If I see one more model of secular stagnation and negative equilibrium real interest rates, that does not include land….I'm going to throw a real wobbly.
What is it with you townies? Have you never looked out of the window, when you fly (do you ever drive?) from one city to another, and wondered about all that stuff you see out there? It's called "land". It grows food, that you eat. And that land is valuable stuff, and there's a lot of it, and it can last a very long time, and it pays rent (or owner-equivalent rent). And if the rent on that land is strictly positive (which it is), and if the price of that land is finite (which it is), then the rate of interest you get by dividing that annual rent on land by the price of land is going to be strictly positive. And that's a real rate of interest, because land is real stuff, and what it produces is real stuff too.
So when you go to a helluva lot of trouble to build a model with a negative equilibrium real rate of interest, and it's a very fancy complicated model, but it totally ignores land, I really wonder where you are coming from. Actually I don't wonder. I know where you are coming from. You are coming from the town, or the big city, where you can easily forget about land. But even then: you know that stuff your house or condo is built on? That's called "land" too.
It didn't used to be this way. The Physiocrats, Malthus, Ricardo, didn't ignore land. Land was central to their models. Now I know that whether or not you should include something in your model depends on what you want your model for. And that it is perfectly OK to ignore land in some models. But if you have a model of secular stagnation and negative real interest rates that ignores land, well, your model is just hopelessly and fatally wrong. Dead wrong. It's just not grounded.
You don't need fiscal policy to "solve" the problem of permanently negative equilibrium real interest rates. You need land. You cityfolk need to pay attention to land. Maybe you haven't noticed that land prices have been rising recently, worldwide? Think that might have something to do with low equilibrium real interest rates and secular stagnation? Think that land might maybe be a savings vehicle in an overlapping generations model? Think that the bursting of the housing land "bubble" might maybe have been just a conjunctural hiccup in a much bigger secular story?
I read the abstract and introduction of the Eggertsson and Mehrotra paper (pdf) (HT Paul Krugman), got the gist of it, but saw no mention of "land". Then I skipped to the references, saw no reference to Stefan Homburg's classic paper, so I stopped reading. All that effort to build that fancy model, all for nothing. (Here is Stefan Homburg's latest working paper (pdf) on the subject, which shows that land is macroeconomically as important as capital, and more important than public debt.)
Lefties sometimes complain about a class bias in research. I'm going to complain about an urban bias in research. Some of you academics should be rusticated for a bit, until you learn better.
Worthwhile Canadian Initiative 
In other words, this is not about short term real interest rates (either ex ante or ex post) being negative in any one year. It is about the infinite horizon real interest rate being below the infinite horizon growth rate. Only in a stationary economy are those two things equivalent.
Might land be less liquid than government debt? Sure. But one of the jobs of Finance is to make illiquid assets more liquid.
Can land be confiscated and taxed? Sure. But so can government debt.
What the secular stagnationists are saying is that the government should produce some asset that lasts forever that can be bought by the young and sold by the old, to make all generations better off, like in a PAYGO pension plan. That asset already exists. It’s called “land”.
The question I have been pondering, is when bank money is created how is money created to pay the interest on it? Is interest a demand leakage? I guess more new bank money, and government deficit spending (trade surplus) – I wonder how/if land factors into this? Of course, I might have my assumptions in the first sentence wrong, but as private debt accumulates then interest does. Maybe the Kalecki equation explains this
Matt: If I can answer this is a regular question stemming from the whole idea of “debt is money”. The best answer for this question that I have is to look on interest as a profit. In that way the question: “Where does the money paid on interest come from” is no different to a question “Where does the money paid as profit for companies come from?”. The only relevant “demand leakage” is money hoarding. And anybody can hoard money, all that is needed is to have any income – even wage – and then putting it in the mattresses.
