The Power of Austerity over Politicians

In an earlier post, I reported some speculation by Coen Teulings on why politicians seem to ignore the majority of economists when it comes to austerity. (On the minority of economists that do support austerity, see here.) Mark Thoma responded that it was because austerity gave politicians the chance to pursue ideological goals, and of course he is right for some. I had made the same point on my ‘final verdict’ on the UK Chancellor George Osborne, and the motivations of the many on the right in the US and Europe are even more transparent. Yet that original post began with a discussion of the Netherlands, where there appeared to be a political consensus in favour of austerity. Even where the strong austerity proposed by the right is opposed by the left, in both the UK and US for example, the opposition could be fairly described as tepid. Paul Krugman and others have often lamented the amount that Obama seems prepared to give in trying to compromise with Republicans, and the left in the UK hardly presents a united front on the issue. Borrowing continues to be something to avoid discussing in public.

So I think there is more to this than just an excuse for some to whittle down the size of the state. Or to put it another way, we need to explain the weakness of the opposition to austerity from those who do not have this ideological goal. This is not to underestimate the influence that those with an ulterior motive and lots of money can have. I used to think that the idea that the Great Depression was a liquidity trap that expansionary fiscal policy rescued us from was received wisdom both among economists and politicians. But I should have known better from my own experience. Duncan Weldon reminds us of how the disaster that was Margaret Thatcher’s adoption of monetarism in the early 1980s has been turned into a myth of her triumph over those foolish economists.

Politicians can be misled, or can allow themselves to be misled. It is natural for academic economists to focus on the dissention within their own ranks, either in the form of influential papers that were enthusiastically received by politicians eager to believe in expansionary austerity, or economists who appeared to leave their academic selves behind them when discussing this issue. And I guess if all economists could form a united front, with everyone singing the same tune, that might begin to alter political attitudes. But this is a pipe dream, and even the smallest deviation from unanimity allows a media that craves division to portray the profession as ‘divided’.

I also agree with Henry Farrell and Mark Blyth (the former reviewing the latter’s new book ‘Austerity: The History of a Dangerous Idea’ here) that its wrong to try and find a motive for everything in terms of interests groups. Ideas have a power of their own. But for ideas to have power they need to resonate. Let me try this out as to why austerity resonates with politicians even when there is no hidden agenda.

I start with human nature, and the constant debate within ourselves between current consumption and future wellbeing through saving. What for economics is just an intertemporal optimisation problem is for most people often a battle of wills between our schizophrenic selves. In this battle, spending now is often the temptation of the devil, and saving is the virtue. Now for politicians this becomes a battle over whether to succumb to deficit bias. Promising tax cuts or spending increases without spelling out the implications in terms of paying for any additional borrowing is what politicians do more often than not. 

Most of the time they can get away with it, but I suspect they either feel guilty about the implicit deception, or fear they will be found out. So when the market starts to punish fiscal profligacy, it is as if a parent has discovered the child’s guilty secret. (The market is seen by many as a mysterious deity.) The politician wants to repent (or at least be seen to repent), and atone for past sins. After eating too many pastries, we go on a crash diet. After deficit bias, we have austerity.

More cynically, when the market focuses on debt sustainability, it is much harder to pretend that tax or spending decisions financed by borrowing do not involve intertemporal trade-offs. Deficit bias becomes much more difficult, so political fortunes will be maximised by taking the path of apparent virtue. The electorate, many of whom are recovering from over indulging themselves, will empathise with political 'self restraint' and reward apparent virtue.

So here are we Keynesians, telling politicians that they don’t need to go on that diet just yet - they can put it off until times are good. Indeed, now is just the time to eat more pastries - it will make you feel better, they are very cheap at the moment, and you might even lose weight in the long run! It sounds too good to be true, and just the kind of tale the devil might spin. Give in, and the all seeing parent/god that is the market will find you out again. So the politician ignores these siren voices, and buckles down to austerity.

