Ben Bernanke, recent former Chair of the Federal Reserve, has a new blog. And he's writing about low interest rates and so-called secular stagnation, a pre-WWII phrase recently resurrected by Larry Summers.
The topic is dismal--hey, they're economists! But for those in the field it's a real hoot to see these titans of economic thought relieved of their official government duties and able to write openly about what they really think.
These two share many views, but Ben has a less dismal outlook than Larry. Larry thinks we're stuck in a low-growth equilibrium, and low or even negative interest rates are here to stay without large, persistent fiscal stimulus. Ben thinks this situation is temporary, if long lived. He writes:
I generally agree with the recent critique of secular stagnation by Jim Hamilton, Ethan Harris, Jan Hatzius, and Kenneth West. In particular, they take issue with Larry’s claim that we have never seen full employment during the past several decades without the presence of a financial bubble. They note that the bubble in tech stocks came very late in the boom of the 1990s, and they provide estimates to show that the positive effects of the housing bubble of the 2000’s on consumer demand were largely offset by other special factors, including the negative effects of the sharp increase in world oil prices and the drain on demand created by a trade deficit equal to 6 percent of US output. They argue that recent slow growth is likely due less to secular stagnation than to temporary “headwinds” that are already in the process of dissipating. During my time as Fed chairman I frequently cited the economic headwinds arising from the aftermath of the financial crisis on credit conditions; the slow recovery of housing; and restrictive fiscal policies at both the federal and the state and local levels (for example, see my August and November 2012 speeches.)These are good points. But then Larry has a compelling response, too. I particularly agree with Larry about the basic economic plausibility of persistent equilibrium real interest rates that are well below zero. He writes:
Ben suggests not– citing my uncle Paul Samuelson’s famous observation that at a permanently zero or subzero real interest rate it would make sense to invest any amount to level a hill for the resulting saving in transportation costs. Ben grudgingly acknowledges that there are many theoretical mechanisms that could give rise to zero rates. To name a few: credit markets do not work perfectly, property rights are not secure over infinite horizons, property taxes that are explicit or implicit, liquidity service yields on debt, and investors with finite horizons.Institutional uncertainty seems like a big deal that can't be ignored when thinking about long-run growth and real interest rates (these are closely connected). People are pessimistic about growth these days, for seemingly pretty good reasons. Institutional collapse may be unlikely, but far from impossible. Look at history. If we think negative growth is possible, savings are concentrated at the top of the wealth distribution, and people are loss averse, it's not hard to get negative interest rates.
Still, I kind of think we'd snap out of this if we had a bit more fiscal stimulus throughout the developed world, combined with a slightly higher inflation target--say 3 or 4 percent. But keep in mind I'm just an armchair macro guy.
The point I want to make is that these low interest rates, and the possibility of secular stagnation, greatly affects the calculus surrounding optimal investments to curb climate change. The titans of environmental economics--Weitzman, Nordhaus and Pindyck--have been arguing about the discount rate we should use to weigh distant future benefits against near-future costs of abating greenhouse gas emissions. They're arguing about this because the right price for emissions is all about the discount rate. Everything else is chump change by comparison.
Nordhaus and Pindyck argue that we should use a higher discount rate and have a low price on greenhouse gas emissions. Basically, they claim that curbing greenhouse gas emissions involves a huge transfer of wealth from current, relatively poor people to future supremely rich people. And a lot of that conclusion comes from assuming 2%+ baseline growth forever. Weitzman counters that there's a small chance that climate change will be truly devastating, causing losses so great that the future may not be as well off as we expect. Paul Krugman has a great summary of this debate.
Anyway, it always bothered me that Nordhaus and Pindyck had so much optimism built into baseline projections. Today's low interest rates and the secular stagnation hypothesis paint a different picture. Quite aside from climate change, growth and real rates look lower than the 2% baseline many assume, and a lot more uncertain. And that means Weitzman-like discount rates (near zero) make sense even without fat-tailed uncertainty about climate change impacts.