Showing posts with label Austerity. Show all posts
Showing posts with label Austerity. Show all posts

Wednesday, May 1, 2013

Rogoff: Not An Austerian

. Wednesday, May 1, 2013

I haven't said anything about the Reinhart and Rogoff affair because I've been busy. It's certainly horribly embarrassing, and not just because of the errors: when your research method is finding means and medians among arbitrary clusters of units across disparate time periods by copy-and-pasting Excel, it doesn't say much about your methodological (or theoretical) chops. I never took the 90% threshold all that seriously, either as a causal relationship or a even a deterministic association. If you'd like to check, here's what I wrote about the paper at the time. I do now flinch at the part where I call R&R "very good empirical economists" but otherwise I think my tone is appropriately blasé concerning the central findings. And, from what I can gather, the follow-up studies make the 90% threshold go away but not the general relationship: high debt is associated with low growth at basically all levels, although it is not statistically significant at very high levels (almost surely because of the small number of observations at very high levels). This of course says nothing about the causal relationship which, I'm quite certain, runs in both directions.

At the same time, I thought then that anti-austerians were pushing R&R into a corner. I never felt that R&R were austerians, but then folks recently dug up some quotes, maybe out of context maybe not, where Rogoff said he thought that beginning to move towards fiscal balance is the right decision for the U.S. Doesn't necessarily make him an austerian, at least of the "expansionary" sort, but I had updated my beliefs accordingly with no regret (I've got nothing at stake here), only to be reminded -- by Robert Kuttner (of all people) in a positive review of David Graeber's book (of all things) in the New York Review of Books (of all places) -- that Rogoff is totally not an austerian:

Carmen M. Reinhart and Kenneth S. Rogoff, whose 2009 book, This Time Is Different: Eight Centuries of Financial Folly, was reviewed in these pages by Krugman and Robin Wells, are best known for demonstrating that the most severe downturns of the entire economy typically follow financial crashes. In passing, This Time Is Different mentioned a provocative concept, “financial repression.” The idea was that when debt is strangling an economy, it may make sense to hold down interest rates, and let inflation decrease debt, or otherwise constrain financial burdens on families and companies to help the rest of the economy realize its potential. The Federal Reserve, under Ben Bernanke, has kept interest rates exceptionally low, incurring criticism that it is risking inflation. Rogoff, formerly chief economist of the IMF, goes further. He would have the Fed deliberately set as a target an inflation rate of 4 or 5 percent as an open strategy of reducing debt burdens by inflating them away, an idea that horrifies the bond market.

Reinhart, in a subsequent paper co-written in 2011 with M. Belen Sbrancia,5 reviewed the experience between 1945 and 1980, and found that there had been continuing financial repression. Real interest rates (i.e., adjusted for inflation), they calculated, were negative on average for the entire period, helping to “liquidate” public debt, partly because the Federal Reserve had a policy of financing the large expenditures of World War II at low costs. During the same era, tight regulation limited speculation by large financial institutions and other investors, so that cheap credit could flow to the real economy without inviting financial bubbles. The 1933 Glass-Steagall Act, for example, prohibited commercial banks from underwriting or trading securities. Yet despite a controlled bond market whose investors suffered negative returns of -3 to -4 percent, the years between 1945 and 1980 were the era of the greatest boom ever.

These findings defy a core precept of conservative economics, the premise that economic growth requires financial investors to be richly rewarded, an idea disparaged by critics as trickle-down economics. The postwar era, by contrast, was an age of trickle-up. Some creditors lost in the short run, but broadly shared prosperity stimulated private business. Eventually, the rising tide lifted even the yachts.
This is not what the Confidence Fairy moralistas are demanding. It is not the position of the GOP. It's not what Alesina's advocating. It would hurt creditors and benefit debtors. It is the sort of monetary policy that center-left folks have been pushing for years. As Scott Sumner continually points out, using monetary policy to re-inflate the economy is a position that Krugman has advanced repeatedly, both in his academic work and in his punditry.

What's the point of this? The same point I've been trying to make in several other recent posts [1, 2] which I hope to extend in the future: if "austerity" is taken to mean anything at any time other than guns-blazing fiscal Keynesianism then it will ultimately lose its usefulness as a political economy concept and therefore its salience as an object of critique. I fear that this has already started to happen.

But more than anything else, I think the obsession with outing anyone to the right of Krugman as an austerian and therefore worthy of public ridicule of the highest sort is making us lose sight of the actual politics. I get the sense of satisfaction that comes from it, but is it really worth it? Krugman could be right about all the economics, although I'm not at all convinced... the US has been posting normal growth rates while he's been saying we're in the 1930s, but he's definitely got the politics wrong. At the end of the day which one is more important?

Tuesday, March 19, 2013

A View from Cyprus on Austerity

. Tuesday, March 19, 2013

Andreas Assiotis is an acquaintance of mine. He also has a PhD in economics from the same American university where I did my undergraduate economics degree. At least at the undergrad level they were a New Keynesian bunch, not freshwater RBC. Now Andreas is on the faculty at the University of Cyprus in Nicosia. A few days ago he posted the following on Facebook (reprinted with his permission, although I have no idea if he agrees with any of my commentary which follows):

We had a party, and it's hangover time. From an economic perspective we did what we ought to do to save our country. An alternative would have included salary cuts, more layoffs, the already high unemployment rate skyrocketing, and extreme taxes that would have made this burden sharing even more unfair. There is a bright side: Starting from this moment we should all roll our sleeves and start planning for the future. Instead of demanding more money, higher salaries, and more goods we should demand more transparency, better institutions, law enforcement, better regulations... There is not a reset neither a boost button that any Xristofias or Anastasiades could hit...we, the populace, are the only entities that could change the future, OUR future...
This is much closer to the Schumpeterian view of austerity than the Alesina view*. In fact, it sounds like nobody in Cyprus views this austerity as expansionary; hence today's rejection of the "bailout" plan, or whatever we're calling it. This was more like a old-school shakedown than anything in Alesina's model.

This is why I think we need to be careful about how we use the language of "austerity". If I understand him correctly, Blyth's main thesis has absolutely nothing to say about the Cypriot case. And probably not the Greek case or the Portugese case or the Irish case. More traditional models of political economy have plenty to say about these things. So why are we insisting that very different things be described in the same way? Why not have distinct terms for distinct concepts?

What's happening to Cyprus, Greece, Portugal, Spain, and Ireland is austerity. Not expansionary austerity. Contractionary austerity. And they know it. It's a grinding political battle over who bears the burden of debt. There's no hood-winking going on, no zombies ideas or confidence fairies or animal spirits or any other mythical beasts which need conjuring. Just old-fashioned materialist politics.

*Also, this has nothing to do with Alesina's model and in fact basically none of the EU austerity plans have. Nor the U.S./U.K. plans. More about that in another day or several.

Friday, March 15, 2013

Defining Austerity Down

. Friday, March 15, 2013

Henry Farrell has reviewed Mark Blyth's new book, Austerity: The History of a Dangerous Idea, which has not yet been released commercially. (I've written about Blyth's research program before. See here and more if you scroll down here.) As I've previously said, the book looks very interesting and I welcome the chance to read it. I love intellectual histories, and this looks like a good one. But Farrell's review increases my level of skepticism of Blyth's core argument regarding present circumstances, which had already been growing in me.

Here's the gist of my concern: Blyth wants to advance an argument that the practice of austerity as a crisis response has ideational causes. That's why the subtitle of the book refers to an "idea". If true, this would call us to reconsider a good bit of the political economy literature, which has focused on materialist politics as filtered through various institutional structures as the most important factor in crisis policymaking. It's a provocative claim, and in making it Blyth does the dirty work of actually reading all those old political economists -- from Locke to Hayek and beyond -- who concerned themselves with the relationship between (sovereign) debt and growth.

The problem I have arises from Blyth's definition of austerity as an idea distinct from materialist interest. I don't think he's totally wrong about any of the main causes of the current crisis, and in fact he is very convincing on some points which I hadn't previously considered. I'm less sure about his explanation of the political response to the crisis in Europe as being primarily ideational. This impression comes not only from Farrell's review, but also from Blyth's hour-long lecture from the book, a version of which is on YouTube, in which he defines "austerity" (in the Q&A) as "a claim that if you cut public debt you will grow". I.e., expansionary austerity, via the work of Alberto Alesina. He specifically says that in his view not all spending cuts constitute austerity, only those intended to facilitate growth. His argument is that European policymakers have fully bought into this belief. His evidence is that Alesina gave a talk at an Econfin meeting, and was referenced in several reports from the ECB. Farrell's review doesn't dwell on this point of definition, but it is quite important. (More on Farrell in a bit.)

