foreign affairs – march - april 2016

8/17/2019 Foreign Affairs – March - April 2016

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Surviving Slow Growth

MARCH/APRIL 2016

IS HILLARY CLINTON GOOD FOR WOMEN?

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The World Is Flat

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Intelligence, Surveillance & Reconnaissance

Network Systems

Secure Communications

Command & Control


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ENDURING

AWARENESS


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March/April 2016

C O V E R P H

O T O : I T A

L I A N E S T R O

Volume 95, Number 2

HOW TO SURVIVE SLOW GROWTH

The Age of Secular Stagnation 2

What It Is and What to Do About It Lawrence H. Summers

Can Central Banks Goose Growth? 10

Bold Action Is Needed to Fight the Next Downturn J. Tomilson Hill and Ian Morris

The Demographics of Stagnation 18

Why People Matter for Economic Growth Ruchir Sharma

Middle-Class Heroes 25

The Best Guarantee o Good Governance Nancy Birdsall

Eurasia’s Coming Anarchy 33

The Risks o Chinese and Russian Weakness Robert D. Kaplan

Is Innovation Over? 42

The Case Against Pessimism

Tyler Cowen


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Inequality and

Fiscal Policyedited by Benedict Clements,

Ruud de Mooij, Sanjeev Gupta, and

Michael Keen

“The IMF recognizes that its

policies can have huge distributive

consequences and so this book will

be important not only for guidingits own work, but for scholars and

policymakers seeking to further

enhance our understanding of the

determinants of inequality and

devising policies that might reduce it.”

Joseph E. Stiglitz

Professor, Columbia University

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I N T E R N A T I O N A L M O N E T A R Y F U N D

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March/April 2016

ON FOREIGNAFFAIRS.COM

Kelly Greenhill ondemographic bombing.

Michael Kazin onDonald Trump.

Michael Levi on thegeopolitics of cheap gas.

Learning to Love Stagnation 47

Growth Isn’t Everything—Just Ask Japan Zachary Karabell

The Good News From Google 54

A Conversation With Ruth Porat

ESSAYS

Fight or Flight 62

America’s Choice in the Middle East Kenneth M. Pollack

ISIS Goes Global 76

Fight the Islamic State by Targeting Its Affiliates Daniel Byman

Can China’s Companies Conquer the World? 86

The Overlooked Importance o Corporate Power Pankaj Ghemawat and Thomas Hout

The Lost Art of Economic Statecraft 99

Restoring an American Tradition Robert D. Blackwill and Jennifer M. Harris

The Study-Abroad Solution 111

How to Open the American Mind Sanford J. Ungar

https://www.foreignaffairs.com/https://www.foreignaffairs.com/articles/2015-12-17/demographic-bombinghttps://www.foreignaffairs.com/articles/2015-12-17/demographic-bombinghttps://www.foreignaffairs.com/articles/2015-12-17/demographic-bombinghttps://www.foreignaffairs.com/articles/united-states/2015-12-10/trumping-historyhttps://www.foreignaffairs.com/articles/united-states/2015-12-10/trumping-historyhttps://www.foreignaffairs.com/articles/united-states/2015-12-10/trumping-historyhttps://www.foreignaffairs.com/articles/united-states/2015-12-10/trumping-historyhttps://www.foreignaffairs.com/articles/saudi-arabia/2015-12-03/beyond-break-even-priceshttps://www.foreignaffairs.com/articles/saudi-arabia/2015-12-03/beyond-break-even-priceshttps://www.foreignaffairs.com/articles/saudi-arabia/2015-12-03/beyond-break-even-priceshttps://www.foreignaffairs.com/articles/saudi-arabia/2015-12-03/beyond-break-even-priceshttps://www.foreignaffairs.com/articles/saudi-arabia/2015-12-03/beyond-break-even-priceshttps://www.foreignaffairs.com/articles/united-states/2015-12-10/trumping-historyhttps://www.foreignaffairs.com/articles/2015-12-17/demographic-bombinghttps://www.foreignaffairs.com/


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P h o t

o b y J e ff G

o l d b e r g / E s t o

http://sgis.indiana.edu/


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March/April 2016

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them a chance to appear.”Archibald Cary Coolidge, Founding EditorVolume 1, Number 1 • September 1922

Japan’s New Realism 125 Abe Gets Tough Michael Auslin

The Next Front on Climate Change 135 How to Avoid a Dimmer, Drier WorldVeerabhadran Ramanathan, Jessica Seddon, and David G. Victor

REVIEWS & RESPONSES

What Rome Can Teach Us Today 144 Ancient Lessons for Modern Politics Michael Fontaine

Hunger Games 150 A History o Famine Douglas Gollin

Diplomacy Disrupted 156 Foreign Policy in a Decentralized WorldCameron Munter

A Feminist Foreign Policy 162 Hillary Clinton’s Hard Choices Suzanne Nossel

Recent Books 168

Letters to the Editor 192


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March/April 2016 · Volume 95, Number 2

Published by the Council on Foreign Relations

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The son o two economists and the nephew o two Nobellaureates in economics, LAWRENCE SUMMERS seemed

destined from birth to become an economist. And indeed,after a short stint as a physics major at MIT, he soonswitched to “the dismal science,” gaining tenure at Harvardat 28. Since then, he has served as chie economist at theWorld Bank, U.S. treasury secretary, president o Harvard,and director o President Barack Obama’s National Eco-nomic Council. In “The Age o Secular Stagnation” (page 2),Summers argues that governments must increase publicinvestment to address the root causes o slow global growth.

NANCY BIRDSALL has worked in international developmentsince 1969, starting at the American Council on Education’sOverseas Liaison Committee fresh out o college. Twodecades later, she became the director o policy research atthe World Bank; a decade after that, she co-founded theCenter for Global Development, a nonprofit where sheserves as president. In “Middle-Class Heroes” (page 25),she argues that economic development in a slow-growthworld depends on a healthy global middle class.

SANFORD UNGAR has been the Washington editor o The Atlantic, a host o National Public Radio’s All Things Consid- ered, and the dean o the School o Communication atAmerican University. At Voice o America, which he directedfrom 1999 to 2001, he oversaw programs broadcast in 53languages to more than 90 million listeners every week. Hethen became the president o Goucher College, in Maryland,a post he held until 2014, where he made foreign study

mandatory for all students. In “The Study-Abroad Solution”(page 111), Ungar argues that a successful U.S. foreign policydepends on Americans’ exposure to the rest o the world.

After college, SUZANNE NOSSEL went to South Africa to workfor a group transitioning the country away from apartheid.Over the decades that followed, her work in international law,foreign policy, and human rights brought her to leadershiproles at various nongovernmental organizations and to the

U.S. State Department, where she served from 2009 to 2011as a deputy assistant secretary under Secretary o StateHillary Clinton. Now the executive director o PENAmerican Center, in “A Feminist Foreign Policy” (page 162),Nossel evaluates Clinton’s record on women’s rights abroad.

CONTRIBUTORS


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population growth around the world.Nancy Birdsall warns that slow growthwon’t just hurt businesses and investors butcould also end one o the most importantdevelopments o the last three decades:the steady rise o a global middle class,which has played an essential role in thespread o democracy and good governance.And Robert Kaplan explores the desta-

bilizing effects o slow growth on Chinaand Russia, two great but strugglingpowers that could soon become evenmore belligerent and unpredictable astheir economies continue to sour.

It’s not all bad news, however; TylerCowen, Zachary Karabell, and RuthPorat all argue that it’s not yet time fordespair. Reviewing Robert Gordon’sThe Rise and Fall of American Growth,

Cowen reminds us that predictionsabout growth are notoriously hard toget right and that breakthroughs, withall their attendant benefits, often arrivewhen least expected. Karabell arguesthat slow growth isn’t necessarily sohard to live with—at least not i costsare also stagnating, which they are.Porat, finally, brings us the view from

Google (now Alphabet): a markedlysunnier take that emphasizes the abilityo technology and innovation to empowerand energize people and make the worlda better place for everyone. Let’s hopeshe’s right.