The 2013 Budget and UK Monetary Policy

The Budget yesterday included an important update to the remit of the Bank of England’s Monetary Policy Committee (MPC). Depending on who you listen to, this is either an important change that could offer a considerable additional stimulus to the UK economy, or a major disappointment. So which is it?

The document reaffirms flexible inflation targeting, and rejects alternatives such as nominal GDP targets. However the Treasury wants to make it clear to the MPC just how flexible it can be. It can, for example, ‘see through’ (i.e. ignore) any short term increase in inflation for a lot longer than the two years that has so far been part of the MPC’s mantra. It can create ‘intermediate thresholds’ as part of forward guidance. In short, it believes flexible inflation targeting is quite compatible with the MPC doing what the US Fed is currently doing. [1]

I think Britmouse has it exactly right when he writes:

“I see nothing at all in the new remit text which compels the MPC to do anything different to current policy.  It is all about judgement.  Neither did the old remit prevent the MPC from giving forward guidance if they so desired.”

To see why this is important, read the minutes just released of the last MPC meeting, where the committee voted 6 to 3 not to undertake any further Quantitative Easing. In para 27 it sets out the arguments for providing more stimulus, which include:

“inflation expectations were relatively stable; wage growth remained weak; there remained a degree of slack in the economy; and the potentially positive response of supply capacity to increased demand meant that higher output growth would not necessarily lead to any material increase in inflationary pressure”

Which all sounds pretty compelling. But then the next paragraph sets out the reasons for doing nothing, which basically boil down to

“Inflation was above the 2% target and was likely to stay above it for an extended period, and there was a risk that could lead to inflation expectations drifting upwards with adverse consequences for wage and price setting behaviour. Further monetary stimulus might increase that risk. It might also lead to an unwarranted depreciation of sterling if it were misinterpreted as a lack of commitment to maintaining low inflation in the medium term”

In other words, any attempt to use the very flexibility that the Treasury emphasises the MPC has risks a loss in the credibility of the medium term inflation target. So 6 of the 9 member committee decided it was best not take take that risk. I cannot see anything in the new guidance issued by the Treasury yesterday that would have influenced any of the 6 who voted to do nothing to change their minds.

Now I guess the Treasury is hoping that the new governor will persuade some on the committee to vote the other way (although note that the current governor was one of the minority who voted for additional stimulus). But surely the key question is why they need persuading in the first place. Why are possible risks to the credibility of the medium term inflation target allowed to outweigh the current almost 100% certainty that we have chronic demand deficiency which no one else is going to do anything to change. Perhaps a remit that places medium term inflation stability at its core, and says nothing about eliminating demand deficiency, might just have something to do with it. 

[1] In addition, it also believes that flexible inflation targeting allows the MPC to consider deviating from the inflation target if there is a “development of imbalances that the FPC may judge to represent a potential risk to financial stability”.

The Unlikely Friends of Austerity

Sometimes economists who support austerity have clear ideological or political motives. However I often come across economists who do not have these motives, and yet are deeply suspicious of the idea of Keynesian stimulus. In other words, they are economists who are quite happy to acknowledge market failure, and embrace the idea that governments have an important role in helping to correct that failure, and yet they are unhappy with what Jeffrey Sachs calls ‘crude Keynesianism’. (For a detailed critique of this Jeffrey Sachs piece, see this post from Mark Thoma.)

Where does this suspicion come from? Often there seems to be a view that the austerity/stimulus debate is a distraction from focusing on more important, longer term problems. Oddly this view is asymmetric: I do not think anti-austerity economists deny that there are also important longer term problems. I also think longer term issues are more difficult to fix at times of austerity, so in that sense the short and long term solutions are complements, not substitutes. There is the notion that some have that we need a crisis to get things done, but perpetuating and mis-diagnosing the crisis is precisely what those who want to use debt scare stories to reduce the size of the state are trying to do.

