The reason for this is simple. It's because, over 10-year periods, there's a significant correlation between productivity growth (measured by GDP per worker) and real Bank rate, defined as Bank rate minus CPI inflation in the following year. Productivity slowdowns in the early 20s, 1940s and 1970s all saw real interest rates fall, while accelerations in productivity in the late 1920s, 50s and 60s and 80s and 90s were all accompanied by rising real rates.
Productivity might not get much attention from journalists and politicians, but it sets the climate for savers.
There's a reason for this. In the longer-run, productivity growth largely determines GDP growth. Of course, in the short-run we can have both stagnant productivity and rising GDP if employment increases. But this probably can't happen for very long without generating inflation. Paul Krugman's famous line, "Productivity isn't everything, but in the long run it is almost everything", has become a cliché because it is true. And if the economy is growing only slowly, real interest rates cannot rise very much because to do so would choke off what little growth there is.
If savers are to see sustainably better returns on our cash, therefore, we need productivity growth to recover.
But the gilt market doesn't expect this to happen. The index-linked yield curve is both negative and downward-sloping, implying that the market expects real short-term interest rates to stay negative for a long time. This suggests that investors don't expect any significant pick-up in productivity growth. The market is, in effect, pricing in secular stagnation.
This poses the question: what could change to prove investors wrong?
We had hoped back in 2011-12 that faster economic growth would revive productivity growth: it had normally done so in the past. And we had hoped that a stronger banking system would lead to increased lending to newer, efficient companies who would compete "zombie firms" out of business with the result that aggregate productivity would rise. Both hopes have been dashed. They could receive a further blow next week. Official figures then are expected to show that business investment is falling. This suggests that companies are not yet embracing new technologies at a macroeconomically significant rate, and also that the capital-labour ratio might be falling, which normally causes productivity to fall.
Yes, it is possible that a new wave of innovations will eventually boost productivity - Bank of England Governor Mark Carney last week cited nanotechnology, biotechnology and genomics as reasons for optimism - but the path of technical change is largely unpredictable.
The message of all this is depressing; real returns on cash could stay low for a long time unless something surprising happens. This certainly does not justify shifting out of cash and into equities: because low productivity growth means low economic growth it probably also means low dividend growth. Instead, it means we should just prepare ourselves for living with low returns.