—Jonathan Tepperman, Managing Editor

The first decade o the twenty-firstcentury was a time o unprec-edented economic growth. The

rich world got richer, and the developingworld raced ahead: by 2007, the emerging-market growth rate had hit 8.7 percent,and economists began to speak o “con-vergence,” when the impoverished “rest”would finally catch up to the West. Then

came the fall.Today, with China slumping, energyprices collapsing, and nervous consumerssitting on their hands, growth has groundto a halt almost everywhere, and econo-mists, investors, and ordinary citizens arestarting to confront a grim new reality: theworld is stuck in the slow lane and nobodyseems to know what to do about it.

How did we get here? How can we

escape stagnation, and why aren’t theold remedies working? And what arethe geopolitical implications o this neweconomic era? These are the questionsthis issue’s lead package tries to answer.

Articles by Lawrence Summers and by J. Tomilson Hill and Ian Morris kickthings off by explaining why, more thanseven years after the Great Recession

began, the recovery remains so weak.Summers looks at the causes and conse-quences o secular stagnation and finds aremedy in expansionary fiscal policy.Hill and Morris caution that the roadahead looks even rougher, as centralbanks have already used every tool attheir disposal, leaving the global econ-omy “without shock absorbers.”

Ruchir Sharma fleshes out the originstory by highlighting a key problem that’soften overlooked: radical declines in

HOW TO SURVIVE SLOW GROWTH


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The Age o Secular Stagnation Lawrence H. Summers 2

Can Central Banks Goose Growth? J. Tomilson Hill and Ian Morris 10

The Demographics o Stagnation Ruchir Sharma 18

Middle-Class Heroes Nancy Birdsall 25

Eurasia’s Coming Anarchy Robert D. Kaplan 33

Is Innovation Over?Tyler Cowen 42

Learning to Love Stagnation Zachary Karabell 47

A Conversation With Ruth Porat 54

The main constraint on theindustrial world’s economy

today is on the demand siderather than the supply side.

—Lawrence Summers

I T A L I A N

E S T R O


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2

LAWRENCE H. SUMMERS is PresidentEmeritus and Charles W. Eliot University

Professor of Economics at Harvard University.

He served as U.S. Secretary of the Treasuryfrom 1999 to 2001 and Director of the NationalEconomic Council from 2009 to 2010.

H O W T O

S U R V I V E S L O W G R

O W T H

expand their balance sheets by morethan $5 trillion. Had economists beentold such monetary policies lay ahead,moreover, they would have confidently

predicted that inflation would become aserious problem—and would have beenshocked to find out that across the UnitedStates, Europe, and Japan, it has gener-ally remained well below two percent.

In the wake o the crisis, governments’debt-to- ratios have risen sharply, from41 percent in 2008 to 74 percent today inthe United States, from 47 percent to

70 percent in Europe, and from 95 percentto 126 percent in Japan. Yet long-terminterest rates are still remarkably low, withten-year government bond rates at aroundtwo percent in the United States, around0.5 percent in Germany, and around0.2 percent in Japan as o the beginningo 2016. Such low long-term rates suggestthat markets currently expect both lowinflation and low real interest rates to

continue for many years. With appropriatecaveats about the complexities o drawinginferences from indexed bond markets,it is fair to say that inflation for theentire industrial world is expected to beclose to one percent for another decadeand that real interest rates are expectedto be around zero over that time frame.In other words, nearly seven years into

the U.S. recovery, markets are notexpecting “normal” conditions to returnanytime soon.

The key to understanding thissituation lies in the concept o secularstagnation, first put forward by theeconomist Alvin Hansen in the 1930s.The economies o the industrial world,in this view, suffer from an imbalance

resulting from an increasing propensityto save and a decreasing propensity toinvest. The result is that excessive saving

The Age of SecularStagnation

What It Is and What to Do

About It

Lawrence H. Summers

A

s surprising as the recentfinancial crisis and recession

were, the behavior o the world’sindustrialized economies and financialmarkets during the recovery has beeneven more so.

Most observers expected the unusu-ally deep recession to be followed by anunusually rapid recovery, with output andemployment returning to trend levelsrelatively quickly. Yet even with the U.S.Federal Reserve’s aggressive monetary

policies, the recovery (both in the UnitedStates and around the globe) has fallensignificantly short o predictions andhas been far weaker than its predecessors.Had the American economy performedas the Congressional Budget Officeforecast in August 2009—after thestimulus had been passed and the recov-ery had started—U.S. today would

be about $1.3 trillion higher than it is.Almost no one in 2009 imagined that

U.S. interest rates would stay near zero forsix years, that key interest rates in Europewould turn negative, and that centralbanks in the G-7 would collectively

Return to Table of Contents


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The Age of Secular Stagnation

March/April 2016 3

acts as a drag on demand, reducinggrowth and inflation, and the imbalancebetween savings and investment pullsdown real interest rates. When signifi-

cant growth is achieved, meanwhile—as in the United States between 2003and 2007—it comes from dangerouslevels o borrowing that translate excesssavings into unsustainable levels o invest-ment (which in this case emerged as ahousing bubble).

Other explanations for what is hap-pening have been proposed, notably

Kenneth Rogoff’s theory o a debtoverhang, Robert Gordon’s theory osupply-side headwinds, Ben Bernanke’stheory o a savings glut, and Paul Krug-man’s theory o a liquidity trap. All othese have some validity, but the secularstagnation theory offers the most com-prehensive account o the situation andthe best basis for policy prescriptions.The good news is that although devel-

opments in China and elsewhere raisethe risks that global economic conditionswill deteriorate, an expansionary fiscalpolicy by the U.S. government can helpovercome the secular stagnation problemand get growth back on track.

STUCK IN NEUTRAL

Just as the price o wheat adjusts to

balance the supply o and demand forwheat, it is natural to suppose that interestrates—the price o money—adjust tobalance the supply o savings and thedemand for investment in an economy.Excess savings tend to drive interestrates down, and excess investment demandtends to drive them up. Following theSwedish economist Knut Wicksell, it

is common to refer to the real interestrate that balances saving and investmentat full employment as the “natural,” or

“neutral,” real interest rate. Secularstagnation occurs when neutral realinterest rates are sufficiently low thatthey cannot be achieved through

conventional central-bank policies.At that point, desired levels o savingexceed desired levels o investment,leading to shortfalls in demand andstunted growth.

This picture fits with much o whatwe have seen in recent years. Real inter-est rates are very low, demand has beensluggish, and inflation is low, just as one

would expect in the presence o excesssaving. Absent many good new invest-ment opportunities, savings have tendedto flow into existing assets, causing assetprice inflation.

For secular stagnation to be a plau-sible hypothesis, there have to be goodreasons to suppose that neutral realinterest rates have been declining andare now abnormally low. And in fact, a

number o recent studies have tried tolook at this question and have generallyfound declines o several percentagepoints. Even more convincing is theincreasing body o evidence suggestingthat over the last generation, variousfactors have increased the propensityo populations in developed countriesto save and reduced their propensity to

invest. Greater saving has been drivenby increases in inequality and in theshare o income going to the wealthy,increases in uncertainty about the lengtho retirement and the availability obenefits, reductions in the ability toborrow (especially against housing),and a greater accumulation o assets byforeign central banks and sovereign

wealth funds. Reduced investment hasbeen driven by slower growth in the laborforce, the availability o cheaper capital


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Lawrence H. Summers

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and subsequent deleveraging. Butalthough these surely contributed tothe financial crisis, they seem insuffi-cient to account for the prolonged slow

recovery. Moreover, the debt buildupstheory provides no natural explanationfor the generation-long trend towardlower neutral real interest rates. It seemsmore logical to see the debt buildupsdecried by Rogoff as not simply exogenousevents but rather the consequence o agrowing excess o saving over investmentand the easy monetary policies necessary

to maintain full employment.Gordon, meanwhile, has argued forwhat might be called supply-side secularstagnation—a fundamental decline inthe rate o productivity growth relativeto its golden age, from 1870 to 1970.Gordon is likely right that over the nextseveral years, the growth in the potentialoutput o the American economy andin the real wages o American workers

will be quite slow. But i the primaryculprit were declining supply (as op-posed to declining demand), one wouldexpect to see inflation accelerate ratherthan decelerate.

