Friday, August 15, 2014

The Secular Stagnation Bug is Spreading at the Fed

Speaking of secular stagnation, it appears to be catching on at the Fed. Here is CNBC's Alex Rosenberg:
Is there something seriously wrong with the economy?
It's a scary prospect, and a concern that's gotten louder and louder over the past year. In economic circles, it goes by the alliterative name of "secular stagnation." And it's a phrase that Fed watchers are likely to hear more and more in the months ahead.
Recent comments by the vice chairman of the Federal Reserve, Stanley Fischer, indicate questions within the central bank about whether the slow growth that has followed the recent recession could reflect, or at least could potentially morph into, longer-term issues within the economy. And while Fischer avoided the phrase "secular stagnation" in his Monday speech, Minneapolis Fed President Narayana Kocherlakota is planning to host a November symposium that directly addresses the issue of secular stagnation by name, CNBC has learned.
Actually, it is worse than Rosenberg reports. The FOMC projections that are available show a pronounced downward trend in the "longer run" forecast of the federal funds rate. This projection is the expected average value of the federal funds rate over the long run. In short, its the expected long-run netural federal funds rate. Its declining trend can be seen in the figure below which shows the average of each member's FOMC "longer-run"forecast for each meeting where projections are available:

I have a hard time believing the fundamentals warrant this downward revision in the long-run neutral interest rate. Where is the optimism? Clearly, the FOMC members need to drink an elixir of readings by Joel Mokyr, Erik Brynjfolsson and Andrea McAfee, and Marc Andreessen to beef up their technology optimism. And then they could follow it up with a Bill McBride treat of demographic optimism. And to wash it all down, they should finish with a John Cochrane cocktail of secular stagnation skepticism.

Update: I stand corrected. Stanley Fischer in his speech actually leaves open the possibility of strong productivity growth going forward. Good for him! Here is an excerpt and related footnote:
Possibly we are moving into a period of slower productivity growth--but I for one continue to be amazed at the potential for improving the quality of the lives of most people in the world that the IT explosion has already revealed. Possibly, productivity could continue to rise in line with its long-term historical average10 
And here is footnote 10
For a fuller discussion, see, for example, Erik Brynjolfsson and Andrew McAfee (2011), Race Against the Machine: How the Digital Revolution Is Accelerating Innovation, Driving Productivity, and Irreversibly Transforming Employment and the Economy (Lexington, Mass.: Digital Frontier Press); Erik Brynjolfsson and Andrew McAfee (2014), The Second Machine Age: Work, Progress, and Prosperity in a Time of Brilliant Technologies (New York: W. W. Norton & Company); and Martin Neil Baily, James Manyika, and Shalabh Gupta (2013), "U.S. Productivity Growth: An Optimistic Perspective," International Productivity Monitor, no. 25 (Spring), pp. 3-12. See also Ben Bernanke (2013), "Economic Prospects for the Long Run," speech delivered at Bard College at Simon's Rock, Great Barrington, Mass., May 18. 


  1. Hi David, You are writing a great analysis. I agree with you about productivity. It will begin to rise just fine once the effective demand constraint loosens up. Same will happen in the UK too, hopefully.
    For me, Larry Summer's secular stagnation idea is simply the view that a lower natural real rate is necessary to reach the previous output potential. But the previous potential is not going to be reached due to the effective demand constraint. The result is that the natural real rate really hasn't declined, only potential has. And potential is demand constrained, and has actually always been demand constrained. Ultimately, the Fed will find itself behind the curve once this becomes clear.

    1. Edward, I was really surprised to see the downward trend in the FOMC projection of the long-run neutral rate. I'm having a hard time understanding why they are now buying into it.

  2. I have more faith in African witch doctors than in supposedly professional economists wittering on about the latest fashionable phrase, i.e. "secular stagnation". If Larry Summers made a speech saying that tea leaf reading provides the solution for economic problems, I bet half the economists in the country would be studiously examining their tea leaves.

  3. I have to think that somebody has done a regression of NGDPG and RGDPG to determine the optimal level of nominal growth. I have tried to do this using my eyeballs, and it looks like 5-7%. Right now it's 4%, which is far below optimal. We can't know what the RGDPG potential is until we get NGDPG up to 6%. This will require 3% inflation, which will never happen as long as the fed is targeting 1.5%.