In a lengthy Washington Post op-ed Lawrence Summers gives a good college try to explaining low real interest rates:
â—First, increases in inequality — the share of income going to capital and corporate retained earnings — raise the propensity to save.
â—Second, an expectation that growth will slow due to a smaller labor force growth and slower productivity growth reduces investment and boosts the incentives to save.
â—Third, increased friction in financial intermediation caused by more extensive regulation and increased uncertainty discourages investment.
â—Fourth, reductions in the price of capital goods and in the quantity of physical capital needed to operate a business — think of Facebook having more than five times the market value of General Motors.
If there is an increased propensity to save, I wonder how it’s being manifest? The St. Louis Federal Reserve doesn’t report it:
Maybe Dr. Summers sees saving somewhere else.
I’d buy the third one. That we have more extensive regulation and increased uncertainty is obvious. I wonder how you’d go about quantifying those?
His fourth explanation is particularly interesting. Doesn’t that also militate against his proposals for infrastructure spending to spur economic growth? I.e. there just isn’t as much multiplier as there used to be.
And in this paragraph he makes an argument I’ve been making here for years:
What is needed now is something equivalent but on a global scale — a signal that the authorities recognize that secular stagnation, and its spread to the world, is the dominant risk we face. After last Friday’s dismal U.S. jobs report, the Fed must recognize what should already have been clear: that the risks to the U.S. economy are two-sided. Rates will be increased only if there are clear and direct signs of inflation or of financial euphoria breaking out. The Fed must also state its readiness to help prevent global financial fragility from leading to a global recession.
The way I have usually phrased it is that the tools that were effective in nudging the domestic economy just aren’t as effective under globalization. Here’s something “on a global scale”: how about China and Germany abandon their mercantilist policies? If the two of them started importing a couple of hundred billion more, that would probably have some real impact.
Indeed, I think we’re likely to see phlegmatic growth here as long as China, Germany, and Japan maintain mercantilist policies. “Beggar thy neighbor” policies are dandy until you’ve actually beggared your neighbor. Then they’re problematic.
Knightian-Schumpeterian-Keynesian uncertainty should result in higher interest rates as investors demand a greater return for parting with their liquidity. Assuming that Summers is using the term incorrectly (which he very well may be) his suggestion indicates he doesn’t understand the difference between uncertainty and risk.
As should be clear from my post I found a lot of what he had to say, well, puzzling. I also think that the paragraph I highlight is putting his cards on the table. He wants the IMF or World Bank or some new institution to become the Global Fed. As if.
Summers usually comes off as incoherent. My question: is he really confused as he sounds or horrid at communicating his thoughts? I think the former as Krugman has the same problem in contradicting himself.
Lawrence Summers is clueless. He throws shit at the wall, and he critiques what sticks as if it were a theory. It is a typical parlor trick, and he is not alone.
When the theory is disproven, he can claim it was actually a scientific experiment to determine the ratio of the coefficient of friction between the various pieces of shit stuck to the wall.
Finally, he can claim he is assessing the aesthetic qualities of the pattern of swirls formed by the shit slowly sliding down the wall.
I suggest that whatever Mr. Summers is proposing today will be wrong shortly, and he will have forgotten it as quickly.
The world is awash in unsound money, and creating more unsound money through credit creation will not solve the problem.
When the amount of unsound money was limited and controlled, its negative side-effects were minimal, and it could be used to increase the expansion rate of the economy through the money supply.
The saying, “if a little is good, a lot is better” is not true about crack or unsound money. Most economic theories are built upon sound money, and as the amount of unsound money increases, they are less reliable. The last seven years have not been an anomaly, and they will continue. The smartest people in the whole wide world will continue to be baffled, but they will be absolutely sure I am wrong.
Keynesian economic theories do require unsound money, but I suspect that he would be aghast at the percentage of unsound money in existence today. He would probably burn his books.
Eventually, the limits and controls on unsound money will be re-established. Most likely, a group of countries will establish a monetary agreement – Bretton Woods II maybe. With a sensible monetary agreement, actual free trade can follow, and a lot of financial regulations become unnecessary.
Of course, I could be wrong, and outlawing cash with negative interest rates for saving might be just the ticket to economic prosperity.