For a decade, Bernanke has empha-sized the idea o a savings glut emanat-ing from cash thrown off by emergingmarkets. This was indeed an important

factor in adding to excess saving in thedeveloped world a decade ago, and itmay well be again i emerging marketscontinue to experience growing capitalflight. But both the timing and the scaleo capital export from emerging marketsmake it unlikely that it is the principalreason for the major recent declines inneutral real interest rates.

Krugman and some others havesought to explain recent events and makepolicy recommendations based on the

goods, and tighter credit (with lendingmore highly regulated than before).

Perhaps most important, the neweconomy tends to conserve capital.

Apple and Google, for example, arethe two largest U.S. companies and areeager to push the frontiers o technol-ogy forward, yet both are awash in cashand are under pressure to distributemore o it to their shareholders. Thinkabout Airbnb’s impact on hotel con-struction, Uber’s impact on automobiledemand, Amazon’s impact on the con-

struction o malls, or the more generalimpact o information technology onthe demand for copiers, printers, andoffice space. And in a period o rapidtechnological change, it can make senseto defer investment lest new technologysoon make the old obsolete.

Various studies have explored theimpact o these factors and attemptedto estimate the extent to which they

have reduced neutral real interest rates.The most recent and thorough o these,by Lukasz Rachel and Thomas Smith atthe Bank o England, concluded that forthe industrial world, neutral real interestrates have declined by about 4.5 per-centage points over the last 30 yearsand are likely to stay low in the future.Together with the current price o

long-term bonds, this suggests that thekind o Japan-style stagnation that hasplagued the industrial world in recentyears may be with us for quite some time.

DIFFERENTIAL DIAGNOSIS

Not all economists are sold on thesecular stagnation hypothesis. Buildingon the monumental history o financial

crises he wrote with Carmen Reinhart,for example, Rogoff ascribes currentdifficulties to excessive debt buildups


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March/April 2016 5

years, cuts will soon bring interest ratesback down to the zero lower bound.

LET’S GET FISCAL

Up to the 1970s, most economistsbelieved that i governments manageddemand properly, their countries’economies could enjoy low unemploy-ment and high output with relatively

modest inflation. The proper task omacroeconomists, it followed, was to usemonetary and fiscal policy to managedemand well. But this thinking waseventually challenged from two direc-tions—in theory, by Milton Friedman,Robert Lucas, and others, and in prac-tice, by the experience o high inflationtogether with high unemployment.

The emergence o such “stagflation”in the late 1970s led to general accep-tance o the natural-rate hypothesis,

old Keynesian concept o a liquiditytrap. As Krugman has emphasized, thisline o thinking is parallel to the secularstagnation one. But most treatments othe liquidity trap treat it as a temporaryphenomenon rather than a potentiallypermanent state o affairs, which is whatthe evidence seems to be showing.

Perhaps the most comforting alterna-

tive view is that secular stagnation mayhave indeed occurred in the past but isno longer operating in the present.With the unemployment rate down tofive percent and the Fed embarked on atightening cycle, the argument runs,indicators will start returning to earlier,higher growth trends. Perhaps. Butmarkets are betting that the Fed will

not be able to tighten monetary policynearly as much as it expects, and ianother recession starts in the next few

E D U A R D O M U N O Z

/ R E U T E R S

Investors wanted: a vacant house in Newark, New Jersey, May 2014


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Lawrence H. Summers

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politicians eager to inflate away problemsbut in bankers refusing to generate enoughdemand to bring inflation up to targetlevels and permit reductions in real

interest rates. And fiscal policy, finally,takes on new significance as a tool ineconomic stabilization.

As o yet, none o these principleshas been fully accepted by policymakersin the advanced industrial world. It istrue that central banks have sought,through quantitative easing, to loosenmonetary conditions even with short-

term interest rates at rock bottom. Butthey have treated these policies as ashort-term expedient, not a longer-termnecessity. More important, these policiesare running into diminishing returnsand giving rise to increasingly toxic sideeffects. Sustained low rates tend topromote excess leverage, risk taking,and asset bubbles.

This does not mean that quantita-

tive easing was mistaken. Without suchpolicies, output would likely be evenlower, and the world economy might wellhave tipped into deflation. But monetary-policy makers need to acknowledgemuch more explicitly that neutral realrates have fallen substantially and that thetask now is to adjust policy accordingly.This could include setting targets for

nominal growth rather than infla-tion, investing in a wider range o riskassets, making plans to allow base ratesto turn negative, and underscoring theimportance o avoiding a new recession.

When the primary policy challengefor central banks was establishing cred-ibility that the printing press was undercontrol, it was appropriate for them to

jealously guard their independence. Whenthe challenge is to accelerate, rather thanbrake, economies, more cooperation with

the idea that abnormally low unem-ployment causes inflation to accelerate.According to this view, since policymak-ers would not accept permanently rising

rates o inflation, economies would tendto fluctuate around a natural rate ounemployment, determined by factorssuch as labor flexibility, the availabilityo benefits, and the effectiveness ohiring and job searches. By skillfullymanaging demand, policymakers couldaspire to reduce the amplitude o thefluctuations—and although they could

determine the average rate o inflation,they could not raise the average levelo output.

By the mid 1980s, once inflation hadbeen brought down from double-digitlevels, a consensus on macroeconomicpolicy emerged. The central objectiveo policy, most mainstream economistsbelieved, should be to achieve a low andrelatively stable rate o inflation, since

there were no permanent gains to behad from higher inflation. This couldbest be accomplished, it was thought,by firmly establishing the politicalindependence o central banks and bysetting inflation targets in order tocontrol expectations. Fiscal policy,meanwhile, was not considered to havea primary role in managing demand,

because it was slow acting and mightpush interest rates up and because mon-etary policy could do what was needed.

Seen through the lens o the secularstagnation hypothesis, however, allthese propositions are problematic. Iit were possible to avoid secular stagna-tion, then it would indeed be possible toincrease average levels o output sub-

stantially, raising the stakes for demandmanagement policy. The danger inmonetary policy, moreover, lies not in


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March/April 2016 7

more, not less, government debt. Bystimulating growth and enabling aninflation increase that would permit areduction in real capital costs, fiscal expan-

sion now would crowd investment inrather than out. Well-intentionedproposals to curtail prospective pensionbenefits, in contrast, might make matterseven worse by encouraging increasedsaving and reduced consumption, thusexacerbating secular stagnation.

The main constraint on the industrialworld’s economy today is on the demand,

rather than the supply, side. This meansthat measures that increase potentialsupply by promoting flexibility aretherefore less important than measuresthat offer the potential to increase demand,such as regulatory reform and businesstax reform. Other structural policiesthat would promote demand includesteps to accelerate investments in renew-able technologies that could replace

fossil fuels and measures to raise theshare o total income going to thosewith a high propensity to consume, suchas support for unions and increasedminimum wages. Thus, John MaynardKeynes, writing in a similar situationduring the late 1930s, rightly emphasizedthe need for policy approaches that bothpromoted business confidence—the

cheapest form o stimulus—and increasedlabor compensation.

TO HANGZHOU AND BEYOND

I each o the countries facing secularstagnation today were to confront itsuccessfully on its own, the resultswould be very favorable for the globaleconomy. But international focus and

coordination have crucial additionalroles to play.Secular stagnation, after all, increases

domestic fiscal authorities and foreigncounterparts is necessary.

