Nominal wage rigidity in macro: an example of methodological failure

This post develops a point made by Bryan Caplan (HT MT). I have two stock complaints about the dominance of the microfoundations approach in macro. Neither imply that the microfoundations approach is ‘fundamentally flawed’ or should be abandoned: I still learn useful things from building DSGE models. My first complaint is that too many economists follow what I call the microfoundations purist position: if it cannot be microfounded, it should not be in your model. Perhaps a better way of putting it is that they only model what they can microfound, not what they see. This corresponds to a standard method of rejecting an innovative macro paper: the innovation is ‘ad hoc’.

My second complaint is that the microfoundations used by macroeconomists is so out of date. Behavioural economics just does not get a look in. A good and very important example comes from the reluctance of firms to cut nominal wages. There is overwhelming empirical evidence for this phenomenon (see for example here (HT Timothy Taylor) or the work of Jennifer Smith at Warwick). The behavioural reasons for this are explored in detail in this book by Truman Bewley, which Bryan Caplan discusses here. Both money illusion and the importance of workforce morale are now well accepted ideas in behavioural economics.

Yet debates among macroeconomists about whether and why wages are sticky go on. As this excellent example (I’ve been wanting to link to it for some time, just because of its quality) shows, they are not just debates between Keynesians and anti-Keynesians, so I do not think you can put this all down to some kind of ideological divide. I suspect nearly all economists are naturally reluctant to embrace cases where agents appear to miss opportunities for Pareto improvement - I give another example related to wage setting here. However in most other areas of the discipline overwhelming evidence is now able to trump these suspicions. But not, it seems, in macro.

While we can debate why this is at the level of general methodology, the importance of this particular example to current policy is huge. Many have argued that the failure of inflation to fall further in the recession is evidence that the output gap is not that large. As Paul Krugman in particular has repeatedly suggested, the reluctance of workers or firms to cut nominal wages may mean that inflation could be much more sticky at very low levels, so the current behaviour of inflation is not inconsistent with a large output gap. Work by the IMF supports this idea. Yet this is hardly a new discovery, so why is macro having to rediscover these basic empirical truths?

There may be an even more concrete example of the price paid for failing to allow for this non-linearity in wage behaviour. For all it inadequacies, the Eurozone Fiscal Compact does at least include a measure of the cyclically adjusted budget deficit among its many indicators that are meant to guide/proscribe fiscal policy. However, as Jeremie Cohen-Setton discusses here, the Commission now think they have been underestimating the output gap. As he suggests, the reason is pretty obvious: they have overestimated how much the natural rate of unemployment has risen in this recession. Here is the example he gives for Spain.

Actual unemployment and European Commission estimates of the NAWRU for Spain, from European Commission, 2013 spring forecast exercise. Source Jeremie Cohen-Setton

How could the Commission have been so foolish as to believe the natural rate had risen from 10% to 27% in a few years? Might it be because they looked at nominal wages in Spain, and inferred from the fact that nominal wages were not falling that therefore actual unemployment must be close to its natural rate? If empirical macromodels as a matter of course allowed for the absence of nominal wage cuts, would they have made such an obvious (to anyone who is not a macroeconomist) mistake?

I think this example illustrates why it can be dangerous to rely on DSGE models to guide policy. Yet the influence of DSGE models in policy making institutions is strong and growing. The Bank of England’s core forecasting model (pdf) is a fairly basic DSGE construct, and as far as I can see its wage equation is a standard New Keynesian specification, with no non-linearity when wage inflation approaches zero. Now I know the Bank have many other models they look at, and they will undoubtedly have looked at the implications of a reluctance to cut nominal wages. (I discuss the Bank’s ‘new’ model in more detail here.). However default positions are important, as the examples I discussed earlier show. Focusing on models where consistency with fairly simplistic microfoundations is all important, and consistency with empirical evidence is less of a concern, can distort the way macroeconomists think.   

