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June 27, 2010

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"A Pendulum Swing Toward Austerity"

Posted: 27 Jun 2010 12:33 AM PDT

Tyler Cowen:

A Pendulum Swing Toward Austerity, by Tyler Cowen, Commentary , NY Times: "The Road to Serfdom," the critique of socialism written 65 years ago by ... Friedrich von Hayek, was recently No. 1 in nonfiction sales at Amazon.com.  Many people, including ... Glenn Beck, have contended that growth of government power has, indeed, set us on such a road today. But ... the expansionary phase of big government is coming to an end, and quickly.
In the last few years, we have seen ... huge financial bailouts, a $787 billion stimulus plan and legislation for near-universal health insurance coverage. But the policy mood in Washington is now much more modest: no second major stimulus is forthcoming and ... a cap-and-trade system for greenhouse gas emissions is unlikely to move forward. ...
If any financial policy idea is taking a major place on the American and global stages, it is fiscal austerity. ... In the United States, we face rising health care costs and pension problems in state governments, with no clear long-run solution for bringing the books into balance.
That makes responsible politicians reluctant to undertake major new commitments. ... In short, it's not that ideas of government interventionism and free markets are fighting a titanic intellectual struggle. The reality is more mundane. The ascendancy of one view often creates the conditions for an economic counterreaction. ...
During the 1980s and 1990s, history seemed to be on the side of freer markets..., and a wide range of governments adopted privatization. ... Eventually, things started to go wrong, in part because investors ... became complacent about systemic risk. ... The weak economy brought victory for the Democrats in 2008... Now the pendulum is swinging back. The economy will now likely make Congress much more Republican, as voters overreact to whatever is not working at the moment.
The unfolding of the financial crisis has also changed the public's sense of where change is needed.... The ... 2008 crises were attached more directly to market institutions, while the 2010 crises are more closely linked to governments [such as Greece]. Because politicians and voters are more influenced by the latest developments..., a cautious attitude toward public-sector spending has been further cemented. ...
The lessons are straightforward. First, to paraphrase the French moralist La Rochefoucauld, things are never as good, or as bad, as they seem. Second, the Obama reforms, like the Reagan revolution, are turning out to be radically incomplete, which should come as no surprise.
Finally, effective political ideas are those that can still do good in half-baked form. We have neglected this insight in designing financial reform, and it remains to be seen if we can apply it successfully to climate change.

And when it comes to the budget? Even if our real fiscal problems lie in the more distant future, it's important to start worrying about them now, because we cannot count on a grand plan later to save the day.

I'm not sure the timing fits as far as the second stimulus package goes. Long before anyone had ever uttered the word austerity or started to worry about Greece, the administration had already decided that it was not going to put any political capital behind trying to get a second package through Congress. There were a few remarks thrown in this direction, but nothing of the sort that provides the leadership necessary to get such a program passed. For whatever reason, the administration gave up and moved on to other issues. I suppose it thought the votes just weren't there, but that outcome is not at all independent of the effort the administration puts into getting a bill passed. Right now, we have nothing, no jobs or second stimulus bill at all. But if the administration had started a serious campaign six months or more ago when talk of a first stimulus package began, the outcome would, I think, have been different. I'd still be complaining it wasn't enough, but at least we would have gotten something.

In any case, I think opposition to the second stimulus package began long before Greece and the austerity movement. I also think leadership from the administration and key members of Congress matters, and when it comes to a second stimulus package with a large job creation component, something that is very much needed, it wasn't there.

Structural Adjustment in Barbados in the 1990s

Posted: 27 Jun 2010 12:24 AM PDT

Via email (from a well known and economist):

I don't know if you follow radio and podcasts much or link to them, but there is a recent This American Life program on structural adjustment in Barbados in the 1990s that is quite interesting, particularly in light of difficulties in Greece.
It explains how the nation adopted across-the-board wage cuts in the government and in the private sector, agreed to by unions rather than devalue as recommended by the IMF. As usual for this program, it is very accessible, but even for professional economists, it provides some details and context about policy outcomes and the actual process that leads to policy decisions that we often lack. The second half of the story, on Jamaica, is more familiar and takes much less time.   
The second act, on Barbados and Jamaica, starts at about 36 minutes into the 1 hour podcast.

links for 2010-06-26

Posted: 26 Jun 2010 11:01 PM PDT

"Budget Hawk, Stimulus Dove"

Posted: 26 Jun 2010 09:18 AM PDT

Arnold Kling:

Budget Hawk, Stimulus Dove, by Arnold Kling: It's not my position. But I would think someone would articulate it. It sounds like what Mark Thoma would advocate, for example. That is, someone could advocate:
1 A larger deficit in the short term.
2. Specific, clear measures to reduce deficits over the next ten years, by trimming entitlements and raising taxes.
3. Linking (1) and (2) in a single piece of legislation.
This sort of approach might satisfy doves who complain about austerity as well as Europeans and domestic hawks who worry about the U.S. fiscal outlook. If (2) included some serious structural changes in entitlements I might endorse it.
But my point is not whether this compromise is something I could get excited about. My point is that it represents a missing position in the media. Why are the hawks and doves more interested in trying to score debating points against one another than in achieving their objectives?

Some day another severe recession will hit the economy, and taking the interest rate down to the zero bound won't be enough to turn things around -- fiscal policy will be needed. But will it be available to future policymakers?

It's true that I am dovish in the short-run.  I think we should move aggressively to stabilize the economy, but it's important that we follow through when things get better and pay for stimulus programs that were put into place. In essence, we shave the peaks of the business cycle to fill the troughs (note that this is not "trying to spend our way to prosperity" as the WSJ likes to accuse the Keynesians of trying to do -- this is stabilization policy, not growth policy -- growth policies are a different, and it's economic growth that is connected to long-run prosperity).

If we cut taxes and increase government spending to cure the economy, then these measures must be reversed when things are better. If we don't reverse them and the stimulus package is seen ex-post as a drain on the budget or an excuse to increase the size of government, then policymakers of the future will be less willing (or less politically able) to implement a fiscal stimulus package. When many of us said the packages should be timely, targeted, and temporary, we meant the temporary part. The ability to put temporary programs into place during bad times must be maintained if we don't want to limit the options future policymakers have to fix the economy.

But it's not just the reversal of these temporary programs that is important for fiscal policy in the future. The response to this recession provides a good example of why. When the recession hit, the budget was already in poor shape, and it wasn't politically possible to put a stimulus package of sufficient size into place. Thus, we ended up with a package about half the size we needed, and no ability to augment it later. Had the budget been near balance or in surplus when the recession hit, I think the response would have been much more aggressive.

So I am hawkish in the long-run, and one big reason is to preserve our ability to do fiscal policy going forward. Fiscal policy is a valuable stabilization tool in severe recessions, and it would be unfair to all future generations for us to take away their ability to conduct fiscal stabilization policy by failing to reverse the policies we have put into place, and by failing to bring the long-run budget closer to balance.

With that said, however, I should note that the economy is still struggling and it's not time to begin reversing policy yet -- more, not less is needed right now. But when unemployment crosses some threshold, 7% seems reasonable, it ought to trigger the beginning of the end for the stabilization policies that we have implemented.

[More from Edward Harrison. Also, I'm traveling today (redwoods), as I was yesterday (Oregon Caves), and will try to post as I can...]

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