Historically, "austerity" generally referred to a set of policy measures designed to facilitate structural macroeconomic adjustment through internal devaluation of wages and prices rather than external devaluation of the exchange rate (which was often a metal standard originally, and a pegged exchange rate or currency board more recently). Most often, these were necessary because external liabilities -- public or private debt owed to foreigners -- had grown past the point at which service was feasible, and the highest policy priority was some sort of fixed exchange rate which made external devaluation undesirable. Austerity policies generally included cutting social spending, raising taxes, increasing interest rates to defend the exchange rate, and trying to boost exports (i.e. production) over imports (i.e. consumption). In other words, austerity was designed to reduce society's standard of living -- on purpose, but in a temporary fashion -- in order to get out from under the debt while maintaining the exchange rate. So the basic logic has nothing to do with spurring a short-run expansion; it has to do with avoiding a long-run collapse*.

That doesn't mean it's good policy. But it does put things into perspective: governments who enforce austerity generally have no good options. Either they devalue their currency, which makes consumption more expensive; or they default on the debt, which makes immediately eliminating any external deficits (via tax increases and spending cuts) mandatory; or they raise taxes and cut spending and try to pay down the debt. All are forms of austerity. The choice between them is political, and is primarily a function of distributional politics (in my view, anyway). The underlying problem is the debt, and the debt is something more than an idea. So far I think Blyth and I are more or less in agreement.

Back to Farrell's review, in which he applies something like the above description to some countries in crisis, such as Greece today: unless the Germans give them a bunch of money in some form or another, they face austerity (in some form or another). Blyth goes a bit further in the lecture (and presumably the book): even the "unless" here is wrong. If Germany gives Greece a bunch of money then Greece may suffer less but Germany will suffer more. The "austerity" hasn't gone away... it's only been redistributed. The idea of austerity is hardly the reason why Germany won't give Greece a blank check; the materialist reality is the reason for that. And in this case, the eurozone crisis is too big for Germany to manage. Heavily-indebted European countries, and their banks, are "too big to bail".

Farrell suggests that countries such as the U.K. need not bother with austerity, but do so anyway, so this is where Blyth's book really does its work: these ideas are so powerful that they compel states to do disastrous things which are not in anyone's material interest. This is where either I misunderstand Blyth or Farrell does. Since Farrell's read the book and I haven't, I'll presume it's me. But I don't think the U.K. really fits the story. If austerity programs are bad then you shouldn't do them unless you really have to do them, in which case you are Greece and not the U.K. But, according to Farrell, the U.K. is engaged in austerity. This argument rests on a core empirical claim: that countries sometimes (frequently?) practice austerity when they don't have to do so.

Here is where limiting the definition of austerity to Alesina's "expansionary austerity" truly matters. Look at the U.K.'s budget (from HM Treasury's most recent budget document):


Over the past 15 years, the UK's budget as a percentage of GDP has averaged below 40%. As the crisis began, it was about 41%. In response to the crisis, it spiked to about 48%, an increase in government spending of about 17%. That is the opposite of what Alesina recommends, which is a massive, immediate cut in spending. Since 2010, British fiscal expenditure has gradually declined about four percentage points (not massive or immediate) from an exceedingly-high baseline, so that it remains above its pre-crisis level. Tax receipts have stabilized and practically normalized, but the deficit remains well above the historical norm at 7-8% of GDP per year. I.e., the U.K. is accruing more debt rather than paying it down. The U.K.'s sovereign debt level is now the highest its been since the end of WWII.

The U.K. is closer to the "soft Keynesian" playbook than Alesina's, in other words. So either I am conflating Blyth's argument or Farrell is. (Krugman also calls the U.K. policy mix "austerity", and notes that U.K. growth has lagged U.S. growth since the crisis. But whether a moderate increase in fiscal expenditure is austerity depends on the definition of "austerity". According to Blyth's definition I'm not sure it does.)

The U.K. is still hurting -- its economy was heavily dependent on the health of the financial sector, and its exports have suffered tremendously from economic weakness on the Continent -- but it is doing far better than most European economies. And the worst is probably over for the U.K. Full recovery may be excruciatingly slow but the situation does not appear to be deteriorating further (Blyth's hallmark of austerity). Meanwhile, any new debt accrued will need to be repaid, with interest. Bond rates are low now, but they will rise once the economy fully recovers, so even if taking on debt is cheap today it will be expensive to service tomorrow. The Conservative government has decided it would rather trim a bit now rather than push the whole bill back.

The prudence of that policy is certainly debatable. What is not debatable is that this is in any way analogous to Greece's situation. Yet the U.K. policy mix is frequently referred to as "austerity" in the same breath as Greece, including by Farrell in his review of Blyth. I think this is mostly Blyth's fault: he's used a common word in an uncommon way -- again, in the lecture; we'll see about the book -- so when people see it they think he's referring to something more general: contractionary austerity, of the sort written about by Schumpeter, or maybe neutral fiscal consolidation (the Treasury View) rather than Alesina's narrow conception of expansionary austerity. I initially made this mistake as well. I wrote a draft of this entire post complaining that Blyth was guilty of conceptual confusion. He's not. But because he's taken the word "austerity" to mean something different from the general/historical understanding, he's given us a fairly difficult task to overcome before we can understand what he's really talking about.

In his review, Farrell describes the U.K. situation thusly:

After enduring two recessions in the last four years, Britain is now well on its way into a third. The pain has been compounded by a succession of austerity budgets, in which Britain’s Conservative-led government has tried to hack away at spending. Repeated rounds of cuts have battered the British economy. However, Britain’s chief economic policymaker, Chancellor of the Exchequer George Osborne, wants still more pain. He is pushing the government to identify £10 billion more in cuts this year.

I think Farrell's right on the substance: to the extent that Britain has restrained the growth of fiscal deficits that has had a negative impact on the economy. But they are far from a primary surplus and don't even (optimistically) plan on running one for another 6-7 years. They're not paying back externally-held debt. The most you could say of this is that the deficit spending isn't expansionary enough. There's certainly a case to be made there. It's my own personal view, in fact. But that political decision is best explained by materialist, not ideational, politics: the Conservative government and their wealthy constituents understand that when the bill does come due, they'll be the ones to pay for it, while the benefits from increased fiscal expenditure are unlikely to benefit them much. Cameron has courted the U.K.'s business community using naked language to this effect, and prominent business leaders have supported the cutting programs. They'd rather keep the future bill low, if possible, all things considered. Hence, the attempts to "hack away at spending". Hence the tax cuts for the rich and tax increases for pensioners in the most recent budget, which were praised by business and The Economist. All very materialist.

So what does an ideational explanation (note: not necessarily Blyth's argument) bring to the table? Only that Cameron government thought this would be expansionary. But it didn't. Treasury reports under Chancellor Osborne revealed that they expected 1.3 million jobs lost.

How about monetary policy? The U.K. is not defending a fixed exchange rate or commodity standard. Its interest rates have been near zero for years, and it has engaged in quantitative easing programs. The U.K. has recently hired one of the most expansionary central bankers in the world to try to spur on the economy, and are considering changing the Bank of England's legal mandate to give him more flexibility to do so. This central banker, Mark Carney, has said that he will pursue "radical" monetary policies in an attempt to generate growth, with no apparent concern for the value of the pound sterling.

This is certainly something qualitatively different from what Greece is doing: devaluing internally in order to maintain a fixed exchange rate. It's the opposite policy. And so Blyth says in his lecture that the U.K. policies do not constitute the sort of austerity he's concerned with. He clearly distinguishes between the U.K. Conservatives' policies and the continental European policies; the implication is that the latter is "austerity" while the former is just normal distributional politics.

But, as I mentioned before, that is not what "austerity" has meant throughout history (even Blyth's own intellectual history), where "history" is as recent as the Washington Consensus responses from 1980-2000 to crises in East Asia, Latin America, and elsewhere. And, arguably, the ongoing eurozone crisis, where the roles of Thailand, Indonesia, South Korea, and Malaysia are being played by Greece, Spain, Ireland, and Portugal; and the role of the IMF is being played by the Troika. It's not what folks like Krugman and Farrell mean when they talk about austerity now. And, frankly, I don't think Blyth's restriction on that definition is helpful. I guess it's possible that the German finance ministry actually believes that Greece's economy will grow following massive public sector cuts, but it is not necessary to believe that in order to explain Germany's actions.