The core problem o secular stagna-tion is that the neutral real interest rate

is too low. This rate, however, cannot beincreased through monetary policy.Indeed, to the extent that easy moneyworks by accelerating investments andpulling forward demand, it will actuallyreduce neutral real rates later on. Thatis why primary responsibility for address-ing secular stagnation should rest withfiscal policy. An expansionary fiscal policy

can reduce national savings, raise neutralreal interest rates, and stimulate growth.Fiscal policy has other virtues as

well, particularly when pursued throughpublic investment. A time o low realinterest rates, low materials prices, andhigh construction unemployment is theideal moment for a large public invest-ment program. It is tragic, therefore,that in the United States today, federal

infrastructure investment, net o depre-ciation, is running close to zero, and netgovernment investment is lower than atany time in nearly six decades.

It is true that an expansionary fiscalpolicy would increase deficits, and manyworry that running larger deficits wouldplace larger burdens on later generations,who will already face the challenges o

an aging society. But those future genera-tions will be better off owing lots omoney in long-term bonds at low ratesin a currency they can print than theywould be inheriting a vast deferredmaintenance liability.

Traditional concern with fiscaldeficits has focused on their impact inpushing up interest rates and retarding

investment. Yet by setting yields solow and bond prices so high, marketsare sending a clear signal that they want


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Lawrence H. Summers

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These issues were recognized atthe successful G-20 summit in Lon-don in April 2009 (although the prob-lems were misdiagnosed as cyclical

and temporary rather than secularand enduring). The common commit-ments undertaken there to engage infiscal expansion, strengthen financialregulation, resist trade protection,and enhance the capacity o interna-tional financial institutions to respondto problems in emerging markets wereeffective in halting the collapse o the

global economy. Unfortunately, subse-quent G-20 summits returned to theirtraditional lethargy and misguidedpreoccupation with iscal austerity,monetary normalization, and moralhazard, ending up missing opportuni-ties to accelerate the recovery.

This year, the Chinese will host aG-20 summit in September. I Chinachooses to recognize how important

global growth is for its economy, andhow important its economy is for globalgrowth, it could perform a great serviceby reinvigorating international eco-nomic cooperation. The key priority inHangzhou—as it was in London back in2009—should be increasing globaldemand and making sure that it picksup particularly in those countries where

there is the most economic slack.In this regard, China’s decisions

about its own economic affairs will becrucial. To date, the internationalcommunity has joined Chinese financialofficials in urging China’s politicalleadership to pursue financial liberaliza-tion. This is surely correct for the longrun. But it may well be in China’s and

the global interest that the liberalizationprocess proceed more gradually than iscurrently envisioned, so that capital

the contagion from economic weakness.In normal times, i the rest o the worldeconomy suffers, the United States orany other affected economy can offset

the loss o demand and competitivenessthrough monetary easing. With mon-etary policy already at its lower limit,however, additional easing is impossible(or at least much more difficult), and soeach country’s stake in the strength othe global economy is greatly magnified.

Secular stagnation also increasesthe danger o competitive monetary

easing and even o currency wars.Looser money, starting with near-zerocapital costs, is likely to generatedemand primarily through increasesin competitiveness. This is a zero-sumgame, since currency movementsswitch demand from one country toanother rather than increase it glob-ally. Fiscal expansions, in contrast,raise demand on a global basis. Inter-

national coordination is thus necessaryto avoid an excessive and self-defeat-ing reliance on monetary policy andachieve a mutually rewarding relianceon fiscal policy to address problems.

Movements in commodity prices inrecent months have shown that eventsin emerging markets, especially China,can have significant impacts globally.

It now appears likely that more capitalwill flow out o emerging markets andless will flow in than has been the casein recent years. These capital outflowsand the consequent increases in netexports will further reduce demandand neutral real rates in the developedworld, thereby exacerbating secularstagnation. Policies that help restore

confidence in emerging markets,therefore, will also strengthen theglobal economy.


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type o alternator in a car engine, henoted that the economy had what hecalled “magneto trouble.” A car with abroken alternator won’t move at all—

yet it takes only a simple repair to getit going. In much the same way,secular stagnation does not reveal aprofound or inherent flaw in capital-ism. Raising demand is actually notthat difficult, and it is much easierthan raising the capacity to produce.The crucial thing is for policymakersto diagnose the problem correctly and

make the appropriate repairs.∂

outflows from China do not threatenChina’s own financial stability andspread weakness to the global economyat large.

As the euro has declined sharply,meanwhile, any recovery that Europehas achieved has come largely fromincreases in competitiveness that reducegrowth elsewhere. Germany now leadsthe world with a trade surplus equal toa whopping eight percent o . Theglobal community should encourageEurope to generate domestic demand

as it seeks to expand its economy.One more priority in Hangzhoushould be promoting global infra-structure investment. In this regard,the Chinese-led Asian InfrastructureInvestment Bank is a valuable stepforward, and it should be stronglysupported by the global community,even as it is encouraged to respectinternational norms and standards

relating to issues such as environmen-tal protection and integrity in pro-curement. And efforts to supportinfrastructure investment elsewhere,such as the Obama administration’sPower Africa initiative, should becarried forward.

Secular stagnation and the slowgrowth and financial instability associ-

ated with it have political as well aseconomic consequences. I middle-class living standards were increasingat traditional rates, politics acrossthe developed world would likely befar less surly and dysfunctional. Somitigating secular stagnation is oprofound importance.

Writing in 1930, in circumstances

far more dire than those we face today,Keynes still managed to summon someoptimism. Using a British term for a


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J. TOMILSON HILL is President and CEO of

Blackstone Alternative Asset Management and

Vice Chair of Blackstone.IAN MORRIS is a Senior Managing Director atBlackstone.

H O W T O


O W T H

because the American economy hassufficiently improved, a step that hasmoved the United States slightly awayrom the zero lower bound. But Japan,

the countries of the eurozone, and manyothers are still stuck with weak economiesand interest rates at or close to zero.

Central banks have already appliedalmost every traditional policy tool, aswell as some unconventional and evenradical ones, and yet economic outlookseverywhere remain uncertain. In a sense,then, the global economy is traveling

without shock absorbers. Another down-turn—even a relatively ordinary one—would require central bankers to onceagain turn to experimental and seem-ingly risky monetary policies, as theydid in response to the financial crisis.Traditional tax cuts and spending pack-ages would help but would likely proveinsufficient: debt is already very high,and intense political opposition to

increasing it exists in many countries.Many investors, and even some

economists and analysts, have growncomplacent in recent years as the globaleconomy has continued to recover. Buthistory suggests that no one should gettoo comortable. Since World War II, theU.S. economy has allen into a recessionevery five years, on average. The longest

measured U.S. economic expansionlasted ten years, rom 1991 until 2001.The current round of growth has alreadylasted almost seven years—so even if itmatched the previous record-holder, itwould still end sometime in 2019.

Of course, records can be broken, andU.S. economic history is not necessarilydefinitive; Australia, or example, has

avoided a recession or nearly 25 yearsnow, and the Netherlands racked upalmost 26 years of growth beore 2008.

Can Central Banks

Goose Growth?

Bold Action Is Needed toFight the Next Downturn

J. Tomilson Hill and Ian Morris

I

n the years since the global financial

crisis of 2008 enguled the worldand the United States ell into theGreat Recession, the panic has subsidedand Western economies have recoveredto varying degrees. But the downturn’seffects have proved proound and lasting,and serious risks persist or the globaleconomy. The recovery has been slow,inflation levels remain below the targetsset by central banks, and total debt

levels are much higher than beore thecrisis began.

Worst of all, at least two dozencountries—some with developed econo-mies, others with emerging markets—find themselves either at or very close tothe so-called zero lower bound, meaningthat their short-term nominal interestrates hover around zero. At the zero

lower bound, central banks struggle tostimulate growth, since the simplest wayor them to do so—dropping interest rateseven urther—becomes nearly impossiblewhen rates are already (almost) as low asthey can go. The U.S. Federal Reservehas recently begun to raise interest rates



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Can Central Banks Goose Growth?

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But i historical patterns hold true, arecession (lasting at least six monthsto a year) will probably hit the UnitedStates beore 2020—and given the

central role the country plays in theworld economy, the slowdown willlikely become global.

