May 24, 2012
Expansionary Fiscal Contraction in Action (or Not)
The recession in the UK is even worse than first reported.
Figure 1: UK annualized q/q GDP growth (chained 2008), calculated as log differences. Dashed line at 2010Q2 (new coalition government). Source: UK ONS.
2012Q1 growth is revised down from -0.1% (quarterly rate) to -0.3%.
As I noted earlier , this should put (yet another) nail in the JEC-Republican proposition that cutting spending will necessarily result in an output boom. If it doesn't happen in a relatively open, small economy, what would happen in a large, less open economy, stuck at the zero interest bound? 
Posted by Menzie Chinn at May 24, 2012 09:00 AMdigg this | reddit
there has been some debate about this over on Sumner's blog.
the UK is a small open economy, so this begs the question(s):
1. is the BoE targeting a CPI appropriate; the GDP deflator has been lower than 2% (1.5% for Q12012 i think).
2. to what extent inflation has been higher than expected due to supply side issues (and what are they?). Posen in the WSJ interview seemed perplexed by this.
3. inflation expectations seem to be on the rise as measured by UK inflation linked gilts.
this kinda raises the question in my mind whether BoE policy is really as accomodative as they think, but also that they need a more rules based approach. The way you hold down import prices is by causing unemployment, the BoE cannot really "target" import prices as they are a small open economy. With a GDP deflator of 1.5% that does not smell like inflation to me.
Yet, I also personally wonder to what extent rising forward inflation expectations play a role (not supply side issues). Have they allowed discretionary policy to cause inflation expectations to become unanchored?
I have not made up my mind, but its certainly an interesting debate.
Posted by: dwb at May 24, 2012 09:35 AM
The correct title should be “Contractionary Fiscal Expansion”. The reason your title and premise is wrong is because the UK has increased spending not cut spending. UK total government spending has increase from 685,969 in 2008, 717,320 in 2009, 735,938 in 2010, and 738,885 in 2011 in millions of UK pounds. I would call that another nail in the Democrat position that increased government spending will lead to more economic growth.
Taxes have also gone up by 55,444 million of UK pounds over the last 3 years. I would call that a nail in the coffin of Obama’s so called “balanced approach” to deficit reduction.
Data taken from http://epp.eurostat.ec.europa.eu/portal/page/portal/eurostat/home
Posted by: Tom at May 24, 2012 11:43 AM
I sent you a copy of Economics in One Lesson. You might consider reading it. You must consider all the influences on economic conditions over the entire life of the event. Picking a small sample and building an entire theoy on it is very questionable.
Will you write a mea culpa after Walker is confirmed and the opposition is moved out of the way so that Wisconsin can grow again?
Posted by: Ricardo at May 24, 2012 02:07 PM
Thanks Tom. With your post I do not need to respond.
Posted by: Ricardo at May 24, 2012 02:08 PM
U.K. gov't expenditures are still growing, but barely. On a yoy basis, expenditures are close to flat: http://img703.imageshack.us/img703/6294/ukgovtspending.png This is actually the weakest pace of growth for U.K. govt expenditures since the series began in the 1940s.
We usually like to see govt expenditures growing at a faster pace during recession. This is called "fiscal stabilization policy."
Posted by: JSeydl at May 24, 2012 02:15 PM
Tom How much of that increase is due to automatic stabilizers? And oh by the way, where Britain's government spending increased the most (i.e., 2009 & 2010) the economy was also rebounding. It's when the year-over-year spending went flat in the second half of 2010 that the economy started to tank again. And when did Cameron and the Tories win? Oh yes, it was mid-2010. Coincidence?
Posted by: 2slugbaits at May 24, 2012 02:19 PM
To follow up on Tom's comment, 1Q2012 UK GDP was actually supported by government growth of 0.6%. At least in the US government has been detracting from growth for several quarters. As for the UK, it's hard to make the case for fiscal contraction when it's not contracting.
Posted by: Woj at May 24, 2012 02:24 PM
Get with the program. A cut in the growth rate of public spending is referred to as a "Draconian Cut" in Progressive parlance.
How dare you try to confuse us with the facts ;)
Posted by: tj at May 24, 2012 04:34 PM
CBO: Fiscal cliff likely to cause recession
Trillions of dollars in looming tax hikes and spending cuts set to take effect next year would likely cause a recession, the Congressional Budget Office said Tuesday.
At issue is the so-called fiscal cliff -- a series of measures set to begin in January that would take more than $500 billion out of the economy in 2013 alone.
Those measures include the expiration of the Bush tax cuts and protection of the middle class from the Alternative Minimum Tax, the onset of $1 trillion in blunt spending cuts, and a reduction in Medicare doctors' pay.
If Congress lets all those policies take effect, inflation-adjusted growth for 2013 would be just 0.5% -- with the economy projected to contract by 1.3% in the first half of the year and to grow by 2.3% in the second half.
"Given the pattern of past recessions as identified by the National Bureau of Economic Research, such a contraction in output in the first half of 2013 would probably be judged to be a recession," the CBO said.
