Schumpeter and keynes: secular stagnation as seen by the Austrian school.

• Author: Starbatty, Joachim

Economists and politicians have long discussed the danger of a prolonged period of very weak economic growth. They see this kind of "secular stagnation" as a particular threat in Europe and Japan due to their rapidly aging and shrinking populations.

The fact is that growth of the world economy, and above all economic growth in Western countries, is lagging behind pre-crisis growth rates. The same applies to the U.S. economy, which was averaging 3--3.5 percent annual growth until 2007, but which has seen much lower rates since then. Growth in the euro area is also weaker than before the crisis at slightly over 1.5 percent, and Japan's economy has been stagnant for many years now.

This may be surprising given the extremely expansionary macroeconomic policy. Eight years after the Western financial system crisis broke out and more than six years after the escalation of the sovereign debt crisis in the euro area, central bank interest rates are at a historically low level of around zero percent--or even in negative territory. At the same time, public budget deficits are still considerably high in Western countries, and public debt levels the highest seen in peacetime.

The majority of the economic establishment, supported by international institutions such as the International Monetary Fund and the OECD, sees the cause of weaker growth rates as insufficient aggregate demand. For instance, the International Monetary Fund's October 2016 World Economic Outlook was entitled "Subdued Demand: Symptoms and Remedies." The central banks' ultra-loose monetary policy is set to continue, supplemented by additional fiscal stimulus. The European Commission is supporting this by calling for the use of the fiscal space it sees in certain EU member states.

American economists Lawrence Summers and Paul Krugman are particular proponents of this "new" theory of secular stagnation. The theory originates from the doyen of American Keynesianism, Alvin Hansen, who diagnosed the threat of an enduring period of economic stagnation, or secular stagnation, in the United States following the Great Depression at the end of the 1930s. He argued that the solution was to stimulate demand by way of government investment through higher public budget deficits and increased debt.

Summers and Krugman are currently calling for the ultra-loose monetary policy to be continued even after economic recovery begins, in order to stimulate inflationary expectations and thereby reach a higher rate of inflation. This should also serve to reduce real interest rates further. They say that the equilibrium real interest rate has already been negative for some time, but because of low inflation, not yet negative enough to generate higher aggregate demand. In a situation like the present one, the central bank needs to "credibly promise to be irresponsible," as Krugman put it back in 1988.

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