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Secular Stagnation: Theory and Remedies

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  • Jean-Baptiste Michau

    (X-DEP-ECO - Département d'Économie de l'École Polytechnique - X - École polytechnique)

Abstract

This paper relies on a Ramsey model with money to o¤er a simple theory of secular stagnation. The permanent failure of the economy to produce at full capacity results from three features: (i) The combination of the zero lower bound on the nominal interest rate and of an in ‡ation ceiling imposes a lower bound on the real interest rate; (ii) Some dynastic households have a high propensity to save, due to a preference for wealth; (iii) A downward wage rigidity breaks the de ‡ationary spiral resulting from the lack of demand. In this framework, I derive the paradox of ‡exibility, of thrift, and of toil. If the in ‡ation ceiling cannot be raised, then the government needs to rely on …scal policy to escape secular stagnation. However, a conventional …scal stimulus is not an e¢ cient response to a permanent liquidity trap, and can even be welfare reducing. The solution is instead to tax household wealth and to subsidize income from physical capital, through an investment subsidy or a reduction in the taxation of corporate income. This optimal policy is revenue neutral and implements the …rst-best allocation of resources. However, to avoid a jump in the price level upon implementation of the optimal policy, the government needs to redeem the money that had previously been supplied to …nance public de…cits.

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  • Jean-Baptiste Michau, 2015. "Secular Stagnation: Theory and Remedies," Working Papers hal-01211667, HAL.
  • Handle: RePEc:hal:wpaper:hal-01211667
    Note: View the original document on HAL open archive server: https://hal-polytechnique.archives-ouvertes.fr/hal-01211667
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    More about this item

    Keywords

    Liquidity trap; Monetary and fiscal policy; Secular stagnation;
    All these keywords.

    JEL classification:

    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy

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