A particular and important example is a concern about high or rising government debt. Government debt is almost always a long term problem, whereas deficient demand should just be a short term problem. As regular readers of this blog will know, my current views about the (un)desirability of government debt in the long run are quite radical, but I have no problem combining this with a belief that in certain circumstances fiscal policy should be used to stimulate (or in the Eurozone, also cool down) the economy. [1]

There is an understandable concern about debt and markets. That concern should not be dismissed lightly. I remember being asked by economists working for the UK government in 2009 just how far can we let debt rise before markets panic? I knew that my answer, which was that in a balance sheet recession there was a higher demand for government debt (particular when it was accompanied by a flight to safety), was based on a solid macro model. But though I thought the chances of my being wrong were small, I also knew the costs of my being wrong could be very high, which should make anyone cautious. Now I am much more confident, because events have vindicated the model. [2] However I recognise that some people are hyper risk averse, or believe markets are totally fickle, which is partly why I have always stressed that fiscal expansion can be done without issuing more debt. So if this is your real concern, become an advocate for balanced budget fiscal expansion or other, more innovative, changes in the fiscal mix.

I suspect an equally important reason why economists are sometimes unenthusiastic about fiscal stimulus is that they have been trained to misread the problem we are currently dealing with. This is not just the idea that monetary policy rather than fiscal policy is the stabilisation tool of choice. More fundamentally, it is the line promoted - consciously or unconsciously - in almost every textbook that economic downturns are ultimately self correcting. We have a business cycle because prices are sticky, but eventually prices are flexible, so we are bound to get back to full employment once prices adjust (which cannot be that long).

The best thing to say about this message is that it is incomplete. It should say that what gets us back to full employment is monetary policy. Having an appropriate monetary policy is a necessary condition for returning to full employment. A monetary policy that, for example, kept real interest rates constant would not get us back to full employment following a permanent negative shift in aggregate demand. The moment you understand this, the seriousness of the zero lower bound coupled with inflation targets (which put a lid on inflation expectations) becomes apparent. We are not dealing with a normal recession that will end pretty soon, we are dealing with something that could last much longer.

So for someone like me, what I see at the moment is very simple. We have demand deficiency, and the normal means of correcting it is broken. We luckily have a backup system, but the levers of that system are being pushed in the wrong direction. What is worse, this backup system is not some mysterious or controversial mechanism - it is what we teach to students day in and day out. So to push the levers in the wrong direction just makes a mockery of macroeconomics.


[1] There is a concern about transition and persistence. That fiscal expansion today will be politically difficult to undo, and so will increase the longer term political challenge. I think that is one good reason for focusing on government spending rather than tax cuts or transfers, and more specifically on government investment, in any stimulus package. There are of course other good reasons for doing this.

[2] And because we have Quantitative Easing.

Causing recessions

If a car driver falls asleep at the wheel of his car, do we say they caused the accident that follows? Of course we do: it would be absurd to say otherwise. We take it as given that it is the driver’s responsibility to keep control of the car.

Now imagine that the Fed or the MPC had kept interest rates at their pre-recession levels from 2008 onwards. Would we say that monetary policy had made the recession worse. Of course we would. We expect monetary policy to do everything it can to bring the recession to an end. That is exactly what Milton Friedman thought about the Great Depression.

Yet when it comes to fiscal policy, it seems people suddenly take a different view. Some ‘neutral’ path for government spending and taxes is defined, and only if they differ from these paths do we say fiscal policy made the recession worse. Has austerity reduced UK GDP by 2.5%, as the IMF suggest, or by 1.4%, as the OBR suggest? But this asks the wrong question. The right question is why has fiscal policy not been used to help end the recession. That is the question Keynes posed in the General Theory following the Great Depression.

