Friday, December 12, 2014

This should come as no surprise

I'm starting to like Larry Summers. I went out of my way this morning to read one of his at VOX: Reflections on the new 'Secular Stagnation hypothesis' from this past October.

Summers writes of the FERIR -- the "full employment real interest rate". A decline in that rate, Summers says, "coupled with low inflation could indefinitely prevent the attainment of full employment."

John Bull can't stand 2 percent, I guess. Anyway, Summers writes:
Laubach and Williams (2003) have attempted to estimate the FERIR – using data on actual real interest rates and measures of where the economy is relative to its potential. While many issues can be raised with respect to their calculations, Figure 4 illustrates their estimate of a substantial long term decline in the FERIR.

Figure 4. US natural rate of interest

Sources: Thomas Laubach and John Williams “Measuring the Natural Rate of Interest”

And, Summers writes of the IMF:

They have reached conclusions similar to the ones I have reached here – that the FERIR has likely declined in recent years. This observation, together with the observation that lower US inflation – and in Europe declining rates of inflation – make it more difficult than previously to reduce real interest rates. This in turn suggests that the zero lower bound and secular stagnation are likely to be more important issues in the future than in the past.

Okay. A low FERIR is a problem because of the difficulty of lowering it further. (This sounds like an unsustainable strategy, no?) So, could something be done to push the FERIR to a higher level?

Well, look at the Figure 4 graph. It wanders, but it wanders on a downhill trend. The two largest increases occur, one in the early 1960s and one in the mid- to late-1990s. Gee, in both of those periods, the economy was strongly improving. Okay, well, this supports Summers' contention that a falling FERIR is a problem.

But look at that second increase. See when it occurs? It comes just after the downtrend in the debt-per-dollar ratio, and just when that ratio starts rising again:

Graph #1: Accumulated Total Debt per Dollar of Spending-Money
This should come as no surprise.


The Arthurian said...

Oh, and the first of the two "Figure 4" increases occurred while the Debt-per-Dollar ratio was low.

The Arthurian said...

... when the ratio was low, and rising. As with the second increase: low, and rising. See the pattern?

And for the record, the small drop in DPD in the early 1990s was the driving force behind the brief spell of good years in the latter 1990s... The large drop in DPD from 1933 to 1946 was the driving force behind the sustained period of good years that followed World War Two.

Auburn Parks said...

Very insightful Art. Its interesting to compare DPD changes with changes in income inequality via the GINI coefficient.

Its almost as if rich people dont spend there money in ways that increase broad based economic activity. And the savings desires of the private sector increase as a larger and larger share of national income goes to the top.