I look around the world and I see two kinds of (industrialized) countries facing crisis: those which have no choice but to engage in austerity, and so do, and those which do have a choice, and so do not. The former are the beleaguered eurozone states. The latter are large industrial economies which have responded to economic slowdowns with, shall we say, half-measures that fall somewhere in between the Keynesian ideal and the Treasury View*. A sort of "soft Keynesianism" which meets the partisan predilections of elected governments. The former Blyth characterizes as having been victims of "the greatest bait-and-switch in human history". Perhaps so (perhaps not, and Farrell questions this claim as well), but how they got into crisis ex ante has little to do with what is done about it ex post, and what is done about it ex post has little need for an explanation which is distinctly ideational rather than materialist.

Why am I concerned by this? Because restricting austerity to Alesina's model muddies the water, and insisting that eurozone leaders fully bought into it is a big claim which, if true, would jeopardize a lot of existing literature. Moreover, it's deceitful marketing. Describing this version as "discredited" (or as a "zombie", as John Quiggin does in a self-promoting blurb) begs the question: what is it, exactly, that has been discredited? Alesina's model hadn't been at the time it was supposedly being tried. I agree with Blyth's incredulity that anybody could have believed it in the first place -- although he's the one claiming that they did, not me -- but experiments are conducted because the outcome is not predetermined. If this was a new beast, then it wasn't an old zombie. So I guess Quiggin was fooled by the narrowness of Blyth's definition as well. That makes nearly all of us.

So the "history of a dangerous idea" is somewhat misleading: Alesina's theory wasn't formed in a vacuum, true, but it was a real break from past conceptualizations of "austerity". It was such a significant break that I don't think they really are the same concept. By referring to one subset of austerity theories -- expansionary austerity -- as if it was the only or even main one, Blyth appears to have made it tough on his audience. Maybe this is all resolved clearly in the book, and he simply elided that discussion in the lecture for reasons of brevity. I hope so, but if so that sense doesn't come out of Farrell's review. I'll read it either way, and I expect to enjoy it. I love intellectual histories like this, Blyth is a good writer, and many parts of his lecture are very good. I mean all that sincerely: I really enjoyed the lecture, and I anticipate getting a lot out of the book.

I'm just not sure about the thesis.

*The Treasury View is that fiscal stimulus will be neutral (multiplier of exactly one), so that version of austerity is a little less austere, but is still not expansionary. Most of the classics believed deficit spending would spur inflation, which is not expansionary in real terms. (Keynes' contribution was to point out that there would be no inflation if there were under-utilized productive capacity.) From what I can tell, none of the intellectual traditions Blyth covers in the lecture espouse expansionary austerity in a crisis except for Alesina.

Monday, January 14, 2013

Austerity Politics: Materialism vs. Ideationalism in the Eurozone

. Monday, January 14, 2013

In a series of videos, Mark Blyth discusses the intellectual history of austerity -- the basis for his forthcoming Oxford UP book. Annoyingly, the video is organized as a playlist, so the video switches every ten minutes or so rather than playing through. The talk is well worth an hour's watching nevertheless, and I look forward to reading the book when it comes out in April.

I don't want to take too much away from him, but I have a few problems with in Blyth's analysis of current events. When he talks about the eurozone crisis he diagnosis it correctly: in a currency union, if everyone devalues internally then recession will continue; in a currency union, devaluation externally is impossible; the only other option is default. Where Blyth goes wrong is when he says that austerity is a choice, even under these conditions. Here I disagree for reasons I outlined in a previous post (see also the follow-up: "There Will Be Austerity"). Any of default, internal devaluation, and external devaluation is a form of austerity. What form is chosen is a political question. Each of these imposes costs on a different groups of people, so the political battle is of a distributional nature. Blyth insists (sometimes) that this is not the case, that austerity is the result of a cognitive or ideological blunder, and expresses a preference for a policy which is not politically feasible, nor normatively desirable (at least for much of the eurozone): turn the ECB into a "bad bank", and load it up with all of the underperforming assets being carried by eurozone banks.* While this would be great for some eurozone countries, it would be horrible for others. Which is why I think this political question is ultimately of a distributional, rather than ideational, nature.

In a another, somewhat similar way I think Blyth contradicts himself about the causes of the eurozone mess. On the one hand, he maintains that the root cause is profligacy on the part of the eurozone banks: they loaded up on too much sovereign debt from the europeriphery, as evidenced by declining interest rate spreads among the eurozone members. On the other hand, Blyth argues that the sovereigns themselves were not profligate; with the exception of Greece, they were all fiscally sound before the crisis and bailouts. But both cannot be true. If the euro sovereigns did not issue massive quantities of bonds, then there would not be massive quantities of sovereign bonds for banks to buy, in which case the banks would not be in any trouble at all.

This is an important point for him, because he claims that the eurozone crisis (and the US crisis) is the "greatest bait-and-switch in human history". Specifically, he claims that private obligations -- incurred by banks -- became public obligations -- via bailouts -- and now governments are the ones being chastised for fiscal profligacy and the public is having to pay through austerity policies. While not entirely false, this account needs more than he gives it. The story he's telling goes like this: Sovereign debt becomes bank assets, which then become sovereign liabilities again once the sovereigns begin to have trouble servicing they debt, which pushes the banks into insolvency, thus necessitating a bail out. But if this is not the fault of sovereigns then there must be a missing step somewhere. Otherwise I'm not sure where the "bait-and-switch" comes in. I think he can fairly easily square this circle by reference to capital inflows from the eurocore to the europeriphery which fed real estate booms, as well as European appetite for U.S. asset-backed securities. But then he can't explain the convergence in European sovereign borrowing costs so simply.

In the Q&A someone asks Blyth how he defines "austerity". I perked up at this point, because I've written about the slipperiness of definitions of austerity before. His answer, I think, leaves something to be desired. Blyth answers that to him "austerity" is not a combination of any particular policies, but rather a belief in the supposed expansionary properties of fiscal consolidation. Krugman also talks about the problems with "expansionary austerity" a lot, but it seems to me that this contradicts Blyth's own narrative about the ideological history of austerity. As Blyth tells it, austerity has traditionally been viewed (by Schumpeter and others) as the "purge" which must follow the "binge". It is the necessary hangover after the party. Well, such analogies provide no indication that austerity will be expansionary; quite the opposite. It is called "austerity" after all, not "luxury".

At times, Blyth conflates the "expansionary austerity" argument with the "Treasury View" (and earlier versions such as Ricardian equivalence). This is incorrect. The Treasury View -- which largely prompted Keynes' General Theory, as a retort -- is that government spending would "crowd out" spending in the private sector, so the effect of public spending would be neutral (or negligible), not expansionary.

Later, Blyth tries to make the case that shift from Schumpeterian "hangover" austerity to "expansionary" austerity occurred in the Bocconi school of economics in Milan, and was given full voice by Alberto Alesina.** So far as I can tell, this entire school of thought consists of a mere handful of academic papers authored by an even smaller number of economists (see lit review in this paper), the most significant of which (Alesina's) was published in 2010, well after austerity politics had begun in Europe and the U.S. Does Blyth seriously think that the German Finance Ministry, or U.S. Federal Reserve Board of Governors, are primarily influenced by these somewhat-marginal Italian economists rather than more traditional, distributional, political economy concerns? If so, he needs to do more to make case. Perhaps it's in the book, but as I've written before claims of expansionary austerity are mostly attacking a straw man.

These qualms aside, as intellectual history Blyth's talk is excellent and I expect his book will be outstanding as well. I've been waiting for it for what seems like years now, and I'll be happy to get my hands on a copy.

*Note that I think this is possible, and perhaps normatively desirable, but only if the legal standing and conceptual nature of the ECB changes in fundamental ways. As many have noted, this would transform the ECB into a quasi-dictatorial body with nearly no democratic oversight. Perhaps this is itself desirable to some, but there are major downsides to such a policy choice even assuming that the ECB chooses to behave as Blyth seems to think it will. As such, I see no clear sign that it will happen the way Blyth wants it to happen in the near term. Also note that Blyth says that the U.S.'s TARP was an analogous policy. It wasn't. TARP was administered by the Treasury, not the central bank, and was therefore the sort of private-obligation-into-public-obligation program that Blyth decries as a "bait and switch". The TALF program, which was administered by the Fed, supported new issuance of asset-backed securities (with the securities as collateral) as a means of unfreezing credit markets during the winter of 2008-9. The Fed bought some "toxic assets" as part of PPIP, but these later turned into billions in profit. The Fed is not now, nor has it ever been, a "bad bank".

