The Autumn Statement marks the return of austerity

One of the problems with instant responses is that you miss the big picture. And although everything I wrote immediately after the Autumn Statement was perfectly correct, I too failed to spell out the big picture. The big picture is that austerity has returned. (Credit to Rick for a much better call.)

Let me explain. Unlike some, I do not just define austerity as fiscal consolidation or government spending cuts. Instead I define it as fiscal consolidation that creates an output gap. That should normally only happen for three reasons:

1. you are part of a monetary union (or fixed rate regime) and the rest of the union is not doing fiscal consolidation (as much).
   
   
2. if interest rates are stuck at their lower bound.
   
   
3. If the monetary authority is incompetent.

I believe it makes sense to define austerity that way, because only then does fiscal consolidation lead to a waste of aggregate resources.

A competent central bankers’ tell (as in poker) for being at the zero lower bound is that they embark on new Quantitative Easing (QE). Central bankers know that interest rates are a much more reliable instrument than QE, so expanding QE tells us we are at the lower bound as they see it. We also know that fiscal expansion is a more reliable instrument than QE. So if central banks are doing QE, it pretty well follows that we have austerity.

Now Hammond could have changed that on Wednesday by announcing a significant fiscal stimulus relative to previous plans. He did not. The increase in public investment, as I said in my previous post and the IFS confirms, was small, as were his other measures. This, as Martin Sandbu points out (who, naturally, also called it right), was a huge missed opportunity. Don’t get misled by actually borrowing levels to judge changes in fiscal stance: most of the additional borrowing was unintentional.

As I have tried to explain on many occasions, the nature of policy pre-Brexit was different from policy in 2010 and 2011. The later was austerity as I like to define it. The former was bad in many ways, one of which was to run the risk of more austerity if we had a negative demand shock. Brexit was a negative demand shock, and so we now have austerity, and Hammond did far too little to rectify his predecessors mistake.

So why did Hammond keep his squeeze on the public sector’s current spending largely unchanged (again, see my previous post for the relevant chart)? Why not give some money to the NHS? Perhaps he too wants to pursue deficit deceit: to shrink the state. Another possible reason is that the Treasury has persuaded him that he should not ‘take any risks’ with public debt. Let me end by saying a bit about that.

Another definition of austerity beside the two already mentioned is an economic policy that focuses above all else on the need to reduce government debt levels. That is the sense of austerity being used in this BBC piece. Needless to say I very much side with Jonathan Portes rather than Michael McMahon on this. But many journalists are puzzled nevertheless: what about all that stuff about the world falling in if debt to GDP reached 90% of GDP? At what level do those who buy UK government debt start to worry about default? I will talk about that tomorrow.