A Conversation with Larry Summers: The Influence of Economic Ideas and the Dangers of Secular Stagnation

I'm Alaya. Welcome to this special episode of Think Like
an Economist with me Betsy Stevenson.
And I'm Justin Wulfers. We're here to bring you the
super tools of economics to help you transform your life
and see the world ever more clearly.
Today are joined by Larry Summers, who is, by any measure,
one of the most influential economists of the world.
Larry, welcome to Think Like an Economist.
Glad to be with you. Look, there's so.
Much we could talk about, but really what I want
to do is spend the first part of the show
talking about, you know, how does an economist work as
a public policy maker, because you, more than so many
others have done that.
And then I want to come back to your one
big idea.
In the second part of the show, we'll talk about
secular stagnation.
When we thought about what we wanted to talk to
you about, we really thought, secular stagnation is this big
global idea, But it seemed to me like it was
a good idea to start from the beginning and how
how you got to thinking about big global policy macro ideas,
And that's why I wanted to start with sort of
your career as a policy economists, not just as an
academic economist.
A bit of background for our listeners.
If you can point at a public policy institution, Larry's
been part of it. He's professor at Harvard, then went
on to the chief economist at the World Bank, worked
in the Clinton Treasury, and became Secretary of the Treasury,
and then returned briefly to civilian life until the world
exploded once again with the financial crisis, and you went
to become President Obama's chief economist as Director of National
Economic Council. Academic economists, I think often do have something
to learn when they go in the policy domain. What
were some of the big lessons for you, Larry, when
you went from Harvard to Washington.
There are a lot of differences. One is that in
the academic world, if a problem is too hard, what
you do is you work on a different problem, and
you don't have that luxury when you're in policy. You
have to deal with the problems that come before. I
think the other thing that I learned in government. Two
other things I actually learned in government. One was that
it was very important to propose a course of action
rather than to just point up an aspect of a
problem that you have to be able to say like, Okay,
it's very complicated and there's an enormous amount you don't know.
But to not decide is to decide to do nothing,
and that is a decision, and so you have to
be for a course of action. One of the things
you have to realize when you're in government is how
complex the problems are. And what I always tried so
hard to do was to start with an economic model,
whether it was supply and demand or whether it was
price succeeding marginal cost for a monopolist, to start from
that and think about what that suggested was the right
thing to do, and then think about all the nuances and.
Specifics of the particular context as I made a policy
proposal and pushed for its.
Implementation, and I came to realize that people who didn't
follow the most straightforward policy recommendation that would come out
of a wonderful textbook like the one you, Betsy and
Justica have written usually doing that because they were stupid
and they just didn't understand what was in the textbook.
But they had their own very specific interests, and they
were being responsive to their specific concern which might be
different than the general economic well fair that we tend
to emphasize in economics classes. I also recognize that in Washington,
in any kind of policy work, you're making judgments with
Warri's uncertainty. So make the best judgments you can and
then go forward. You also have to be prepared to
change your mind, because you're thinking has to evolve with
the changing world.
Larry, we need to draw you out on a couple
of these things. One thing you said was that you know,
sometimes the reason why people are suggesting different policies or
different positions is simply because they're following a narrower set
of interests. But in fact they're sort of told to.
They're representing small business, they're representing advocates, they're representing labor,
and I think there are groups that get left out
when that happens. Did you see that?
Do you think?
I think that the system is well designed for the
public interest to bubble up to write policy.
Betsy, First, I'd say it's an old truism. Where you
stand depends on where you sit. If you're the Secretary
of Labor, it's not your job to have an objective
opinion on what trade unions are saying it's your job
to be the voice of trade unions. If you're the
director of the Offensive Management and Budget, it's your job
to be for a smaller budget deficit, not to be
for a larger budget deficit. I think having institutionalized representation
of multiple points of view is basically a good way
to structure a deliberative process. The economics profession tends to
see itself as a group of noble, disinterested people, and
sometimes it is and sometimes it isn't. My view as
an economist in government tended to be that I should
try to say what was true and what was the
best thinking about the consequences of other actions, and that
it was probably right that political figures made the decision.
This was a lesson that I sort of learned pretty
early in my time in the Treasury Department. One of
my responsibilities was being involved in the oversight of the IRS,
and it was the view of the IRS that a
certain office that employed forty people in a small town
in South Dakota should be closed because it really wasn't
efficient to have an office that's small, and that made
sense to me. I thought they were On the other hand,
that small town was the birthplace and continuing residents of
the majority leader of the United States Senate. And it
was the judgment of people above me that the gain
of efficiency was far less beneficial than the lost ability
to do important things that would come from alien a
the Senate majority leader by doing something that was devastating
to his hometown. And you have to make a judgment.
