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Lower rates and at the zero bound quantitative easing are used to boost economy - Result in excessive
borrowing and leverage – Leads to macro prudential policies to curtail the excesses of debt and speculation – Translates to weaker
aggregate demand (higher savings) which means that rates have to be further lowered – Leads to
excessive borrowing – Leads to macro
prudential policies to curtail debt and speculation – Leads to weaker aggregate demand which means
that rates have to be lowered or more liquidity pushed into economy – Leads to excessive borrowing - Repeat again ....
When macro prudential policies are used to curtail aggregate demand and thus increase savings, there will be a spillover effect to other countries which are impacted by the increased savings in the prudential country. Simply put, prudential policies will offset some of the very effects that are desired from quantitative easing. We are not arguing that prudential policies should be ignored. Macro prudential policies attempt to smooth the extremes and thus reduce the potential for deeper downturns; however, their very existence creates macro friction when economies are trying to get out of liquidity growth traps.
Hat tip to Steve Green of Baylor University for pointing out the recent macro paper in the November 2019 American Economic Review "The Paradox of Global Thrift" The idea behind this paper is a simple global macro model where one country will attempt to curtail aggregate demand relative to others in a liquidity trap. The internal policies of one country to increase savings will spill-over and create a paradox of thrift across all countries. A result from these rational polices is that more monetary or fiscal policy will be needed to offset this savings imbalance. This, of course, may further increase the need for macro prudential policies to reduce any speculative response to low rates. The behavior can go around and around for any number of rounds. "Secular stagnation" is institutionalized through policies.
The shapes and forms of secular stagnation can be varied. Any new slowdown or crisis may come from something completely unexpected, or the slow growth of today is being driven by policies that were not considered in the past.
Hat tip to Steve Green of Baylor University for pointing out the recent macro paper in the November 2019 American Economic Review "The Paradox of Global Thrift" The idea behind this paper is a simple global macro model where one country will attempt to curtail aggregate demand relative to others in a liquidity trap. The internal policies of one country to increase savings will spill-over and create a paradox of thrift across all countries. A result from these rational polices is that more monetary or fiscal policy will be needed to offset this savings imbalance. This, of course, may further increase the need for macro prudential policies to reduce any speculative response to low rates. The behavior can go around and around for any number of rounds. "Secular stagnation" is institutionalized through policies.
The shapes and forms of secular stagnation can be varied. Any new slowdown or crisis may come from something completely unexpected, or the slow growth of today is being driven by policies that were not considered in the past.
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