Recycling dead-end or wrong theories

Not being able to think ‘outside the box’, economists are recycling ‘theories’.

In recent days, two have ‘shot up (again) in the charts’: Secular Stagnation and Stagflation.

Maybe they´re not unrelated. David Andolfatto links them at the start of his recent post “Secular stagnation then and now”:

Secular stagnation refers to a prolonged and indefinite period of slow growth and high unemployment (or subnormal factor utilization). When was the last time this happened in the United States? Most people are likely to say the 1930s. In fact, it was the 1970s.

Also, when many, like Time, go for the “Secular Stagnation” moniker as in “This Theory Explains Why the U.S. Economy Might Never Get Better”:

These confounding circumstances have led many economists to rally behind the concept of so-called “secular stagnation.” As a diagnosis, secular stagnation is simple: It’s the idea that the economic problems the U.S. continues to face aren’t a product of the “business cycle,” the ebb and flow of boom times and recession (hence the “secular” part), but may well be permanent drags on the modern economy. “It’s a kind of long term and sustained slow-down in economic growth,” says Larry Summers, who served as Bill Clinton’s treasury secretary and is widely credited with dusting off the concept of secular stagnation and bringing it into the mainstream.

Others, like the WSJ, prefer to call it “Stagflation” as in “The U.S. may be heading for stagflation-lite—weak growth and accelerating price rises”:

One interpretation: the market is worried that growth will remain so-so while rising oil prices and incipient wage pressure force the U.S. Federal Reserve to tighten policy. Not exactly the stagflation of the 1970s, which ended in 1980 with inflation hitting 15% amid a recession. But a sort of stagflation-lite: weak growth and accelerating price rises.

“I think we are in a situation where [the Fed] might be forced to normalize rates because of inflation while the underlying economic momentum is slowing down and not capable of digesting higher rates,” said Jean Medecin, a member of the investment committee at Carmignac, a French fund manager.

A bit baffled by all this, Roger Farmer writes “Idiopathic Tardus Augmenti” and explains the title of his post at the end:

Ignorance is not a reason for embarrassment. When medical doctors do not understand the cause of a disease, they cloak their ignorance with Latin. An illness of unknown origin is ‘idiopathic’. Economists should adopt the same strategy. When growth is slow and we don’t know why, the economy is not experiencing secular stagnation. We are afflicted with a bout of idiopathic tardus augmenti

The facts: At least until 2006 the US has not experienced either “Secular Stagnation” or “Stagflation”!

Let´s look at some numbers (and charts)

  1. From 1890 to 2006, average real growth was 3.5%. Growth was very “choppy”, with a standard deviation (volatility) of 5.3 (Note that all the “choppiness” happens in the pre WWII period)

Recycling_1

  1. From 1947 to 2006, real growth averaged a comparable 3.4% but was less than half as “choppy”, with a standard deviation of just 2.4

Recycling_2

  1. From 1983 to 2006 (a “Great Moderation”) real growth averaged the same 3.4%, but “choppiness” was greatly reduced, with a standard deviation of only 1.4

Recycling_3

Now, let´s take a closer look at the so-called “Stagflation” decade, the 1970s.

From 1970 to 1979, real growth averaged 3.3%, just a notch below the very long-term trend. “Choppiness”, at 2.5, was basically the same as that found for the 1947-2006 period (2.4).

Recycling_4

As such, calling the 1970s “Stagflation” is a stretch! But there was certainly a lot of“Flation”!

Recycling_5

Looking at the post “Great Recession” of 2007-09, from 2010 to the present real growth averaged a much lower 2.1% with almost non existant volatility (standard deviation of 0.5). That may certainly “qualify” as a (still short) period of “stagnation” (maybe not “secular”). It´s better described as a “flat sea at low tide”.

Recycling_6

But there´s certainly no “flation” to go along with the “stag”, as the WSJ calls it! A flat sea at low tide is not known to produce “surfer-friendly waves”!

Recycling_7

One important implication: If you´re going to talk about “Secular Stagnation”, don´t look to the past for guidance. The reasons must be found in the present!

11 thoughts on “Recycling dead-end or wrong theories

  1. I always associated the term stagflation with higher unemployment and higher inflation. As in the 1970’s where the old Phillips Curve seemed to stop working. But it probably makes more sense to link that term to slower growth rather than higher unemployment. Either way, what is so bad about recycling theories? Maybe some of the old theories were right? I have always been hesitant to ask this, but is there any reason that precludes someone from thinking that Keynes had the right idea about what causes recessions and at the same time thinking that monetary policy should level target NGDP?

    • Jerry, There´s nothing wrong with “recycling” theories (Market Monetarists recycled monetarism, for example). But not when they´re wrong or dead-end. As I showed, over the last 125 years there´s been no instance of SS or Stagflation. NGDP-LT is certainly consistent with Keynes´ views about what causes recessions. In fact, it´s a stratagem to reduce the frequency/severity of recessions, especially if they are supply induced!

      • Thank you so much for your reply! It has been a major worry for me that thinking NGDP-PL was a better policy for the central bank necessarily was logically inconsistent with, well, most of my other macro views. And I am looking forward to learning more about NGDP-LT addressing supply induced problems.

  2. Hm. What one major category of private investment dropped to unprecedented lows after 2005, never to recover? That would be quite a coincidence. As long as so many are primed to shout “bubble” everytime home prices, mortgages, or even rents approach normal levels, we will remain here. Housing is the problem. Full stop. Trillions in potential Private residential investment and Housing services expenditures over a decade have been prevented.

    • Probably the most important thing inflation would have healed is negative equity. Even if we had still had the bust, an extra 10 to 15% in cumulative inflation would have done wonders for frictions in the housing market. In fact, top to bottom real home prices weren’t that much worse than early 80’s and early 90s. But they had higher inflation.

  3. Pingback: Janet Yellen Without Hamlet | The Corner

  4. Pingback: Janet Yellen without Hamlet – NGDP Advisers

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