So, we shouldn't do those things?
"But the agency cautioned that just canceling all the fiscal cliff measures and not imposing "comparable restraint in future years" would hurt the economy in the long run."
Sounds like short-term pain for long-term gain.
Posted by: Bruce Hall at May 24, 2012 04:45 PM
Since 2007, has any first world government contracted spending in any year? I do not believe it will be possible until interest rates force the issue. Yet rates in Japan and the US remain low.
Looking at my fixed rate mortgage (sigh) and variable rate income, fiscal expansion might not be entirely terrible. In the short term bicycles instead of gas stations, and spaghetti instead of hamburgers is tolerable.
Posted by: KevinM at May 24, 2012 05:39 PM
Bruce Hall Who said we should not cut spending and raise taxes? No one. This is a strawman argument. The question is when, and here it really matters whether you do it when the economy is operating at full employment or not. Read Menzie's book. He squarely talks about the need for some hard fiscal choices ahead. But if you try and impose contractionary policies while there is still a large output gap, then all you will do is dig a deeper hole and make the fall off the cliff harder.
The actual economic strategy we need isn't rocket science. We need fiscal stimulus (and lots of it) until the economy gets enough traction that the nominal Fed rate goes above zero. At that point we should start cutting spending and raising taxes while letting the Fed manage the recovery thereafter. The goal of fiscal policy is to carry the load until we get out of ZIRP.
Posted by: 2slugbaits at May 24, 2012 06:18 PM
Tom, the figures you've quoted for expenditure are in nominal terms. The GDP growth rate Menzie has posted is in real terms.
Perhaps if you used your brain rather than regurgitating propaganda you could avoid making this elementary mistake.
Posted by: Basho at May 24, 2012 09:49 PM
If needing "stimulus and lots of it" hasn't been achieved with random pouring of money into black holes, what pray tell does that mean.
Just where is the leverage applied. Certainly not in the "shovel ready" jobs. They banks haven't done much to pass through the "stimulus."
Most of the job gains have been achieved despite government regulation and obstruction in the energy sector.
Obama's claim of 4.2 million jobs saved is the real strawman. No evidence of that despite the money spent.
No one is arguing that the government cease spending money, but there is a reasonable argument that the money be spent in a more business-like manner.
Well, maybe I am recommending that the government reduce actual spending:
Of course, that would entail some "business-like" management expertise rather than mindless bureaucracy following mind-numbing regulations, processes, and procedures while missing the obvious.
Posted by: Bruce Hall at May 25, 2012 05:52 AM
Consider the logic. Austerity was promoted as a confidence booster: investors and supply side producers would have more confidence and they would produce more goods, invest in more capacity, hire more, while consumers would respond by consuming more. The argument, to repeat, was confidence.
Now the argument shifts: it really isn't austerity because look at the numbers and see the cuts aren't really big or it isn't austerity because it included a tax increase (which is an argument peculiar to the US). So the essence of the argument now is not confidence but numbers.
An obvious response is that the proposers of this policy completely misunderstood the reaction of the supply and demand side to expectations about cuts. After all, confidence is an outgrowth of expectations theory. They guessed the expectations would be one thing and they turned out to be the opposite.
What if we then toss out expectations theory? That is what the people here are doing by arguing numbers suddenly matter. If we do that, then what is the big deal with all these arguments about "uncertainty" and how fear of future government regulation is causing supply side restraint? If you argue that, then you argue that austerity causes expectations and that means you were simply wrong about the expectations austerity generates and thus wrong about the theory.
Or you could toss out your entire "uncertainty" train of thought, which I don't see happening because your anti-Obama, anti-govenment belief system requires it.
Posted by: jonathan at May 25, 2012 07:49 AM
jonathan: "Consider the logic. Austerity was promoted as a confidence booster: investors and supply side producers would have more confidence and they would produce more goods, invest in more capacity, hire more, while consumers would respond by consuming more. The argument, to repeat, was confidence."
No, so-called "austerity" ... nothing more than sound fiscal responsibility ... is a response to irresponsible spending that is threatening to derail Europe and, eventually, the U.S. We don't need everyone to be like Greece or Spain or maybe even France. Then you are left with two "solutions": hyperinflation or default.
Posted by: Bruce Hall at May 25, 2012 09:55 AM
Bruce Hall: Hyperinflation or default -- no hyperbole here!
Posted by: Menzie Chinn at May 25, 2012 10:17 AM
I didn't say next week.
Even Keynes would not have supported the idea of boosting spending to support government employee pensions and benefits. Neither would he have supported Obama's green crony capitalism.
Greece is an example of a country living well beyond its means. Of course, we aren't there... yet. Borrowing money as a means to increase output make sense, even to a businessman. But borrowing money to fund expanded entitlements, especially with hundreds of billions in waste, is purely dumb bureaucracy.
If you can't find 10% waste and fraud in government spending, you aren't looking. Cut that and spending cuts itself. That's different from bumping up the base rife with waste and fraud and calling it a stimulus.
