Wednesday, 22 February 2017

The academic consensus on austerity

Simon Wren-Lewis has a typical thoughtful piece on Austerity. When to use it and when not!

Ignorant people think keynesian economics is all about greater spending all the time. This is patently untrue.

When there is a liquidity trap you must boost the economy through greater spending by one-off measures. Greater infrastructure spending is preferred because most Governments have an infrastructure 'gap'. This means it is a one-off and only temporarily increases a structural deficit. Reducing the structural deficit is therefore very easy. Tax cuts permanently increase a structural deficit if not accompanied by spending cuts. If they are then there is no boost to economic activity.

On the other hand under Keynesian economics as conditions get better there is a need to get to budget balance and then have greater and greater budget surpluses. A good example of this is the Hawke government getting the budget into black in 1987 and then the Howard government getting the budget into the black in 1997. They are classic examples of keynesian economics at work.

On the other hand classic economics is a crock. By simply having a budget in balance no matter what stage of the business cycle a nation is in then you have a pro-cyclical policy. It exacerbates both booms and recessions.
Again a good example of this was the Howard Government in their last years. By targeting a surplus at 2% of GDP even though the economy was booming it.

People who are entrapped in classical economics do not understand a budget in deficit can be contractionary such as we saw in Europe and a budget in surplus can be expansionary as we saw here in the last years of the Howard Government.
Ignorant confusion on this can be observed by reading articles at Catallaxy. Our mad mate Katesy thought Europe was adopting expansionary policy when it was doing the exact opposite. The Peroxide Princess and Alan Moran also wrote along these lines as well.

Another way of examining this is to examine countries who adopted austerity policies following the GFC. Most countries which did got a depression! i.e. a drop in economic activity of 10% or more!

Game set and match!