefit, equivalent to 40% of the minimum wage, has almost wiped out extreme poverty for children in Poland, reducing it by an estimated 70-80%........... Liberal pro-European politicians and policymakers are not convinced. They complain that such a generous family benefit will weaken work incentives and blow up the government budget. But initial evidence suggests that Family 500+ has actually increased economic activity. It has also reversed the post-communist decline in fertility, increased wages (particularly for women), and enabled families to buy school materials, take vacations, buy more clothes for their kids, and rely less on high-priced credit for basic household needs. And, thanks to rapid economic growth, the government deficit has steadily fallen, not grown.
Added 12.06.2018
The depths of hypocrisy of the Republican Party in supporting Trump’s meeting with the North Korean dictator in Singapore are hard to plumb. This is a party whose leading members adopted the Ostrich Foreign Policy Principle for decades. If you don’t like a country’s government or political and economic system, pretend it does not exist.
Added 12.06.2018
US Defense Secretary Jim Mattis has spoken out against China’s strategy of “intimidation and coercion” in the South China Sea, including the deployment of anti-ship missiles, surface-to-air missiles, and electronic jammers, and, more recently, the landing of nuclear-capable bomber aircraft at Woody Island. There are, Mattis warned, “consequences to China ignoring the international community.” But what consequences?
Added 12.06.2018
With a general election approaching in September, Swedish voters are being warned that now it’s their turn to be targeted by Russian interference in the democratic process. According to Sweden’s Civil Contingencies Agency (MSB), which is leading the country’s efforts to counter foreign-influence operations, such interference is very likely, and citizens should be on the lookout for disinformation and fake news.
Added 11.06.2018
Extract: "While the presidency has grown stronger over the years, during the Trump administration Congress has been timid and subordinate. That is because the leaders of the Republican Party – which controls both the House of Representatives and the Senate – are frightened of Trump’s base. They cannot afford to alienate the roughly 30-35% of Americans who passionately back him, ignore his personal transgressions, tolerate his degradation of the country’s civil discourse, favor his brutal treatment of immigrant families, and don’t mind that he is leaving the US almost friendless in the world."
Added 08.06.2018
Has North Korea’s ruler, Kim Jong-un, made a strategic decision to trade away his nuclear program, or is he just engaged in another round of deceptive diplomacy, pretending that he will denuclearize in exchange for material benefits for his impoverished country? This is, perhaps, the key question in the run-up to the summit between Kim and US President Donald Trump in Singapore on June 12. Until then, no one will know the answer, perhaps not even Kim himself.
Added 07.06.2018
Some analysts even project that, before long, Facebook will hold more data on its users than any government. Meanwhile, it makes a lot of money from this data. Its advertising revenues came up to around US$40 billion in 2017 (up 50% from 2016). With Google, it holds an 84% market share in online advertising.
Added 05.06.2018
Roseanne Barr is an American comedian whose fictional TV character of the same name is a working-class Trump supporter. For those who remember the show “All in the Family,” she might be usefully compared to Archie Bunker, the crude proletarian patriarch from Queens, New York. Barr’s show was swiftly canceled late last month by the television network ABC, not for anything her “character” said in her show, but for a tweet in which she described Valerie Jarrett, an African-American former adviser to Barack Obama, as the offspring of the Muslim Brotherhood and “Planet of the Apes.”
Added 04.06.2018
 

When Donald Trump was elected, I, like many others feared what his presidency might do to the country. A year and a half into his term in office, our concerns have been justified. 

Added 01.06.2018
Extract from the article: "While the West’s relative decline is almost inevitable, its economic dysfunction is not. Yet pessimism can be self-fulfilling. Why undertake difficult reforms if a dark future seems preordained? As a result, accepting and anxious pessimists tend to elect governments that duck difficult decisions (witness Germany’s grand coalition), while angry pessimists make matters worse (by voting for Donald Trump’s “America First” agenda or for Brexit, for example). It doesn’t have to be this way. As French President Emmanuel Macron has demonstrated, bold leaders can succeed with a message of hope, openness, and inclusion, and by promoting a vision of progress based on credible reforms."