The moment that monetary policy hit the zero lower bound, fiscal policy should have been used to first limit the size of the recession, and then bring the recession to an end. The former happened under the previous Labour government in the UK and Obama in the US, and it worked. My quarrel with what happened afterwards is not that fiscal policy was restrictive compared to some neutral path, but that it did not continue to do whatever was necessary to sustain the recovery. Quite simply, when monetary policy could no longer do the job, fiscal policy should have taken on the stabilisation role. [1]

I’m reminded of this point by Robert Chote’s letter to the Prime Minister. Stephanie Flanders says that “in the most important arguments with Labour - over the role of austerity in thwarting recovery, and the scope to boost growth in the short term with higher borrowing - the OBR is still on the coalition's side.” If you were to take from this statement that the OBR had sided with the government on the policy debate over austerity, then I think you would be dead wrong. 

Why do I think you would be dead wrong? Why I am pretty sure that the OBR have never said anything about ‘the scope to boost growth in the short term with higher borrowing’ in such an unqualified way? I can be pretty sure of this, because the OBR are not allow to examine alternative policies to those of the government. So they cannot take sides in the way suggested. [2] I know this because, when the OBR was set up, I argued strongly - with Treasury officials, the Treasury Select Committee and others - against this restriction on what the OBR can do. (The argument is set out here.)

While I disagree with this restricted OBR remit (which I hope will change in time), it does have a silver lining - it allows the OBR in its infancy to focus on the other things it has to do, and avoid getting sucked into a political debate. It is unfortunate that Stephanie Flanders in this post suggests the OBR is taking sides on policy when its mandate precludes it from doing so. [3]

Often the questions we ask are more revealing than the answers we give. Questions like “was it the Eurozone crisis rather than fiscal policy that really caused the UK double dip”, or “is the weak US recovery down to greater uncertainty or restrictive fiscal policy”, or “budgets were in surplus in Spain and Ireland before the recession so what more could they do” in my view miss the point, much as the statement “it was oil prices rather than monetary policy that caused 1970s inflation” would miss the point. Whatever shocks have caused weak demand in this recession, if monetary policy is constrained, fiscal policy should be trying to offset these shocks. [4] In these situations, the presumption should be that fiscal policy is countercyclical. If it is not, that is a failure of policy. The driver is falling asleep at the wheel.

[1] Inflation could well have been higher for a while as a result, but as I argued here for the UK, that would have been an acceptable cost.

[2] They can of course comment on the scope for additional borrowing while maintaining the government’s fiscal mandate, but that is quite a different thing.

[3] I hesitate to suggest that such a good journalist as Stephanie Flanders might have been misleading here, but I'd also hate to think she was only criticised from one side, and hopefully I'm being a little more polite. In addition,  when the government criticised her for not celebrating the slow growth in UK productivity, she was of course completely right and they were completely wrong.

[4] Of course I also understand that fiscal policy can be incapacitated just like monetary policy can be. If you cannot sell government debt, or interest rates on that debt are high and rising, then debt financed fiscal expansion is just not possible. But fiscal policy is potentially a lot more flexible than monetary policy: there is balanced budget fiscal expansion, or changing the tax mix to create intertemporal incentives. If monetary policy cannot do the job, fiscal action is second best, but it is a quite versatile second best.

The government and the OBR: why I was very pleased to be wrong

Yesterday, I commented on the Prime Minister’s ‘there is no alternative’ speech, which included the following:

“They [the OBR] are absolutely clear that the deficit reduction plan is not responsible [for depressed growth]. In fact, quite the opposite.”

I wrote this:

“So this statement deliberately misrepresents what the OBR has been saying, to imply that the OBR believes in expansionary austerity. But the Prime Minister knows that the OBR will let this misrepresentation of its views pass – which is a shame.”

I was wrong. Today the OBR published on its website a letter from its director Robert Chote to the PM. It is very polite: after reproducing the same part of the speech that I highlighted, it said

“For the avoidance of doubt, I think it is important to point out that every forecast published by the OBR since the June 2010 Budget has incorporated the widely held assumption that tax increases and spending cuts reduce economic growth in the short term.”