Do you think that that's cow taling to a special
political interest or do you think that that's acting in
a principal way in a complex environment so as to
best achieve progressive objectives. And I was someone who made
my peace with that, and in general recognize that goodwill
was an important part of getting things done, and therefore
you had to make political compromises. Others felt themselves to
be impure whenever they came to a decision like that,
and I respect that perspective. It's probably the case that
academics who feel it it's impure to make compromises of
that kind are going to have a lower ceiling on
the levels of position they reach in government than those
who have the kind of perspective that I just described.
Well, Laria, I was going to ask you what you
think holds economists back from actually participating more fully in
public policy. But I think you just answered that question.
But Bessie, I think it's important to recognize that economics
has been stunningly successful as a discipline in influencing public
policy in a way that no other social science discipline
has come remote Because whether it's the fact that central
bank decision making is dominated by macro economists, whether it
is work on labor markets and debates about minimum wages,
which are all about econometric studies, I think what's extraordinary
is the extent to which economic ideas have infused so
many areas of policy. Paul Samuelson, one of your predecessors
as the writer of a great economics textbook, famously said
that I'll let somebody else be the finance minister of
the country if I can write the economics tech X
book that all its futures leaders read when they're in college.
And I think he was speaking the truth about the
incredible importance of economic ideas. And indeed, even in the
areas where science is very important, economists have had a
much larger influence on thinking about what we're going to
do about pollution than atmospheric scientists and so it's really
an extraordinary bit of good fortune to be involved, or
even to have the opportunity to study economics.
I hate you on the great privilege and joy of
being an economist, but with that comes a burden.
You know.
I watched you as one of the chief fire fighters
during the Asian financial crisis, and I watched you to
come back again during the most recent financial crisis in
two thousand and nine, and you've been very votical again
during the pandemic. These things we're arguing about, they're not
abstract ideas. They're policies that will shake millions of people's lives.
And I wonder, really, at a personal level, Larry, how
that feels. You Know, you go to the office, you
do the best you can, but you've got to go
home and think, Cricky, what did I just do?
I think all one can do is do one's best
and try to be as careful and thoughtful in the
advice one gives and the decisions one makes as you
can be. And the core realization that I had that
cemented me in my desire to be an economists was
the recognition that a great doctor sees dozens of patients
and hopefully helps many of them, and that an e
commst who changes with some idea the unemployment rate by
one tenth of one percent is the difference between one
hundred thousand families seeing their breadwinner be without work and
not be without work, and so the scale of the
contribution one can make as an economist is that much larger.
But I think the medical analogy is helpful. A surgeon
who is consumed with the moral responsibility of their craft
so the point of being paralyzed, is not going to
be a very good surgeon. One needs to take the
responsibility seriously, but at the same time one has to
be prepared to move forward and to have opinions and
to accept the fact that not all the judgments are
going to work out right. But yes, there were moments
when I was terribly fearful that I had given the
wrong advice, And you just have to accept it and
do the best you can. And you also have to
accept that you are one part of the system that
unless you've been elected, which I certainly wasn't, ultimate decision
making doesn't rest with you, and so the best you
can do is argue your side vigorously and then let
the person who's supposed to decide the president make is
her decision.
Yes, sorry, knowing when to back down is actually really
kind of important. And I was going to just tell
you that it reminds me. I quote you on this
all the time, because I thought it's the funniest quote
I've ever heard, which you said, sometimes when you hear
the political advisors give it economic advice, you're reminded to
be humble when you give political advice.
Exactly. One of the things I always try to do
is give people a degree of confidence in the opinion
that I'm expressing, and you know, tell them whether I'm
very confident on wright or whether something corresponds to my
best guess, and to recognize that there's a difference between
those situations.
Larry, before we move on, I actually just want to
turn this a little bit more to the economics, because
financial crises have been, you know, obviously important. The two
thousand and eight recession was a financial crisis, and it
took us a decade to really recover from it. You also,
as j Justin mentioned, we're at the forefront of many
other financial crises in the nineties. Do you think that
we've learned a lot from those financial crises, so that
global financial systems are more stable today than they otherwise
would be.