Why I am obsessed by austerity

Chris Giles of the FT says about the austerity debate:

“What is important is that all this gnashing of teeth is beside the point. The numbers are small. For example, let us have faith in Profs Jordà and Taylor’s estimate for a moment. Output is 18 per cent below the 1997-2008 trend, so the effect found by these academics represents a sixth of the total. Is 3 per cent still not large? No.” 

This is right in one sense, but wrong in four. If the aim is to explain why UK output is so far below trend, then looking at fiscal policy is not going to get us very far. We need to look elsewhere: maybe at why consumers are saving so much more than they used to, or why UK productivity has fallen so far. Yet, although I have written posts about these things, I have written much more about fiscal policy. Why?

The first reason Chris Giles is wrong is that 3% of GDP, or whatever it is, is an awful lot of money and resources. In my post on the Jorda and Taylor estimates I put the total cost of austerity from 2011-13 (roughly 1% of GDP in 2011, 2% in 2012 and 3% in 2013) at £3,500 per household.  I would not call that unimportant. Think of all the hospitals and schools that could be built with 6% of annual GDP (nearly £100 billion).

Or instead, let’s take the more conservative estimates recently provided by the OBR in the nice chart below. Jonathan Portes has already discussed the paper from which this comes, so let me just explain the colours and dig out the numbers. This looks at the impact of discretionary fiscal policy (changes the Chancellor actually makes) in successive years. The blue bar in 2009/10 shows the expansionary impact of the Labour government’s attempts to moderate the recession, which had a continuing positive impact (according to the OBR’s calculations) in subsequent years. But in 2010/11 this was outweighed by fiscal tightening in that year (light brown), some of which was already planned by Labour, but which the coalition added to. And so on. So if you add the light brown, green, red and yellow areas, you get the total impact of fiscal tightening on output from 2010-13, which is a bit above 5% of GDP. Not as high as 6%, but still an awful lot of money. And the cost goes on, as the chart shows. Now is not the time to get into detail about how these numbers are estimated. In particular, they are ‘expectations naive’, in that they assume policy has no impact when it is announced, but only when it happens. But however you estimate the numbers, any reasonable evidence based estimate is going to have the same order of magnitude – it is always going to be a huge economic cost. And that is not counting additional costs, in terms of the distribution of income, or the lasting damage of long term unemployment, or health.

The second point is that this was something where the government had a choice. Most of the time GDP changes for reasons that governments have very little control over, except perhaps in the longer term. If GDP is low because banks, firms and consumers are adjusting their balance sheets, there is very little the government can do to stop them. (Monetary policy can try to discourage them making this adjustment too quickly, but as we know, interest rates cannot go below zero.) But discretionary fiscal policy is, by definition, directly under the government’s control.

Which brings me to the third reason why Chris Giles is wrong. The baseline here should not be ‘doing nothing’. There is nothing that says the best the government could have done was to be fiscally neutral in terms of GDP impact. As we can see, in 2009/10 we had fiscal stimulus, and this could have continued. Now of course there is a debate about how far fiscal stimulus could have gone: would the impact on inflation have been too great, or would the financial markets have panicked in a way that would have been harmful to the economy. But 6%, or 5%, is just the positive harm that government policy has done – it might have instead done some positive good.

The fourth reason why I, and maybe others, might be a little obsessed about austerity is that governments, and regretfully a few economists, have tried to deny that austerity has had any impact at all. The public debate has often been about the sign of these effects rather than their size. When governments appear to ignore or contradict the bread and butter macro that academic economists teach their students, then I believe these academics have every right (and indeed a duty) to get a little hot under the collar.

This is the other reason that I wanted to display this chart. In the past, both the Prime Minister and the Chancellor have been the first to quote the numbers crunched by the OBR when it suited them. So let them be consistent and honest. Why not say that the OBR estimate that their fiscal actions have kept GDP well over 1% lower than it might have been each year since 2011, and that this will continue, but that this is worth it because it prevented a debt crisis (or whatever). And if they will not do that, why cannot journalists quote these OBR numbers when discussing the merits or otherwise of austerity. Then let the people decide whether these numbers really are as small as Chris Giles suggests.   

