Secular stagnation and the financial sector (updated)

by John Quiggin on November 29, 2015

In my last post on private infrastructure finance and secular stagnation, I suggested a bigger argument that

The financialization of the global economy has produced a hugely costly financial sector, extracting returns that must, in the end, be taken out of the returns to investment of all kinds. The costs were hidden during the pre-crisis bubble era, but are now evident to everyone, including potential investors. So, even massively expansionary monetary policy doesn’t produce much in the way of new private investment.

This isn’t an original idea. The Bank of International Settlements put out a paper earlier this year arguing that financial sector growth crowds out real growth. But how does this work and what can be done about it?

The financial sector is an intermediary between savers and borrowers (for investment or consumption). So, the costs of running the financial sector and the profits generated in that sector must be included in the margin between the rates of return by savers and those paid by borrowers, or else they must be shifted on to society at large (for example, through bailouts or tax subsidies).

I’m still organizing my thoughts on this, so what I have are some ideas rather than a fully formed argument.

First, if the financial sector is unproductive, how can it be so large and profitable in a market economy?

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