Posted by: Bruce Hall at May 25, 2012 10:54 AM
Wisconsin; expansionary contractionary growth. Got it. What else is going on in economics?
Posted by: Steven Kopits at May 25, 2012 11:58 AM
Perhaps if [Tom] used [his] brain...Objection- assumes facts not in evidence.
Even Keynes would not have supported the idea of boosting spending to support government employee pensions and benefits.
As for you, you know as much of Keynes as the guy in "Annie Hall" did of McLuhan. He actually said that in a depression even burying money and paying people to dig it up again would be better than nothing.
Also, what you consider "waste" somebody else considers "my income, with which I buy food, housing, clothing an other goods that other people need to get paid for in order to get THEIR incomes". Arithmetic doesn't care about your uninformed policy preferences.
Posted by: Steve LaBonne at May 25, 2012 12:05 PM
Bruce Hall If needing "stimulus and lots of it" hasn't been achieved with random pouring of money into black holes, what pray tell does that mean.
My conclusion is that you don't know what "stimulus and lots of it" means, because we haven't seen any this recession.
You talk a big game about wanting to apply "business-like management expertise" to the subject, but you apparently think you can do this in a completely data free and fact free environment. Is that how you do "business-like management expertise?" Try looking at the NIPA tables. Show us where government spending since 2009 has grown like you seem to think it has. If you'll look at the data you will see that it's grown a whopping 0.1% per year. That's about one-twentieth of what it was under Bush when there wasn't a recession. Quit repeating Fox & Friends talking points and try doing your own research. Isn't that what a good business manager should be doing?
The fact is that government spending has been flat for the last three years and even shrank dramatically last year. Yes, federal government spending increased, but it was matched dollar for dollar by less spending at the state and local level. Given the fiscal facts, just where is all this fiscal stimulus spending that you seem to believe is going on all around you? The only fiscal stimulus right now is coming from Obama's tax cuts, which are very weak and ineffective. And yes, Obama actually cut taxes, contrary to what you'll hear on the Fox Noise machine.
Posted by: 2slugbaits at May 25, 2012 12:55 PM
I presented at an Arctic oil conference in St. Johns this week. It's a beautiful, if remote place, and the center for Canada's offshore oil industry.
At the conference was Bharat Dixit, Technical Leader, Conservation of Resources, for Canada's National Energy Board. He was a truly charming guy who nonetheless brought his legal counsel to the conference. The NEB sets the standards for offshore drilling in the Northwest Territories. There are adjacent to Prudhoe Bay on the Canadian side and thought to contain a Gulf of Mexico sized oil resource, although no one seems to know for sure.
Now, the NEB is charged with safety, environmental protection, and resource conservation. They determined, as a lesson from the Macondo blowout, that the standard of environmental safety should be the ability to drill a same-season relief well.
The drilling season in the Arctic is July through November. The transit time alone for the rigs approaches one month. The Macondo relief well took 90 days to drill. So, depending on how we define the time for a relief well, there would be precious little time to drill.
I asked Bharat whether they had actually calculated the number of days available for drilling (the exercise I just conducted above). He said they had not. If the oil companies could live with NEB conditions, fine. If not, then that's the way it is. It is important to note that Bharat's mandate was to protect the environment, not find a way for drillers to be able to exploit Canadian resources.
In any event, the offshore Northwest Territories appear to be open, but my take-away was that they are closed as a practical matter. The National Energy Board appears to have little to do with energy, and a great deal to do with the environment. Canada has the right to open or close these waters as it sees fit, but it would be nice if they made up their mind and stated their preferences explicitly.
Posted by: Steven Kopits at May 25, 2012 01:00 PM
"...this should put (yet another) nail in the JEC-Republican proposition that cutting spending will necessarily result in an output boom."
I would have thought that Ben's recent statement about the impotency of the Fed in the face of another downturn caused by fiscal retrenchment would have put a whole bunch of the nails in that coffin.
Posted by: don at May 25, 2012 01:02 PM
Steven Kopits: State dependence, inflation targeting and housing, intentional ignorance, gasoline prices and futures
Posted by: Menzie Chinn at May 25, 2012 01:47 PM
Ricardo: Thanks again for the book. But I value my brain cells too much to inflict it upon myself.
Posted by: Menzie Chinn at May 25, 2012 02:07 PM
2slug says: "My conclusion is that you don't know what "stimulus and lots of it" means, because we haven't seen any this recession.
You talk a big game about wanting to apply "business-like management expertise" to the subject, but you apparently think you can do this in a completely data free and fact free environment. Is that how you do "business-like management expertise?""
So, you want examples? Okay.
I already provided the reference to the CBO analysis, so I presume you simple prefer to comment from the hip. Oh, I remember. You like piles of data. Apparently making sense of them is irrelevant.
Waste and corruption. I guess you can call that a "stimulus."