As Nick says in his previous post this is not relevant for demand or any short-term issue. Secular stagnation is about negative real rate of interest. It is relevant for any model of economy with overlapping generations, where one generation mostly produces and the other generation mostly consumes. If real interest rate is negative – if for instance if people can only save by really storing what they produce when young with a cost – then it is more efficient to run a Ponzi scheme. No need to store anything. When young you just buy an asset whose whole purpose is to sell it to future youngsters when you are old for their produce. Economy as a whole saves what would otherwise depreciate via negative interest rates. Government debt can serve as this Ponzi vehicle – but so can land.
Excellent JV – clear answer. Thanks.
Nick,
“But one of the jobs of Finance is to make illiquid assets more liquid.”
Finance can make it easier to transfer assets for money and money for assets, but it cannot compel money to be traded for assets and assets to be traded for money.
Fiscal policy can ensure that government bonds / equity are purchased and fiscal policy can ensure that payments on government obligations are made in a timely manner.
Land can obtain rents but those rents are not legally protected in the same way that land ownership / government bonds are protected. There is the loss limitation of a legal system that prevents rents on land from being fully realized. The plaintiff is only required to repay a debt within his or her means. A bank / individual is not required to acknowledge those limited means when making a loan (see No Doc loans).
@Nick: Truly brillant answers today, especially your distinction between short-run liquidity trap problems on the one hand and secular stagnation on the other hand.
Your point puts the whole Summers-Weizsacker-Homburg debate in a nutshell: Land already solves the overaccumulation problem, there is no need for public debt.
Matt McOsker: “The question I have been pondering, is when bank money is created how is money created to pay the interest on it?”
If the interest is paid over time, then economic activity and the circulation of money can pay the interest without much new money being created at all. Simple example: You work for a bank, which lends you $100, which you repay in 10 installments of $11. Suppose that when you make the first installment, the bank pays you that $11 as part of your salary. Then you use it to make the next payment. Etc., etc.
If everybody’s credit card debt could only be paid at the same time, say, New Year’s Eve, the economy would have trouble handling that, since the interest on credit card debt is much greater than economic growth. Where does the money come from to pay off all that debt? But if credit card lending increases economic activity and the velocity of money, and is paid off incrementally, a huge increase in the quantity of money is not required.
Matt & Min: I made a similar example to Min’s here:
http://pragcap.com/martin-wolf-understanding-the-monetary-system-is-essential/comment-page-1#comment-172902
«Net housing wealth is somewhat more broadly distributed but is not really a fungible financial asset because of its shelter services. Contrary to their marketing, the “income from your house” programs are extremely expensive.»
The cartoon you refer to is completely unrealistic in most “modern” economies.
Because second mortgages/HELOCs, which have been pushed hard by governments and FIRE companies for a long time, solve very easily the problem of “get my saw and i’ll carve off a corner of the house to trade for the model we have our eye on”.
In the UK (and I think in the USA too) home HELOC amounts have been larger than GDP growth for the past 25 years.
Again, please note the point above in this form: without HELOC financed spending, GDP growth would have been negative for the past 25 years in the UK (and the USA and probably most other anglo-american culture countries).
Also HELOCs are politically very important, because most politics is gender politics: the vast majority of wealth, especially “real estate”, is owned by women, that is usually older women, divorced or widowed women are in general pure rentiers.
Women are a significant majority of voters in almost all first-world countries because they significantly outlive men (and vote more often than men, especially younger men) and in particular older, property-owning women rentiers tend to be swing voters in marginal seats, because they tend to vote their wallets, while men tend to vote their “tribal” history.
What older property owning women swing voters want is massive tax-free capital gains that they cash-in with HELOCs at very low interest rates, and low salaries and welfare for everybody else, especially young men. Thus government policies of the past 25 years.
Of course HELOCs are much loved by the FIRE industry because of the commissions and profits they generate, and by the governments because they allow older women property owners to cash in their property capital gain without actually putting the properties on the market, which might lead to lower property prices.
Blissex,
can you empirically verify the argument you just made. It makes no sense to me.
1. I don’t believe that vast majority of wealth is owned by women.
2. More women are poor than are rich.
3. In recent years women have voted more for left leaning parties than men have.
You sound here like you are making a factual argument, I’d like to know where you are getting your facts from.
