EC International Economic Week In Review: Why Are We Growing So Slowly?

Why is the world economy growing below trend? That seems to be the central question economists are asking since the Chinese market intervention over the summer. At Pragmatic Capitalism, Cullen Roche argues that slow growth might simply be the new normal:

The slowing growth of the global economy has many people confused about what’s going on. There are all sorts of explanations out there including the “secular stagnation” theory, the “New Normal”, the “rise of the robots”, etc.  But what if the “new normal” and “secular stagnation” are merely the normal?

He bases his argument on this central concept of Thomas Piketty’s Capital:

The inequality r > g implies that wealth accumulated in the past grows more rapidly than output and wages.This inequality expresses a fundamental logical contradiction. The entrepreneur inevitably tends to become a rentier, more and more dominant over those who own nothing but their labor. Once constituted, capital reproduces itself faster than output increases. The past devours the future.”

Essentially, the world economy is now at a point where capital (think liquid assets as well as physical assets) is growing faster than wages. That means the people who own capital continue to get richer at a faster pace than growth. Obviously, inequality adds to the problem. The Bank of Canada added to the slow growth literature on the topic a few weeks ago. After citing the major concepts advanced from the last few years (secular stagnation, the aging population, the global savings glut), they offer one of their own:

Another explanation for the slow growth is that a prolonged cyclical downturn can, itself, pull down potential growth (Congressional Budget Office 2014; Reifschneider, Wascher and Wilcox 2013; Hall 2014; IMF 2015). Potential output depends on the actual level of capital and trends in labour inputs as well as the state of technology.

A prolonged reduction in any of these components can have a negative effect on potential growth in the medium term.

The investment-to-output ratio in advanced economies fell to 19.5 per cent in 2009 from an average of around 24 per cent between 1980 and 2007 and has not yet returned to its pre-crisis levels. Decreased investment has reduced the amount of capital available for production, and when a reduction is persistent enough, it may pull down potential output. The effect of this decrease in capital stock can be magnified when firms have limited access to credit or when firms are less inclined to invest as a result of heightened uncertainty about expected returns on investment.

The economics world continues to grapple with the underlying reasons for the global malaise. It’s more than likely a combination of several theories will become the accepted explanation over the next few years.