Keynes was right, IMF admits. And the deficit fetishists are wrong.
The IMF’s world growth forecasts issued last night were, bizarrely, not front page news in most papers this morning, despite the UK’s growth estimate being cut by more than any other OECD economy bar Italy. Slashing the growth rates of most industrialised and emerging economies (apart from the USA, where the growth prediction went up, on the assumption that a deal is reached on the budget) is only part of the news though. Far more revealing is the IMF’s explanation of why the IMF’s growth estimates have been persistently over-optimistic – covered in the report in a two-page box on page 41 co-authored by IMF Chief Economist Olivier Blanchard. An admission – what follows is really over-simplified, for clarity and brevity – apologies.
The IMF now accepts that for every £1 cut from government spending, the reduction of economic activity as a whole is potentially as much as £1.70 – far higher than the £1:£1 ratio the IMF’s original predictions were based on, and of course in completely the opposite direction that British Government policy is based on: that cuts in Government spending will be more than replaced by increased private sector expenditure (based on the so-called ‘crowding-out hypothesis’.)
So, the IMF is now said to be alarmed that the relentless austerity measures of most of the developed world could lead to weaker and weaker growth even in the emerging economies like Brazil and China. But, bizarrely, this hasn’t stopped the IMF from continuing to support the cuts that Governments like Britain’s are imposing. As former European trade union economist Andrew Watt puts it: “the patient is dying, increase the dosage!”
The argument that changes in Government spending have a greater impact on the economy than 1 is of course central to Keynesianism, and while Keynes is most famous for arguing that increased Government spending creates a ‘multiplier’ of greater than 1 (hence his counter-intuitive allegory involving the state paying workers to bury cash, and letting the private sector dig it up again), cuts in Government expenditure also have a multiplier effect greater than 1. As the IMF now appear to have realised.
Instead of continuing austerity, we urgently need measures to restore growth, because that is the only sustainable (let alone morally acceptable) way to cut deficits.