“And if the rent on that land is strictly positive (which it is)”
I take it you do not actually own much land.
Land requires regular inputs in order not to degrade and be rendered waste. If you leave a piece of land alone, it does not just “sit there”, its value unchanging until the time comes to exploit it (over practical timescales at least). You need to maintain transport infrastructure to access the land, to keep it free from garbage, contamination, squatters and other forms of damage, and kept nourished and watered if it is farmland, or else the land degrades in usefulness and value. If you just neglect it, these issues “pile up” and you need to pay even higher costs at some point in the future. Contamination get harder to remove the longer you leave it, topsoil erosion is best addressed early, roads or railways get harder to repair the longer maintenance is delayed, etc. Land does not generally “regenerate” on its own over useful timescales — quite the opposite. This is why “land management” corporations exist — land takes constant, regular work, resources and knowhow to maintain. There are also laws in most developed parts of the world requiring land owners to apply these inputs.
If the value of these inputs exceeds the value of outputs from the land, the land has negative real rent. Negative returns on land ownership are a sadly common phenomenon, even over long periods of time.
I understand the argument that in the very long run, since the land is “always there”, at worst you can just abandon it and leave it fallow, so rent cannot fall below zero. But this is only true over very long timescales, probably at least centuries, which is not really useful. At such long timescales, in fact, I would argue that land can indeed erode away into the sea or be swallowed up by the rising ocean, or be created through land reclamation or tectonic movements, so it is not “always there” either.
So no, land does not have strictly positive rent.
David: actually, I do own land. More than most people. And remember, government bonds aren’t a perfectly safe asset either.
I agree with you on your general principles, but…
“And if the rent on that land is strictly positive (which it is), and if the price of that land is finite (which it is),”
Negative rent occurs, RIGHT NOW, on toxic, poisoned land. US Superfund sites, for instance.
Infinite price land occurs for things such as national parks, or other land which is put into charities, not to be sold at any price.
Land is important. But land is also complicated, and you can’t reduce the theory of land pricing and rent to a mere interest rate.
“I would encourage you to read Stefan Homburg’s working paper linked above to get the formal analysis, but here’s the gist of it: if there is dynamic inefficiency (and over-investment in capital as in Diamond 65), then a government Ponzi debt is the solution, where the government increases the level of debt, and borrows forever to pay the interest on the debt. (With dynamic inefficiency, it is efficient for government borrowing to crowd out investment in capital.) But land is at least as good as Ponzi debt, because it pays rent. Land already solves the problem that Ponzi debt is supposed to solve. Samuelson 1958 already recognised this, when he said he needed to assume that land is “superabundant”.”
The problem with this argument is quite obvious: they aren’t making any more land. Land is an inherently deflationary asset class. Government debt — like government bonds — can be increased indefinitely. The land supply can’t. Land, in short, isn’t superabundant.
Nathanael: “The problem with this argument is quite obvious: they aren’t making any more land.”
That shows you have totally missed the point of the argument. The argument assumes they aren’t making any more land. If new land appeared out of the sea every year, it would weaken the argument, because that would make the price of land fall over time.
I’ll have to read the paper then. Samuelson’s use of “superabundant” is particularly confusing and misleading.
One of the features of Ponzi debt is that they are making more all the time. One of the features of land is that they aren’t’. In what sense does land solve the problem that Ponzi debt is supposed to solve?
I guess you’re saying they both act as alternatives to investment in physical capital (the “problem” being too much money going into poorly-selected physical capital). Yes, that’s true.
However, if Ponzi debt sucks up the money, its inflationary — and repudiatable! — character means that it doesn’t act as a consistent transfer of wealth towards the rich. If land sucks up the money, because of the limited supply, we get very different economic results in distributional terms. Furthermore, with land actually necessary as a factor of production, pouring wealth into land & rents can cause yet further economic shifts which are probably undesirable.
So they don’t solve the problem the same way. In what sense is land “at least as good as Ponzi debt”?
I guess all you were really saying in the blog entry is that one MUST consider land in one’s models. That’s certainly correct!