Actually, I think Robert had to do something like this. I wrote what I did because this was no isolated incident - no momentary piece of over enthusiasm by a speech writer. Just read the first part of the Chancellor’s autumn statement. He milks the ‘look the independent OBR agrees with us’ line all he can. In particular he says:

“One of the advantages of the creation of the OBR is that not only do we get independent forecasts, we also get an independent explanation of why the forecasts are as they are. If, for instance, lower growth was the result of the Government’s fiscal policy, they would say so. But they do not.”

Now the Chancellor was a little more careful. By saying lower growth rather than low growth, he could argue that he meant ‘lower than expected’ growth, rather than the actual growth number, even if this subtlety might have been lost on his audience. For that reason, I can imagine the OBR holding back from complaining at that time. But yesterday the Prime Minister went too far. Robert Chote needed to respond, and in doing so will have done the OBR no harm whatsoever.

When the OBR was established, I and others were concerned that its inevitably close relationship with the Treasury and other government departments (inevitable, because it produces the fiscal forecast) might lead some to question its independence. I was also concerned that its limited remit - it is not allowed to look at alternative policies - would mean that its reputation was too closely tied to its forecasts. And I knew that macro forecasting is a mugs game: as forecasts are only slightly more accurate than guess work, getting things right was largely down to luck. So its own fortunes could become too linked to the governments, which might mean it lost influence elsewhere and might not even survive a change of government. For just one example of this tendency, see this recent perceptive piece by Colin Talbot.

Given its restricted remit, the OBR has done what it can to make links with government as transparent as possible, and argued (convincingly in my view) that these contacts with government do not make it into a puppet of the government. Indeed, one could justifiably argue that the OBR has been pulling the government’s strings. While some have been critical of its forecasting methods, I think its actions have been perfectly defensible, as I argued here. I was however worried about the way the government was misusing the OBR’s analysis. With any luck, the OBR with its actions today has called time on that, and the government will be more careful in future.

In the onward march of fiscal councils, Robert’s letter is just one minor skirmish in one particular battle, but lets celebrate it none the less.

Looking for a Robust Defence of Austerity

So, driving home today, I was told by the BBC that the Prime Minister had just made a ‘robust’ defence of his government’s economic policies. One definition of robust (for an object) is ‘sturdy in construction.’ Well let us see, by looking at some of the sections discussing the fiscal strategy.

(1) “First, the deficit. This deficit didn’t suddenly appear purely as a result of the global financial crisis. It was driven by persistent, reckless and completely unaffordable government spending and borrowing over many years. By 2008, we already had a structural deficit of more than 7 per cent – the biggest in the G7.”

UK GDP fell by 1% in 2008. Here is OBR data on public sector net debt before the recession.

As I suggested here, it would have been better if the Labour government had sustained the reduction in debt they achieved in the early years. However this chart does not look like a “reckless and completely unaffordable” policy. But if the Prime Minister says it was, I guess he must have robust reasons for saying so. [a]

(2) “There are some people who think we don’t have to take all these tough decisions to deal with our debts. They say that our focus on deficit reduction is damaging growth. And what we need to do is to spend more and borrow more. It’s as if they think there’s some magic money tree. Well let me tell you a plain truth: there isn’t.”

People and companies borrow all the time. I do not think they believe in a “magic money tree”. People and firms borrow more when the cost of borrowing is very cheap – that is common sense. The government is trying to encourage individuals and firms to borrow more. So why is it good for the private sector to borrow more to invest in good projects when the cost of borrowing is cheap, but when the government does the same thing it involves believing in magic? Strange, but our Prime Minister says it is so, and he is saying it in a robust manner.

(3) “As the independent Office for Budget Responsibility has made clear……growth has been depressed by the financial crisis……the problems in the Eurozone……and a 60 per cent rise in oil prices between August 2010 and April 2011. They are absolutely clear that the deficit reduction plan is not responsible. In fact, quite the opposite.”

If this were true, then one would seriously wonder about the competence of the OBR. There has been much recent debate about the size of multipliers, but not the sign: greater austerity almost surely reduces growth. The theoretical plausibility and empirical evidence for expansionary austerity is practically zero: for more on the former see this short account by Campbell Leith of joint research with Eric Leeper and Huixin Bi recently published in the Economic Journal.

