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Debating whether the US is in a 'permanent slump'

Lawrence Summers
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The "secular stagnation" hypothesis put forward by former White House ecnomist Larry Summers at a recent International Monetary Fund conference—usefully translated as a "permanent slump" by Paul Krugman—is likely to continue to get a lot of attention.

Unfortunately, a lot of this "attention" will be very boring because it will mostly involve economists saying all the same sort of thing they would have said even without the introduction of the concept of secular stagnation.

Economist and New York Times columnist Paul Krugman is already up to it, insisting that one of the main things we need to learn is that "austerity is still bad." Anti-Keynesians, meanwhile, have started to attack the concept because it also strikes them as a justification for Keynesian policies.

A bit of background here is useful.

The concept of secular stagnation is not new. The reason why the fights keep coming around to Keynes is that historically it was very much connected to a Keynesian analysis of the economy which held that it is possible for the economy to fall into a state of economic equilibrium with less than full employment.

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In a 1938 address to the American Economic Association, the economist Alvin Hansen said that secular stagnation was likely in the near because of three factors: (a) the end of the frontier, (b) the end of rapid population increase, and (c) the end of technological change. The coming age of secular stagnation meant, for the Keynesians, that we'd have high levels of unemployment regardless of economic growth unless the government intervened with high levels of spending.

From our perspective, it's quite obvious that secular stagnation didn't happen.

It's obvious, really, that the very causes of secular stagnation didn't happen. Americans continued to move west and began to suburbanize, so the "end of the frontier" concept didn't hold. We had a post-war baby boom, destroying the population thesis. And, perhaps most obviously, technological change took off rather than coming to an end.

But this wasn't obvious at the time. As the economist Robert Fogel showed in a 2005 paper, Hansen's speech led to a tidal wave of academic work on secular stagnation that lasted until 1960—well past the time when it should have been obvious to most people that the core elements of the original secular stagnation thesis were totally wrong.

In fact, there continued to be an active discussion of secular stagnation throughout the '60s, '70s and early '80s.

One of the reasons for the persistence of the original wave of the stagnation thesis was that it was very deeply rooted in Keynesian concerns about excessive saving and gave strong support to large government spending programs to make up for the "demand leakages." It helped explain why private investment and consumption could fall in a way that Keynes never did. Economists of a more conservative bent, of course, hated the concept for these very same reasons.

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To take it to an even deeper level, in many ways the old fight about secular stagnation turned on the question of economic stability. If you think a capitalist economy prone to an inherent instability and mass unemployment, then you wound up a Keynesian. If you thought capitalism basically worked, then you were something else.

And this brings us back to what is threatening to make the revival of secular stagnation so unnecessarily boring.

The Keynesians are preparing to duke it out with the anti-Keynesians on the same old grounds once more. So we have Krugman lining up with Summers, while Tyler Cowen and Arnold Kling argue that secular stagnation doesn't even make sense. I liked this better when it was a music video.

I say that this fight is "unnecessarily boring" because there's no need to have it on these grounds at all. This time around it's very possible that both sides are right. We might have secular stagnation but that might not be the fault of the instability of capitalism.

A far more interesting conversation to have would be around the possibility that this time secular stagnation is real and debating the causes and possible solutions.

The pieces of evidence that Summers marshals in favor of the stagnation hypothesis make a pretty strong case for the concept. We do seem to only be able to generate full employment in asset bubbles; inflation has been a non-issue for generations; our recovery has been pathetic and has stuck us with high unemployment.

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I suspect that part of the explanation for this has been the long-term stagnation of wages in the United States.

High levels of demand could only be supported while wages stagnated by asset bubbles and credit expansion. Neither of these could go on forever because eventually the cost of servicing the debt became excessive and people lost confidence that asset prices would rise to make up for lost income.

But this doesn't have to lead us to a critique of capitalism as unstable or unable to support full employment.

You can be a roaring free-marketeer or just an agnostic on the question and still say that the actual system we have—that is, the mixed economy of fiat money, central bank credit expansion, ever-expanding government regulation, increasingly consolidated financial institutions and a tax code from hell—might be unstable and produce inadequate wages, employment and aggregate demand.

Maybe this time we can make the debate over secular stagnation interesting.

—By CNBC's John Carney. Follow him on Twitter @Carney