Here are 3 posts from yesterday. First was “The IMF on the Austerity Trap:”
The IMF has just released a new paper on austerity that is kind of heavy going (unnecessarily, I think), but ends up making a simple but important point.
Suppose that a government imposes fiscal austerity in a realistic fashion, with spending cuts getting steadily deeper relative to baseline over a period of several years. If the negative impact of these cuts is fairly large — which all the evidence coming in suggests is the case under current liquidity-trap conditions — and if the country starts from a fairly high level of debt — as the austerity countries do — something alarming is likely to happen. Instead of falling, the ratio of debt to GDP is likely to rise for years.
In part this is because a weaker economy shrinks revenues, offsetting a large part of the direct austerity. What pushes it over the top is the weakening of GDP, which increases the ratio.
I ran my own version of their simulations for a hypothetical country — call it Osbornia — which starts with debt at 100 percent of GDP and a budget deficit that would, left to itself, be consistent with a stable debt ratio thanks to 2 percent growth and 2 percent inflation. On this economy I impose 5 years of tightening at the rate of 1 percent of potential GDP each year, with a multiplier of 1.3 (which is about where recent estimates have been converging). Output ends up 6.5 percent below the baseline; debt looks like this:
Why does this matter? As the paper says,
Although this effect is not long-lasting and debt eventually declines, it could be an issue if financial markets focus on the short-term behavior of the debt ratio, or if country authorities engage in repeated rounds of tightening in an effort to get the debt ratio to converge to the official target.
And, of course, this destructive behavior is especially likely if said country authorities are firm believers in the notion that austerity does not depress output; they’ll see the weak performance either as “structural” or as showing the need for more confidence. Either way, they’ll see it as a reason to tighten even more.
Sound like anyone you know?
Next up was “Attack of the Trust Fund Zombie:”
So, I’ve Stephanopoulized, along with Senator Ron Johnson, who began by declaring that we need to agree about the facts — then promptly rolled out the old trust fund zombie. I’ve explained this one over and over again, for example here. And I have to say, it’s extremely telling that conservative Republicans don’t seem able to make their case without resorting, right from the beginning, to obviously dumb fallacies.
The last post of the day was “Crude:”
Mark Thoma on Jeff Sachs. Also Ryan Cooper. And here’s what happens if you actually read the links from Scarborough-Sachs: you find that what I actually said bears no resemblance to their, ahem, crude caricature of my views.
The truth is that I came into this crisis with what I think can be described as a pretty sophisticated view of liquidity-trap economics, based on my own work on Japan in the late 1990s and that of Mike Woodford and Gauti Eggertsson. This view made some predictions — about interest rates, about the effect of large increases in the monetary base, and about the size of fiscal multipliers — that were very much at odds with what a lot of people were saying; those predictions have been overwhelmingly confirmed by recent experience.
I guess I can understand some people not wanting to believe that evidence. But they don’t help their case by pretending that there is no evidence, and certainly not by pretending that people like me, Brad DeLong, Martin Wolf, Larry Summers etc. etc. are ignoramuses who unconditionally favor fiscal expansion under all conditions, as opposed to as a specific remedy under special conditions that happen to apply right now.
Well, there he goes again — being shrill…