Posted by: Bruce Hall at May 25, 2012 02:16 PM
Bruce Hall You said there was a mountain of fiscal stimulus. The NIPA tables say otherwise. What the hell does some crazy blog site that supposedly lists busted ventures have to do with fiscal stimulus? Do you even understand what fiscal stimulus is? I honestly don't think you do. Hint: It doesn't have anything to do with the government investing in businesses. The point of fiscal stimulus is to prop up aggregate demand. Do you understand the concept of aggregate demand?
You also completely misunderstood the CBO analysis. The CBO is saying that austerity is what will push us over the cliff in 2013. Everyone agrees that there's a long run fiscal imbalance. We also have a short run aggregate demand problem, and you can't fix the long run problem until you fix the short-run problem.
It's interesting that this mjperry guy forgot to list the TARP auto bailout, which most folks regard as a success story.
Posted by: 2slugbaits at May 25, 2012 02:44 PM
Bruce Hall You seem pretty enamored with the mjperry guy, so let's test your understanding of economics. To a first approximation, a recession is what happens when people save more than expected out of current income. Keep in mind that income is a flow variable, not a stock variable. If consumers save more and businesses absorb that extra savings by increasing investment, then there is no aggregate demand problem. But if there's too much saving at a given interest rate, then the interest rate drops until marginal investment projects look attractive. But if interest rates hit zero, then the only way to make savings out of income equal to investment is if income falls. But remember, income is a flow variable and once it's gone the benefit stream from that income is gone forever. Now if Team Obama uses deficit spending to support some green iniative that goes bust, is the taxpayer any worse off? Well, worse off relative to what? Clearly the taxpayer is worse of than if the project had been a success because taxpayers lose the flow of future benefits from the project. But is the taxpayer worse off than not doing the project at all? The answer is "no." Why? Because if government had not absorbed the excess savings, that would have reduced national income by the amount of the foregone project. Remember, income is a flow variable. True, there would not have been any change in the number of pieces of green paper with pictures of dead Presidents, but that's a stock variable. Money is not income. And that's what business types have a hard time understanding because in the business world money equals income. If those failed green projects that Obama tried had not been attempted and if we had simply decided to not increase the deficit, that would not have been a savings for the macro economy. Those saved dollars would have leaked from the income flow.
Way back in college I noticed that business majors did fine in micro, but they seemed to have a hell of a time getting macro. Business types just don't have the intuition for macro because they tend to think in terms of stock variables...that might be why so many of them also had problems with calculus. Anyway, I see this same confusion with Romney. I'm sure he's a smart and sharp businessman. And he might have excellent CEO skils (and that's important in a President); but the guy is clearly at sea when it comes to macroeconomics. Clueless beyond belief.
Posted by: 2slugbaits at May 25, 2012 03:55 PM
2slug, thanks for your condescending primer on economics.
You forgot one aspect: time. There are both present and future implications for government spending which is what the CBO was inferring when it warned against "austerity" and spending for the near-term draw down, but then warned about not taking those actions for the long-term.
Businesses do understand the difference between cash and cash flow; between savings and income. Individuals do as well.
The economy tanked for a number of reasons. At the individual level, there was spending in anticipation of increasing income and increasing equity. A lot of spending was borrowing against equity on the premise that valuations could only increase. At a business level, companies expanded into global markets and began a process of outsourcing both commodities and labor. This increased their present profitability, but created some home market issues as national labor and supply chains came under pressure. But a bigger problem came through government... and yes it was under the Bush administration.
Big Ben was fixated on inflation. That's what the macro numbers told him to focus on. The macro numbers hid problems that I wrote about as early as 2006 having the privilege to live in Michigan and to be acutely aware of the underlying weaknesses in housing, labor, and manufacturing that were about to hit the fan nationally. Consequently, the macro economics, big picture, data driven decision to continue to jack up interest rates took the beginnings of a bad recession and threw it into a real tailspin.
Businesses slammed on the brakes, spend-a-lots found themselves short on income and long on debt, and the over-confident housing industry was hit with a major inventory problem. Home valuations plummeted, equity borrowing ceased, retail demand sank like a rock, and major manufacturers were thrown into bankruptcy.
Now you may see things differently through your macro lenses, but at the millions of micro lens level, that's what happened. Big Ben then had to over-react to try to stop the major screw-up he precipitated. But he was too late.
Some economists believed that since individuals and businesses were in the process of fiscal correction, all the government had to do was dump future money into what they viewed as an income stream and everything would magically right itself. So, our hapless president found himself with an economy that was precariously similar to that which was present his first month in office --- three years later. Sure, the macro data said that the recession was over because there was quarter-to-quarter positive changes, but at the millions of micro levels, the change was not happening.
So, you say that it doesn't matter that the government dumped money into "investments" that had no real business cases. What was the opportunity cost? Come on, don't tell me there was no opportunity cost because the government can spend as much as it wants. Chicken come home to roost.
At the same time that the "don't need no business case" geniuses [like Frank and Dodds who liked the idea of everyone owning a home even if they couldn't afford it because all that spending was good stuff] were dumping money down a series of black holes, the government was waging its own Don Quixote wars on carbon vapor. The goal? Why protect us from plant food, of course. Better to kill the most efficient sources of energy and thousands of jobs along with it than to risk having to run the air conditioners a few more days.
