This site has moved to
The posts below are backup copies from the new site.

March 9, 2013

Deeply Irresponsible Fiscal Policy

Austerity is hurting job growth:

Federal Austerity’s Bite on Job Growth, by Binyamin Appelbaum, NY Times: The latest jobs report could have been even better. Employers added 236,000 jobs in February,... but analysts generally agree that the number would have been higher if the federal government had not increased payroll tax rates in January. And the sequestration of federal spending, which began last week, has joined the tax increases in restricting the pace of job growth.
As a result, the rest of the year is shaping up as a tug of war between a strengthening private sector and federal austerity. ...

Not to mention the austerity that has already happened (see below).

With that background, let's turn it over to Simon Wren-Lewis:

Causing recessions, mainly macro: If a car driver falls asleep at the wheel of his car, do we say they caused the accident that follows? Of course we do: it would be absurd to say otherwise. We take it as given that it is the driver’s responsibility to keep control of the car.
Now imagine that the Fed or the MPC had kept interest rates at their pre-recession levels from 2008 onwards. Would we say that monetary policy had made the recession worse. Of course we would. We expect monetary policy to do everything it can to bring the recession to an end. ...
Yet when it comes to fiscal policy, it seems people suddenly take a different view. Some ‘neutral’ path for government spending and taxes is defined, and only if they differ from these paths do we say fiscal policy made the recession worse. Has austerity reduced UK GDP by 2.5%, as the IMF suggest, or by 1.4%, as the OBR suggest? But this asks the wrong question. The right question is why has fiscal policy not been used to help end the recession. That is the question Keynes posed in the General Theory following the Great Depression.

The moment that monetary policy hit the zero lower bound, fiscal policy should have been used to first limit the size of the recession, and then bring the recession to an end. The former happened under the previous Labour government in the UK and Obama in the US, and it worked. My quarrel with what happened afterwards is not that fiscal policy was restrictive compared to some neutral path, but that it did not continue to do whatever was necessary to sustain the recovery. Quite simply, when monetary policy could no longer do the job, fiscal policy should have taken on the stabilization role. ...

Often the questions we ask are more revealing than the answers we give. Questions like “was it the Eurozone crisis rather than fiscal policy that really caused the UK double dip”, or “is the weak US recovery down to greater uncertainty or restrictive fiscal policy”, or “budgets were in surplus in Spain and Ireland before the recession so what more could they do” in my view miss the point, much as the statement “it was oil prices rather than monetary policy that caused 1970s inflation” would miss the point. Whatever shocks have caused weak demand in this recession, if monetary policy is constrained, fiscal policy should be trying to offset these shocks.  In these situations, the presumption should be that fiscal policy is countercyclical. If it wasn’t, that is a failure of policy. The driver was falling asleep at the wheel. ...

Just one note. Although I agree with him that fiscal policy was used by "Obama in the US, and it worked," it was far, far from adequate (it made things not quite as bad, but still bad). In fact:

Spending is still elevated a bit relative to pre-crisis — reflecting higher spending on unemployment benefits and food stamps, plus the ongoing pressures of baby-boomer retirement and rising medical costs. But it’s way down from the peak. Yes, we’ve been engaged in austerity — and this is a major reason the recovery has been so weak.

But everyone knows we have a deficit problem, right? That's why we need austerity even though it makes it harder for people looking for work -- work that will ease their financial struggles. Making them pay this cost is necessary since the deficit problem must be solved immediately!

Well, not so much, or at all. The deficit is gone:

Gone Deficit Gone, by Paul Krugman: So says the CBO, although not directly.
Anyone who is serious (as opposed to Serious) about matters fiscal knows that it’s highly misleading just to focus on the raw deficit numbers (ONE TRILLION DOLLARS), for two reasons.
First, fluctuations in the deficit tend to be driven by the business cycle... You want to take out these “automatic stabilizers” when assessing the underlying state of the budget. Second, we don’t have to balance the budget to have a sustainable fiscal position; all we need is to ensure that debt grows more slowly than GDP. ...
CBO ... estimates that  ... the cyclically adjusted deficit will be $423 billion. ... A reasonable, indeed fairly conservative guess is that nominal GDP will in future grow by 4 percent per year, half from real growth and half from inflation. This means that the sustainable deficit is 4 percent of $11.5 trillion, or $460 billion. Hey, we’re there!
And next year the adjusted deficit is projected to be much smaller:

Yes, late this decade deficits will start to rise again thanks to rising health costs and an aging population, yada yada. But I have yet to hear a coherent argument about why the long-term problem of paying for the benefits we want — which will eventually have to be resolved through a combination of cost savings and revenue increases — should constrain our fiscal policy right now, in the midst of what remains a terrible economic slump.
And I would say that the figure above is, in fact, a portrait of deeply irresponsible fiscal policy — because it is just crazy that in this deeply depressed economy we are now pursuing a fiscal policy that is tighter than the policy we followed at the height of the housing bubble.
So let’s try to stop doing that. And everyone repeat with me: there is no deficit problem.

The problem of "deeply irresponsible fiscal policy" is not confined to Europe.

No comments: