Tuesday, 27 July 2010

The Austerity Debate

Slí Eile: Don't miss the Great Austerity Debate running on the Financial Times at this site. Some heavy hitters have weighed in followed by a thread of comments. You may have missed the Austerity debate on the home ground on irisheconomy here. Funny thing right now is that if you ask people are they for or agin stimulus/deflation they will tell you that they are all for a jobs-creating stimulus while, at the same time, imposing pain through deflation. Pain must be good. Per crucem ad lucem is the battle cry of the deflationists - to the light via the cross. Yet, the evidence that stimulus will not work, cannot be afforded and could spook the markets is thin. It is incumbent on those of us who argue for stimulus to spell out what it would mean, how long it would run, what levels of spending, taxation and borrowing at home and abroad would be envisaged and what sets of assumptions, scenarios and 'what if' circumstances were factored in. The debate, internationally, will not go away as most industrial economies stuck in a deficit trap and trade/capital imbalance cannot easily deflate their way of the impasse. Neither can they readily devalue or pump prime their way out. The fundamental contradictions within a 'for profit' economy have come home to roost. Yet, the time is not right for a fundamental change in economic and social relations - or is it? Underlying all the simulations and scenarios considered by agencies from ESRI to OECD to IMF to ECion is the presumption that the current world order and system of economic production is here to stay. We need to think bigger and bolder than that - if only for the sake of the coming generations. We need a vision stimulus to offer hope and justice where governments, media conspire to depress and sometimes deceive.



The Stimulus/Austerity debate is in my view not particularly interesting at a "general" level, because what is of keen interest right now is at the particular level of our own economy.

Stimulus may or may not be the right way to go at EU or U.S. level. Whatever the answer, it does not follow that stimulus at the Irish level is appropriate. (Or possible - see Karl Whelan's recent lament at http://www.irisheconomy.ie/index.php/2010/07/22/unpleasant-stimulus-arithmetic/)

Why ? Because the Irish economy is extremely open and the demand that matters most to us is that from export markets.

It is true that the direct effect of export revenues means less in terms of jobs, but the key word is "direct".

Consumer spending has recently been more significant in terms of job creation and as a component of national income, but that position refers to the "bubble" years and is not sustainable. A stimulus to domestic spending now will not necessarily increase demand for labour or repay itself in tax revenue, and what other justification for a stimulus is there ?

Even if the latter paragraph is incorrect, an important fact is that those who provide the funds believe in it, correct or not.

And, since any stimulus would require bond market co-operation (either by actually funding it, or by continuing to fund other State spending so that the State could use other funds as "stimulus money"), you cannot ignore this or dispose of it by saying that the bond market is stupid or ignorant.

The bond market may well be both of those things, but it has the money, and we cannot force it to lend the money to us if it thinks we are crazy, even we are not.

P.S. When I went to get the URL above for Karl Whelan's post, I discovered that I hadn't read the comments on that post by Michael Burke and Michael Taft. I commend the interesting discussion that ensued between all three (all at the same URL referenced above)

Slí Eile said...

@Fergus Thanks for your constructive and clearly apt comments. The key issues raised centre around import leakages, affordability (in terms of borrowing or drawing down cash reserves) and market sentiment. For sure there are risks and limits to what can be done domestically especially as some major players abroad are attempting to draw back on stimulus measures in 2008-09 period. What the protagonists of deflation have not demonstrated - empirically - is that cutting public spending equals savings equals significant reductions in the General Government Deficit. Any green fairies seem to be visible to the naked eye in export and GDP data and certainly not in tax receipts, SW spend arising from higher unemployment and collapsed investment and consumer spending. Using Input-Output tables and ESRI work on capital spending it is possible to show some bang for buck in some sectors more than others. These may be in areas such as education, tourism and specific sectors where targetted and socially useful investments can be made with short and long-term payback.
The bond markets are far from stupid or ignorant even if they governed by semi-rational fear and greed. Perhaps one way to divine what the market bond gods are telling us is that fiscal policy including the banking fiasco is not credible in the long-run. Markets like some measure of consistency, feasibility and comfort against sovereign defaults. The present deflationary strategy plus bottomless banking silo pit is not convincing them and this shows in the spread for some countries over others. Ironic that low public spend/low tax countries are showing the highest debt ratios, debt servicing costs and most nervous market reactions.
But far be it from me or anyone to question the markets - they are all sovereign, all powerful and worthy of veneration since they have all power and knowing. And should we displease them worse fates await us like the deviant peoples of old.

Michael Burke said...


there is a widely-aired belief that stimulus in Ireland won't work because it is an open economy. But I think that is a non-sequitur.

Consider the following; the most closed economy in world is North Korea. A stimulus package there would yield no positive result as there is no capacity to increase the supply of goods, either from abroad or via the domestic economy's ability to absorb capital and technology from abroad.

Too far to go? Then closer to home might help. This economy is the most open in Europe. The economy in the 6 counties is the most closed (foreign sales less than £6bn per annum).

The multiplier effect of Community Structural Funds in the North average 1.35 over 16 years, whereas the multiplier here was 2.05. Discussing the lowest impact from CSF the authors suggested it was linked to the lowest levels of openness of the economy.


Though long-neglected, the explanation really is economics 1.01. This economy, by its high level of participation in the international division of labour, increases its relative efficiency and the efficiency of all investments, including government investment.

But the idea does have a lot of traction, being endlessly repeated without examination. It needs to examined much more closely than it has been.