Should it arrive, such a recession,coming hard on the heels of the anemicrecovery, would strongly suggest thatthe current stagnation is secular—thatis, indefinite—rather than merely cyclicalor temporary. So rather than moving

past the crisis and into a period of nor-malization, the world might instead beonly part of the way through an eradefined by very slow growth and shapedby previously unthinkable and ar-etchedpolicies to improve things—includingan embrace of negative real interestrates in the long term.

The good news is that a ew bold,even radical policies could shield the

global economy rom the worst effectsof the next downturn. The bad news isthat it remains uncertain whether policy-makers will use them aggressively enoughwhen the time comes.

A TROUBLED RECOVERY

It isn’t difficult to find evidence of justhow weak and tentative the recovery

has been. In the third quarter of 2015(the most recent period or which statis-tics are available), U.S. real wasaround 13 percent lower than orecastsissued in 2007 (including those madeby the International Monetary Fund)predicted it would be. That amounts toa shortall of $15 trillion. The situationis even worse in the eurozone, where

overall grew by 16 percent lessbetween 2007 and 2015 than the sameorecasts predicted, ranging rom an

eye-popping 21 percent less in Spain toa much lower but still significant sevenpercent less in Germany.

Meanwhile, inflation has also allen

below expectations in Japan, the UnitedStates, and the eurozone, a sign that weakeconomic conditions are keeping demandlow. And rom 2007 to 2014, total globaldebt (including public and private borrow-ing) increased by $57 trillion, according tothe corporate consulting firm McKinsey,owing primarily to large governmentdeficits. In advanced economies, the

ratio of private debt to has leveledoff, but government debt continues torise sharply, which would cause troubleif interest rates were ever to normalize,since debt-servicing costs would then soar.

Employment statistics present a moremixed picture, because the postcrisisstagnation has come in two varieties:

jobs poor and jobs rich. Southern Europestill suffers rom mass unemployment.

In contrast, many northern Europeancountries are close to ull employment,despite being at the zero lower bound.The same holds true in Japan. Similarly,U.S. unemployment has allen by halfover the past five years or so, to about fivepercent—an impressive improvement.

But unemployment rates alone don’ttell the whole story, especially in the

United States. Consider that even asunemployment has plunged, U.S. growth has averaged just two percent ayear. What is more, the percentage ofAmerican adults participating in thelabor orce has allen to its lowest pointin nearly our decades, which suggestshigh levels of “shadow unemployment”—large numbers of people who are unem-

ployed and have stopped trying to findwork, dropping out of the labor orcealtogether and thus no longer actoring


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eurozone also could not simply devaluetheir currencies—a conventional wayof dealing with weak demand. So asiderom the quantitative easing that the

European Central Bank launched lastyear—flooding the eurozone with moneyby buying government bonds—ewgood options seemed to exist or stimu-lating demand. Hence, some economistsand analysts have championed reormsaimed at cutting inefficiencies on thesupply side, arguing that such steps willraise expectations or more growth and

employment in the long term. The theory,in other words, is that supply reormscan stimulate demand.

In practice, however, that has notpanned out. Of course, eliminating redtape is useul in good and bad timesalike. And there’s no doubt that govern-ments can boost demand by making iteasier and aster or businesses to obtainlicenses, project approvals, and utility

grid connections; by ensuring that govern-ment agencies pay their bills promptly;and by nudging court systems to resolvecommercial disputes more efficiently.Simpler, smarter bank regulations canalso encourage growth by making iteasier or businesses to borrow, and taxreorms can encourage investment andentrepreneurship.

But in the postcrisis period, pro-marketreorms have not corresponded withstrong economic recovery. Considerthree useul measures of supply-sidereorm: the “product market regulation”scorecard published by the Organizationor Economic Cooperation and Develop-ment, which ranks countries based onthe extent to which their regulatory

environments affect competition; the’s Employment Protection Legis-lation Index, which assesses the flexibil-

into official unemployment statistics.That change is not merely the resultof demographic shits, such as babyboomers reaching retirement age; in

act, the proportion of Americans ofprime working age (25 to 54 years old)who are currently working is significantlysmaller than the proportion of Germans, Japanese, Swedish, and Swiss of thatage who are now employed. This sug-gests that although unemployment maybe low, the U.S. labor orce is neverthe-less underutilized.

SUPPLY OR DEMAND?

To figure out how to boost stagnantgrowth and employment rates, it’s crucialto determine whether the global economysuffers primarily rom weak demand orrom weak supply. The act that inflationhas remained below target rates stronglysuggests the problem is weak demand,since if supply were weak, the combina-

tion of that and easy money (owing tolow interest rates) would have producedmuch more inflation than has actuallyoccurred. Many governments seem tohave overlooked this act, however, andhave pursued remedies better suited totreating supply problems than demandones. These include labor reorms thatmake it easier to hire and fire workers

and measures meant to introduce morecompetition into traditionally shelteredsectors of the economy.

European governments, in particular,have ound such reorm programs attrac-tive. In the wake of the crisis, states inthe eurozone ound it difficult to stimu-late growth by cutting government budgetdeficits; so-called austerity measures

did not produce the hoped-or boost inprivate-sector confidence. And becausethey all use the euro, countries in the


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March/April 2016 13

Central banks have already establishednominal interest rates at or close to

zero, and urther quantitative easingmight prove ineffective owing to whateconomists call “the liquidity trap.”That condition, which is related to thezero lower bound problem, occurswhen an increase in the money supply(such as one produced by quantitativeeasing) ails to persuade people tospend more because they come to see

cash and bonds as equivalent. Considera scenario in which people were initiallyinclined to hold government bonds at ayield of just above zero but then findthemselves holding more cash becausethe central bank has purchased theirbonds to acilitate quantitative easing.In a liquidity trap, those people don’tspend the cash—even though they can,

since it is liquid—because they view thecash as being basically the same as thebonds they had beore.

ity of countries’ labor markets; and theWorld Bank’s Ease o Doing Business

Index. If champions of supply-orientedreorms were right, then high marks onthose three indexes should correlate withreal growth and recovery. In act, no suchcorrelation exists. Ireland and Finlandhad some of the best scores beore thecrisis, but Ireland went bust, and Finlandhas stagnated during the recovery. Mean-while, Greece and Portugal boast some

of the biggest postcrisis improvementsin all three measures, yet they are sufferingsome of the worst stagnation in Europe.

IT’S A TRAP

The trouble is that even if one acceptsthat demand-oriented problems requiredemand-oriented solutions, the zerolower bound problem seems an insur-

mountable obstacle. Should countriessuffer another downturn, they wouldhave ew ways to stimulate demand.

J O N A T H A N E R N S T / R

E U T E R S

Bank on it: U.S. Federal Reserve Chair Janet Yellen in Washington, D.C., June 2014


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undesirably high inflation rom theireconomies and they worry that settinghigher inflation targets would amountto playing with fire. In reality, they are

fighting yesterday’s war, but such firmlyentrenched views and preerences aredifficult to overcome.

Other actors have also held downinflation. Recent economic growth indeveloped economies has not benefitedall groups equally, and growing incomeinequality has led many middle-classAmericans and Europeans to eel and

behave as they would during a recession:saving more, spending less, and thuspreventing inflation rom rising. Slow-ing population growth in two majordeveloped-world economic hubs, theeurozone and Japan, has also reducedspending in those places. Meanwhile,in China and other countries withemerging economies, people continue tosave a high proportion of their incomes

because they ear that government-unded social saety nets will proveinadequate when they retire or shouldthey all ill. Finally, since the financialcrisis, all kinds of investors, includinglarge institutional players such aspension and insurance unds, haveshown a preerence or sae assets. Thathas lowered overall demand or invest-

ment and added to the downwardpressure on inflation.

At some point, as older people indeveloped economies begin to cash outtheir investments in order to und theirretirement years, spending will increase,which should stimulate inflation. Thateffect will be offset, however, becauseby selling assets (houses, stocks, and so

on) in order to pay their bills, retireeswill push down asset prices, which willhave a deflationary effect.