**Alesina did do his undergraduate degree in economics at Bocconi, but he did his PhD at Harvard and has been on Harvard's faculty for almost his entire career. At one point he was the department chair. I.e., Alesina's saltwater credentials are intact. For the record, here are Alesina's current views on the effects of austerity on growth. The short answer? It depends. The longer answer? Austerity via tax increases harms economic growth, while austerity via spending cuts has a neutral effect. Nowhere does he say that austerity of any sort will be expansionary. So it is probably better to put Alesina in the "Treasury View" camp, at least as it relates to spending cuts, rather than the "expansionary austerity" camp. In which case, Blyth may need a better definition.

Tuesday, May 15, 2012

Austerity v. Drudgery

. Tuesday, May 15, 2012

I recently posted on Twitter something to the effect of "what does 'austerity' mean when every country practicing it is running massive deficits?" It was meant to be provocative -- I know full well that deficits can come from a decrease in revenue as well as an increase in spending -- and led to an interesting but brief exchange with @dandrezner. My point is that different countries face different constraints, have different institutions, and have responded to the crisis in different ways. Describing them all as practicing austerity therefore doesn't seem appropriate. My takeaway from the exchange was that we don't have a good definition of what austerity is. We used to associate it with Washington Consensus policies enacted under duress in the midst of financial crises in exchange for emergency finance. That definition works alright for Europeriphery countries today, but not the U.S. and U.K. which were a) already following most of the Washington Consensus principles; b) not subject to external pressures from financiers; c) not really significantly altering fiscal policies in a contractionary way at all at least to this point.*

But people still use the term, often to denote something to the effect of "not enough Keynesian/monetarist stimulus". It seems to me that that is a different thing from austerity, and implies a different political interaction. As Steve Waldman notes, we're choosing our depression, and we're doing it in a way that prolongs the recovery but does not choke it off. This is being done for political reasons, but the reasons are very different than those that currently obtain in Greece, e.g. Greece is practicing true austerity -- or at least something closer to it... they keep agreeing to austerity but then missing their targets -- under duress; the U.S. is simply choosing to accept the risk of a slow recovery over the risk of higher inflation.

So why do we use the same work to refer to these two different things. I suspect there is an ideological component to it in many cases, but that's not satisfying enough. This sort of thing from Krugman** -- arguing that austerity is happening everywhere -- does not compute:

For the fact is that you can’t just look at spending levels to ask what is happening to spending programs. Here in the United States spending on unemployment insurance and food stamps has risen sharply, not because the welfare state has expanded, but because a lot more people are unemployed and poor. Similar effects are at work in European countries, which have stronger safety nets than we do. 
Right, but cutting social spending programs is pretty much the definition of austerity, at least as it used to be defined in relation to the implementation of the Washington Consensus during crisis periods. In fact, Krugman refers specifically to spending cuts elsewhere in the same post. So if we're doing the opposite of that how is it we're practicing austerity as well?

Mark Blyth has been working on a book (due out next year) detailing the history of austerity as a policy idea, so perhaps he can give us a better definition. In the video above, he describes austerity as paying down public debt through the slashing of social services. But if we're not doing that in the US (and some other countries) -- if automatic stabilizers have kicked in -- then are we really practicing austerity? If so, only on the margins and not in aggregate.

I was thankful to see Tyler Cowen considering the same question and coming to a similar conclusion. He notes that for some, it seems like "doing less than the Keynesian optimum is always a form of austerity". But does the "Keynesian optimum" really apply to countries like Greece where the bond vigilantes have already shown up? Once we start talking about cross-national transfers we're well outside of the world of the General Theory.***

I think this is important because it implies different political logics. This is what Waldman was writing about. The political logic of "austerity as penalty for emergency finance", usually to prevent moral hazard and/or force through politically unpopular reforms, is quite different from "tolerate slower recovery because of concern about future inflation".

To give one example: both the Tea Party and the Occupy Wall Street movements arose out of protest over the policy responses to the financial crisis and recession. One of them is more or less explicitly anti-inflation and also espouses principles of laissez-faire. The Tea Party movement began in 2007 during Ron Paul's presidential campaign, but really took hold in early 2009, right after the bailouts and as the stimulus fight was being played out. This was a direct response to significant government intervention into the economy via bailouts and stimulus spending. This group wanted austerity, in large part because of fears of future taxation and inflation (which they often view as a form of taxation).

Occupy Wall Street, on the other hand, is not ideologically opposed to government intervention. That movement did not form until 2011, when it became clear that the economic recovery was going to be slow overall but that the banks had recovered relatively quickly. OWS opposed the types of intervention that we, pace Waldman, chose. This group wasn't professing opposition to austerity... they were protesting expansionary fiscal policies! They opposed the distributional nature of those expansionary fiscal policies. In some cases they too wanted austerity, but via tax increases on corporations and wealthy individuals rather than cuts in spending.

The Greeks, meanwhile, are protesting the slashing of pensions and raising of taxes. These are very different movements, animated by opposition to different sets of policies. Lumping all of those policies together as "austerity" doesn't capture that. Given that, and given the loaded nature of the term, I think we need another word to describe the U.S. experience as distinct from the Greece experience. For the latter "austerity" works fine. For the former I propose "drudgery".

*Is c) true? Maybe in the eye of the beholder. In my view, the U.S.'s bailouts of Wall St/GM + extension of tax cuts + new tax cuts + automatic stabilizers + increase in nominal government spending + stimulus > the miniscule cuts that have been imposed since 2008. In which case... is that really austerity?

**Picking on him again out of laziness... I had this link at hand already.

***At least I think we are. It's been awhile since I've read it.

Monday, January 30, 2012

Definitely Not Expansionary, Maybe Not Even Austerity

. Monday, January 30, 2012

Dan Drezner has a post on whether we are now at a focal point that will discredit the idea of expansionary austerity:

The Greek sovereign debt crisis was another such focal point. Greek profligacy seemed to be a synecdoche for excessive government borrowing and lax fiscal discipline. With the global economy seemingly still in the doldrums, a lot of Europrean governments climbed on the "expansionary austerity" bandwagon. By the Toronto G-20 summit in June 2010, the consensus had switched from Keynesian stimulus to fiscal rectitude. Oh, sure there were mutterings about "short-term austerity makes no macroeconomic sense whatsoever in a slack economy" but even Barack Obama started talking about slashing government spending. 
Are we at another focal point? Consider the following: 

1) According to the New York Times' Stephen Castle, European leaders now seem to recognize that austerity on its own ain't working... 

2) The data is starting to come in on governments that have embraced austerity whole-heartedly, and it's pretty grim. Cue Paul Krugman on Great Britain:... 

3) Even commentators who would be tempermentally sympathetic with austerity are starting to bash Germany question whether it's a solution. Consider Walter Russell Mead:...  
4) U.S. 4th quarter data reveals that, consistent with GOP criticisms, the government has been the real drag on the U.S. economy. Not quite consistent with GOP criticisms: the reason why the government is dragging down the U.S. economy. Cue Mark Thoma:...

Before I get into this too deep, I should just note that I've always thought the accusations of belief in "expansionary austerity" from the Krugman/DeLong wing have always been something of a strawman.  The strongest view I've seen regularly expressed is that fiscal policy has essentially a null effect on growth because of forward-looking rational expectations, or because the central bank moves last, not that austerity will actually lead to expansion. I haven't even seen much supply-side voodoo being expressed lately. Can't recall the last time, actually.

First of all, I'd quibble with the claim that the G-20 ever climbed on the "expansionary austerity" bandwagon. Look at the Toronto Summit Declaration that Drezner mentions. No seriously, read it. There's a lot of language like "Unprecedented and globally coordinated fiscal and monetary stimulus is playing a major role in helping to restore private demand and lending" and "To sustain recovery, we need to follow through on delivering existing stimulus plans". Here's the first thing it says about budget deficits (emph added): "At the same time, recent events highlight the importance of sustainable public finances and the need for our countries to put in place credible, properly phased and growth-friendly plans to deliver fiscal sustainability, differentiated for and tailored to national circumstances."

