Denying the Failure of Austerity Policies by Claiming That They Were Never Enacted: Understanding the Last-Ditch Effort to Save a Disastrous Ideological Agenda

Posted in: Politics

The Great Recession and its painful aftermath have seen the curious re-emergence of a completely discredited—indeed, even laughable—idea: that the proper response to an economic disaster is for governments everywhere to cut spending and reduce deficits.  This is an idea that most economists thought had been firmly banished from informed thought by the experience of the Great Depression—and, especially, that of World War II, when the United States finally started to spend at levels sufficient to bring the economy to full employment (and beyond).

But no bad idea ever truly dies, it seems.  Some economists are committed to an anti-government ideology, and they advise like-minded politicians.  Therefore, seizing on the current economic crisis, leaders in the major economies across the world have perversely engaged in the economic equivalent of bleeding a patient with leeches, by draining the lifeblood of spending from economies that had only recently endured near-death experiences.  Government spending has been cut, some taxes have been increased, and we were supposed to see the happy results as businesses and consumers increased their spending, putting unemployed workers back on the job.

Predictably, that is not at all what happened.  The Euro Zone still has an average unemployment rate that is above ten percent, and rising.  The British economy staggers under severe spending cuts, and layoffs of public workers.  The United States, where spending cuts have been less severe, continues to struggle, with unemployment still above eight percent, four years after the low point of the Great Recession.

Is this the end of the cult of austerity?  One would hope so, but the true believers simply will not let go.  In this column, I explain the increasingly tenuous defenses of the austerity doctrine, including a new and bizarre claim: that we never really gave austerity a fair try!  This contention is sheer nonsense, and explaining why that is so will require untangling some sophistry from the political and economic right.

The Economy, Confidence, and Austerity: The Big (and Wrong) Idea Behind Spending Cuts Was That Governments Were Getting in the Way of the Private Sector

Last December, I wrote a Verdict column in which I explored the extremely weak theoretical argument—and the even weaker empirical evidence—supporting the doctrine of “expansionary austerity.”  The idea was that businesses and consumers would see their governments cutting spending, which would then inspire confidence that governments were getting their fiscal affairs under control, clearing the way for the private sector to rebound and allowing the economy to expand.

Economists like Joseph Stiglitz and Paul Krugman sardonically described this theory as “believing in the Confidence Fairy.”  Even on its own terms, the theory made no sense, because we know that confidence in the economy, as felt by businesspeople and families alike, is based on their assessment of whether they will have money coming to them in the future.  Especially during a deep recession like this one, businesses lack customers, and people who have not yet lost their jobs are worried that they soon will join the ranks of the unemployed.  What everyone fears is that things will get worse before they get better.

Under those circumstances, why would any business spend money to build a new factory, or to upgrade its equipment, or to hire more workers, especially when it does not have enough customers to buy what it is already producing?  And if the government reduces its spending, then the businesses that sell to the government will be forced to lay off more employees, reinforcing the downward spiral.  Other businesses see this dynamic occurring, and everyone braces themselves for worse times to come.  Private-sector spending goes down, not up, reinforcing the harmful effects of the government’s program of austerity.

Of course, if we could magically get everyone to believe that things would get better, they actually would get better.  Confidence matters, but we cannot force people to be optimistic.  The supposed boost in confidence that austerity proponents tout is always more than offset by the confidence-killing knowledge that sales and employment will be harmed by reductions in government spending.

Again, most economists knew (or should have known) this to be true all along—that is, they knew full well that austerity is damaging to an economy, especially a weak one—but some were willing to pretend otherwise, apparently in the service of a larger ideological agenda.  Even so, the evidence continued to accumulate that austerity had never worked as advertised, while the day-to-day experience under this new round of austerity measures showed that matters were not only failing to get better, but becoming increasingly dire.

If Spending Goes Up, Is That Evidence That Austerity Never Happened?  Understanding How Failing to Expand, in a Weak Economy, Amounts to a Decision to Contract the Economy Further

One line of defense against this accumulating anti-austerity evidence was to trumpet the supposed success stories, with Ireland being held out (not once, but twice) as an example of a country that had swallowed the harsh medicine of austerity, and had seen positive results.  It turned out, however, that the Irish economy continued to struggle, and the attempts to claim otherwise collapsed quickly under the weight of the evidence.

If the promised effects of austerity fail to materialize, and the evidence becomes increasingly difficult to explain away, then what is a committed ideologue to do?  The answer is simple: Claim that we never saw the good effects of austerity, because we never properly followed the austerity cure in the first place.