Bank deleveraging and productivity

Ken Rogoff’s FT article, and my and Paul Krugman’s comments on it, have generated an interesting set of additional posts, which I hope to discuss further. However before doing so I want to look forward to the kind of recovery the UK might experience.

As the UK recovery appears to gather pace, the crucial variable to watch is labour productivity. I have talked about the UK productivity puzzle a number of times. The data suggests that productivity has declined with output, yet there is little evidence of labour hoarding. (For a range of views on the UK productivity puzzle, see this post from Bruegel. On US/UK comparisons, see also Karl Smith here.) The worry is therefore that as the recovery in demand gets going, demand starts to exceed supply, and we get inflation. This in turn will lead the Bank of England to raise interest rates, and the recovery will be short lived.

The alternative scenario is that as demand picks up, so does productivity, and inflation remains subdued. MPC member Ben Broadbent, in an interesting discussion, suggests that this uncertainty over how productivity will behave provides a clear justification for the Bank’s forward guidance. If productivity does pick up with the recovery, unemployment will remain above the Bank’s 7% threshold, and it will be clear that interest rates will not rise, even if output is growing rapidly.

If this does happen, there are two ‘off the shelf’ explanations. The first is that there really has been substantial labour hoarding, despite what the surveys tell us. The second is that the decline in labour productivity is all about factor substitution: weak real wage growth generated by unemployment and an unusually flexible labour market has led firms to substitute labour for capital. If real wage growth resumes as the economy recovers, this process will go into reverse, and labour productivity will catch up its lost ground.

Ben Broadbent remains unconvinced that either story provides anything like a full explanation of the UK’s productivity puzzle. (If you want to know why, read the technical appendix to his speech.) So what unconventional story could we tell? The obvious place to look is where macroeconomics is weak, and where the recession was unusual, which is the influence of finance. The idea that Broadbent explores is that productivity growth depends on the reallocation of resources from low to high productivity activities, and that the availability of finance is important in facilitating this. If, because of continuing problems with UK banks, this finance is not forthcoming, productivity growth will slow. The innovative start-up will not get the finance it needs, while the inefficient existing firm will be allowed to hobble on, perhaps because the bank does not want to write off their loans.

The trouble with this explanation is that it is very difficult to find evidence beyond the anecdotal that will either back it up or disprove it. One interesting finding that Broadbent presents is contained in the chart below. It plots the variance of real prices, across 29 sectors of the economy, compared with their pre-crisis trends. The large increase in variance since the crisis (particularly compared to the recession of 1992) might indicate that resources have not been flowing to high profitability/productivity areas, leading to a reduction in aggregate productivity. If this variance was entirely due to differences in demand across sectors, Broadbent calculates this price dispersion could be consistent with an aggregate productivity loss of 3-4%. Broadbent presents two other pieces of evidence. First, there has been a surprisingly low level of firm exits in this recession. (See, for example, Tim Harford here.) Second, investment does not seem to have been as responsive to changes in profitability at the firm or industry level in the UK since the recession compared to either pre-recession periods, or post-recession in the US.

The potential importance of finance in influencing supply is highlighted in a recent study of UK exporters. Holger Görg and Marina-Eliza Spaliara look at UK firms that exited from export markets during the Global Crisis. Their evidence points to the importance of financial factors. Firms that exited were more heavily indebted, less liquid, and faced higher firm-specific interest rates. This might help explain why the impact of the large real depreciation in sterling in 2008 on aggregate net exports has so far been disappointing. In addition, firms that are unable to expand into new markets because they cannot get the finance to pay for the associated set-up costs will also fail to benefit from any economies of scale that expansion could have brought, and again productivity will suffer.

If you buy this finance based explanation for at least some of the UK productivity puzzle, then an unresolved question is what this implies for productivity as the recovery progresses. There are two reasons for thinking that these negative effects will not be permanent, aside from the general implausibility of such a large permanent negative hit to supply. First, once banks balance sheets have been restored, normal patterns of lending should resume, and new innovative firms will get their chance. (In addition some existing firms may be able to use cumulated profits to bypass the banking sector and self-finance productivity enhancing expansion.) Second, bank behaviour may also be endogenous: what looks to banks too risky when the economy is flat looks much less so when the recovery is underway.

