Austerity and Reality

Paul Krugman still doesn’t get it:

Watching Europe sink into recession – and Greece plunge into the abyss – I found myself wondering what it would take to convince the chattering classes that austerity in the face of an already depressed economy is a terrible idea.

After all, all it took was the predictable and predicted failure of an inadequate stimulus plan to convince our political elite that stimulus never works, and that we should pivot immediately to austerity, never mind three generations’ worth of economic research telling us that this was exactly the wrong thing to do. Why isn’t the overwhelming, and much more decisive, failure of austerity in Europe producing a similar reaction?

Here’s the simple answer: austerity is not about promoting growth, it’s about getting one’s fiscal house in order, which is to say that austerity is all about reducing government spending and government debt. More to the point, there are a couple of flaws worth pointing out here.

First, there is the obvious flaw of growth measurements. Growth measurements include government spending so, by definition, whenever government spending contracts, growth will decline. Complaining about the lack of growth in light of government budget cuts is like complaining about the definition of wet.

Second, the main problem right now is debt. Namely, that it has to be paid. When you borrow from the future, you will eventually hit a point when the money you borrowed is due, with interest. And that point is here. People have to pay their debts, which is one reason why austerity is necessary.

Third, and along the lines of the second point, the current situation does not fit in any way with three generations of economic research. If one were to actually read Keynes’ policy prescription, one would find that it has very little bearing to reality. Keynes’ fundamental prescription for smoothing out economic turbulence was to raise taxes and save money when the economy was experiencing growth and lower taxes and spend money when the economy was cooling down. (Incidentally, this very thing has worked at least once in history.) The problem is that the experts in Washington only did one of those four things.

See, the only part of the policy that Washington followed was increasing spending at the start of the downturn. Washington lowered taxes during the boom, exacerbating the boom, and then failed to save money for the inevitable decline. And now that the decline is in full force, Washington is considering raising taxes. So even if the economic research is correct, it is certainly not being followed in any meaningful way. As such, appealing to this research is simply ludicrous, as it doesn’t apply anyway.

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