So, our macro data experts have urged spending and our macro data bureaucrats have responded with policies and investments that have guaranteed a far less cost effective source of energy. Gee, if you pay more per KW, that means the economy will be booming. Think of all of that spending.
If Ben [big economics] Bernanke couldn't see the writing on the wall and all of that recent government spending has simply increased government debt with very little to show for it, why it's just those stupid business types who don't understand how good things are.
Tell me, 2slug, what besides the imaginary 4.2 million jobs saved has all of that spending achieved? Housing is still a mess, unemployment is still over 8% and millions have stopped being counted because they are discourage, and government debt will soon be beyond servicing when interest rates do increase... the time implication of current spending.
Oh, am I enamoured of Mark Perry? Hardly. I give him a hard time, too. It was simply convenient to use some examples in his post of failing to see the forest for the trees.
Government spending that simply expands dependency on government [Nancy Pelosi's more people on unemployment is good for the economy] while the government attacks those who create jobs and incomes is a recipe for... well, the Obama administration and Keynesian economics. In your words: "clueless beyond belief."
Posted by: Bruce Hall at May 25, 2012 05:55 PM
2slugbaits, you wrote:
To a first approximation, a recession is what happens when people save more than expected out of current income.
So, people cyclically get some unexplainable urge to "save more than expected" and that makes a recession? And expected by whom?
Posted by: rootless at May 26, 2012 05:20 AM
Bruce Hall That's a lot of rambling ersatz economics. It's amazing that you managed to tick off a long laundry list of wrong statements about the cause of the Great Recession, but somehow forgot to include any comment about the role of unregulated shadow banks. Amazing.
what besides the imaginary 4.2 million jobs saved has all of that spending achieved?
Again, check the NIPA tables. Government spending since 2009 has been flat. It actually fell in 2.1% in 2011. Look at data, not WSJ op-ed pages. And oh, CBO says those job numbers are not imaginary, as does John McCain's chief economic advisor.
You also ticked off a lot of supposed structural factors. There's a new NBER paper by Stock & Watson. If you don't have an NBER subscription you might at least be intersted in what the abstract says.
And you keep repeating this garabage about businessmen as "job creators." So does that mean businessmen are "job destroyers" when the economy turns south? What creates jobs is demand for jobs. A rational businessman is indifferent between employing more capital inputs or labor inputs. What determines the number of jobs created is the relative prices of capital & labor as well as the output level, which is determined exogenously by demand. Businessmen in a competitive market do not determine either factor prices or demand, only whether or not the firm operates near the efficiency frontier.
And your comments about cap & trade are bizarre. Apparently you don't know that the cap & trade bill acted like a Pigou tax that was reimbursed so as not to reduce economic welfare. But more to the point, the bill died in Congress, so what did it have to do with the Great Recession?
Your last comment reveals your real beef, and it's not about economics. Your real beef is that you believe a large segment of the economy is just a bunch of undeserving whining slackers always looking for a free lunch. They all remind you of that lazy brother-in-law. As a kid your favorite parable was probably the one about the grasshopper and the ant. Of course, you were always the grasshopper. Mine was always the story of the little gingerbread man and the wolf. I was never quite sure whether I sympathized with the cookie or the wolf. That's the difference between us.
Posted by: 2slugbaits at May 26, 2012 07:26 AM
rootless There can be all kinds of things that immediately trigger a recession. Sometimes it's a demand shock and sometimes it's a supply shock. Normally the Fed is effective at dealing with the first shock and not so effective at dealing with the second kind of shock.
But either way, what eventually what happens is that actual demand in the economy does not match business planned demand. Businesses end up investing less while people save more in order to deal with the shock. This time we're facing a very severe demand shock recession. The financial meltdown caused businesses and consumers to directly focus on repairing balance sheets. While households and businesses focus on repairing balance sheets by saving more and consuming less, it should be government's job to consume more and save less (i.e., run deficits). That will maintain aggregate demand and provide businesses and households with a place to park their savings other than the proverbial mattress.
Posted by: 2slugbaits at May 26, 2012 07:58 AM
This is a perfect example of why dialogue is impossible.
Bruce Hall writes this drivel:
"No, so-called "austerity" ... nothing more than sound fiscal responsibility ... is a response to irresponsible spending that is threatening to derail Europe and, eventually, the U.S. We don't need everyone to be like Greece or Spain or maybe even France. Then you are left with two "solutions": hyperinflation or default."
The amount of cognitive non-sequiturs in there is large. First, austerity was presented as a program that had a justification: cutting spending would increase confidence, especially among suppliers, and that would spur current investment, current hiring, etc. To deny that is convenient but it also has the effect of denying the entire conservative approach to economics, which is rooted in supply side encouragement. Since it's important to deflect criticism of austerity, it's necessary to negate fundamental beliefs without realizing it. That kind of thing fascinates me.