However, as far as I am aware, the OBR has never said that austerity has had no impact on growth. What they have talked about is why growth has been lower than they expected back in 2010. As they had austerity built in to their forecasts of 2010, then they have naturally looked elsewhere for events they were not expecting. [b] So this statement deliberately misrepresents what the OBR has been saying, to imply that the OBR believes in expansionary austerity. But the Prime Minister knows that the OBR will let this misrepresentation of its views pass – which is a shame. [Update - the OBR did not let this pass: see this subsequent post. ] I guess you can robustly misrepresent.

(4) “Last month’s downgrade was the starkest possible reminder of the debt problem we face. If we don’t deal with it……interest rates will rise, homes will be repossessed and businesses will go bust…”

Interest rates might rise if the markets thought that the UK government might default on its debt or if the UK was about to enter an inflationary spiral, but there is no sign of that (in fact, quite the opposite), for very good reasons. Interest rates might rise if the MPC decides they should. At the moment all the talk is whether the MPC will go for more, not less, stimulus, and if the FT is to be believed the government will give the MPC more room to act in this way. So no sign that interest rates might rise on that account either, but I guess there must be a robust logic to this assertion somewhere, otherwise why would the Prime Minister be so certain?

 (5) “So those who think we can afford to slow down the rate of fiscal consolidation by borrowing and spending more are jeopardising the nation’s finances……and they are putting at risk the livelihoods of families up and down the country. Labour’s central argument is exactly that. They say that by borrowing more they would miraculously end up borrowing less. Let me just say that again: they think borrowing more money would mean borrowing less. Yes, it really is as incredible as that. The Institute of Fiscal Studies has completely demolished this argument.”

The argument that by borrowing more you may end up borrowing less has been set out by DeLong and Summers. If you search for references to these authors on the IFS website, or for both on Google, nothing comes up, so I do not know what demolition is being referred to here. [c] Perhaps the Prime Minister has seen something I have not. In any case, given what the Prime Minister has said, I’m sure DeLong and Summers will now retract their patently wild and obviously non robust proposition. [Update - Jonathan Portes finds that in fact the latest IFS Green Budget says almost the complete opposite of what the Prime Minister suggests.]

(6) “But we are making the right choices. If there was another way I would take it. But there is no alternative.”

The resort to TINA is the ultimate ‘reveal’: if the arguments for the policy being pursued have been lost, the evidence is stacking up against you, and there are plenty of perfectly feasible alternatives, then assert as dogmatically ('robustly') as possible that you are pursuing the only possible path. Of course the smart thing to do is to assert this at exactly the time that you actually change your policy in favour of one of the alternatives. Well, we can always hope, although I fear to hope in this way would not be a robust thing to do.

[a] The following quote from the IFS February 2012 Green Budget (page 52) makes the key point:

“To assert that the Labour government should have done even more before 2008, while accepting the latest official estimates for the output gap up to 2007–08, one would have to believe that it should have been able to forecast more accurately the path of trend output growth beyond 2007–08. Over the period from 2007–08 to 2016–17, the OBR’s latest figures imply that trend output will grow on average by just 1.2% a year. This compares with the 2½% a year that underpinned the official public finance forecasts produced prior to the crisis. While at the time Mr Darling’s assessment of the path of trend growth was not seen as being particularly cautious, it also was not widely seen as being unduly optimistic either.”

[b] The OBR could have concluded that they underestimated the size of multipliers in doing their original forecast, and as the numbers they use for the mulitipliers are low (substantially less than one), this would be a reasonable conclusion, as the much quoted recent research by the IMF suggests. (For more details, see Jonathan Portes here.) But the OBR were never assuming negative multipliers, as this passage in the speech suggests.

[c] The 2012 IFS Green Budget does discuss hysteresis, with no refutation of this idea that I could see.