Should economies all into that trap,the only way to escape it (aside rom alarge and thus politically difficult fiscalstimulus) would be to allow real interest

rates to all urther, into negative terri-tory, in order to discourage excessivesaving and boost investment. Under-standably, investors and policymakersdislike such conditions. Negative rateseel strange and somehow wrong: Whywould anyone invest in a bond thatnot only doesn’t pay them returns butactually loses them money? Yet the

so-called portolio theory, developedby the economist Harry Markowitz inthe 1950s and later advanced by others,shows that under certain circumstances,investors should in act seek assets withnegative expected returns, as long asdoing so helps diversiy their holdings.That is because at certain difficult times,such as a recession, when stock pricesdive, bonds with negative yields can

represent a good investment, since thevalue of other assets might plummetand interest rates might all even urtherinto negative territory, which wouldraise the prices of those bonds.

But with nominal interest rates alreadyat or near zero, how can central banksengineer sufficiently negative real interestrates? The only way to do so is to create

expectations that inflation will increase.If the nominal interest rate is zero andexpected inflation is two percent, thenthe real interest rate equals negative twopercent; likewise, at a nominal interestrate of zero, expected inflation o ourpercent results in a real interest rate ofnegative our percent.

But most central banks have proved

unwilling to raise inflation targets,because they have spent most of thepast three and a half decades wringing


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ACCENTUATE THE NEGATIVE

With traditional approaches exhaustedand so many factors contributing tostagnation, officials need to be ready

to consider an array o more unconven-tional options for protecting the globaleconomy when the next downturninevitably arrives.

The first step would be relativelystraightforward: governments shouldcut taxes and engage in more stimulusspending, including on critical infrastruc-ture, which would help boost demand.

But it’s doubtful that that kind o fiscalpolicy would prove sufficient: it’s un-likely that governments would be ableto overcome political opposition to astimulus that would add to already highdebt levels. So central banks will haveto act boldly—for starters, by cuttingshort-term rates into negative territory.This has already happened in Denmarkand Switzerland, where central banks have

set rates as low as negative 0.75 percent,and the moves have not sparked panic:there have been no bank runs, and Danishand Swiss citizens have not started hoard-ing their cash under their mattresses. Thatsaid, there is a limit to just how far belowzero short-term rates can go—perhapsnegative three percent. Past that level,bank runs might become a possibility.

Central banks should also take mea-sures, such as more quantitative easing,to reduce long-term rates. But at thispoint, even another $1 trillion o quantita-tive easing might not do much. So centralbanks should also announce interest-rate ceilings for long-term governmentsecurities: perhaps a limit o 0.5 percentfor ten-year bonds. Setting a ceiling would

leave a greater supply o such bonds inthe market, because a credible plan for arate ceiling would itsel drive down the

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the problem as well, since a widespreadbelief that inflation will rise would itselfbe necessary to reduce real interest ratesand so cause a boom.

Another problem is that if theinflation targets are not high enough,then real interest rates cannot go lowenough to push inflation higher; as aresult, the economy would disappoint,and inflation undershoot. Japan acesthis risk now. It raised its inflationtarget to two percent in 2013, but to judge rom actual inflation, which has

been persistently much lower thantwo percent over the past ew years, itseems possible that Japan did not setthe target high enough.

Once a central bank picks an infla-tion target, however, there are thingsthe bank can do to help the economyreach it. Among them is a quantitative-easing debt-buyback program to reducethe government’s debt-to- ratio.

In the event of a deflationary recession,government debt might rise high enoughto create uncertainty, depress confidence,and significantly weaken economicconditions. In the United States, orexample, a severe recession could raisegovernment debt to 150 percent of . Japan’s government debt has alreadyrisen to almost 250 percent of . If

central bankers believed that debt reduc-tion would aid economic recovery byboosting confidence, they could announcea plan to explicitly reduce outstandingdebt on a permanent basis by purchasingdebt equal to, say, 50 percent of over five years, spread equally amongsecurities that matured ater six to tenyears. As the bonds matured, the central

bank would give the proceeds back to thetreasury. This would be the equivalentof the treasury not paying back its debt.

interest rate without the central bankhaving to actually buy many bonds. Andduring an economic contraction, a greatersupply of such bonds would be helpul

because uncertainty would likely pro-duce a lot of demand or them. If rateswere already very low on long-termsecurities, central banks could evenset negative rate ceilings on them.

Another airly radical step would beto embrace “helicopter money drops,” theterm that the economist Milton Friedmancoined to describe direct transers of

cash rom central banks to consumers.Such transers would likely be moreeffective than quantitative easing atboosting demand because they wouldcut out the middlemen—banks—andthe need to wait or them to turn bankreserves into loans, which might noteven materialize in the ace of weakdemand or loans. Some would objectthat such “money printing” would be

inflationary. But if deflation were theproblem, that effect would be a benefit,not a cost. And should inflation threatento rise beyond a desirable level, centralbanks could easily raise interest rates.

Central banks should also get overtheir reluctance to establish higherinflation targets, because doing so is themost logical way to reduce real interest

rates. A growing chorus of economistsnow recommend that some central bankstake this step, arguing or a target ofaround our percent. But that’s easiersaid than done. The economist WillemBuiter rightly worries about centralbanks “spitting in the wind”: settinginflation targets that would amount tolittle more than empty promises, not

backed up by any evidence that demandwill actually boom and cause inflationto rise. There is a Catch-22 quality to


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March/April 2016 17

country made the switch, the asterits economy recovered.

A similar dynamic might emerge inthe years ahead. Developed economies

are recovering rom the financial crisisand the Great Recession, but at least twodozen countries ace the zero lower boundproblem or might soon, and the globaleconomy remains dangerously vulnerableto negative shocks. Eventually—probablyduring the next downturn—stagnationwill orce one or a ew countries to digeven deeper into the unconventional

toolbox. There will be no easy fixes. Butarmed with new ways to speed growthand a willingness to experiment, somecountries will get it right, and then otherswill ollow as success breeds success.Policymakers all over the world shoulddo everything they can to prepare nowso they can be early adopters and avoidgetting let behind.∂

It would represent a orm of monetaryfinancing, which could push inflationexpectations up, thereore reducing realinterest rates, raising inflation expecta-

tions urther, and encouraging growth.The perceived downside to this strategyis that the central bank’s assets woulddecline as the bonds matured. Financialmarkets wouldn’t be thrilled, but thebenefits of a debt buyback would likelyoutweigh that cost.

A final idea that governments shouldconsider is a “deflation insurance” plan

to protect consumers and companiesrom the increase in their real debts thatdeflation would cause, even if theirnominal, actual money debts did notchange. In the event of a severe defla-tion, consumers and companies wouldinclude claims or deflation insurancepayments with their tax filings. Thegovernment could insist that the pay-ments be used only or debt reduction.

Some might object that the companiesand consumers with the most debtwould receive the most compensation;to address such concerns, policymakerscould place limits on how much any onefirm or household could claim.

Such a plan would cost the govern-ment nothing during normal times,because there would be no deflation.

And the mere existence of such a schemewould likely lower the risk of deflation,because people would know the insuranceexists and so would be less likely to pullback rom investing and taking on debt.

STAYING AHEAD OF THE CURVE

Sometimes, changes in the global econ-omy require drastic steps. In the 1930s,

many countries abandoned the goldstandard in order to escape stagnation.And the move worked: the earlier a


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RUCHIR SHARMA is Head of Emerging

Markets and Global Macro at Morgan Stanley

Investment Management and the author of theforthcoming book The Rise and Fall of Nations:Forces of Change in the Post-Crisis World .

H O W T O


O W T H

savings in money and time generatedby new technologies, rom superastInternet connections to artificialintelligence. But it is hard to deny

that the growth in the size of thelabor orce—which is driven mainly byincreases in the number of working-age people, those between the ages of15 and 64—has slowed across theworld.

Between 1960 and 2005, the globallabor orce grew at an average of 1.8percent per year, but since 2005, the rate

has downshited to just 1.1 percent, andit will likely slip urther in the comingdecades as ertility rates continue todecline in most parts of the world. Thelabor orce is still growing rapidly inNigeria, the Philippines, and a ew othercountries. But it is growing very slowlyin the United States—at 0.5 percent peryear over the past decade, comparedwith 1.7 percent rom 1960 to 2005—and

is already shrinking in some countries,such as China and Germany.

