U.S. Economic Prospects: Secular Stagnation, Hysteresis, and the Zero Lower Bound

I would like to thank Michael Peterson very much for his generous words of introduction and for his thoughtful observations about the long-run economic challenges that our country faces. You do not, however, get to the long run except through the short run, and what happens in the short run has a profound impact on the long run. To reverse Keynes a bit, if you die in the short run, there is no long run. So my preoccupation this morning will be with a set of temporary but, I believe, ultimately long-term concerns.

Before I turn to those concerns, however, let me just say how grateful I am to be back with the National Association for Business Economics. It seems to me that the members of this organization make an enormous, ongoing contribution to evaluating, understanding, and responding to the flow of economic events. I have been coming to these meetings on and off now for more than 30 years, and I have always been struck by the sophistication and relevance of the analyses that are provided herein.

Indeed, I think it is fair to say that some of the themes that are today central to discussions of academic macroeconomists, but that had receded from the debate for many years, were always kept alive at the National Association for Business Economics. I think, for example, of the importance of the financial sector and the flow of credit. I also think of the issues surrounding confidence and uncertainty. These topics have long been staples of the discussions at NABE meetings.

Macroeconomics, just six or seven years ago, was a very different subject than it is today. Leaving aside the set of concerns associated with long-run growth, I think it is fair to say that six years ago, macroeconomics was primarily about the use of monetary policy to reduce the already small amplitude of fluctuations about a given trend, while maintaining price stability. That was the preoccupation. It was supported by historical analysis emphasizing that we were in a great moderation, by policy and theoretical analysis suggesting the importance of feedback rules, and by a vast empirical program directed at optimizing those feedback rules.

Today, we wish for the problem of minimizing fluctuations around a satisfactory trend. Indeed, I think it is fair to say that today, the amplitude of fluctuations appears large, not small. As I shall discuss, there is room for doubt about whether the cycle actually cycles.

Today, it is increasingly clear that the trend in growth can be adversely affected over the longer term by what happens in the business cycle. And today, there are real questions about the efficacy of monetary policy, given the zero lower bound on interest rates.

In my remarks today, I want to take up these issues—secular stagnation, the idea that the economy re-equilibrates; hysteresis, the shadow cast forward on economic activity by adverse cyclical developments; and the significance of the zero lower bound for the relative efficacy of monetary and fiscal policies.

I shall argue three propositions. First, as the United States and other industrial economies are currently configured, simultaneous achievement of adequate growth, capacity utilization, and financial stability appears increasingly difficult. Second, this is likely to be related to a substantial decline in the equilibrium or natural real rate of interest. Third, addressing these challenges requires different policy approaches than are represented by the current conventional wisdom.

Read the full article here.