Was an anti-austerity policy politically possible in 2010?

Could left and centre politicians in the US or Europe have got away with saying forget about the deficit?

It is clear to some of us at least what the appropriate macroeconomic policy should have been in 2010. No switch to austerity. In my VoxEU piece I imagine that in the US, UK and Eurozone government spending on consumption and investment had grown at an average rate from 2010 onwards, rather than being cut back sharply. Back of the envelope calculations suggest that by 2013 GDP would have been about 4% higher in all three countries or country blocs. In that eventuality by 2013 short term interest rates would probably be on the rise, and then governments could begin to reduce deficits. There would of course have been no government funding crisis in the UK or US. In the Eurozone, with appropriate ECB policy, the debt crisis would have been confined to Greece. We would have all been much better off.

So would such a policy have been politically possible? I think if there had been a reasonable political consensus behind it, almost certainly yes. After all, G.W. Bush was quite happy to use Keynesian economics to support tax cuts in 2001. One of the points I have made about mediamacro is that it finds it difficult to argue a case when there is a political consensus going the other way. The media would, of course, have raised concerns about rising budget deficits, but if the political consensus had been that macroeconomics tells you not to worry about the deficit during a recession, I think it could have survived. (An exception might be Germany, where the thought experiment is perhaps too difficult to imagine.)

The moment that the major right wing political parties decided to abandon consensus macroeconomics and use the deficit as a political weapon, then it became much more difficult to say that the deficit was not an immediate concern. This was for two reasons.

First, the default position of many political commentators is that a government is like a household, so it should respond to a deficit by tightening its belt. To counter this requires referencing macroeconomic expertise (although of a very simple kind). However opinion among academic economists about ignoring the deficit is divided, and even if the clear majority supported the anti-austerity line the media’s default mode is to frame this as a two-sided debate. If academic economists are perceived to disagree, political commentators will fall back on household analogies.

Second, and perhaps more seriously, a large section of economists - mainly economists working in the City - would have been warning of an impending financial crisis if the deficit remained high. These are the bond vigilantes that are always just over the horizon. As one former economics editor said to me, bond economists never saw a fiscal tightening they didn't like.

In this situation, it could be politically fatal to try and argue that the deficit should only be dealt with when the recovery was assured. (Here an assured recovery is code for when interest rates start rising.) It is not only counterintuitive, but you would have lots of City economists saying that you are courting disaster. Every time that long term interest rates rose, they would pop up on the TV saying it was because of fears about the deficit. We do not have to imagine this, because it is what happened.

Finally, in Europe at least, there is a killer argument. The line that we should ignore the deficit would have been dealt a fatal blow by the Eurozone crisis. Those that had been warning of a financial crisis caused by the deficit pointed to Greece and said I told you so. The subsequent contagion was a result of decisions by the ECB, but again the media framed it as a result of excessive deficits in these countries. Even outside of the Eurozone, any politician that tried to say that a similar crisis could not happen here would have been treated by the media as completely out of touch.

In this situation it is not at all surprising that the left would adopt a degree of appeasement. Voters will be less worried if you say ‘I understand the concern about the deficit, and we are doing something about that’ than if you say ‘the concern about the deficit you are always hearing about is misplaced’. It is easy for someone who understands the macroeconomics to imagine the second line would have been tenable, but we are not in the business of getting votes.

To some extent you can see the proof in all this in the change in Labour’s rhetoric in the UK. They did go for stimulus rather than austerity when in government in 2009, even though the Conservatives opposed this. Before and after the election they labelled Osborne’s plans ‘too far, too fast’. Yet that line also failed to survive, so now Labour have committed to (try and?) reduce the deficit each year.

Some, like Robert Skidelsky for example, describe these movements, and a failure to extol the virtues of fiscal policy under Labour, as a mistake. However, I suspect that if Labour’s shadow Chancellor Ed Balls could ever speak the truth, he would say that he did not want to gradually acquiesce to the austerity line, but the evidence from focus groups was overwhelming. Defending Labour before the financial crisis was pointless because it just reminded people that the Great Recession happened under their watch, and that Labour (like everyone else) gave finance too free a hand. The ‘too far, too fast’ line just sounded feeble when the news was all about the Eurozone crisis. In the end, Labour just had to be ‘tough on the deficit’.

Of course this is speculation. We might also wonder if things would have been different if the press had not been relentless in emphasising the deficit. What if the Eurozone crisis had not happened? Questions like this are not just idle speculation. They help to answer whether countercyclical fiscal policy will ever be possible again. If, every time there is a large negative shock, the political right play the deficit card, then we are doomed to pro-cyclical policy and being stuck in a liquidity trap with ineffective monetary policy much too often. That suggests to me that we need to change the way monetary policy is done.