The implications or the worldeconomy are clear: a one-percentage-point decline in the population growthrate will eventually reduce the economicgrowth rate by roughly a percentagepoint. A collapse in the growth rateof the working-age population was

already under way beore the financialcrisis, and the trend explains a goodchunk of the persistently disappoint-ing recovery since. Governments canoffer incentives to boost ertility ratesand lure more adults into the workorce—and many already are—butthese half measures can only partiallyoffset the larger orces at work. Ulti-

mately, then, the world should braceitsel or slower growth and ewereconomic standouts.

The Demographicsof Stagnation

Why People Matter forEconomic Growth

Ruchir Sharma

In every single region of the world,

economic growth has ailed to returnto the rate it averaged beore theGreat Recession. Economists have comeup with a variety of theories or whythis recovery has been the weakest inpostwar history, including high indebt-edness, growing income inequality, andexcess caution induced by the originaldebt crisis. Although each explanationhas some merit, experts have largely

overlooked what may be the most impor-tant actor: the global slowdown in thegrowth of the labor orce.

One way to calculate the world’spotential growth rate is to add the rateat which the labor orce is expanding tothe rate at which productivity is rising.Since 1960, gains in both actors havecontributed equally to potential economic

growth. And in the last decade, the gainsin both appear to have leveled off. Thedifference between these two drivers,however, is that there is a debate aboutwhether the decline in productivitygrowth is real. Productivity measure-ments have arguably ailed to capture



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The Demographics of Stagnation

March/April 2016 19

THE POPULATION PLATEAU

According to orecasts, the world’spopulation will rise rom 7.3 billiontoday to 9.7 billion by 2050. Alarmists

of all stripes have seized on the predic-tion: neo-Malthusians ear that agricul-tural productivity won’t be able to keepup with all those extra mouths to eed,neo-Luddites worry that the advent ofthe robotic age will leave this explodingpopulation largely unemployed, andanti-immigrant orces in the West raisethe specter of a rising tide of what one

British cabinet minister called “desper-ate migrants marauding around.”But all these ears are misplaced.

Although 2.4 billion sounds like a lotof people to add to the planet by 2050,the figure in act takes into account adramatic slowdown in the populationgrowth rate—a decline driven largelyby the thinning ranks of working-agepeople. Slower population growth reduces

the pressure on the ood supply, as doesthe aging of the population, becauseelderly people consume up to a thirdewer calories than young people. Butsuch demographic decline is nonethe-less toxic or the economy. The primarythreat most countries now ace, in act,is not too many people but too ewyoung workers.

For much of the postwar era, globalpopulation grew at nearly two percentper year, which meant that the worldeconomy could also expect to grow at abaseline rate of close to two percent ayear—and a couple of percentage pointsmore than that when output per workerwas also growing. Around 1990, how-ever, population growth ell off a cliff.

Since then, the rate has halved, to justaround one percent. The differencebetween one percent and two percent

may seem small, but if the populationgrowth rate had stayed at two percentsince 1990, there would be 1.4 billionmore people today, and shrinking work

orces would not pose such a threat toeconomic growth.

This demographic shit is the de-layed result of slow-moving changes indeath and ertility rates over the lasthalf century. On one side of the ledger,advances in medicine and nutritionhave extended the average human’s liespan rom 50 years in 1960 to 69 years

today, with more progress sure to come.Already, the majority of global populationgrowth is a consequence of the expand-ing share of people over 50, and theastest-growing segment of the popula-tion is, by ar, people older than 80.

On the other side of the ledger is theglobal baby bust. Since 1960, the averagenumber o births per woman worldwidehas allen rom 4.9 to 2.5. In part, this

drop-off in the ertility rate owes torising prosperity and educationallevels among women, many of whomdecided to pursue careers and haveewer children—or not have childrenat all. But the decline has mostly beenthe result of aggressive birth-controlpolicies adopted in the developingworld in the 1970s. China introduced

its one-child policy in the late 1970s,and the ertility rate ell rom 3.6 in1978 to 1.5 today. In India, where thegovernment went so ar as to embarkon a orced sterilization campaign inthe late 1970s, the ertility rate plum-meted, rom 5.9 in 1960 to 2.5 in 2015.Today, more and more countries arenearing the replacement ertility rate of

2.1, below which the population startsto shrink. Already, nearly half of all thepeople on earth live in one of the 83


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Ruchir Sharma

20

away: a world with ewer ast-growingworking-age populations will experienceewer economic miracles.

To be sure, economic booms don’t

always require population booms: in aquarter of the cases, the countries didmanage long stretches of strong economicgrowth without reaching the threshold oftwo percent population growth. Severalof these countries were already relativelywealthy, such as Chile and Ireland in the1990s, when some combination of reormand new investment increased productiv-

ity and compensated or weak populationgrowth. Others were witnessing a returnto economic calm during a period ofreconstruction, as Japan, Portugal, andSpain were in the 1960s and as Russiawas a decade ater the all of the SovietUnion, with an added boost rom highoil prices in the last case. Today, nocountry can expect a similar boost, notwhen commodity prices are alling and

political unrest is rising.Still, the probability of an economic

boom is much lower in the absence ofstrong population growth, and even inmany parts of the developing world,population growth is slowing or reversing.Over the next five years, the working-age population growth rate will likelydip below the two percent threshold in

all the major emerging economies. InBrazil, India, Indonesia, and Mexico,it is expected to all to 1.5 percent orless. And in China, Poland, Russia, andThailand, the working-age populationis expected to shrink.

The decline in China is perhapsmost worrying, as the country has longserved as an engine of global economic

growth. In 2015, the growth rate of itsworking-age population dipped belowzero or the first time in at least half a

countries—including Brazil, China,Germany, Iran, Japan, Russia, and theUnited States—where the ertilityrate is below that level.

PEOPLE POWER

Because it takes 15 to 25 years or babiesto mature into working-age adults, theeconomic impact o alling ertilityrates is only starting to become visible.To get a better handle on how demo-graphics will limit national economiesin the uture, I looked at population

trends in the 56 cases since 1960 inwhich a country sustained economicgrowth of at least six percent or adecade or more. On average, the working-age population grew at 2.7 percentduring these booms, suggesting thatexplosions in the number of workersdeserve a great deal of the credit oreconomic miracles. This connection hasplayed out in dozens of cases, rom Brazil

in the 1960s and 1970s to Malaysia inthe 1960s through the 1990s.

As or how ast the working-agepopulation needs to grow to raise thelikelihood of an economic boom, twopercent per year turns out to be a goodbenchmark. In three-quarters of the 56cases, the working-age population grewaster than that average during the

duration of the economic boom. Asthat suggests, a country is unlikely toexperience a decadelong boom if itsworking-age population is growingslower than two percent annually. Yetmost of the world now fits into thatcategory. As recently as the 1980s, 17of the 20 largest emerging economieshad working-age population growth

rates above two percent. In this decade,by contrast, only two countries do,Nigeria and Saudi Arabia. The take-


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The Demographics of Stagnation

March/April 2016 21

1960s and Belarus and Georgia between2000 and 2010.

This disappointing record suggeststhat China’s economy will almost cer-

tainly not grow at six percent in thecoming years. In act, although China’sofficial numbers still put the growthrate at around seven percent, indepen-dent estimates show that it has alreadyallen below six percent. The implica-tions or economies elsewhere are dire:in the last five years, China accountedor about a third of global economic

growth, a contribution around twicethat of the United States.

Fortunately, in a ew other populouscountries, the working-age populationsare still expanding at a rate near orabove two percent a year. This groupincludes Bangladesh, Kenya, Nigeria,and the Philippines. Demographersexpect these populations to keep grow-

ing rapidly or the next decade. Buteven these countries have their workcut out or them. They must avoid

century. At the same time, thanks tothe huge strides in health care thatChina has made, the elderly’s share ofthe population is growing much aster

there than in industrial countries suchas France or the United States. Thisrapid aging adds to the list of reasons,including an unprecedented debt binge,to doubt that China can keep up itsrapid economic expansion.