I think it's like airplane safety. Every time there's a crash,
we learn something about a way a crash can happen,
and we fix it, and there's a trend towards the
world getting better and safer. But we also developed bigger,
faster airplanes, and that comes with some risks, and sometimes
after a long period when things go well, people can
become complacent and they can become sloppy, and I think
that's the right way to think about financial crises as well.
We put in place after the two thousand and eight
financial prices a variety of desirable steps in the so
called did Frank legislation. But I think it would be
a big mistake to think we've seen the last major
financial crisis, or that there aren't important elements of excessive
leverage and risk taking.
What I want to do now is dig into one
big idea. And you've had lots of big ideas, Larry,
but certainly your most important in the past decade is
an idea called secular stagnation, which always struck me as
a funny turn of phrase. So for our listeners, what
is secular stagnation.
I did not coin the phrase secular stagnation, and I'm
not sure that I would have coined the phrase secular
stagnation to describe this particular set of ideas. A Harvard economist,
writing in the late nineteen thirties, Alvin Hans, proposed that
it might be that at certain moments that economies had
a very strong propensity to save because large amounts of
income were going to people who were wealthy, because corporations
were earning substantial profits, because people were very fearful about
the future, and then at the same time there was
a very high propensity to save that for some set
of reasons, perhaps because there weren't a lot of cutting
edge new ideas that needed new equipment to implement, perhaps
because the cost of capital goods had become very cheap,
that there was only a limited demand for investment. And
so if you had a high desire to save, but
there wasn't that much desire to put that money to work,
what would happen was that the interest rate would tend
to fall to very low levels, and that the savings
would because there wasn't a lot of new investment to
do would flow into existing assets, and so their prices
would be bid way up. And so you would see
economies with very low interest rates with a lack of demand,
which meant they didn't grow very fast, and that they
had a tendency to have too slow inflation and not
much pressure upwards on prices, and that that could be
a fairly frequent and congenital condition for economies. He proposed
that theory in the late nineteen thirties. It got blown
out of the water, not because it was a wrong theory,
but because conditions changed by World War two and it
largely got forgotten. And as I looked at the world
six or seven years ago, when we were recovering very
slowly from the two thousand and eight financial crisis, when
we were running very large budget deficits, a FED was
keeping interest rates at zero, and yet the economy was
very very sluggish, and asset prices the stock market and
so forth were way high, it seemed to me to
fit Hanson's description, and so I started talking about this
as a concern. And when Hanson coined the term secular stagnation,
he was trying to capture the idea that it wasn't
a matter of a recession, but a general tendency for
the economy to be stagnant coming out of lack of demand.
And I think that is a very powerful way of
understanding the economic performance of the last decade throughout the
industrialized world, where we were short on demand. No place
had two percent inflation, and growth was pretty slow relative
to what was expected, even with interrast rates very low
and budget deficits very big. I think that COVID left
to its own devices, if it was just COVID, that
by creating lots of uncertainty, making people feel like they
had to save more for emergencies, creating more uncertainty for
businesses potentially exacerbated that situation. What has been done in
the short run in the United States was by far
the largest fiscal program in the country's peace time history.
Weave over the years twenty twenty and twenty twenty one,
we're going two thirds or three quarters of the way
to doing what was done during World War Two. So
that's an extraordinary level of spending and support. It's one
that means that right now our problem is not that
we don't have enough demand. Our problem is not when
we're running an eighteen percent of GDP government deficit, that
we have too much saving. But it's not a permanent solution,
and I suspect it will have various costs and risks,
and when this particular period ends, it will be very
important to assess where we are. But there's certainly a
reasonable prospector stagnation will have returned.
So, Larry, I think our listeners would find this helpful
if we could put in some sort of supply and
demand framework central to your story. There the real interest
rate becomes really low, and so what is the supply
and demand that determines the real interest rate? And then
why would that it become particularly low?
So I think there are two supply and demand diagrams
that are essential to understanding secular stagnation. The first is
in the market for funds. There are people who stave,
they're the suppliers, and there are people who demand. They
are the demanders. And if the demand for funds falls
and the supply of funds rises, then what you know
is that the price of funds, which is the interest rate,
is going to fall. And when that happens, to pay
ending on just how that balance works, very likely the
quantity of investment will decline as well. And when you
think about what macroeconomists think about, which isn't so much
the supply and demand curve, but the level of aggregate demand,
the level of total demand in the economy that will
be low, and then the multiplier will operate and the
accelerator will operate, and those will operate in the direction
of reducing the economy and reducing the economy's scale. And
then the other key relationship that people often study is
the Philips curve, which says that when there's less demand
relative to the economy's potential, there's a tendency to low
inflation or even to declining inflation. So start with the
market for funds. That helps understand what happens with respect
to the interest rate. And then if you look at
what's happening to the quantity of investment in demand, then
you look at what's happening to the inflation process. And
that's reinforced by the fact that when inflation comes down
and the interest rate can't fall below zero, then the
real interest rate, the interest rate adjusted for inflation, is
actually going up. And when that takes place, the result
is a further reduction in the demand for investment, which
keeps the whole process going.