To be fair, the next sentence advocates "consolidation" for countries with "serious fiscal challenges", but does that sound like doctrinaire Treasury View economics? Not to me, and certainly not for anyone outside of Club Med. And while Obama started talking about cutting government spending as Drezner notes -- not sure "slashing" is at all the right word -- other than token cuts all of the significant stuff was reserved for a few years down the road when the recovery was expected to well in progress. The Obama administration also thought in 2010 that growth was taking off; remember "Recovery Summer"? If they'd been right, it would be time to start thinking about cuts in the shortish-run future.

As for European views, it's possible that some people thought Greece's short run growth potential would benefit from austerity, but I don't remember much of that. After all, austerity is called austerity for a reason. All the talk I heard was about austerity as a sufficiently strong commitment mechanism that donors from the EFSF and IMF could be convinced that their transfers to Greece wouldn't be squandered, nor that they would be embedding moral hazard into the EMU that would encourage future profligacy. Now that may not be the best possible economic strategy, but this is a political game not an optimization problem, and in any case it doesn't follow from this observation that anyone believed that austerity would lead to expansion. The Germans cared about getting their money back, not generating growth in Greece, except to the extent that the two are related (and maybe not even that much). My recollection of the early discussions was that if European leaders believed in any of Krugman's oft-mentioned myths it was the "Confidence Fairy", not expansionary austerity.

And, while we're on the subject, the most recent proposal is for lots more austerity for Greece, with Germany taking over Greece's political system if they can't manage that themselves. It doesn't sound like the austerity consensus is at risk of breaking.

Regarding Great Britain and the United States, I'm not sure that the "austerity has failed" line is all that accurate. Here's Scott Sumner:
Here are the three biggest budget deficits of 2011: 
1. Egypt 10% of GDP 
2. Greece: 9.5% of GDP 
3. Britain: 8.8% of GDP 
A slightly more respectable argument is that the current deficit is slightly smaller than in 2010 (when it was 10.1% of GDP.) But that shouldn’t cause a recession. Think about the Keynesian model you studied in school. If you are three years into a recession, and you slightly reduce the deficit to still astronomical levels, is that supposed to cause another recession? That’s not the model I studied. ...

To get a sense of just how expansionary UK fiscal policy really is, compare it to France (5.8% of GDP), Germany (1.0% of GDP), or Italy (4.0% of GDP). Lots of people blame ECB policies for the recession, but Britain is not in the eurozone. Outside the eurozone you have Denmark (3.9% of GDP), Sweden (zero), Switzerland (1% surplus).
In other words, any "cuts" in spending have to be considered in context. Britain's cuts were from an insanely-high (and completely unsustainable) level to an exceptionally-high (and completely unsustainable) level. You can call that "austerity" if you like, and blame the lack of recovery on it if you like, or you could say that Britain has run historically high deficits in each of the last few years. Which is, pretty much, the opposite of austerity. (In any case, Cameron's administration knew that these cuts would not be expansionary, estimating that they'd cost more than a million jobs over five years.)

Similarly, with regards to the United States, Kevin Grier notes that "Federal spending is still [sic] than 30% higher than it was in January of 2007. State and Local spending is still around 12% higher than it was in January 2007. Is this really austerity? ... Can we really run a trillion dollar deficit and bemoan austerity simultaneously?"

I would tend to answer that question with a loud "No".* "Austerity" does not mean "not spending more on infrastructure". "Austerity" does not mean "not enacting a major jobs program". The U.S. did not continue to use fiscal stimulus at the same rate as the emergency measures taken in 2009, but that doesn't mean there's been all that much retrenchment. We haven't stopped mailing the food stamps. We haven't cut off Social Security payments. We haven't raised any taxes, and have cut quite a few. How is that austerity? Maybe that's not enough for Krugman's your taste -- and in fact I'd support higher deficits right now -- but fiscal transfers are political choices, subject to political pressures. Doing more now implies a greater burden for certain segments of the population later, and Obama's continued pursuit of a "millionaire's tax" and "Buffett rule" and "TBTF tax" and corporate tax reform and international corporate minimum tax just drives that point home.

So upper-income Americans don't have to believe in expansionary austerity to oppose further deficit spending; they just have to realize that when the bill does come due they'll be the ones paying it. They couldn't care less whether the fiscal multiplier is greater than 1 or not, because they won't be getting most of the benefit but will be paying almost all of the cost. Substitute "Germans" for "Upper-income Americans" and you're describing the Euro-crisis as well.

Drezner refers to an austerity "gospel", but I'm not seeing all that many true believers. I see it more as a competition between interests.

*Perhaps ironically, so does Krugman. From the article Drezner links: "True, the federal government has avoided all-out austerity" although he contradicts Grier by saying right after "But state and local governments, which must run more or less balanced budgets, have slashed spending and employment as federal aid runs out — and this has been a major drag on the overall economy". Grier provides data, so I'd tend to believe that he's more right, but Krugman usually doesn't make that sort of error so maybe a more nuanced perspective is needed.

Friday, May 6, 2011

Is This It?

. Friday, May 6, 2011

Der Spiegel says Greece is about to restructure its debt and leave the eurozone:

Greece's economic problems are massive, with protests against the government being held almost daily. Now Prime Minister George Papandreou apparently feels he has no other option: SPIEGEL ONLINE has obtained information from German government sources knowledgeable of the situation in Athens indicating that Papandreou's government is considering abandoning the euro and reintroducing its own currency.

Alarmed by Athens' intentions, the European Commission has called a crisis meeting in Luxembourg on Friday night. In addition to Greece's possible exit from the currency union, a speedy restructuring of the country's debt also features on the agenda. One year after the Greek crisis broke out, the development represents a potentially existential turning point for the European monetary union -- regardless which variant is ultimately decided upon for dealing with Greece's massive troubles.

And here's one political dynamic:

The European Central Bank (ECB) would also feel the effects. The Frankfurt-based institution would be forced to "write down a significant portion of its claims as irrecoverable." In addition to its exposure to the banks, the ECB also owns large amounts of Greek state bonds, which it has purchased in recent months. Officials at the Finance Ministry estimate the total to be worth at least €40 billion ($58 billion) "Given its 27 percent share of ECB capital, Germany would bear the majority of the losses," the paper reads.

In short, a Greek withdrawal from the euro zone and an ensuing national default would be expensive for euro-zone countries and their taxpayers. Together with the International Monetary Fund, the EU member states have already pledged €110 billion ($159.5 billion) in aid to Athens -- half of which has already been paid out.

"Should the country become insolvent," the paper reads, "euro-zone countries would have to renounce a portion of their claims."

In other words, now that Greece has gotten funds from the EFSF there is domestic political pressure from citizens in the Eurocore to keep them in the monetary union, if only to get their money back. Interesting.

I've blogged a lot about this recently; in the past week or so I've written about it here, here, here, and here. Near the end of the most recent of those I summarized some IPE research on fiscal crises, fixed exchange rates, and propensity to devalue/default and concluded:

Greece? Not as highly financialized, a less stable government that is unable to make credible commitments to much of anything. Not as small or dependent on trade as Iceland and Ireland, although the difference might not be meaningful. Capital flight has already happened. A long history of profligacy, and a citizenry that didn't pay taxes in the best times. Internal devaluation is likely impossible even if it were desirable. Looks like a devaluation to me.

Not exactly a novel prediction, but one supported by prior research and not just a gut feeling.

The link above is via Ryan Avent, who says:

Even as it does this, it runs a deficit, which means that absent access to capital markets (and it will lack access to markets for the forseeable future) it must continue with austerity. Fearing a potentially ugly restructuring, some depositors have been pulling money from Greek banks, threatening the system with dissollution.

As ugly as this path appears, is departure from the euro zone really going to be better? Much of this pain is unavoidable. A massive devaluation would help Greece's economy, but the short-term impact of a Greek departure is unclear and could be highly destabilising. Over the long-term, it's not certain that Greece is better off outside the euro zone.

This is pretty close to my "there will be austerity" argument that Steve Randy Waldman discussed. Avent suggests that it may be a negotiating tactic, and I've made a similar case before: so long as Europeriphery debt is held by weak financial institutions in the Eurocore, the periphery actually has quite a bit of leverage.

If this is the beginning of a new bargaining round, it opens the window for a "Hard Keynesian" agreement similar to what Farrell and Quiggin propose. The timing for a broad negotiation seems about right: Portugal just had to tap into the EFSF fund for the first time, and pressures on Spain mount. There are many difficulties in getting such an agreement through -- I believe it requires the approval of the legislatures in every EU country, which doesn't seem likely -- but if it were ever going to happen, now is probably the time.

