Should-Read: This first from Ken Rogoff is very sensible. But IMHO it fits awkwardly with the “debt supercycle” view. We are now, after all, a decade into repair of the debt supercycle after the crash. Why then is this still a big problem? It seems to me an implicit admission that there is something much more going on than a standard debt supercycle:
Ken Rogoff: Big Danger at the Lower Bound: “Given that the Fed may struggle just to get its base interest rate up to 2% over the coming year, there will be very little room to cut if a recession hits…
…The two best ideas for dealing with the zero bound on interest rates seem off-limits for the moment. The optimal approach would be to implement all of the various legal, tax, and institutional changes needed to take interest rates significantly negative, thereby eliminating the zero bound. This requires preventing people from responding by hoarding paper currency…. The other approach… would be to raise the target inflation rate from 2% to 4%….
If ideas like negative interest rates and higher inflation targets sound dangerously radical, well, radical is relative. Unless central banks figure out a convincing way to address their paralysis at the zero bound, there is likely to be a continuing barrage of outside-the-box proposals that are far more radical…. Of course, there is always fiscal policy to provide economic stimulus. But it is extremely undesirable for government spending to have to be as volatile as it would be if it had to cover for the ineffectiveness of monetary policy.
There may not be enough time before the next deep recession to lay the groundwork for effective negative-interest-rate policy or to phase in a higher inflation target. But that is no excuse for not starting to look hard at these options, especially if the alternatives are likely to be far more problematic.
Much more dubious is Ken Rogoff’s belief that the U.S. government should be borrowing longer-term and thus not augmenting but using up the private sector’s (limited) risk bearing capacity:
Ken Rogoff: America’s Looming Debt Decision: “Should the US government lock in today’s ultra-low borrowing costs by issuing longer-term debt?…
…Until now, the US Treasury and the Federal Reserve Board, acting in combination, have worked to keep down long-term government debt, in order to reduce interest rates for the private sector…. At this point, the average duration of US debt… is now under three years…. The tilt toward short-term borrowing as a way to try to stimulate the economy has made sense until now…. But the government should not operate like a bank or a hedge fund, loading up on short-term debt to fund long-term projects…. The potential fiscal costs of a fast upward shift in interest rates could be massive.
No one is saying that such a shift is likely or imminent, but the odds aren’t as trivial as some might like to believe…. A rise in borrowing rates could also come from self-inflicted damage. Suppose, for example, that US voters elect as their president an unpredictable and incompetent businessman, who views bankruptcy as just business as usual…. Mind you, lengthening borrowing maturities does not have to imply borrowing less…. There is a significant backlog of worthy projects, and real (inflation-adjusted) interest rates are low (though, properly measured, real rates may be significantly higher than official measures suggest, mainly because the government’s inability to account properly for the benefits of new goods causes it to overstate inflation). One hopes that the next president will create an infrastructure task force….
With control of the global reserve currency, the US has room to borrow; nonetheless, it should structure its borrowing wisely…. That is why the time has come for the US Treasury to consider borrowing at longer horizons than it has in recent years. Today, the longest maturity debt issued by the US government is the 30-year bond. Yet Spain has successfully issued 50-year debt at a very low rate, while Ireland, Belgium, and even Mexico have issued 100-year debt…
And one piece of this second seems to me to be incoherent: “Properly measured, real rates may be significantly higher than official measures suggest, mainly because the government’s inability to account properly for the benefits of new goods causes it to overstate inflation.” The right numeraire for economists to use in their calculations is not a unit of gold or a unit of commodities but a unit of marginal utility: the true real interest rate is the rate at which society can trade off utility today for utility in the future. Something like the commodity real interest rate minus the real income growth rate is the true appropriate measure of the societal cost of borrowing.
And that appropriate measure is unaffected by the kinds of measurement errors Rogoff is discussing.
The reach for negative interest rates or higher inflation targets suggests that the unwinding of the debt supercycle will take very long indeed–in which case how is it different from secular stagnation?
