Macro Musings with David Beckworth · Mercatus Center at George Mason University

Luca Fornaro on Hysteresis, Endogenous Growth, and Aggregate Demand Policies

May 19, 2025·1 hr·5 clips

How a powerlifter's pneumonia recovery mirrors why deep recessions can permanently scar an economy's growth potential.

This episode of Macro Musings features Luca Fornaro, a researcher at CREI in Barcelona, who studies the links between business cycles and long-term economic growth. Host David Beckworth, a Senior Research Fellow at the Mercatus Center, explores Fornaro's work on how recessions can cause permanent economic damage through hysteresis and stagnation traps. Fornaro's research integrates Keynesian demand analysis with endogenous growth theory, arguing that weak aggregate demand discourages business investment and innovation, which in turn lowers future productivity. He cites former European Central Bank President Mario Draghi, who argued that weak internal demand in Europe has been a driver of low productivity growth since the Great Financial Crisis. Fornaro's 2018 paper "Stagnation Traps," co-authored with Gianluca Benigno, models a self-reinforcing feedback loop where low demand leads to low growth, and low growth expectations further depress demand. The model shows economies can get stuck in this trap due to pessimistic "animal spirits" alone. Fornaro points to the post-2008 period in the Eurozone and UK as potential examples, where restrictive fiscal policy coincided with a pronounced productivity slowdown. A key insight is that standard macroeconomic models often separate business cycle analysis from long-run growth, but Fornaro's work focuses on the "medium run" of 5-10 years where they interact. He suggests the U.S. recovery from the COVID-19 recession, supported by large fiscal stimulus, may have avoided the hysteresis seen after 2008, unlike Europe's more muted response. Effective policy requires not just the level of stimulus but its composition, specifically targeting business investment to jumpstart productivity. Fornaro emphasizes the importance of "automatic stabilizers" like counter-cyclical monetary policy and unemployment benefits to prevent economies from falling into stagnation. He notes that supply-side policies must foster genuine innovation and shared income gains to boost demand, not just reduce labor costs. Empirical evidence for hysteresis includes a paper by Òscar Jordà, Sanjay Singh, and Alan Taylor showing monetary policy contractions can depress productivity growth. Fornaro explains that running an already hot economy may not boost productivity if demand flows to sectors like construction with limited innovation scope, as seen in Spain's pre-2008 boom. The tone is conversational and educational, with Beckworth using an analogy about a powerlifter losing strength after an illness to illustrate hysteresis. Listeners interested in macroeconomic policy, the long-term scars of recessions, and debates over fiscal stimulus will find this episode valuable. Those seeking discussions of current inflation or monetary policy mechanics might find it less immediately relevant.

As heard by us

A solid case for how weak demand can turn into a longer growth problem.

Macro Musings does a good job of making Luca Fonaro's work on hysteresis, endogenous growth, and agri-demand policy feel concrete rather than sealed off in jargon.

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Want a serious macro discussion about hysteresis, growth, and what recessions can do to future productivity?

Read the full recommendation in PlayNext →

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