Saturday, April 30, 2011

Politics, Not Economics, Will Decide Europe's Path

. Saturday, April 30, 2011

I'm jealous. Waldman's response to me got links from Financial Times, The Economist, Naked Capitalism, and Krugman, and I'm sure many others. I got none of that*. Even worse, Krugman jumped in and completely missed the point, as he has since this crisis began:

Steve Randy Waldman has a good post critiquing the now widespread notion that debt-troubled economies will have to engage in the same amount of austerity regardless of what they do with their currencies.

But I would go further than Waldman here; it’s not just that the fiscal deficit and the external deficit are different things; even the fiscal deficit becomes much easier to reduce if you can have a devaluation-led boom.

The "now widespread notion" is just me. I haven't seen anybody else make the argument. (I'm sure someone has, but it doesn't seem like many. I don't have unlimited time to scour the interwebs for every stray blogger or columnist, but I read Krugman every day and if it really was widespread I'm sure I'd've seen him rant about it several times by now.) But set that aside.

Iceland, Krugman's favorite crisis country, begs to differ. Debt-to-GDP has trebled, and with a devalued currency servicing any external debt is now much more expensive. Yes, they're getting to fiscal balance, but only because of... austerity. Krugman cites Argentina as a positive example, and their experience has been better than most. But Argentina's debt-to-GDP doubled after default. Their real GNI/capita halved (Atlas method), and took nearly a decade to get back to its prior level. They can't borrow on international markets, so they've had to boost domestic saving (and reduce domestic consumption). That's austerity. And that's the most positive example.

Anyway. Before SRW says the thing Krugman likes he agrees with me that austerity in some form is unavoidable for the Europeriphery, so all of Krugman's talk over the past few years needs to be heavily qualified. As to whether it's the "same amount" (I never said it was, so not even I am part of the "now widespread notion"), that's unknowable ex ante. But here's what we do know:

1. Domestic polities in Ireland and Greece are pissed off at austerity. They have already voted out their governments. Nevertheless, no EMU economies have defaulted/devalued. Not only that, but the crisis Baltics that peg to the euro have held firm too, and Iceland is hoping to join. That to me strongly indicates that there is a common belief among politicians and publics in those countries that default/devalue is among the worst options, and that other forms of austerity should be pursued first. Hell, they'd rather run into the arms of the IMF than default/devalue. Given the history of many of these countries, that should tell you something. In other words, these countries think default/devalue is worse for them than any other realistic alternative. But whatever; I'm sure Krugman knows what's best for them.

2. Krugman (and to a lesser extent Waldman) is imagining a static world in which there's a default/devalue... and then nothing else happens. But other things happen. The people you defaulted on get pissed off. They freeze your assets. They sue you in EU courts. They might restrict IMF funding. They might place trade restrictions or other sanctions. They never lend to you again. These are the richest, most powerful countries in the world. Poking them in the eye is a bad idea.

And this brings me to the only thing that matters. It's not the size of austerity under different scenarios. It's who pays. This isn't a utility maximization problem. It's politics. Krugman might have all the economics right, but it would be completely irrelevant if the politics doesn't match. So what do we know about the politics of fixed exchange rate regimes during crises?

Stephanie Walter wrote an article in 2008 on how states responded to the Asian crisis: with internal devaluation (measured by high interest rate increases to defend the exchange rate) or external devaluation (abandonment of the exchange rate peg). Her conclusion is that policy choices depended the size of political constituencies in those economies. In Hong Kong, which was highly financialized, the state defended the exchange rate at all costs. In less-financialized economies, particularly those with export-biased economies -- e.g. Taiwan, South Korea, and Thailand -- states either devalued immediately or gave up defending their pegs fairly quickly. This should not be a great surprise, but it's worth pointing out.

Then of course there's Beth Simmons' classic study of the interwar period, Who Adjusts? (In our case, we might ask Who Pays?) Simmons argues that small open economies with stable governments that are dependent on trade were more likely to internally adjust in order to maintain the gold standard. Larger countries with less stable governments were more likely to devalue. Why? Small, trade-dependent countries with stable governments were more able to credibly commit to reforms, thus preventing capital flight. Others weren't. A sharp depreciation in the capital account not only makes keeping a fixed exchange rate more difficult, it also impoverishes an economy through a decline in investment**. This also needs to be built into the cost of austerity-via-devaluation.

So what lessons can we learn. Ireland is a small open economy, that is highly financialized and trade dependent. It has a stable government that has made a commitment to maintain its exchange rate, which, in this case, means staying in the euro. Because of its high financialization, it would be hurt terribly by a devaluation and capital flight. Considering how battered its financial sector already is, that would likely cause the economy to totally collapse. And of course it's already happening, but its low corporate tax rates have kept a lot of foreign finance in the country that would otherwise be gone. So expect no devaluation, unless there is literally no other choice.

Iceland, on the other hand, never had a fixed exchange rate to defend. The krona bounced around a lot to the euro even before the crisis, although that pales in comparison to what's happened since. Iceland tried fix the krona to the Euro it in late 2008, but that only lasted one day. Devaluation wasn't chosen as a rational option or a lesser evil; it happened because Iceland couldn't stop it. Now, as mentioned previously, Iceland is seeking membership in the EMU and adoption of the euro to prevent the sort of turbulence that they've recently gone through.

Greece? Not as highly financialized, a less stable government that is unable to make credible commitments to much of anything. Not as small or dependent on trade as Iceland and Ireland, although the difference might not be meaningful. Capital flight has already happened. A long history of profligacy, and a citizenry that didn't pay taxes in the best times. Internal devaluation is likely impossible even if it were desirable. Looks like a devaluation to me.

There are important political dynamics in the Eurocore as well, but this is (again) already too long. In a nutshell, it matter who owns the debt the periphery has accrued. That is mostly the core. They, obviously, don't want default. So they'll try to commit to my #2 above as credibly as they can. Maybe that makes austerity worse in aggregate than if they were nicer. Maybe not. The point is that question is irrelevant. It's like asking what nice things Obama would do if he didn't have to bother with elections.

*I am jealous, of course, but I don't begrudge Waldman anything. He's got a great track record, writes carefully and well, and is very smart. Plus fun to converse with on Twitter. I have no track record, write nothing until after at least four glasses of wine, and am cantankerous on social media.

**For those playing at home, this relates to Waldman's "as long as" statement that I honed in on in my last post.

Friday, April 29, 2011

There Will Be Austerity

. Friday, April 29, 2011

The inestimable Steve Waldman tries to butter me up ("excellent") before smacking down my first post on EU "Hard Keynesian" political economy:

Winecoff makes an important point, but I think he needs to cut his analysis a bit more finely. Economies run two very different kinds of deficits, a government fiscal deficit and an international current account deficit. Although the two deficits are related, there is no mechanical connection between the two. They do not reliably move together. ...

As long as the country, post-default, issues its own currency, and as long as the country’s citizenry is interested in accumulating domestic currency and debt, the government can run a budget deficit after the restructuring. The capacity of a country to run budget deficits post-crisis will depend largely on the citizenry’s confidence in domestic institutions after the fall.

This is all true, as far as it goes, and my example of Iceland as a potential comparable to Greece and Ireland (really Ireland), bears that out, as I noted in a prior post. Iceland's sovereign debt has trebled since the crisis, and presumably most of that hasn't come from foreign finance (excepting the IMF). Iceland's standards of living, from increased import costs since the devaluation, have gone down but they've still been able to borrow. In fact, as Waldman notes, a devaluation can actually increase the amount of domestic savings available for a sovereign to borrow by making consumption relatively more expensive. And a sovereign in need of funds can always make an offer too good for those with savings to refuse: either you loan us the money now and we pay you back with interest in a few years, or we tax the bejeezus out of you. Either way, we're getting the money we need.

But there's a big "as long as" assumption in there. In my original post I said that in the case of default and euro-exits, "[t]he government budget will have to be balanced almost immediately, and unless there’s a full default will likely need to run a primary surplus for many years”. Combined with my sloppy language ("almost immediately" can mean any number of things), Waldman's "as long as" can obfuscate an important point. Iceland's debt-to-GDP is now 115% at least. Ireland's debt is listed at about 100% of GDP, but of course that's a made-up number since they don't know exactly what the banks will cost them. Anyway, there comes a point when the credibility of domestic institutions gets called into question, when that "as long as" doesn't hold any longer. I think that the point of default would be as near to that point as a state can get. Governments will have a difficult time running deficits of 3% of GDP, much less 10% of GDP.