It is this kind of thinking that has encouraged innovations like the Bank of England’s Funding for Lending scheme. Unfortunately the more recent Help to Buy scheme could actually be unhelpful in this respect. If it diverts any new bank lending from firms to households, it may reduce the speed at which credit rationing of firms is reduced, which may in turn reduce the speed at which UK productivity recovers. But Help to Buy was always about winning elections rather than building a sustainable recovery.   

Ken Rogoff on UK austerity

Ken Rogoff’s article in the FT today is a welcome return to sanity in the austerity debate. None of the nonsense about opponents of austerity believing growth would never return, or that austerity would have no impact on output. Instead Rogoff focuses on what was always the critical debate: was austerity necessary because financial markets might have stopped buying government debt. (See this post on the many justifications for austerity.)

As critical pieces go, you couldn’t have a friendlier one than this. First, Rogoff agrees that it was a mistake to cut back on public sector investment. He writes “Such projects, if done at a reasonable cost, pay for themselves. Governments should have done more ...”. He says that austerity critics “have some very solid points on their side”. When discussing key arguments, his comment after putting the austerity critics’ case is “perhaps” or “maybe”. In that sense this is a reasoned argument rather than a piece of advocacy.

The argument here is all about insurance. The financial markets are unpredictable beasts, and who knows what they might have done if – in particular – the Euro had collapsed. As Rogoff acknowledges, they might have run for cover into UK government debt, but I also agree that they might have done the opposite. His article is all about saying the UK is not immune from the possibility of a debt crisis, so we needed to take out insurance against that possibility, and that insurance was austerity.

In spirit of Rogoff’s article, I want to acknowledge a couple of points. First, it is clearly too easy to argue that the Euro did not collapse, or that the UK had no problem funding its debt (quite the opposite), and so precautionary austerity was unnecessary. You have to look at the risks ex ante, and not at what happened ex post. Second, it would also be dangerous to argue that somehow UK history meant we were immune from these risks. Others more knowledgeable can argue over the extent to which the UK government has defaulted in the past, but they should never lead us to assume that the UK is immune from a market panic.

So let us agree that it was possible to imagine, particularly in 2010, that the markets might stop buying UK government debt. What does not follow is that austerity was an appropriate insurance policy. No one sensible disagrees that the government needed to have a credible long term plan for debt sustainability, and I personally have argued that a good plan should involve reducing net debt very gradually to levels below those observed before the recession. I hope Rogoff would agree that in the absence of any risk coming from the financial markets, it is optimal to delay fiscal tightening until the recovery is almost complete. The academic literature is clear that, in the absence of default risk, debt adjustment should be very gradual, and that fiscal policy should not be pro-cyclical. So the insurance policy involves departing from this wisdom. This has a clear cost in terms of lost output, but an alleged potential benefit in reducing the chances of a debt crisis.

Seen in this light, the first point to note is that – unlike most insurance – the benefits are partial and ill-defined. Austerity might make the markets less likely to turn on you, but it clearly does not guarantee that they will not. It is also quite reasonable to suggest that – to the extent austerity delays the recovery – it might make markets more rather than less worried about long term debt sustainability. So this is an insurance policy with a large cost, and a very unclear benefit.

What the Rogoff piece does not address at all is that the UK already has an insurance policy, and it is called Quantitative Easing (QE). QE means that the monetary authority is committed to keeping long term interest rates low, so they will buy any government debt that cannot be sold to the financial markets. Rogoff says that, if the markets suddenly forsook UK government debt “UK leaders would have been forced to close massive budget deficits almost overnight.” With your own central bank this is not the case – you can print money instead.

Now pretty well everyone agrees that printing money to cover unsustainable budget deficits is inflationary. But that is not what we are talking about here. We are talking about a government with a long term feasible plan for debt sustainability, faced with an irrational market panic. In those circumstances, printing money will be purely temporary, for as long as the panic lasts. As it is taking place in the depth of a recession, it will not be inflationary. So, as I argued long ago, Quantitative Easing is our insurance policy against a debt crisis. We never needed the much more costly, far inferior and potentially dubious additional insurance policy of austerity.

