Sound bite economics

A holiday means that I’m late commenting on George Osborne’s  9^th September speech, but I cannot let it pass. It attempts to show that those, like me, who oppose the government’s austerity policy, have lost the argument. As exactly the reverse is true, I need to show where his analysis is wrong. Actually that is quite easy, because there is no coherent analysis, just a series of sound bites.

I’ll begin with the section which starts ‘the headline facts are not in dispute’. There follows a highly selective and misleading set of facts. I could retaliate in kind, but instead here is a chart from economists at the Bank of England, who should be objective in their selection of data. It shows that the UK recovery has been weaker than is normal even allowing for the fact that the recession was caused by a banking crisis. The only area that has done as badly as the UK is the Eurozone. This is a dismal record, given the unique problems faced by many Eurozone periphery countries. They really did have a government funding crisis, whereas the UK just acted as if it had one.

Evolution of GDP around recessions and banking crises. Source and definitions: Dale and Talbot, Vox, 13 September

Not surprisingly, Osborne chooses to focus on employment rather than output. As everything that is relatively good about UK employment is equivalently bad about UK productivity, this just emphasises how appalling the record since 2010 has been.

He then says: “These are the facts. The controversy has been why GDP growth has been weaker than originally forecast.” No no no!!! The argument is simply that without austerity the recovery would have come quicker and the recession less deep. It is not, and never has been, about forecasts. The reason why Osborne plays this sleight of hand is obvious – he wants to persist in giving the impression that austerity is not contractionary. [1]

Then comes the most pathetic bit. “Those in favour of a Plan B have lost the argument. The reason is simple: proponents of the ‘fiscalist’ story cannot explain why the UK recovery has strengthened rapidly over the last six months.” What nonsense. A balance sheet recession ends when private sector balance sheets have been adjusted. In the textbook case austerity implies a deeper recession but then a subsequent recovery that is stronger as a result. So in that case rapid growth provides evidence in favour of the ‘fiscalist’ case, not against it. [2] [3]

The irony of all this, as Jonathan Portes points out, is that the pace of fiscal consolidation in the UK has recently slowed compared to the first two years of this administration. (According to the latest estimates from the OECD, the underlying primary fiscal deficit, after shrinking sharply in 2010 and 2011, actually rose in 2012.) So the simple implication would be: ease off on austerity, and you allow a recovery to begin. Jonathan says “we should give the government credit for not digging us further into a hole by trying to stick to its original plans.” I might be inclined to agree if they were being honest about what they were doing.  Instead we have this Orwellian world were the Chancellor says we have a recovery because he stuck to his plans, when it appears exactly the opposite is true. 

There is no attempt in the Chancellor’s speech to address the academic estimates of the amount of UK output lost through austerity, such as those of Oscar Jorda and Alan Taylor discussed here. No attempt to look at how monetary and fiscal policy interaction is changed at the zero lower bound – perhaps because the UK Chancellor is also ultimately responsible for the monetary framework. [4] I also see (HT Alan Taylor) that Mark Carney confirmed to the Treasury Select Committee that fiscal policy had been a drag on growth. It would be interesting to know by how much according to the Bank’s model.

But the Chancellor knows he does not need to address these arguments. Instead, if he keeps on repeating that rapid growth shows critics of austerity are wrong, he will get away with it. Just as he has with the myth that much of our current problems are down to the fiscal profligacy of the previous government. Most of the press will parrot his arguments (even those that really should know better [4]). Any hope that the BBC might provide some objectivity have disappeared as a result of threats and intimidation. So Stephanie Flanders writes: “As ever, there is no black and white here, but Mr Osborne's speech makes a serious case.” I guess this is the same sense of ‘serious’ as in Very Serious Person.

This will all mean that the public will never find out that many of the minority of UK academics that originally supported austerity have changed their minds, that it is difficult to find prominent academic macroeconomists currently supporting austerity, and that more widely the academic argument for austerity has been decisively lost.  Unfortunately, as Paul Krugman suggests, there is evidence that this strategy of initially closing down parts of the economy so you can claim credit when it starts up again can help win elections. All very depressing, although also rather predictable.

[1] If he was being honest, he would say that the issue is how many percentage points of GDP have been lost as a result of his additional austerity. Are the multipliers low, as the OBR suggest, or higher, as the IMF and others suggest. By instead referring to a baseline of the OBR forecasts which already embodied their low multiplier estimates, he simply (but deliberately) muddles the issue.

[2] In traditional business cycle theory, the economy always returns to a level of activity that is independent of the depth of a demand led recession. So if you increase the depth of the recession through austerity, you automatically increase the strength of the recovery. This will be true even if austerity is ongoing, because private sector demand does eventually replace public sector demand in this standard model. 

[3] If you think this is ex post rationalisation on my part, here is what I wrote in February. “For the Chancellor, from now on things may start to get better, if only because they have become so bad. The UK may just avoid a triple dip recession, and may even grow at more than the snails pace predicted by forecasters. Any growth will be talked up as if it is a new dawn ...”

[4] The sound bite about monetary policy activism is repeated, with no reference to the zero lower bound. There is a statement about how “economic theory and academic evidence both suggest that multipliers are likely to be relatively low in an open economy with a floating exchange rate and independent monetary policy”, with no acknowledgement that an independent monetary policy may be of limited use at the zero lower bound.

[5] I am not sure which is worse here: Osborne because he has power, or the FT editorial page because it should have no political axe to grind. But really, you would hope an FT editorial would contain at least some economics to back up the rhetoric.