Depression Economics and Society: 2013 Edition

There’s been a lot of hubbub about a speech that Larry Summers gave to the IMF claiming secular stagnation had set in. It gave every economist around the world a moment of pause. Summers’ premise is that this depression-level economy might be the new normal. Paul Krugman also lays out this case nicely. 

The idea of secular stagnation – that aggregate demand would not grow is nothing new. Alvin Hansen proposed the term (and the idea of persistent Keynesian under-employment) in the 1930s. That’s not shocking. Neither is the idea of a permanent depression.

What did shock most economists was Summers’ prescription: set interest rates to NEGATIVE. In other words, make saving money (instead of spending it) just downright hurt. To be fair, Summers only said what most reasonable economists were thinking, but was too afraid to say.

On a macro level, this may not be the worst idea ever. In fact, Krugman laid out a pretty strong case for this back in September 2013. Here’s Krugman’s model for making the case for negative interest rates:

092513krugman5-blog480

Mathematically it makes sense. What it doesn’t do is account for people’s rational self-interest (micro). So with social behavior in mind, what does setting a negative interest rate really mean? I mean, after all, there’s shock and awe over the suggestion, at least in economic circles.

Well, this doesn’t mean much for the real social facts on the ground. Again, it’s the banks that are stocking all the cash in treasuries, as the M2 and M2V show:

M2V

And most every day people are just socking their money (what little of it they have) under the mattress right now anyway, since the banks are paying well under a half-percent on interest:

Personal Savings

The other question is whether negative interest rates will really happen. When was the last time a banking contract was written with a NEGATIVE interest rate? “Never” would be an accurate number. It may simply not be possible to institute a negative interest rate in the real life world.

Either way, this kind of talk from economists underscores something greater: that even though GDP is being inflated by a stock market bubble (16,000 and climbing), the real world facts on the ground show that we are in a depression. Larry Summers, Paul Krugman, and the rest are really just trying to come up with an economic model that works in a depressed economy – depression economics.

Some of their ideas might actually work in getting people out of the depression. They might not. Either way, some of the ideas are new territories, and it has most academics nervous.

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