Expansionary austerity: some shoddy scholarship (repost)

I’ve just read ‘Tales of Fiscal Adjustment’ by Alesina and Ardagna, which appears to be the founding text for the idea of expansionary austerity. The level of scholarship, at least as it applies to Australia (which is their first illustration) is exceptionally poor, to the extent that it requires a rescuscitation of the ancient Internet tradition of Fisking. I’m going to quote excerpts from their text (about 50 per cent of the total), and intersperse them with my comments.

In 1985, a single-party left-wing government took office and launched a stabilization plan to correct the internal and external imbalances (the current account deficit was 4.13% of GDP and the total deficit/GDP ratio was above 3% in 1984).

The Labor government was elected in 1983, not 1985, in the early stages of recovery from a deep recession. Their stabilization plan, introduced in 1984, and called the Trilogy, pledged to hold tax/GDP and expenditure/GDP ratios at or below their current levels while reducing the budget deficit. The current account deficit, a subject of continuous concern, remained high throughout the period in question

The government wage bill and transfer programmes accounted for the biggest share of the adjustment … The cuts in transfer programmes were mainly concentrated on unemployment insurance.

There were no cuts in unemployment benefits. Expenditure fell because unemployment was falling. Haven’t Alesina and Ardagna,heard of automatic stabilizers?

Capital taxation was rationalized.

OK, I guess, except that ‘rationalized’ in this context, typically means ‘reduced’. In fact, the government introduced a capital gains tax which more than offset the end of double taxation of dividends

From 1983 to 1986, wages were bargained at a centralized level. The system was based on full indexation with twice-yearly adjustment, but there was a departure from full indexation in 1984 and 1986. In the negotiation process, government used tax reductions previously described to induce the union movement to accept reductions and delays in wages increments.

Absolutely opposite to the story told here, the trade-off in 1984 was in return for the (re)introduction of a single-payer health insurance scheme, a major expansion in the role of government and one that has endured to this day. In subsequent rounds, tax cuts were sometimes part of the deal, but the big trade-off was the introduction of compulsory employer contributions to retirement income funds. These aren’t counted in measures of tax revenue and expenditure, but in functional terms they are the equivalent of a social security scheme (though a regressive and badly designed one, with lots of historical inequities and complexities locked in).

Between 1985 and 1986, the nominal effective exchange rate decreased by about 19%.

This is presented as if it were a goal of government policy. In fact, this depreciation, and the current account deficits that drove it led to Treasurer Paul Keating’s famous observation that Australia was in danger of becoming a “banana republic”

Australia is a clear case of an‘expansionary fiscal contraction’. GDP grew faster during and in the aftermath of the adjustment, both in absolute terms and relative to the G7 countries. A private investment boom was associated with profits and easier access to credit following the financial deregulation process that took place in 1985–6.

This is like the story of the guy who jumps off a tall building and says, as he passes the 25th floor “All good so far”. Writing in 1998, Alesina and Ardagna must surely have been aware that, almost immediately after their story ends, Australia entered the worst recession in its postwar history. The recession was triggered by contractionary monetary policy, but its severity was largely due to the collapse of speculative investment projects undertaken by so-called ‘entrepreneurs’ who took advantage of easy access to credit to build conglomerate empires that failed in the crisis, almost taking down the banking system with them. Unemployment reached double digits in the early 1990s, and didn’t fall below the pre-adjustment level of 8 per cent (itself disastrous) for nearly a decade.

In July 1987, the same government and the same prime minister in office were re-elected by popular vote. In the April 1990 elections, neither the winning government nor the prime minister changed.

This is true, though there was a huge amount of luck and ham-fisted opposition involved. When these factors ran out in 1996, the government suffered a thumping defeat, based primarily on the recession of the early 1990s. Labor was out of office for another decade.

Overall, the description of Australian macroeconomic experience given here is unrecognisable to someone who lived through the period. The government did lots of things that gained the approval of neoliberals (global sense) but these were almost entirely microeconomic in nature.

Although this piece is full of silly errors and spurious claims, the central problem (which starts with the dating error) is that the direction of causality is reversed. The strong expansion that began in 1983 drove much of the fiscal consolidation directly, and created the political-economic environment in which tight fiscal discipline was feasible without economic contraction, and politically salable. The severe recession that began just after the triumphant return to budget surplus (when Paul Keating went from bragging that “this is the one that brings home the bacon” to observing that “this is the recession we had to have”) wiped out all of the fiscal consolidation of the previous decade. Balance wasn’t restored until years into the expansion with a consolidation that produced an increase (admittedly temporary) in unemployment, as Keynesian theory would predict.

As a final observation, Alesina and Ardagna would have had a much better picture of the events they described if they had taken a list of Keating’s most famous sayings and checked back to discover the context.

37 thoughts on “Expansionary austerity: some shoddy scholarship (repost)

  1. I’m with Gaz – Chris, your reading of Keynes is selective and in places straight-up wrong. The whole point of the General Theory is to countervail against the boom and bust of capitalism which Keynes saw as an ongoing and natural part of the capitalist process.

    I think you know that, so I’m not sure why you’re running this line about ‘the end of crisis’ or whatever.

    Albeit, the nature of the debate does rest on a question that is a bit reminiscent of Zen: if there is an economic crisis, but the state employs countercyclic economic policy and employment and living standards remain steady, is it still a crisis?

  2. @Dan

    @Gaz

    Please get a grip. The quote re Keynes specifically claiming ‘no more crisis’ was posted previously.

    The quote from Samuelson was also posted previously.