  

Japan’s consumption tax: a test of modern macro?

Japan’s Prime Minister Shinzo Abe has decided to go ahead with an increase in consumption taxes from 5% to 8% in April 2014, with a further increase to 10% planned for later. Will this be the first step to reducing the very high level of government debt in Japan (in net or gross terms, the highest in the developed world), or will it derail the recovery? In many ways the answer depends on whether you like your macro state of the art, or more antique.

Consider the antique first. Raising the consumption tax takes real purchasing power out of Japanese consumers’ pockets. It is a straightforward fiscal contraction, on a very large scale: the last thing you need when we only have the first signs of a recovery. Now in theory this fiscal contraction could be offset by monetary expansion, but can monetary expansion really be strong enough to offset a fiscal contraction of that size? Some macro antiques were always rather suspicious about the potency of monetary relative to fiscal policy anyway, but in a liquidity trap those suspicions become certainties. Even if the central bank does succeed in reducing real interest rates by raising inflation, is that going to be more powerful than the cut in real incomes that this higher inflation brings?

So why might modern macro be less pessimistic about the impact of the consumption tax increase? For one thing it might be more optimistic about the potency of monetary policy, particularly in an open economy. If the central bank is really committed to bringing about a recovery come what may then it may be prepared to see inflation go well above 2%. But I would suggest the more important difference lies with the fiscal impact of the tax increase. Modern macro could bring two arguments to the table.

The first is Ricardian Equivalence. The consumption tax increase has been planned for some time, so consumers will have already factored in its impact into their consumption decisions. Even if they had wondered if the tax increase might be postponed, some taxes will have to rise at some point. So if all the Prime Minister has done is confirm that tax increases are going to come sooner rather than later, the logic behind Ricardian Equivalence will mean that the impact on consumer spending will be second order.

The second involves the incentive effect of higher sales taxes, which I discussed recently. If monetary policy does not try and offset the impact that higher sales taxes will have on inflation, then anticipation of the tax could lead consumers to bring forward some consumption. What this really involves is fiscal policy mimicking monetary policy. Or to put it another way, if you were doubtful that monetary policy through Quantitative Easing could raise inflation, here is a surer way to achieve the same thing.

The common theme here is the importance that modern macro places on expectations of a fairly rational kind. Yet even if you are happy to go along with this, there is an important proviso that does not get emphasised enough. How did consumers know that the budget deficit would be reduced by raising taxes rather than cutting spending? If they had expected the deficit to be reduced by lower government spending, they will not have expected a fall in their post-tax real income. For these consumers the Prime Minister’s announcement will come as a surprise, and they will reduce their consumption as a result.

This argument is completely consistent with consumers being rational and forward looking, as I emphasise here. All the behavioural assumptions required for Ricardian Equivalence can still be there. What Ricardian Equivalence implicitly does is hold the path of future government spending fixed, but that is an artificial assumption which cannot be true in practice, if only because of political uncertainty. (The argument applies more generally to the small amount of modelling that has attempted to demonstrate ‘expansionary austerity’.)

So we can summarise as follows. If consumption remains on average unperturbed by the sales tax increase (perhaps showing a positive spike before April 2014 which is only partially offset by falls thereafter), then modern macro can pat itself on the back. On the other hand if consumption does take a significant hit, modern macro has an escape clause. Let us hope it does not need it.

Tim Harford’s new book on macroeconomics

Let me first deal with a potential conflict of interest. Tim has a wide twitter following, and quite often tweets a reference to my blog posts. This might lay me open to the charge that I would be inclined to favourably review his new book to return this favour. Actually it has the opposite implication. The fact that he finds my blog interesting simply shows he appreciates good macroeconomics, which is just as well for someone who has just written a book about the subject. What it does mean is that if I had found anything in his book which I had clearly shown to be fallacious in one of my posts, I would be doubly disappointed.