Second, austerity in the UK was of course wholly voluntary. UK bond yields were low before and have remained low and there hasn't been a hint of fiscal collapse. They have a separate currency. They are both a safe haven from Euro problems and are a large economy that can afford to pay its debts.
Third, we get the lumping together of Spain with Greece. The latter is tiny and never really belonged in the Euro. Spain was not over-leveraged, ran a fiscal surplus and is a victim of the ability within the Eurozone of capital to move freely across national borders. Money flowed into Spain from the North and was invested by private enterprise, not government. Repeat, not government. This created a huge bubble, much in real estate, much in bank lending, but not a government spending bubble. The irrational person needs to deflect criticism by tossing in an argument that goes against his perspective and this is an example: Spain's problems were caused by private sector capital flowing in abundance to the warm weather, much in real estate investment, much from Germany, much also from Britain. But the story has to be "government spending," so Spain becomes Greece in the telling. Spain's issue is bailing out the private sector, not cutting government spending. Greece has a whole boatload of problems, not merely government spending but the more basic fact that it isn't a modern economy but was placed in a currency with some of the most modern, most highly competitive places in the world.
I'm making this long post not to speak to Bruce Hall. He seems to be the kind of self-righteous zealot who can't absorb ideas unless they fit his pre-existing narrative, in which he has tremendous belief. I enjoy discussing the way that people contradict themselves in order to fit facts to their beliefs. It's fun to analyze though it's always important to remember these people are pretty much beyond learning. It can get silly, like the repeated cry that stimulus failed and we need tax cuts, which ignores that stimulus included a $300B tax cut - since increased through extension - which crammed into such a short period makes it perhaps the largest tax cut in US history. But it's also fun to remember the hopelessness of the human condition.
Posted by: jonathan at May 26, 2012 08:13 AM
jonathan Same story with Ireland. They ran fiscal surpluses. It was the Irish bankers that took their economy over the cliff. Same with Iceland, except in Iceland they followed Keynesian recovery plans and are coming along nicely. But as you say, none of those facts fit the Fox Noise/WSJ op-ed page storyline. It's gotta be all about lazy poor people gaming the system so they can live in big houses while sensible Bruce Hall works his butt off trying to support their lazy asses. With a storyline like that, of course he's a sucker for GOP disinformation. And believing in morality tales means you don't have to actually bother to learn economics or check the NIPA tables. All you need to do is tell yourself that austerity only means austerity for those undeserving slackers.
Posted by: 2slugbaits at May 26, 2012 08:43 AM
I want to add a data point: while British government spending has actually gone up slightly, it appears the composition has changed and the results are exactly as Keynesian models predict. British net public sector investment is down by over 2% of GDP, which is a lot. Even if we take a lower start point, like some longer term number derived from the past, it's down significantly.
2slug, I would describe the Irish problem as 2 things. First, they decided in a moment of desperation to guarantee all bank obligations. That means they nationalized the banking system in all but name and means they socialized all the losses. Terrible mistake, though hard to see at the time. Second, everyone and their uncles knew they were in a real estate and investment bubble. All my Irish friends - meaning actual Irish, not Irish-Americans - were buying property and looking for ways to cash in on the great boom time. They would rent containers and ship stuff back. The bubble there is similar to Iceland and somewhat similar to Spain except so much of the Spanish real estate boom was foreigners coming into the markets. (Go see the construction on the coasts and look at pictures of 10 or 15 years ago.) Huge numbers - compared to the total Irish population - of foreigners came to work and that inflated the bubble even more. A big enabler was the right to travel and work laws across the EU and even beyond. Irish banks, like Spanish banks, were caught up in a flow of money they couldn't control. Irish banks borrowed money from foreign banks to finance the bubble. Again, private money, not government spending. That's the problem: Irish banks, whose debts are nationalized, owe huge amounts to other banks in the Eurozone.
As for Iceland, remember, they walked on their debts as much as they could. They would be doing even better if not for the sad fact that so many of their debts - meaning home mortgages and the like - are in Euros. They couldn't escape those debts. Having a separate currency was a huge help and enabled them to walk on debts. Ireland is stuck in a vise because all those private debts are wired into the survival of the Euro.
Posted by: jonathan at May 26, 2012 12:55 PM
2slug and Jonathan [the Righteous Brothers]:
Here is a study by 3 professors from the Harvard Business School regarding the impact of increased government spending:
When your theories are not grounded in real world results, try calling those who disagree stupid. Oh wait, you have.
Macroeconomics is the belief that looking at large amounts of aggregated data can tell you what you need to know about the economy... like this:
February 27, 2008
Federal Reserve Chairman Ben Bernanke went to Capitol Hill today to provide Congress with an update on the struggling US economy. The Fed forecast he summarized called for very slow growth in 2008, but no recession; and that was the good news.
The Feds forecast says that growth could be as low a 1.3 percent for all of 2008, down sharply from its July forecast. And with the economy expected to pick up only in the second half of the year, that could mean almost no growth at all in the first six months.