My "almost immediately" might not be instantaneous -- large shifts in government budgets generally aren't, and I shouldn't've implied that they were -- but we're dealing in the short term, not the long term. "Almost immediately" can mean austerity plans are enacted quickly and implemented over a number of years. The exact duration depends on the levels of domestic savings, and whether governments can get funding from the IMF or EFSF. But the shift from fiscal deficit to balance has to happen, and there has to be a credible plan in place in the short run, or that "as long as" won't hold very long. Indeed, in May 2009, "almost immediately" after the crisis, Iceland committed to a balanced budget by 2013, which they are on track to meet and exceed, running a primary surplus this year (pdf). That's just two years after the default. They also plan to run an overall surplus (net of interest) of at least 2.5% of GDP for at least 5 years, beginning in 2013.

All in all, I think the Iceland experience matches pretty well with my description of things. Maybe Iceland's move to fiscal balance wasn't quite as sharp as Argentina2002 or Russia1998, as Waldman points out, but it's still fairly sharp.

(An aside: Waldman claims that the EU crisis has been slow-moving enough for Irish savers to move their savings out of the country if they wish. But a huge proportion of Irish GDP, and thus tax revenue, comes from foreign banks using Ireland as a tax haven. If all those firms left, it would blow an even bigger hole in the budget. Ireland doesn't want that to happen.)

SRW's point about the difference between fiscal deficits and current account deficits is important, but let's not make too much of it. If we think of a country as a large household, then the fiscal account becomes a feeder into the national accounts. The current account reflects the difference between savings and investment, and the fiscal balance is part of that. Both public and private saving will have to go up, and/or investment will have to go down (perhaps via capital flight, but that's perhaps the worst outcome). I know what SRW is going to say: don't confuse an accounting identity for a behavioral relationship. Fine, but the fact remains: in order to balance the current account, consumption has to fall and savings has to rise. This is austerity, no matter how it's distributed. When SRW says "Shifting international accounts from deficit to balance harms citizens in their role of consumers, but serves them in their roles as workers and savers", what he's really saying is "people have to live more poorly than they did before".

Now as SRW notes, there are a number of different mechanisms for achieving this, and not all austerities are equal. I didn't say they were, but maybe I wasn't clear enough. So far, international institutions have stepped up to smooth the landing. Iceland's current account deficit has funded by the IMF, as they work to build up public surpluses. For Ireland and Greece, it's been the EFSF/IMF, as they enact their own austerity plans. Ireland's CA deficit has narrowed back to pre-crises levels, but only because of austerity, and it hasn't paid back any of the debt principal yet. Greece hasn't even gotten to that point yet. But that only smooths out the process; it doesn't revoke it.

So I don't quite buy this:

Undoubtedly, ending an era of persistent current account deficits will prove painful to consumers accustomed to cheap imports. However, that is not ultimately an incremental cost of leaving the Euro. After all, the purpose of staying and suffering austerity would be to pay down indebtedness, which is more costly than a shift to balance. Contrite borrowers have to pay interest on past debt and run (primary) surpluses. Deadbeats just need to pay for what they buy now. Quantities matter. Staying within the Eurozone offers the palliative of stretching the pain out over time, but increases the ultimate burden of the adjustment. Exiting front-loads costs, but reduces their size, as much of the work is done by the act of default. Undoubtedly, jilted creditors would punish “Euro deadbeats”, and exact non-financial costs, so the benefits of debt write-offs would be counterbalanced, at least in part, by new costs. There’d have to be some cost-benefit analysis. But the options are not, as Winecoff suggests, a zero-sum shift in how countries take their lumps. Countries may find they have a lot fewer lumps to take if they repudiate their debt than if they don’t.

It may not be zero-sum, but that doesn't imply that one option is obviously better. If you take your lumps and pay off your debt, you get rewarded by having access to international capital markets. This can boost investment and future growth, smooth future business cycles, etc. In the eurozone, it means a credible exchange rate and lower borrowing costs, as well as unfettered access to the world's biggest market. Over any medium- to long-run horizon, it is certainly possible, perhaps even likely, that you'd be better off. That's why I don't default on my credit card every month. If you default, you lose those benefits. No more external investment. No more smoothing the business cycle. Lower growth. And it takes a very long time to overcome a bad reputation. To say that "deadbeats just need to pay for what they buy now" misses the point: non-deadbeats could do that too, if they wanted. Defaulting removes the option. Everyone would rather have access to a credit stream than not.

Of course this is where we get into the distributional politics, which is where I wanted to be all along and where I got in my subsequent post on the Quiggin/Farrell article. Admittedly, I used some crude econ to get there, which is where SRW's corrections are useful. But what I really wanted to highlight was that this is a political choice, about who is going to bear the brunt of austerity. So I am befuddled when SRW says this:

Lots of countries, obviously emerging Asia but also Germany, seem to prefer the social goods that come with full employment and financial security to the consumer purchasing power gains that accompany current account deficits. The countries of the Eurozone periphery have so far “chosen” the path of excess consumption, but it’s not clear whether that represents a genuine preference or a historical accident.

Those countries, including Germany, have forced savings. Many emerging Asian economies have capital controls and/or unconvertible currencies. They are also poor and usually well below full employment. (Germany is only half-poor... the eastern half, and ran a CA deficit from reunification until recently. They also have high underemployment, and not especially low unemployment: "However, when comparing the rates of unused labour supply between EU countries, Germany (20.1%) ranks only 20th".). Meanwhile, before the crisis, Ireland and Iceland had full employment and high standards of living and (perceived) financial security.

So any way you strike it, default/devalue is a major step down. How far down, and who pays, is the only question remaining. But let's not kid ourselves... there's no technocratic solution to this. I'd put it much nearer to "catastrophe" than "bows and flows of angel's hair".

Friday, February 25, 2011


. Friday, February 25, 2011

I see that Krugman has embraced Naomi Klein's "Shock Doctrine" to explain the Wisconsin kerfluffle. Cowen linked to his excellent review of the book here, but we've covered her too. See here for Oatley's takedown, or here for other entries. Emmanuel also had a nice rebuttal here.

The blogosphere has been filled with debate about the Wisconsin unions, and I don't have time for detailed comment, but here's what I think in a nutshell: I have nothing at all against collective bargaining as a matter of principle. In fact I'm very much in favor of it. The right to free association is (or should be) more or less absolute, and if organized labor can capture more of the surplus from economic production then bully for them. That, of course, is not the case here. The unions have agreed to wage and benefit reductions already, and the current battle is over the right to collectively bargain at all. But the right to collectively bargain is only valuable if bargaining collectively gets concessions for labor. Since that isn't happening, this strikes me (mostly) as symbol over substance. The principle is worth defending, fine, but it's important to choose one's battles wisely. The most likely short-run result of this seems to be the firing of 1,500 public sector workers. It's hard to see how that's a win for the union or anyone else. Too many victories like that and the unions can't survive. A lack of pragmatism seems to be unions' Achilles Heel.

I do find it interesting that this is exclusively about public sector unions. Does it change the usual labor/capital narrative when "capital" is replaced by "citizens of Wisconsin"? I suppose the response is "not all the citizens", but it really is if we're talking about closed schools, fewer social services, etc. Or about democracy. Yes, the rich could pay more in taxes to balance the budget, but the duly elected government of Wisconsin has decided to go a different direction, as they promised they would during the last campaign. (Well, the ones that have remained in the state have made that decision, at least.) Don't like it? There's another election in a couple of years. That's how these things work.

FDR, for one, was in favor of public union busting, believing that they worked against the interests of the citizenry:

Particular­ly, I want to emphasize my conviction that militant tactics have no place in the functions of any organizati­on of government employees.

Upon employees in the Federal service rests the obligation to serve the whole people, whose interests and welfare require orderlines­s and continuity in the conduct of Government activities­. This obligation is paramount. Since their own services have to do with the functionin­g of the Government­, a strike of public employees manifests nothing less than an intent on their part to prevent or obstruct the operations of Government until their demands are satisfied. Such action, looking toward the paralysis of Government by those who have sworn to support it, is unthinkabl­e and intolerabl­e.

I wouldn't say that (it violates what I wrote above), so I guess I'm to the left of FDR on this one.

