After what seems like an orgy of bad economic decision making, not just on the part of the bankers and hedge fund managers on Wall Street, but really all of us, it appears at first blush quite correct when we hear that we all must pay a price for the “good times” of the late 90s and the early part of this decade. Unsurprisingly, politicians across the world are taking advantage of this guilty sentiment to call for “austerity,” meaning cuts in government spending. Take a look at this Newsweek article, for example:
With a deficit set to top 11 percent of gross domestic product this year, and a debt of $1.12 trillion and rising, [David] Cameron prescribed a harsh regimen of spending cuts and possible tax increases. Tony Blair’s motto was “Cool Britannia.” Cameron’s is likely to be “Austerity Now!”
It seems to make economic sense: we all borrowed too much to indulge our inflated sense of our own status in the last decade, so we must now live with less. It is quite naturally thought of as the “pain after the party,” as professor of political economy at Brown University Mark Blyth characterizes the popular view of the downside of economic cycles. But economics is never that simple, is it? No, it isn’t. The bedrock of our economy is confidence in the market, and in this column, Paul Krugman explains why fiscal austerity will not assure markets:
For the most part, this debate has been between those like me and Brad DeLong, who assert that budget-cutting should be postponed until we’re no longer in a liquidity trap, and those who insist that we must cut immediately, even though it would inflict economic damage and do little to improve the long-run budget position, because immediate cuts are necessary to achieve credibility with the markets.
My response, and Brad’s, has been to say that right now there’s no hint in the data that the United States (or the UK) has a problem with the markets, and to question why the deficit hawks are so sure about what the market will want in the future, even though it doesn’t want it now.
But I suddenly realized this morning that there’s yet another question for the deficit hawks: what evidence do you have that fiscal austerity of the kind you’re demanding would reassure markets, even if they did lose confidence?
Consider, if you will, the comparative cases of Ireland and Spain.
Go ahead and read the rest of Krugman’s piece. (He does have a Nobel after all!) And Brad DeLong has his own comment on Krugman here. One of the bigger problems is that “austerity” would not affect all economic classes equally. But let me let the aforementioned Mark Blyth explain that better: as the last word, and to make things as simple as they should ever be (Einstein’s purported comment on the presentation of science to the public was something like, “It should be made as simple as possible but not more so!”), I give you Dr. Blyth: