Federal Reserve officials keep up with the economic literature, and it has a way of creeping into their speeches. That’s been especially true lately, as policy makers grapple with fundamental questions about economic growth.
Two of the biggest debates, which are intertwined, center on what’s caused output to expand more slowly in recent years and what’s happened to the neutral policy interest rate (the one that neither stokes nor slows growth). Below you’ll find the major works Fed officials are referencing on those topics. Some are long — the first clocks in at 652 pages — so in case you’d prefer lighter vacation reading, we’ve summarized them.
1. The Rise and Fall of American Growth
Author: Robert Gordon
Chair Janet Yellen's speeches cite Northwestern University's Robert Gordon more than any other economist outside of the Fed system (we know, we tallied up her footnotes). Much of Gordon's work explores why American growth has slowed — and what that means for the future.
This book argues that the period of exceptional growth between 1870 and 1970 both vastly improved the human experience and won’t be repeated. Gordon sees that era as the product of innovations that could only happen once — think the steam engine, the internal combustion engine, declining infant mortality and “networked” homes with indoor plumbing and water. We’re now in what he sees as the third industrial revolution. It has centered on entertainment, communication and information technology and has improved quality of life but has lacked revolutionary effects rivaling those of, say, electricity.
Gordon points out that productivity slumped after 1970, and though actual output per person didn’t slow badly until after 2000, that's just because women were shifting from house work to the market. Since 2000, both hours worked and productivity growth have eased as that boost faded.
Going forward, Gordon sees a handful of headwinds — inequality, first and foremost, along with education, demographics, and government debt — as drags on expansion. He sees real GDP per person dropping to 0.8 percent in the 2015-2040 period, compared to 1.8 percent between 1970 and 2014.
2. The Second Machine Age
Authors: Erik Brynjolfsson and Andrew McAfee
Have you heard Fed officials reference techno-optimists? They’re most likely talking about these guys. The MIT researchers see computer technology as the second coming of the steam engine: it's taken a while to reach its full force of impact, but now it's going to have a huge and transformational effect on the economy. "We are at an inflection point — the early stages of a shift as profound as that brought on by the Industrial Revolution,'' they write. "Not only are the new technologies exponential, digital, and combinatorial, but most of the gains are still ahead of us.''
Huge potential lies in artificial intelligence and global digital connections, according to this book. Gordon is "not giving digital technologies their due" because new technologies have given birth to unprecedented ways to combine and recombine ideas that will continue to foster innovation and boost productivity "at healthy rates in the future," the authors write.
It's not all sunshine and rainbows — Brynjolfsson and McAfee also note that technical change helps skilled innovators more, so while output will increase, the spoils of improvement are clustering at the top.
To listen to an interview about our summer reading list on Bloomberg's Politics, Policy and Power podcast, see here.
3. Summers on stagnation
Author: Lawrence Summers and co-authors
Links: http://bit.ly/1TD9OgM, among others
If the term “secular stagnation” rings a bell, Summers is the reason. The former Treasury Secretary re-popularized the theory, first aired in the 1930s, as an explanation of why U.S. growth has slowed in the wake of the 2007-2009 recession. The basic idea is that excessive saving is lowering demand, reducing growth and inflation, and the savings-vs.-investment imbalance weighs on real interest rates. This differs from Gordon's supply-driven thesis, though it's similar in another way: Summers sees the tepid progress as a potentially long-lasting state of affairs. The drop in neutral real rates, in Summers' view, suggest that "the kind of Japan-style stagnation that has plagued the industrial world in recent years may be with us for quite some time."
That's a glum prospect, but the theory comes with a silver lining: Summers thinks government spending or tax changes could help growth to get back on track. Monetary policy, on the other hand, has limited scope to help the situation in a world where stagnation is widespread, based on Summers' recent work with Gauti Eggertsson and Neil Mehrotra. "Monetary expansion cannot eliminate a secular stagnation and may have beggar-thy-neighbor effects, while sufficiently large fiscal interventions can eliminate a secular stagnation and carry positive externalities," according to the paper.
4. Measuring the natural rate of interest
Authors: Thomas Laubach, John Williams and Kathryn Holston
San Francisco Fed President Williams and Fed Board Monetary Affairs Director Laubach are among Yellen's most-cited economists, and it's often for their seminal research on neutral rates — which closely relate to the future path of growth.
The pair have found that the neutral policy rate has been declining for years and dropped sharply in the wake of the recession. This is partly caused by a slowdown in the economy's growth rate, and the researchers wrote last year that a "very low natural rate of interest may well be with us for a long time." That matters a lot for monetary policy, since a lower neutral setting on interest rates means that in the event of a recession, the Fed would have less room to use their main tool to help the economy.
Along with Holston, the duo have recently expanded their theory globally: research they released in June found that Canada, the euro area, and the U.K. have all seen declines in their neutral rates over the past 25 years, and that co-movement suggests "an important role for global factors in shaping trend growth and natural rates of interest."