Secular Stagnation and Growth Measurement, Banque de France

• Growth and productivity in most developed economies have been trending down for a long time. It is not easy to assign relative weights to the different factors that might lie behind this slowdown, nor is it easy to determine if it will become a permanent feature of our economies for the foreseeable future.
• If this were to happen, however, the potential consequences would be profound. On the one hand, weak growth is self-reinforcing through the hysteresis effects of high unemployment and low investment. The risk of a downward spiral is real. On the other hand, low growth raises the question of the long-term sustainability of welfare and pension systems, particularly in a country like France, with a pay-as-you-go pension system where the purchasing power of pensions is guaranteed. Indeed, when growth is sluggish in such a system, its deficit automatically increases. This is because receipts fall in line with payrolls, which are dependent on current growth, whereas benefits, which are paid out to about 20 cohorts of pensioners, increase due to a “noria effect” according to the average growth of the 20 years or more prior to payment. Therefore, pay-as-you-go pension systems should be designed or redesigned in such a manner as to stabilize the relative standard living of the retired population as compared to the working population, irrespective of the level of medium-term growt
• Redressing potential secular stagnation lies in an combination of measures to both increase demand and strengthen supply-side economics. I would like to put forward three types of measures.
  • The most obvious solution is to increase public investment, which would benefit both sides of the equation. Well-targeted investments stand to increase potential GDP.
  • A second way forward is to enhance at the same time aggregate demand and labour and capital allocation in the economy by tackling income and wealth inequality.
  • A third solution is to design mechanisms that would increase predictability for companies in order to ensure that innovative technologies – and possibly disruptive ones – are fostered and not quashed by government regulations.

Increase public investment

• We already know that we will have to invest to fight climate change. In France, for example, it is estimated that additional investments (public and private) worth one percent of GDP are needed to adopt a low carbon strategy (e.g. renovation of buildings, transport, electric vehicle charging stations, etc.).
• Other areas where additional public investment would be desirable are higher education, research and certain social services, such as childcare. Although these expenditures do not represent investments in a national accounting sense, they could be denominated as such because they increase potential growth.
• As the OECD and others have stressed, low interest rates have created fiscal space in many countries, making it worthwhile to consider an increase in borrowing to finance new investment. Recent OECD research shows that most countries could increase deficit-financed investment spending for three to four years without impacting the long-term debt-to-GDP ratio.
• In Europe, one of the most difficult questions to answer is how countries can increase public investment without contravening European fiscal rules (i.e. the Stability and Growth Pact).
• Unilateral action by individual countries is not a desirable option, considering the political and institutional implications. Any move to increase public investment in Europe would require a coordinated approach.
• A coordinated approach could take the form of either an agreement on additional flexibility in the context of the Stability and Growth Pact or a renewed push with respect to the European Investment Plan. The latter option has perhaps a higher chance of success in the European context.  
• An alternative option would be to increase public investment while lowering other types of public spending and at the same time increase the quality of public investment through more rigorous screening processes. This option would be deficit-neutral, but it would also have a very limited multiplier effect on aggregate demand.

Enhance labour and capital allocation in the economy by tackling income and wealth inequality

Such policies could help reduce private savings, increase aggregate demand and boost potential growth. More specifically, this touches on the following:

• There is the subject of labor-market discrimination against women and minorities, which translates into lower participation rates and a misallocation of talents in the economy. A report prepared recently by France Stratégie suggests that 7 percentage points of GDP are lost due to discrimination. Whatever the figure, we know that by tackling discrimination there are ample margins to revive growth. It requires taking action in education, housing and urban transport and monitoring companies’ practices.
• The other dimension is the inequality generated by the massive concentration of wealth, both within and between generations. Indeed, in a period of slower growth wealth tends to increase at a faster pace than income. And as wealth inequality is greater than income inequality, it can be argued that inequality within generations will rise and hinder social mobility. Moreover, as life expectancy is increasing, parents are bequeathing wealth to their children later in life, resulting in a self-perpetuating concentration of wealth among older generations.

France Stratégie has recently made proposals for reforming the inheritance and gift taxes along the lines suggested by the late economist Anthony Atkinso. Such a reform would seek to tax inheritances and gifts from the point of view of the receiving individual rather than the donor, taking into account the amounts received by an individual throughout their entire lifetime, thus making the the system more progressive. Transfers of assets between generations would also be encouraged by lower tax rates when bequests are made to young individuals (e.g. either gifts to younger children and also grandchildren). The hope is that this redistribution of wealth would be accompanied by more productive allocation.

Fostering disruptive innovation

On the supply side, the question of whether the productivity slowdown is transitory or permanent and whether or not we are on the verge of a new industrial revolution has yet to be answered. That said, we have already seen digitalization transform entire industries in a very short period of time.

• Apart from spurring innovation through education, skills, financing and so on, governments should also ensure that innovation and experimentation are not held back by inappropriate policy responses designed to protect incumbents.
• The potential for transformative change from biotechnology, nanotechnology, artificial intelligence and computer science is huge. And governments should therefore start anticipating how they intend to deal with “disruptive innovation”.
• In a recent paper France Stratégie highlighted how important it is for governments to design mechanisms to increase predictability for companies and ensure that innovative technologies or business models are not quashed by regulation or legal action. France Stratégie identified two options: one, encourage experimentation within a detailed set of rules and principles, with strong regulatory oversight and a priori control or authorization by regulatory authorities; and two, adopt a flexible regulatory approach with a posteriori verification only, within a set of broadly defined principles.

Even if the jury is still out on whether or not we’ve entered a period of secular stagnation, it is clear that if Western economies are not able to generate increased prosperity, there will be a heightened risk of social and political unrest, which we are already observing thoughout the world. It therefore falls to economic policy makers to be proactive and innovative and not sit idly by while the predicament worsens.

Edited by Richard Venturi

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