    The GFC is not caused by the normal cycle of boom and bust but by an underlying ratcheting up of adverse macroeconomic tendencies. These belie Keynes and it would appear – yourselves.

    He laughs best who laughs last.

  3. @Chris Warren
    Liquidity is the vital issue here. You claimed that capitalism required an ever-increasing pile of IOUs – that is, private debt in the form of liquid assets (paper saying “I owe you $5” that can circulate as cash). I pointed out that this is only true if you assume the state is not willing to expand the money supply (publicly created liquid assets) to cover the demand or use which the IOUs are being put to. You have not given an adequate answer to this objection.

    This is a ve-ry strange reading of Marx on rent – one that seems to misunderstand the whole classical idea of rent, to be frank. “Rent” is not about the return on investment on manufactured capital (eg machinery, buildings), despite the deliberate confusion created between “rent” and “return on investment” by the neoclassical economists. “Rent” is about the above average return accruing to a socially constructed monopoly owner of pre-existing resources (land, minerals, etc) and some classes of socially-constructed resources (fictitious capital, or “speculative assets” e.g. shares); resources which by right belong to the commons & the workers who created them. Marx paid more attention to the capitalist/worker conflict than to the landlord/capitalist and landlord/worker conflicts; that doesn’t mean he wasn’t aware of them or didn’t share Ricardo’s view that landlords are parasitic
    I am with Dan & Gaz that you are misreading Keynes and certainly not aware of the various post-Keynesian and Functional finance schools; the need for countercyclic action is constant, though obviously varying in direction and magnitude with the movement of the private economy, and any claim that “All Keynesians believe that the need for stimulus is temporary” is just flat wrong, or at least, relies on the rhetorical trick of simultaneously claiming that “anyone who believes that the need for stimulus is not temporary is not a Keynesian”.
    If you want to claim that the GFC is not a Keynes/Minsky/Fischer crisis but a classic marxist crisis, you need to provide evidence of a long-term falling rate of profit strongly correlated with an accumulation of fixed capital over variable capital (labour). This you have not done.

  4. “The quote re Keynes specifically claiming ‘no more crisis’ was posted previously.”

    Sorry Chris, where? The internet’s a big place.

  5. @Gaz

    A source is:

    http://en.wikiquote.org/wiki/John_Maynard_Keynes

    We will not have any more crashes in our time.

    [Conversation with Felix Somary in 1927, reported in Felix Somary, The Raven of Zurich, London: C. Hurst, 1986 (1960), 146-7].

    Samuelson’s rendition of the same claim is in his 9th American Edition. Unless I missed it, the Australian editors did not reprint it, so local university students received a somewhat false view on this point.

    Consequently their clinging onto Keynes in subsequent careers, may be understandable.

  6. Chris, it’s listed by Wikiquote under “attributed” for the good reason that no sensible person would believe this. A quote reported 30 years after the event, and imputing a view known to be the opposite of that actually held by the alleged speaker (conveniently dead and unable to respond), has zero credibility. The supposed date is two years after The Economic Consequences of Mr Churchill where Keynes is on the record predicting a recession.

  7. @John Quiggin

    This is an aspect, however, Samuelson made the same explicit point. This live rendition certainly covers any consequences for the quote being attributed. The policy remained. An Samuelson certainly meant it “sensibly”. So all sensible people should believe it until rigorous proof otherwise emerges.

    And it is useful to see the quote when souls like to invoke the; “you must be joking defence”.

    So my substantive point – that Keynsians fully expected or pretended that their stimulus (or pulling leavers) would ensure that there were no more crisis in their future – still stands.

    Certainly this was the claim of Labor politicians who claimed they follow Keynes.

    I suppose you can hold a policy of crisis-fixing, but also predict a recession. This is not a real problem.

    Sensible people do not need to be scared-off by various pretend comments above.

  8. Okay Chris, but I’m still going to ring the relevance bell: given that you’re now talking to Keynesians and post-Keynesians who make no such claim, have you got anything?

  9. @Dan

    Post-Keynesians (a tangent) probably do not make the claim and are not relevant.

    It may now be very unwise and unstrategic, for modernised Keynesians to make the same claims as Keynes may have and Samuelson actually did.

    However, if Keynsians specifically do not claim a permanent fix, at what point did they depart from Samuelson?

    Maybe a Keynesian has admitted that their stimulus measures did not mean a permanent fix(?) but generally if a plumber tells you he will fix a leak, you assume this is a proper, ongoing, fix.

    If a fix is not permanent – the onus is on the advocate to explain why?

    Maybe there are no Keynesians left? and we are getting new guises as post-Keynesians. A bit like getting a New Testament.

    So who really wants to stand as a Keynesian today? I kinda hoped that Samuelson was the last.

  10. @Chris Warren
    I’m going to take your bait and your fishing rod as well. Most people would define “in our time” as “within our/my lifetime”. Given that the Keynesian golden age lasted a good 30 years after Keynes’ death, I’d say that quote is thoroughly vindicated.

    Your argument doesn’t work even at the level of metaphor. You say ” if a plumber tells you he will fix a leak, you assume this is a proper, ongoing, fix.” Name one plumbing firm who will guarantee you that after he fixes one leak, you will never suffer any more leaks from that pipe, or any of your other pipes, ever. This is the stance you are attributing to Keynes and Keynesians, and it is a simply absurd straw man.

  11. @Chris Warren

    Why would Samuelson be the arbiter of what is and isn’t Keynesian?

    James is right that Keynesianism, like plumbing, is always a temporary fix – that’s what the term countercyclic policy implies; that there are cycles. It’s probably more useful to think of Keynesianism as maintenance.

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