The Stagnation Thesis is Back; M. Skousen

Unless the government engaged in massive federal spending, he asserted, the economy was doomed to lackluster performance due to declining population growth, the disap pearance of labor-saving technology, and the closing of new frontiers. Fortunately, Hansen's stagnation thesis was repudiated both in theory and practice. 2 A booming population, advanced technol ogy, and new frontiers (computers, elec tronics, telecommunications, etc.) pro pelled the U.S. economy to a period of rapid economic growth following World War II. Now, a generation later, a prominent economic journalist has declared that the U.S. is going through another round of stagnating growth. According to Jeffrey Madrick in his new book, The End ofAfflu ence, the nation's economic growth has slowed to 2.3 percent a year on average since 1973.Before that, it grew at an average Dr. Skousen is an economist at Rollins College and editor of Forecasts & Strategies, an invest ment newsletter.

annual rate of 3.4 percent. The decline of 1.1 percentage points represents $12 trillion in lost wealth since 1973. "Twelve trillion dollars is more than enough to have bought each of America's homeowners a new house, or paid off all our government, mort gage, and credit-card debt, or replace all of our nation's factories, including capital equipment, with new ones.,,3 Not only does Madrick paint a bleak picture of falling real wages, eroding mar kets, closed factories, and rising poverty, but, worse, he contends that there is virtu ally no way for America's economy to regain its old ways of high performance. Madrick blames a new form of global capitalism, not government, for this disas trous "slow growth" development. "The main reasons for this decline are not infla tion, government budget deficits, low levels of investment, faltering education, the irre sponsibility of Democrats or Republicans, excessive spending on the military, the aged, or the poor... " (p. 3). Rather, the cause is the permanent loss of America's capacity for mass production, which has been replaced by "flexible" production by the Asians, Europeans, and other foreign competitors. No longer do companies pro duce a single mass product, but a wide variety of products in a single factory. This new intensive form of international compe tition has made economies of scale and big business obsolete. The result is a sharp curtailment in productivity growth, which is both permanent and worldwide. According 788 to Madrick, even higher education and train ing don't pay like they used to. In short, we are doomed to slower growth, both here and abroad.

Of course, Madrick's fatalistic argument is as fallacious as Hansen's old stagnation thesis. There is no reason why the United States can't grow 3 percent or 4 percent or even 5 percent a year over the next de cade-if the right actions are taken. To suggest that fiscal and monetary policy has little to do with economic performance is preposterous. And to assert that increasing competition and innovation reduce produc tivity is absurd. But that's the kind of thinking that comes from a former NBC economics reporter and graduate of Har vard Business School. Recent evidence contradicts Madrick. In fact, the day I bought his book, Business Week (Oct. 9, 1995) came out with a cover story on U.S. productivity. Due to restruc turing and innovative production methods, U.S. productivity posted a remarkable 3.5 percent gain over the past year, higher than all other industrial nations. "Technology is transforming the American economy into the most productive in the world," the magazine reported. "The result: higher liv ing standards seem inevitable."

Moreover, American business could do even better if the government adopted the right kind of macroeconomic policies. What Joseph Schumpeter said about the stagna tion thesis could well apply to Madrick's theory: "Though there is nothing to fear from people's propensity to save, there is plenty to fear from other factors. Labor unrest, price regulation, vexatious adminis tration and irrational taxation are quite ad equate to produce results from income and employment that will look exactly like a verification of the stagnationist theory. ,'4 Imagine the favorable effects the follow ing policy recommendations would have on American industry and wage growth: -reducing or eliminating the capital gains tax; -adopting a fiat tax with generous exemptions for low-income workers; -replacing Social Security with a genuine private pension system; 789 -curtailing wasteful spending, selling off fed eral assets, and privatizing government services, resulting in a budget surplus.

Despite Madrick' s claims to the contrary, such macroeconomic policy changes would cause a sharp drop in real interest rates and a dramatic increase in economic growth and productivity. Skeptics who question the benefits of a "supply side" revolution should take a look at the recent success story of Peru. For decades, Peru experienced a form of secular stagnation, suffering from high taxes, hy perinflation, bureaucracy, and corruption. Then unexpectedly an outsider, Alberto Fujimori, was elected president. His admin istration transformed the economy. Infla tion was cut from 7,650percent in 1990to 13 percent this year. Peru imitated Chile by creating its own alternative private Social Security pension plan. It engaged in exten sive privatization, including Telefonicas del Peru. Even better than Chile, it abolished taxes on capital gains, dividends and inher itance. The maximum tax rate on income was cut to 30 percent. And there are no foreign exchange controls.

Not surprisingly, stagnating Peru became the fastest growing economy in the world, with a real economic growth rate exceeding 13 percent this past year. President Fujimori was reelected recently with 64 percent of the vote. The United S'tates could see a dramatic rise in its fortunes if it followed a similar path. Its growth rate may not reach 13 percent, but it could easily double to 5 percent or more. To paraphrase Adam Smith, there is much potential in a nation. Don't sell America short. D 1. Alvin H. Hansen, "The Stagnation Thesis," Readings in Fiscal Policy, ed. by Arthur Smithies and J. Keith Butters (Irwin, 1955). Hansen first raised the specter of secular stagnation in Full Recovery or Stagnation? (Norton, 1938). 2. Hansen's theory was dealt a deathblow by George Terborgh's The Bogey of Economic Maturity (1954). Econo mists as diverse as Paul Samuelson and Mark Blaug agree that Hansen was proven wrong.

3. Jeffrey Madrick, The End ofAffluence (Random House, 1995), p. 6. 4. Joseph Schumpeter, Capitalism, Socialism and Democ racy (Harper & Row, 1950), p. 398.

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