A difficult hurdle to pass, that. I suspect the only person who could write a book that agreed with everything in your blog is yourself, and even you might find that difficult

Ah, that reminds me of the second thing I should say at the start. The book employs the dialogue format that Tim uses in his FT columns so well. This is more unusual in a book and might potentially bother some, although most of the time it is used much more sparingly than in the columns. Otherwise it is written in just the same style that makes his other books so readable.

Yes, but microeconomics and the other subjects he has written about before are potentially interesting. This book is all about macroeconomics: yawn, yawn.

Indeed. Up until now it was unclear whether it was possible to write a general explanatory (rather than specifically topical) book on macro that did not have the eyelids dropping after a few chapters, or which began to stretch the reader quite quickly. Given Tim’s ability to write about economics in an engaging way, with this book he could settle the matter one way or another. Now in one sense I’m probably not the best judge, given my prior knowledge, but it seems to me Tim has pulled it off.

Oh come on. How can you make understanding Keynesian economics enjoyable?

With a mixture of stories about economists of the past, and lots of useful analogies and examples. So, not surprisingly, Bill Phillips and his machine play a major role, as do shortages of ‘money’ in baby sitting circles and Iphones when discussing price stickiness. Some I knew about, but others (like Henry Ford’s application of efficiency wages) I had forgotten about.

But I bet it is highly selective in the stuff it covers. All the juicy topical issues, but nothing on RBC models or how you measure GDP.

Actually no. Chapter 11 is all about measuring GDP, and it beats most treatments you will find in the textbooks hands down. The Lucas critique, and how that changed the way macroeconomists use evidence, is there. The importance of commitment is illustrated with quotes from the film Dr. Strangelove. That allows him to cover not just how commitment can help, but also when it goes wrong. Let me quote: “That is the problem with commitment devices: if something goes unexpected wrong and a crisis happens anyway, the commitment device guarantees that it will escalate into Armageddon. Unfortunately we have an important parallel in economics: it is called the Eurozone.”

Hmm, very amusing, but hardly the neutral account you might find in a textbook.

Which means Tim is not afraid to occasionally call it how he sees it. For example you will find the equivalent of the standard discussion of the optimal rate of inflation early on, but Tim makes it pretty clear he thinks raising inflation targets above 2% would be a good idea. You will also not find any equations in this book, but it does cover much of the same ground as a textbook. 

So it is like a readable and amusing textbook without the maths

Is that so surprising? Tim wants to discuss the material that will enable readers to understand the big macro issues of the day, and I’ve always argued that textbook macro does a pretty good job of doing that (although with a few obvious gaps). But you will also find some things here that would not normally be in a macro textbook. There is a chapter of management, for example, drawing on the work of Bloom, van Reenen and others. There is a chapter on happiness, and one on inequality. Finally Tim has the advantage of not being part of the macro tribe, which he argues has become far too insular and narrow in the last forty years. So he can maintain a healthy critical perspective. Here is one example. “Robert Shiller told me that while the microeconomists would show up to argue when he gave seminars on behavioural finance, the macroeconomists just haven’t showed up at all.”

Which means macroeconomists will not be adopting this book as their set text then!

That is not the market he is aiming for. It is ideal for the interested non-economist who wants to understand something of macroeconomics in an easy and enjoyable way. However I also think it is a great supplement to the textbooks for students. All too often, students reading textbooks focus on the formalism, and fail to understand the key concepts, or relate them to the real world. Tim’s book is an excellent antidote to that. And last but not least, it provides a wealth of material  for academics to make those lectures much more fun for students.

So it’s both thumbs up from you then

Absolutely, although I’m still not sure about that dialogue style.

Austerity, growth and being economical with the truth

OK, I know that those more seasoned in trying to present simple economic ideas in a politicised environment know this happens all the time. And damn it I knew it was going to happen too, as I clearly predicted in one of my early posts. But still, despite my attempts to mock, the argument that positive growth proves critics of austerity wrong continues to annoy me. So here is my attempt to say why it bothers me so much, but after this post I really will try to move on.

Just in case you have not been convinced by my earlier posts of just how ludicrous this argument is, think about this. US growth became significantly positive at the end of 2009, and has remained so in nearly every quarter since then. So if positive growth proves critics of austerity are wrong, then the austerity debate in the US would be well and truly dead by now.  Those that refused to admit this would be completely ignored. Yet the opposite is true.

