The fall­ing nat­u­ral rate is no mys­tery

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“The nat­u­ral rate is go­ing down be­cause we mov­ing into pe­riod of sec­u­lar stag­na­tion.”

“ex­cess sav­ings”






This re­minds me of Dr Di­afoirus in Moliere’s play The Hypochon­driac, who de­clared that opium puts peo­ple to sleep be­cause “it pos­sesses a so­porific power which in­duces sleep”.

- A sec­ond ex­pla­na­tion, much fa­vored by Key­ne­sians, is that there are in the world. As a re­sult pol­i­cy­mak­ers should pro­ceed to the eu­thana­sia of the ren­tier by main­tain­ing ab­nor­mally low rates.

- Other peo­ple talk about main­tain­ing that older peo­ple are un­pro­duc­tive (which I par­tic­u­larly resent).

- But prob­a­bly the most in­tel­lec­tu­ally-con­torted ex­pla­na­tion I have come across came from one the great lu­mi­nar­ies of mod­ern “eco­nomic sci­ence” (an oxy­moron if ever I heard one), who said that “

the growth rate is fall­ing be­cause peo­ple be­lieve we are en­ter­ing an ex­tended pe­riod of low growth”.

Mix­ing Keynes and sen­tence is re­ally quite an achieve­ment.

Need­less to say, none of th­ese fel­lows saw this com­ing, and none can of­fer a co­her­ent the­ory of what is hap­pen­ing. Hap­pily, they don’t need to. Wick­sell out­lined ev­ery­thing we see to­day al­most 120 years ago. Wick­sel­lian the­ory ex­plains that growth in an eco­nomic sys­tem hap­pens if only those who have a re­turn on in­vested cap­i­tal higher or equal to the nat­u­ral rate have ac­cess to cap­i­tal. If un­de­serv­ing in­vestors get ac­cess to cap­i­tal, it means that the en­trepreneurs who re­ally should have ac­cess get crowded out, and that a large share of the avail­able cap­i­tal is wasted. As a re­sult, the struc­tural growth rate of the econ­omy must fall.

There are two ways of al­low­ing peo­ple with­out the nec­es­sary rate of re­turn to get ac­cess to cap­i­tal. The first is to hold the mar­ket in­ter­est rate way be­low the nat­u­ral rate. This is what cen­tral bankers are do­ing to­day. But con­trary to con­ven­tional cen­tral bank think­ing, ab­nor­mally low rates do not lead to an ac­cel­er­a­tion in growth, but rather to a col­lapse in the struc­tural growth rate of the econ­omy. So the first rea­son be­hind the struc­tural stag­na­tion we see to­day (which

sin­gle will morph into a sec­u­lar de­pres­sion if th­ese poli­cies con­tinue) is the asi­nine mone­tary poli­cies fol­lowed for the last 20 years by the US, Ja­pan, and Europe (via the euro).

But there is a sec­ond rea­son, one on which I did quite a lot of work a few years ago.

Th­ese days, more and more spend­ing is be­ing done by en­ti­ties which can bor­row re­gard­less of their re­turn, and which are im­mune to the cre­ative de­struc­tion process. I mean, of course, gov­ern­ments.

The solid weight of his­tor­i­cal ev­i­dence al­lows me to ad­vance a law to which I have never yet found any ex­cep­tion: if govern­ment spend­ing goes up as a share of GDP, the struc­tural growth rate of the econ­omy goes down. The chart shows this law in ac­tion in the US, but I could equally well have shown the same chart for Ja­pan, France, the UK and oth­ers.

There is a law in eco­nom­ics which states that at a cer­tain point in time the mar­ginal re­turn on ad­di­tional spend­ing be­gins to go down for ev­ery in­crease in spend­ing. In con­se­quence, we can as­sume that the mar­ginal re­turn on any in­crease in govern­ment spend­ing first de­clines, and then turns neg­a­tive. It seems ob­vi­ous that the mar­ginal re­turn on in­creases in govern­ment spend­ing is now neg­a­tive in, for ex­am­ple, Ja­pan and France.

The im­pli­ca­tion is clear: if pol­i­cy­mak­ers want GDP growth to go up, then math­e­mat­i­cally they should cut govern­ment spend­ing. Of course, that is not go­ing to hap­pen. In­stead, it seems that what we are likely to see in de­vel­oped coun­tries is in­creases in govern­ment spend­ing in an at­tempt to deal with the sup­posed “struc­tural lack of de­mand due to ex­cess sav­ings”. And as we have seen, it is a safe bet that any such in­creases in govern­ment spend­ing will lead to a fall in the struc­tural growth rate, rather than an in­crease.

In turn, this de­cline will cause cen­tral banks to keep in­ter­est rates ex­cep­tion­ally low, a pol­icy which it­self will lead to lower struc­tural growth rates, and still higher govern­ment spend­ing fa­cil­i­tated by the low in­ter­est rates. The con­se­quence would ap­pear to be an econ­omy locked into ab­nor­mally low rates, ever-in­creas­ing govern­ment spend­ing, and a per­ma­nently de­clin­ing struc­tural growth rate. Ex­cept of course, that is not sus­tain­able — and Wick­sell has told us al­ready how it will all end.

When the struc­tural growth rate falls be­low zero, then the lever­aged play­ers in the econ­omy — those who should not have had ac­cess to cap­i­tal in the first place — will go bust and there will be a fi­nan­cial cri­sis. And the longer it takes to hap­pen, the more trau­matic it will be. To put it bluntly, if Wick­sell is right, then Keynes was 100% wrong. And the poli­cies the high pri­ests have fol­lowed ev­ery­where around the world for the last 20 years have been 100% Key­ne­sian.

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