IMF admits cuts are bad: but that’s not enough
Last week, the IMF’s Chief Economist, Olivier Blanchard, issued what the Washington Post called a massive “mea culpa” (“I’m to blame”, for those whose Latin isn’t up to scratch!) His paper essentially underscored what he admitted last year, namely that cutting government expenditure has had a far greater negative impact on growth than austerity fetishists have been willing to concede.
Paul Krugman has been very polite in recalling that the IMF was never the biggest cheer-leader for austerity, but even Blanchard continues to defend austerity for other reasons. Despite that, his paper blows an enormous hole in the argument that cutting government expenditure will lead to better times around the corner and that Governments can cut their way back to growth. This is true in Britain, in the EU, and in the USA – and especially when austerity is synchronised. As Ben Folley demonstrates, Blanchard’s evidence-based back-tracking bears repeating time and again. The austerity fetishists are wrong, wrong, wrong!
But while we certainly do need to keep making that case, there is still much more to do.
You may have noticed that over the last few months, austerity fetishists have started subtly shifting their ground. They do still occasionally revert to arguing that you can create growth out of cuts, or that government spending crowds out imaginary private investment, or that cutting will release what Krugman calls ‘the confidence fairy’, and they are certainly also demonising the victims of the cuts (today especially) to make them more populist. What they are increasingly putting centre stage, however, is the argument that while cuts may not be palatable, or even good for growth, the alternative is far, far worse.
Time and again, Conservative apologists argue that the Government must cut its borrowing, or at least not borrow much more (they do occasionally have to admit that one impact of austerity is that government borrowing is actually increasing, but not, they argue, as much as the alternative to austerity would require.)
The reason they are arguing this is because they think that more people buy that argument than the argument that cuts are good. Actually, UK opinion polling suggests that voters were way ahead of Blanchard in realising that cutting government spending is bad for the economy! This is the argument that the last Labour Government ‘maxed out the nation’s credit card’ and it is indeed an argument we have found it difficult to crack, because if you consider the Government to be simply a scaled up version of an individual, or a household, it makes sense. (Obviously it doesn’t make economic sense, as successive generations of Keynesians, starting with JMK himself, have pointed out: Governments are totally different from individuals.)
There are two points worth making here, then, and we need to do far more to get these ideas into the popular debate:
1) as Noah Smith argues here (HT @TimHarford), what Blanchard has come to realise, and Keynesians have always argued, is that cutting any government expenditure in recessionary times is bad for the economy (it’s called the multiplier in the trade), but there are certain sorts of Government expenditure which are even more valuable than general Government consumption. Investment in needed infrastructure is the clearest example, although vocational training is likely to be similar over the medium to longer term. Even if Blanchard reverted to the IMF’s previous position on the multiplier, it would still be worth increasing Government investment at this stage of the economic cycle; and
2) as Simon Wren-Lewis argues here, we have to win the argument over borrowing. Bluntly put, if the Government doesn’t borrow more at this stage of the economic cycle, private individuals and corporates aren’t going to take up the slack, and if no one borrows, no one can lend, either, which is why the industrialised world is currently facing years or even decades of slow to no growth. As Wren-Lewis and Smith point out, there isn’t a better time for Governments to borrow than now when interest rates are almost zero and demand is so flat that some countries are able to sell debt for so little.
I suspect the first of these will be easier than the second: even the UK government realises that voters and businesses are fairly keen on public sector infrastructure investment, and putting money into manufacturing and industrial strategies is pretty universally popular. The problem is whether you pay for it by cutting benefits or borrowing, and at the moment we haven’t yet won the case for more borrowing.