Chairman Bernanke acknowledged the problem in the second paragraph of his testimony. "The economic situation has become distinctly less favorable since our July report," said the chairman.
Posted by: Bruce Hall at May 26, 2012 04:37 PM
Bruce Hall: Hmm, and all that poli sci literature on why certain legislators seek to be committee chairs can be dispensed with -- just assume exogeneity!
Posted by: Menzie Chinn at May 26, 2012 05:04 PM
Another viewpoint on federal spending for 2slug and Jonathan:
The point of this is that although economics is certainly a rigorous disciple, it is considerable part art than science... okay, craft than science.
Two physicists will not argue about the speed of light, but two economist will argue nearly every point. Data in a vacuum, unlike photons, can result in significantly differing conclusions.
I will not argue that government spending has to be bad. That's nonsense. But I will argue that government spending can be bad just as government regulations can be bad. That's the fun and frustration of social sciences. They rely more on 2slugs macro intuition than observation and repetitive verification.
Or as we said in the military, "Good enough for government work." Or as certain economists would say, "Damn those Austrians."
Posted by: Bruce Hall at May 26, 2012 06:17 PM
Bruce Hall: The article doesn't really say the figures are wrong (they aren't) but "reinterprets". Pretty weak. You should've been a little worried when the title mis-used the word "skewers" (he meant "skews"). Like, duh.
Posted by: Menzie Chinn at May 26, 2012 06:48 PM
Bruce Hall The Harvard study has some problems. First, the claim that the timing of the turnover of chairmanships is random is simply wrong. Chairmanships are determined by clearly defined rules. And they are entirely predictable. I don't call that "random," do you?
A second problem is that they look at where a corporation is headquartered, not where the actual stimulus is applied.
Third, they don't seem to have considered the possibility that years of highest turnover may also be correlated with years of greatest economic stress. That's what voters do...they throw the bums out. So should we be surprised if a drop in capital investment and R&D is correlated with the shocks or disturbance terms? And what happens to bias in panel regressions when a regressor is correlated with a missing variable?
Fourth, congress critters represent districts, not states; but the analysis was done at the state level, not the district level.
Fifth, one of the things that committee chairs do is to protect business donors in their districts from competition. That's why businesses buy congress critters. That doesn't have anything to do with fiscal stimulus.
Finally, Assistant Professor Cohen is an economist, but not in the relevant field. Cohen is a finance guy in the Biz school, not a macro guy. Finance economists don't exactly have a good reputation for understanding macro...I'm thinking Cochrane, Fama, Mulligan...you get the picture.
Posted by: 2slugbaits at May 26, 2012 07:55 PM
2slugbaits, you wrote:
There can be all kinds of things that immediately trigger a recession. Sometimes it's a demand shock and sometimes it's a supply shock.
Are those shocks something external to the economic system? Also, what finally triggers a recession and what are the causes for recessions are two different questions. Former doesn't really explain much about it.
But either way, what eventually what happens is that actual demand in the economy does not match business planned demand. Businesses end up investing less while people save more in order to deal with the shock. This time we're facing a very severe demand shock recession.
And what was this alleged "demand shock" this time that led to the recession? Mainstream economic theory seems to like to explain recessions with shocks which supposedly impose a perturbation on some equilibrium state to which the economic system would naturally move and in which it would stay forever otherwise without those nasty shocks. Those explanations aren't very convincing to me.
The Great Recession was finally triggered by the bursting of the housing bubble, but the housing bubble itself was something totally internal to the economic system. It's bursting wasn't a shock that perturbed an equilibrium state. Instead, it was a necessary outcome of already existing instability in a system that was far from equilibrium.
You say the mismatch between supply and demand occurred due to people saving more of their income, when "the shock" happened. This suggest that up to this point everything was just fine, and then people made some voluntary decision about how they partition their income between spending and saving, and this decision distorted the equilibrium. Also, your explanation sounds a bit confused. One one hand, the mismatch between supply and demand was supposed to be the consequence of a "demand shock" because people started to save more of their income. On the other hand, this behavior was supposed to be the response of people to the shock. Which sounds like circular reasoning to me.
Wasn't what really happened that people didn't just decide to change the partitioning of their income between spending and savings, but that spending from a significant segment in society had been exceeding income for decades already. This spending had been debt fueled, mostly private debt fueled. Economic growth had been largely based on this debt growth for decades. To achieve some percent point of GDP growth every year, total debt in the US economy had to double about every 10 years for the last decades. And as with any accumulated debt this can't be sustained forever, the limit is reached when the debtors can't generate enough income anymore to service the debt and can't take on any more debt. This finally happened when prices of houses stopped rising. The system being in an extreme disequilibrium state started to crumble at its weakest point, the subprime mortgage sector. This triggered the recession, and the causes for the recession are to be found in the internal dynamics of the economic system.
While households and businesses focus on repairing balance sheets by saving more and consuming less, it should be government's job to consume more and save less (i.e., run deficits). That will maintain aggregate demand and provide businesses and households with a place to park their savings other than the proverbial mattress.
