Paul Krugman: Playing Whack-a-Mole With Expansionary Austerity


 

The rise and fall of Alesina-Ardagna didn’t make as much of a public splash as the Reinhart-Rogoff saga, but in a fundamental sense it was the same thing. An academic paper purported to show something austerians very much wanted to hear – in this case that slashing spending in a depressed economy would actually create jobs; the authors were immediately feted and the paper promoted to sacred status; but then the result fell apart under both intellectual scrutiny and the weight of real-world experience.

Unlike R-R, however, A-A didn’t crash and burn, it just sort of quietly slunk offstage. And as a result, pieces of their story are still embedded in what all the Serious People know. In correspondence, Kevin O’Rourke points me to Mario Draghi admitting that fiscal consolidation is contractionary, after all, but claiming that it will be less contractionary if it takes the form of spending cuts rather than tax increases. Where is that coming from? Why, Alesina-Ardagna, of course.

And as it happens, the IMF study (pdf) that debunked A-A also had something to say about this result. It found that when you measured austerity right, it was contractionary, not expansionary; it did, however, find that spending cuts were less contractionary. But why? Careful further analysis suggested that much of the explanation lay in the behavior of central bankers, who for whatever reason were more likely to cut interest rates to offset spending cuts than to offset tax increases.

So one way to read Draghi’s remarks is that he is saying that it’s better to cut spending, because he personally will reward spending cuts while punishing tax increases. I know, that’s a bit harsh – but remember, we’re talking serious business here, and Draghi is inserting himself into domestic policy in a way that he really shouldn’t.

But there’s a further consideration: whatever the historical pattern, at this point the ECB can’t cut rates (much) in any case, because they’re already near zero. So to the extent that spending cuts may have been offset by lower rates in the past, that’s irrelevant now.

In short, Draghi is stating as a fact the superiority of spending cuts, when there is no good reason to believe that it’s true under current conditions.

Playing Whack-a-Mole With Expansionary Austerity – NYTimes.com

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One Response to Paul Krugman: Playing Whack-a-Mole With Expansionary Austerity

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