Larry, I just actually wanted to pivot just a little
bit too. I think one sort of last big global
issue that I do think ties a little bit to
secular stagnation. When you were Treasury Secretary in the nineteen nineties,
budget deficits were coming down.
In fact, you oversaw budget surplus.
National debt was coming down. And now we're seeing global
debt surge. Do you have a different view about debt
today than you had in the nineteen nineties, and are
you worried about the amount of debt that countries are taking.
On look, I think you have to make judgments in
the context of moments. When President Clinton came into office,
the United States had very slow productivity growth that was
linked to lack of investment. And when you tried to
find out why there was a lack of investment, the
answer had a great deal to do with high costs
of capital and interest rates and at some points were
in the range of seven percent. That made many businesses
say it was just too expensive to borrow and invest.
And so the idea that by bringing down interest rates
you could stimulate investment was I think a very strong
and right idea. At that time. I think in the
current era, when interest rates are essentially zero, when stock
prices are extremely high, there's really no business anywhere. It's
not making investments because the cost of capital is too high,
And so the idea that reducing government debt in order
to bring down interest rates, or reducing government debt because
it's compounding too fast, I don't think those are very
compelling ideas at the current moment. And I think the
more compelling idea is that there isn't enough demand and
the government borrowing and spending is what's called for. So
I think we need to think about fiscal policy in
the context of the current economy very differently than the
way we thought about fiscal policy during the nineteen nineties.
Does that mean that it's a good idea to be
running an eighteen percent of GDP deficit and a rapidly
recovering economy. No, it probably doesn't in my view. Does
that mean that any level of deficits is a good idea? No,
it doesn't. But I do think we need to be
considerably less alarmist about budget deficits than we were a
couple of decades ago.
To sort of end our conversation on secular stagnation. What
do we need to do to get out of that
sort of secular stagnation slump? Is it only about government spending?
I think there are a number of aspects. I think
when private investment is short, we should pick up public investments,
and whether it is in greening the economy, whether it
is in providing inducements for there to be broadband access everybody.
We've seen how important that is during the COVID period.
I think support for public investment is something that's absolutely essential.
I think if we can strengthen our systems of social insurance,
it's much better that we have collective insurance than that
everybody insure for themselves by saving. And so whether it's
insurance against displacement, insurance against health care catastrophes, insurance against
old age, we should be thinking about strengthening our systems
of social insurance so that people are able to spend
more and have less need to save. I think it's
kind of ironic that so much of the savings flows
from poor countries to rich countries, and if we were
able to channel more of that savings from rich countries
to poor countries, then we would be exporting more that
would be an important source of demand. What secular stagnation
teaches is that a central macroeconomic problem is absorbing all
the savings, and then if you don't absorb all the savings,
you will tend to have higher unemployment than you need to,
and you'll tend to have asset prices bid up to
the sky, which will tend to reward the rich.
At the expense of everyone else.
Larry, we've called that podcast Think Like an Economist, because
we think that learning economics gives our listeners an incredibly
powerful toolkit.
And you've spoken to that already today.
Can you say a little bit about what you think
it means to think like an economist.
I think it means to recognize that everything is a
trade off. That you do one thing, you can't do
a another thing. I think that's probably the most important
thing it means to think like an economist. I think
it also means to think that things don't always happen
because of a plan and a direction, but they often
happen because of the invisible hand of the marketplace where
some other mechanism. It means understanding the benefits of competition
and the importance of incentives. People don't always understand it.
So for the sake of our listeners, why do you
think it will actually help to learn to think like
an economist.
I think they'll think more clearly whether it's what kind
of mortgage to take, or whether to buy or lease
a car, or whether to vote one way or the
other way to cause them to live a prosperous life.
It lets you explain a huge amount about the natural world. Larry.
I just wanted to say thanks so much for joining
us today, for thinking like an economist. And I think
every time I talk you teach me a little bit
more about how to become a little bit better of
an economist too.
Yes, Larry, thank you. It's a pleasure talking today.
Thank you.