Why politicians ignore economists on austerity

I have written before about fiscal policy in the Netherlands. I have done so in part because that country has a strong macroeconomic tradition, and I regard their long standing fiscal council (CPB) as a model of how to try and get good economic analysis and evidence into the policy debate. It is therefore an indication that something is very wrong when the political consensus there follows the austerity line.

The key target for policy in the Netherlands appears to be the 3% budget deficit number that was at the centre of the old Stability and Growth Pact. The latest CPB forecasts are for deficits of 3.3% of GDP in 2013, and 3.4% in 2014. The main reason is that the economy is in recession: GDP is expected to fall by 0.5% this year (following a fall of 0.9% in 2012), and grow by only 1% in 2014. The governing coalition includes the Labour Party, and its leader Diederik Samsom says it would be unwise to sharply cut government spending in a recession. What he means by this is that they will not try and hit the 3% figure this year, but instead do so next year!. After announcing austerity measures of over 2.5% of GDP in the autumn, the coalition has recently prepared a list of additional cuts totalling  0.7% of GDP. These include tax increases, a pay freeze for public sector workers and extra charges on industry.

So we have a discretionary procyclical fiscal policy, in an economy without its own monetary policy to offset its impact. The one ray of hope is that the trade unions, who have previously been prepared to discuss the details of austerity, no longer wish to do so. The FT reports  the largest labour federation as describing the cuts as “stupid and ill-advised”. The Labour Party is urging the unions to take part in discussions about the cuts, so they can - as one report puts it - “seize the opportunities offered by new measures to stimulate the economy”. This sounds a bit like asking a Christmas Turkey to talks about the recipe for the stuffing. The unemployment rate, which was 4.4% in 2011, is expected to rise to 6.5% in 2014.

So why are politicians, in the Netherlands and elsewhere, pursuing a policy that most economists regard as an elementary error? This was a question raised by Coen Teulings, who is the director of the CPB, the Dutch fiscal council. He was commenting on an IMF sponsored conference in Sweden, at which most economists argued against short run austerity when the economy was weak, and instead advocated dealing with budgetary problems through long term structural reform. The politicians in the audience, led by the Swedish finance minister Anders Borg, disagreed. He summarises their view as follows: “Politicians lack the ability to commit today to austerity measures to be implemented tomorrow. Hence, the only option is to take action straightaway.” (Borg was a driving force behind setting up Sweden’s own fiscal council, but his subsequent interaction with it has been more difficult, as Lars Calmfors and I describe here.)

Tuelings does not take this argument seriously, for good reasons. Instead he provides three suggestions as to why politicians are ignoring the economists. The first is a memory of the 1970s, when Keynesian policies were pursued because many failed to see the structural impact of the oil crisis. Politicians do not want to make the same mistake again. The second is that economists neglected countercyclical fiscal policy for too long, and therefore have failed to provide politicians with a clear guide to what policy should be, like perhaps an equivalent to the Taylor rule for monetary policy. Third, while both structural reform and short term austerity have political costs, politicians can sell the latter more easily, and success can be demonstrated more quickly.

The last argument can be partly seen as the austerity counterpart to the common pool explanation for deficit bias: structural reform can hit particular groups hard, while generalised austerity spreads pain more widely (or perhaps hits particular groups who have a small political voice). There may be something in the second argument, but there is a chicken and egg issue here. As someone who has written papers evaluating fiscal rules for a number of years, I have not noted much interest from European policymakers.

I suspect, however, that most of the interest in Taylor rules for monetary policy comes from central banks rather than politicians. I think this is a key problem with fiscal stabilisation policy: the lack of an institution that fosters research of this kind, that consolidates knowledge and pools wisdom. In my dreams I imagine a linked set of national fiscal councils that could play that role. What is unfortunately very clear is that central banks (or at least those running them) cannot do for fiscal policy what they have done for monetary policy: just look at the detailed and well formulated analysis of austerity in this recent speech (section 3.1) by the president of the Bundesbank. Returning to the Netherlands, it is no secret that the CPB is not part of the austerity consensus, while the Dutch central bank certainly is.