Indeed, countries with shrinkingworking-age populations have ound itnearly impossible to produce strong

economic growth. Going back to 1960,there are 698 decadelong periods orwhich data on a country’s populationgrowth and growth are available.In 38 of these cases, the working-agepopulation shrank. The average growth rate in these countries was ameasly 1.5 percent. Only three of themmanaged to sustain growth rates

of six percent or higher, and all threewere small countries bouncing backrom political turmoil: Portugal in the

J O A N N A N O T T E B R O C K / L A I F / R E D U X

Gone gray: a nursing home in Hanover, Germany, January 2013


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Ruchir Sharma

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entering the work orce. For 30 years,the working-age population in theUnited States has grown much asterthan those of its major industrial rivals:

twice as ast as those populations inFrance and the United Kingdom, fivetimes as ast as that in Germany, and tentimes as ast as that in Japan. No wonderthe U.S. economy has also grown aster.

As in much of the developing world,population orecasts or the developedworld are discouraging. Looking at theleading developed economies over the

next five years, the number of working-age people is expected to remain staticin France, shrink a little in Spain, andcontract at the rapid pace of 0.4 percenta year or more in Germany, Italy, and Japan. The orecast or the United Stateslooks less bleak, with a positive working-age population growth rate of 0.2 per-cent, about the same as in Canada andthe United Kingdom. The best news or

advanced economies is confined to thesmaller ones: in Australia and Singapore,the working-age populations are stillgrowing at a reasonably ast clip of closeto one percent. But these countries aretoo small to compensate or weakergrowth in other rich nations.

ACCEPTING THE INEVITABLE

Governments have already started tryingto fight the population slowdown, begin-ning with strategies to attack allingertility rates. According to the ,the share of developing countries withactive population-control policies, aterrising sharply in the 1970s and 1980s,has leveled off at about 60 percent sincethe mid-1990s. Lately, some of the biggest

developing countries have reversedcourse—most notably, China, whichended its one-child policy last year.

alling or the allacy of the demographicdividend: the idea that populationgrowth automatically translates into aneconomic boom.

The truth is that most of the time, itdoesn’t. More than 60 percent of those698 cases I looked at had working-agepopulation growth rates above twopercent, but only a quarter of thosepopulation booms led to average growthrates of six percent or higher in thesame decade. Today, then, even Nigeriacan’t assume that its booming working-

age population—projected to grow atthree percent a year between 2015 and2020—will automatically translate intoa booming economy. Leaders still needto create the conditions necessary toattract investment and generate jobs.

To see what happens when leadersail to capitalize on a potential demo-graphic dividend, consider the Arabworld. Its working-age population grew

by an average annual rate of more thanthree percent between 1985 and 2005—nearly twice as ast as the rate in therest of the world. But the region neverexperienced an economic boom. At thebeginning of this decade, many Arabcountries suffered rom cripplingly highyouth unemployment rates: around 30percent in Egypt, Iraq, Saudi Arabia,

and Tunisia, the last being where thechaos of the Arab Spring began.

It’s not just in the developing worldwhere economic growth depends on arising number of workers. In recentdecades, the United States has earneda reputation as the most dynamic ofthe advanced economies, ar moreinnovative than Europe, ar less hide-

bound than Japan. But much of its recentsuccess can be traced to something moremundane: the increase in young people


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At the same time, the share o devel-oped countries that have implementedso-called baby bonuses and other policiesto boost fertility rates has risen, from

about 30 percent in 1996 to 70 percenttoday. In places where the fertility rateis falling below the replacement level o2.1, a growing number o governmentsare subsidizing motherhood in an effortto encourage women to have more thantwo children. In some countries, suchas Chile and France, the subsidies groweven more generous with the third,

fourth, and fifth child. But several o thecountries that pioneered these programs,including Canada in 1988 and Australiain the last decade, found that they had alimited impact and later pared them back.

The second set o strategies is aimedat bringing more adults into the laborforce, including the elderly, foreigners,and women. In 2007, Germany increasedthe retirement age from 65 to 67. Most

other European countries have sincefollowed suit, and some have startedindexing their retirement ages to risinglife expectancy. In the same vein, beforeanti-immigrant movements started takingoff in Europe and the United States in2015, the competition to attract foreignworkers had been heating up. Accordingto the , in 2010, just ten countries

had announced plans to increase the sizeo their populations through immigra-tion; by 2013, 22 had.

Then there are the ongoing efforts tolift the female labor-force participationrate, which flatlined at around 57 percentworldwide after 1990, before slipping to55 percent this decade. According to theOrganization for Economic Cooperation

and Development, i its member stateseliminated the gender gap in labor-forceparticipation, they would see their s

Students and friends of Samuel

P. Huntington (1927–2008) haveestablished a prize in the amount of

$10,000 for the best book published

each year in the field of national

security. The book can be a work

of history or political science, or a

work by a practitioner of statecraft.

The prize will not be awarded if the

Huntington Prize Committee judgesthat the submissions in a given year

do not meet the high standards set

by Samuel P. Huntington.

The Huntington Prize Committee is

pleased to solicit nominations for

books published in 2015.

THEHUNTINGTON

PRIZE

CALL FOR BOOKS

Nominations will be accepted until31 May 2016

A letter of nomination and two copies of the bookshould be sent to:

Ann TownesWeatherhead Center for International Affairs

Knafel Building1737 Cambridge StreetCambridge, MA 02138


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Ruchir Sharma

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to be viewed as bogeymen, and theMalthusian nightmare that humanitywon’t be able to eed itself should ade.Similarly, neo-Luddite warnings about

robots stealing human jobs could alsoprove beside the point. The automationrevolution is in its early stages, but it ispossible that the robots will arrive justin time to ease the threat posed bydepopulation. As the ranks of working-age humans thin, smart machines coulddo the labor they once did. Regardless,it’s hard to see how the world economy

can find enough new workers to growas ast in the uture as it has in therecent past.∂

rise by a cumulative 12 percent over thenext 15 years. The group ound that thebiggest gains would accrue to countriesin which emale participation has tradi-

tionally been low, including Italy, Japan,and South Korea. Japan already seems tohave gotten the message. Since comingto power in 2012, Prime Minister ShinzoAbe has acknowledged the role thatwomen could play in fixing the coun-try’s aging problem, and he has made“Womenomics”—a set of policies aimedat getting firms to hire more women—

a centerpiece o his plan to revive theeconomy.Yet none of these strategies can

bring enough adults into the work orceto compensate ully or the decline inthe working-age population. Attractingimmigrants, or example, has provedimpractical on a large scale. One reasonGermany accepted nearly one millionreugees in 2015 was that its leaders

recognized the economic need or newblood in an aging society, but even theauthors of that controversial policy haveadmitted that the country cannot acceptthat many newcomers on a regularbasis. (To counter the projected declinein its working-age population through2030, Germany would have to acceptroughly 1.5 million immigrants every

year.) Besides, the contest to attractimmigrant labor, particularly skilledlabor, is a zero-sum game amongcountries and so does not represent aviable strategy on a global level. Themost governments can do is mufflethe impact of depopulation; they can’tdeuse it.

In a world with ewer young people,

economic growth will be harder to comeby. But at least the alarmists’ ears maysubside. Immigrants will be less likely


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March/April 2016 25

NANCY BIRDSALL is Founding President of

the Center for Global Development and formerExecutive Vice President of the Inter-AmericanDevelopment Bank.

H OW T O S U R V I V E S L OW GR OWT H

The birth of new middle classes allover the world thereore qualifies as atriumph of capitalism and globalization.But it is a ragile victory. For the world

now aces a period of prolonged slowgrowth. That is bad news, not only becauseit could halt the impressive declines inpoverty but also because it could setback hopes or better governa

foreign affairs – march - april 2016

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