I know nothing about judicial precedent here. Could unions accept the law to keep their jobs, but then sue and have it overturned later? If so, that seems like the savvy move.

Wednesday, October 20, 2010

We're About to Get a Huge Natural Experiment of Austerity in the Developed World

. Wednesday, October 20, 2010

Cameron goes for it:

Britain's Treasury chief George Osborne said Wednesday the country's government will make the largest cuts to public spending since World War II — slashing benefits and public sector jobs in a five-year austerity plan.

Osborne confirmed he had ordered 83 billion pounds ($130 billion) in spending cuts through 2015, which he claims are necessary along with tax increases to wipe out a spending deficit that reached 156 billion pounds last year.

As many as 500,000 public sector jobs will be lost, welfare payments sharply reduced and dozens of scheduled government programs halted. He said that even Queen Elizabeth II would take a hit, cutting her royal household budget by 14 percent over four years under the plans.

"It is a hard road, but it leads to a better future," Osborne told lawmakers in a long anticipated statement to outline the coalition government's long-term economic plans.

Not much reaction on the FTSE, and not much movement on gilts either.. Perhaps markets had already priced this in.

Thursday, September 30, 2010

Austerity Politics. Kind Of.

. Thursday, September 30, 2010

WatsonMedia presents Mark Blyth on Austerity from The Global Conversation on Vimeo.

Mark Blyth gets animated in the literal sense, which as far as I know is a first in the history of IPE. Beyond the novelty, I recommend watching this short video on austerity. I agree with about half off it: the part where he emphasizes the distributional implications of austerity. Unfortunately, he merely toys with idea before regressing into demagoguery. Surely he doesn't believe that living standards have not improved for the bottom 40% of Americans in the past 40 years. And he completely misses the international dimension of austerity politics. The domestic dimension too, really.

I part ways when he passes off value judgments as objective observations. That's not to say that his value judgments aren't reasonable or maybe even valid; just that his conclusions don't follow from his premises. He seems to argue that austerity, if and where and when it happens, should be borne entirely by bankers. That's an understandable position. But it ignores the obvious complication: if bankers are made to suffer, then so are those who seek credit from them. This is especially true of the less-credit-worthy among us. If we want to punish the banks by limiting their risk-taking, then that means we are restricting the ability of the lower classes to access credit. We can have a world in which financial entities are heavily restricted in their activities, but the distributional effects of such a policy are not likely to be favored by the class warriors.

I will say that Blyth is correct in saying that austerity everywhere all the time is not the right reflex. Some states truly do need to consolidate. Others have more room. But by taking a reflexive position, Blyth is missing the really interesting (and important) dynamics. It's a short video that's apparently based on an upcoming book, so maybe he'll deal with these issues in a more nuanced way in print. I hope so.

Monday, August 30, 2010

Why German Leaders Aren't Sado-Masochistic Lunatics, or, Why Krugman Is Either Wrong or Irrelevant

. Monday, August 30, 2010

All of the debate over Germany has focused on stimulus vs. austerity, which has been recast as an ideological battle of technocratic purity: Keynes vs. not-Keynes. I covered a few of these bases here, and Tyler Cowen quoted and extended them here. Let's try to think of it in another way. Suppose for a second that Krugman and his camp has the economics completely correct. Germany and other leading states should not be even considering fiscal retrenchment at the moment, nor should they be encouraging any of the sort from smaller states like Spain and Ireland. Instead they should be doing the opposite, by engaging in a large ramp-up stimulus program. Let's assume that this is, as Krugman says, simple and basic economics, easily understood by anyone who's passed Econ 101 or taken a cursory look at economic history.

For this to be the case, German policymakers and officials at the IMF and elsewhere (the "Pain Caucus") are so worried about some mystical beings ("Invisible Bond Vigilantes") that they genuflect to gain approval from other mystical beings ("Confidence Fairies"). A few prophetic voices in the wilderness ("The Ancient and Hermetic Order of the Shrill") scream into the void, to no avail. Krugman is obviously a very public figure, so it is unlikely that policymakers are ignorant of his arguments. The only conclusion is that these policymakers are sado-masochists, insane, or both. I believe this is Krugman's default position.

How helpful is it to assume, as a starting point, that leaders are masochistic lunatics? Not very, in my view. There's a lot of political science theory and research dedicated to the idea that politicians are office-seeking, voters are sensitive to the state of the economy, and therefore sado-masochistic lunatics have a very difficult time controlling policy. So even if Krugman is completely correct about the economics, it doesn't really matter. There must be something else going on, so even if correct his analysis would appear to be irrelevant.

At the start of the crisis the Obama administration pushed European governments hard to enact strong stimulus packages to kick-start their economies. The Obama administration worried that if they did not, that much of the American stimulus spending would be "leaky", i.e. would stimulate other countries' export industries, but not domestic industries. They also worried that American exporters would suffer if demand in other countries remained low. Encouraging other countries to enact stimulus, then, was really about encouraging other countries to buy more goods from the U.S. while U.S. consumers bought domestically. The goal was to boost domestic (American) employment.

This ploy is obviously transparent, and Germany responded almost immediately by saying that they felt their "automatic stabilizers" (things like unemployment insurance) were sufficient stimuli. At the same time, Germany was beginning to realize that they were going to have to spend quite a lot of money to rescue Greece and potentially other southern European economies from Quite-Visible Bond Vigilantes. As you'd expect, bailing out profligate countries during a recession was very unpopular domestically, so the pound of flesh the Germans extracted in return was austerity in debtor countries, and tougher new fiscal rules for the E.U. to prevent a similar outcome from recurring. If Germany ran large deficits by engaging in ramp-up stimulus spending, it would under-cut their own Euro-wide debt-reducing initiative, and might push the economic and monetary union to the brink of collapse.

But Germany's automatic stabilizers were real. The result was that Germany largely engaged in neither ramp-up stimulus nor austerity. Ryan Avent has a good post about this, in which he links to this interactive Brookings map showing which countries did how much stimulus. Germany did much more than France, Italy, or the U.K., and their proposed budget cuts for 2010 and 2011 are the lowest in the eurozone. As Avent concludes, "This doesn't mean that stimulus is the key to German success. But Germany is absolutely not an example of strong growth despite austerity."

In other words, Germany has taken a measured approach: let their stabilizers run their course, but don't blow a huge hole in the budget at a time when they are insisting the rest of the E.U. get their fiscal house in order. Let the recovery come from exporting sectors and productivity gains rather than ephemeral short-run consumption. The Germans are balancing short-run political incentives (a fairly quick economic recovery) with longer-run goals (maintain a strong, stable economic and monetary union). Not only is this strategy not masochistic or insane, it is actually pretty savvy. It's also Germany's only hope for securing the long-run health of the economic and monetary union along with the domestic economy. Maybe the Obama administration would like to see more, but that's hardly Germany's problem, is it?

The takeaway here is that even if Krugman is completely right about the economics, he is wrong about the political economy. This makes his analysis irrelevant at best, completely wrong at worst. I guess I'll let him decide which.

Wednesday, August 25, 2010

On Krugman On Germany

. Wednesday, August 25, 2010

See... this is what people who complain about Krugman are complaining about:

Many people are now holding Germany up as proof that austerity is good.

There are a number of reasons that’s foolish, among them the fact that Germany’s austerity policies have not yet begun — up to this point they’ve actually been quite Keynesian.

But it’s also worth having some perspective on actual German performance to date. ...

Everything you’ve been hearing is about that uptick at the end. But I’m not willing to declare an economy that has yet to recover to the pre-crisis level of GDP an economic miracle.

This analysis is just sloppy. There are at least three very wrong things here:

1. No one is saying Germany is an economic miracle. Some people, like Tyler Cowen, are saying that Germany's experience doesn't track very well with standard economic models and this fact needs to be acknowledged by those who loudly proffer policy advice.

2. No one (that I've seen) is saying that Germany's turn-around is due to austerity. Germany has been insisting on austerity in other eurozone economies like Greece as a condition for the establishment of the emergency stabilization fund. Don't mistake an observation about EU political economy for an argument in favor of one economic paradigm or another.

3. The fact that Germany has "actually been quite Keynesian" and "has yet to recover" is not evidence in support of Keynesianism.

That said, Krugman's recent comparison of the current U.S. situation and the Japanese "lost decade" is pretty compelling, in my view.

International Political Economy at the University of North Carolina: Austerity

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