So the amazing thing is how the idea that the emergence of growth after years of stagnation proves austerity was just fine could gain a moments traction. Do not get me wrong. There are some arguments in favour of austerity that should be seriously debated. But this is not one of them. Instead the argument is just silly. So how can people get away with making it?

The first point to make is that although the argument is obviously silly to anyone with a modicum of macroeconomic knowledge, to interested people without that knowledge, but who get to listen to (or even interview) people like George Osborne, it is not immediately obvious. It becomes pretty obvious once it is explained (my example of deliberately shutting down part of the economy was designed with that in mind), but you need to be exposed to someone who can explain that. So, for those just interested in scoring political points, there is a temptation to make the argument if they think they can get away with it.

However I do not think that excuses George Osborne, or European politicians who have done the same for the Eurozone. We may pretend to believe that all politicians lie through their teeth all the time, but actually we do expect people like the UK or German finance ministers to avoid talking economic nonsense. At the very least we expect their civil servants to stop them saying things that are nonsense. Well not this time.

But there are limits to what politicians can get away with.  The interesting question is what those limits are, and what governs those limits.

Sometimes politicians can get away with bad arguments because they are based on half truths. The example that comes to mind is the idea that current austerity is required because of fiscal profligacy on the part of the past Labour government. While that myth annoys me because (a) it is used to support a damaging policy, and (b) because having crunched the numbers I know it’s untrue, the existence of the myth does not surprise me in the same way. As I have said before, the half truth here is that Gordon Brown was a little imprudent by being overoptimistic about tax receipts. Furthermore, if he had known in advance that the global financial sector was going to blow up he would have been much more cautious before that happened, so any data that is by construction wise after the event will suggest he was not cautious enough. This all means that for those who want to mislead there is the seed corn with which to grow this myth.

Nothing like this is true for the ‘growth proves austerity right’ idea. Instead it is an example of completely misrepresenting the argument of your opponent. The overwhelming majority (maybe all) of the economists who criticised austerity said that fiscal contraction would reduce the level of output in the short run. They may also have been concerned that this short run deflation might have negative longer term consequences. The deception is to morph that into ‘critics of austerity said that the economy would never grow again as long as austerity lasted’. Now I’m sure you could find some person (call them X) who was foolish enough to say the economy would never grow while austerity lasted. But everyone knows that Paul Krugman, or Brad DeLong, or Jonathan Portes are not X. Yet those making the ‘growth proves austerity right’ argument deliberately talk as if all critics of austerity were like X. It is a deliberate deception. It must be particularly galling for Martin Wolf to find his own newspaper doing this to him.

Economists whose job involves communicating with others, and media organisations that purport to have some economic expertise, have I believe the equivalent of a duty of care. It is their job to make sure people are not misled by arguments that they know are obviously wrong. What makes me cross is seeing some who choose not to exercise this duty of care.

Let me use an analogy. You are a science reporter for a newspaper, or even a reporter working for a magazine like the New Scientist or Scientific American. You have to comment on a politician who claims that because it snowed a lot this winter, climate change is clearly rubbish. What you would do in those circumstances is patiently explain why the politician was talking nonsense, discussing trends and noise and the like. You would not say as a prelude that the politician ‘makes a serious case’. You would certainly not write a leader in your paper saying the politician was absolutely right!

Just imagine it. A leader in the New Scientist or Scientific American saying that politicians have won the climate change argument because of recent heavy snow. So why is that idea inconceivable, but a leader in the Financial Times saying that recent UK growth proves critics of austerity are wrong goes without comment? It has nothing to do with economists being divided about the wisdom of austerity: as I said, there are arguments on austerity that should be debated, but this is not one of them. It cannot be because austerity is so politicised, because climate change is also highly politicised. It cannot be excused by saying that leaders are just opinions: you do not expect opinions in serious newspapers to be based on deliberate misrepresentation. So what is going on here? Would anyone from the FT care to comment?