If it was just as simple. Running a deficit does not necessarily maintain or increase aggregate demand, since the deficit can occur by an increase in government spending, but also by a decrease in government income. A large fraction of the current deficit in the US budget has been caused by a decreased income. Another problem is that new government debt alone doesn't necessarily increase government demand. New government debt increases government demand only when the amount of new debt increases from time period to the next time period, since the change in demand is related to the first derivative of the debt change (and absolute demand and GDP as flow variables to the first derivative of the absolute debt amount). Thus, assuming a fixed government income level, for generating economic grow through deficit spending just running a deficit at the same level isn't sufficient, not even increasing the deficit at the same rate is sufficient. To increase government demand and generate economic growth (or to counteract economic contraction in the private sector) the deficit increase in the government budget must accelerate. Therefore, this approach reaches its limits fast.
In summary, I do not think that the Keynesian approach provides any real solution to the deeper causes of economic or financial crises like the last one. It can help for the moment to patch things and kick the can down the road, at the price of accumulating more and more debt on government balance sheets, which can't be sustained forever. It's sovereign debt crisis in the making then.
Not that austerity provided any solution to an economic contraction, instead. It just makes things worse by amplifying or even reinforcing the contraction by positive feedback loops, putting the economy possibly in a death spiral. Greece nicely illustrates this, currently. Also, generally, debt is the motor oil of capitalism. Without accumulation of more and more debt, capitalism would have collapsed already a long time ago.
I do not think there is any solution at all within the current economic system. Economic and financial crises will reoccur, and they likely will become more and more severe in the future, with further increasing disproportions of income and wealth in societies worldwide and between different regions in the world, consequently leading to more social and political conflicts, confrontations and even wars. This will go on until humankind destroys itself or finds an alternative to capitalism as an economic system, which is based on (private) accumulation of capital and production for markets, where serving the needs of people is only mean to another end of producing things.
Posted by: rootless at May 27, 2012 08:22 AM
I just notice, the grammar in the last sentence of my previous comment is messed up. The last part that says, "which is based on (private) accumulation of capital and production for markets, where serving the needs of people is only mean to another end of producing things" is supposed to refer to the current capitalist economic system not to "an alternative" in the sentence.
Posted by: rootless at May 27, 2012 09:11 AM
rootless I don't think it's fair to expect a full blown theory of the business cycle in the space of a couple of paragraphs on a blog site. If you're an RBC type then recessions never happen, so there's not much to explain. People just decide to take more leisure. If you're an Austrian, then you attribute recessions to some mumbo-jumbo about the length of production cycles and the inevitable need to purge the system of rotteness, blah, blah, blah. If you're an Austrian the economy is forever on the cusp of calamity and they have no prescription other than to urge more purge. If you're a Marxist and decide to read Grundrisse then you probably need psychotherapy more than an economics lesson.
In old school Keynesian thinking recessions are pretty clearly due to mismatches between planned spendng and planned investment. The bottom line is that you either end up with inflation or recession. Even in a dressed up modern Keynesian model the Euler constraint is really just a way of trading off intertemporal consumption...which is to say it's about making consumption versus savings decisions in response to demand and supply shocks.
While most economics does assume movement towards some equilibrium position, that's not always the case. Sometimes there are good and bad equilibrium points. Sometimes there are good and bad saddle points. Most econometric models assume long run equilibrium almost by necessity, although "equilibrium" in econometrics usually means something slightly different than "equilibrium" in traditional supply and demand curve analysis.
Posted by: 2slugbaits at May 28, 2012 08:07 AM
2slugbaits, you wrote:
I don't think it's fair to expect a full blown theory of the business cycle in the space of a couple of paragraphs on a blog site.
No, it wouldn't be. But first you would have to have one with explanatory power. I very much doubt you do after what I have read so far. Also, I addressed some specific points in my previous comment. I don't see that one needed to present a full blown theory to reply to those. I'm fully aware that anything in such a forum can only be fragmentary.
If you're a Marxist and decide to read Grundrisse then you probably need psychotherapy more than an economics lesson.
I would have referenced here "Das Kapital" instead, since this is Marx's most important work on economic theory of capitalism. But I guess it's one and the same for you. So why do you think so?
In old school Keynesian thinking recessions are pretty clearly due to mismatches between planned spendng and planned investment.
And such a mismatch happens only every five to ten years? There is always a mismatch between spending and investing, since everyone has only limited information. Any match between the two would be purely coincidental.
The bottom line is that you either end up with inflation or recession.
How are these mutually excluding alternatives? I would have thought recession vs. expansion as succeeding phases in the business cycle, instead. But recession vs. inflation? Both can occur at the same time. Actually, empirically, inflation has occurred during many recessions.
Posted by: rootless at May 29, 2012 11:25 AM
I am a first year property student at UCT; I’m looking for some advice in the property market. All hypothetical though. If we were in an expansionary economy what would a property developer do? Sell, buy property, land or unit trusts9 high growth or index), or should one develop if one had land?
Posted by: Keisha at August 7, 2012 04:43 AM