Added 30.05.2018
It has been nearly two years since the United Kingdom narrowly voted in favor of leaving the European Union. As the march toward Brexit – formally set for the end of next March – proceeds, fundamental questions about the nature of the future UK-EU relationship remain unanswered. Instead, every time a tough decision must be made in the negotiations in Brussels, British ministers kick the can down the road, or even into the long grass. This is somewhat surprising. Apparently, none of the politicians and newspaper editors who plotted for years to get the UK out of the EU thought much about what would happen if their machinations succeeded.
Added 30.05.2018
Discussions are now underway to establish a system of joint deposit insurance for eurozone banks. Proponents of the scheme, with the European Commission and the European Central Bank (ECB) taking the lead, point out that deposit insurance would avert the danger of a run on banks in times of crisis. While this argument is true, critics emphasize the disparity in risks, owing to the high share of bad loans on the balance sheets of banks in some countries. To address this risk disparity and move ahead with the plan, balance sheets will need to be cleaned up before considering the next step. While the share of bad loans for banks in the stable eurozone countries is just 2%, the most recently published International Monetary Fund statistics, from last April, show a share of 11% for Ireland, 16% for Italy, 40% for Cyprus, and 46% for Greece.
Added 29.05.2018
Trump’s decision cannot be justified by any breach of the agreement on Iran’s part. It is, rather, a return to the old, largely unsuccessful US policy of confrontation with Iran. The only difference this time is that the Trump administration seems determined to go to the brink of war – or even beyond – to get its way. If the administration has any plans for keeping Iran’s nuclear program in check in the absence of the nuclear deal, then it is keeping them a secret. Judging by some of the administration’s rhetoric, it would appear that airstrikes against Iran’s nuclear facilities are on the table. But bombing would only delay Iran’s nuclear program, not stop it. Would Trump then consider a massive ground war to occupy the country and topple the regime? We know all too well how that strategy worked the last time it was tried.
Added 28.05.2018
US President Donald Trump’s abrupt decision to cancel his planned June 12 summit with Kim Jong-un represents a diplomatic coup for the North Korean leader, and an even bigger victory for China. In the space of just a few months, Kim’s image has gone from that of international pariah to that of thwarted peacemaker.
Added 23.05.2018
The good news is that the United States and China appear to have backed away from the precipice of a trade war. While vague in detail, a May 19 agreement defuses tension and commits to further negotiation. The bad news is that the framework of negotiations is flawed: A deal with any one country will do little to resolve America’s fundamental economic imbalances that have arisen in an interconnected world.
Added 21.05.2018
The cryptocurrency revolution, which started with bitcoin in 2009, claims to be inventing new kinds of money. There are now nearly 2,000 cryptocurrencies, and millions of people worldwide are excited by them. What accounts for this enthusiasm, which so far remains undampened by warnings that the revolution is a sham? One must bear in mind that attempts to reinvent money have a long history. As the sociologist Viviana Zelizer points out in her book The Social Meaning of Money: “Despite the commonsense idea that ‘a dollar is a dollar is a dollar,’ everywhere we look people are constantly creating different kinds of money.” Many of these innovations generate real excitement, at least for a while. As the medium of exchange throughout the world, money, in its various embodiments, is rich in mystique. We tend to measure people’s value by it. It sums things up like nothing else. And yet it may consist of nothing more than pieces of paper that just go round and round in circles of spending. So its value depends on belief and trust in those pieces of paper. One might call it faith.
Added 19.05.2018
The protests that rippled across Russia ahead of Vladimir Putin’s fourth inauguration as president followed a familiar script. Police declared the gatherings illegal, and the media downplayed their size. Alexey Navalny, the main organizer and Russia’s de facto opposition leader, was arrested in dramatic fashion, dragged out of a rally in Moscow by police. On May 15, he was sentenced to 30 days in prison. More than 1,600 protesters across the country were beaten and detained.