How is it possible for anyone seriously to make such a claim, when the United States has passed budgets containing trillions of dollars in spending cuts that will kick in over the next decade, including large immediate cuts at the federal level, and even larger cuts at the state and local level?  In Europe, the German government has pushed hard to force even the weakest countries on the Continent to cut their spending.  In Britain, the Cameron government has bragged about its success at shrinking the government sector, to make way for the promised confidence-inspired economic expansion that still fails to materialize.

The answer from austerity’s advocates, as other analysts have noted critically, is now to point out that government spending in all of the major economies has gone up in the last several years, not down.  How can that be?  At least as a prima facie matter, this would seem to suggest that, somehow, the much-ballyhooed spending cuts were never truly enacted.  Up means up, and not down.  Right?

As appealing as that simplistic argument might be, it is wrong, for two related reasons.

No one claims that the original downturn in the world’s economies was caused by austerity measures.  The global financial collapse caused the Great Recession, and only later did governments foolishly respond with spending cuts.  Even so, the economic collapse put many people in need of relief from the effects of joblessness, bankruptcy, and despair.  In that context, then, we would expect that spending would rise significantly in the face of an economic catastrophe.

What even the revisionist story shows, however, is that aggregate government spending in most countries either stayed flat or went up by a very small amount, from 2008 through last year.  (Importantly, however, both Spain and Greece actually did reduce their spending, even in the face of accumulating need on the part of their populations.)  The government in the U.K., for example, saw spending rise by a few percent in 2009 and 2010, before the new Cameron government’s austerity policies flattened the curve in 2011.

Of course, these data are being presented by austerity’s defenders in a way that fails to account even for such basic factors as inflation and population growth.  Properly measured, therefore, even the supposed growth of spending in austerity regimes is nowhere to be seen.

Even without those adjustments, however, the defense of austerity still does not add up.  Think of it this way: If a government is faced with millions of people who suddenly need help, but the government refuses to help those people, then that government is being austere by simply holding spending constant.  Relative to what that government would have done had it not believed in the Confidence Fairy, it is refusing to pump life back into the economy, a decision that makes the economy grow weaker still.

The Spending Cuts Made Matters So Much Worse That Spending Elsewhere Had to Rise: Why the Defense of Expansionary Austerity Confuses Cause and Effect

The second reason that the “austerity never really happened” defense is unavailing can be understood only by separating (1) government spending that causes economic changes from (2) government spending that is the effect of economic changes.

Consider an analogy.  Suppose that a family has experienced a run of bad luck, with many members of the family needing medical care at roughly the same time.  Shocked by the resulting medical bills, the family decides that it is spending too much money on medical care.  In response, members of the family stop buying medications that they need to control the various ailments for which they recently sought treatment; stop seeing their doctors on a regular basis; and try to “tough it out” when new health problems arise.  They are being austere, by cutting their health care spending.

Fairly quickly, things will go awry.  Some members of the family might become so ill that they need to go to the hospital.  Specialists must be hired to deal with the worsening of various health problems, increasing the costs to the family.  More exotic and expensive medications must be purchased, in response to diseases that have become more difficult to control.

Now, it would be possible for the family to double down on austerity, by simply refusing even to deal with the extreme illnesses that their earlier false-economizing caused.  In that case, it would be possible to prevent spending on medical care from rising, even in the midst of the increasingly frightening decline in the family’s health.

Happily, that kind of “doubling down” is not the course that even the austerity-inspired governments have taken (so far).  Those governments did respond to the Great Recession by cutting spending, causing matters to become worse rather than better.  The effect of those spending cuts, however, was to harm people and the economy, with the resulting support from the government (unemployment insurance, Medicaid coverage, and so on) pushing the overall amount of government spending back up somewhat.

To return to the example of Ireland, the evidence (see the graphs available here) clearly shows that the overall level of government spending has dropped there in the past year, after rising from 2009 to 2010.  Even so, the Irish government’s affirmative policy choices caused it to cut spending on government consumption and investment every year from 2008 onward.  This means that Ireland really did choose the austerity path.  The resulting pain, however, saw the government spending as much on social benefits in 2011 as it had in 2009.  Given the increasing needs of the growing army of unemployed Irish citizens, however, this amounted to a decision to reduce support for each citizen who needed it.

Therefore, observing that spending did not go down, or did not go down by as much as one might have expected, is simply not—as some claim—evidence that austerity policies were never truly adopted, in Ireland, in the United States, or anywhere else.  It is evidence that we still have not entirely lost our humanity, because we are still willing to deal with the consequences of a weak economy by at least trying to ease suffering somewhat, rather than seeing it continue.

This means that calls for even greater austerity measures—or, as its advocates would have it, truly committing to austerity for the first time—add up to the decision to cause the economy to get worse, and then to refuse to respond to the entirely predictable pain and suffering that those cuts in spending will cause.

In the United States, the cuts contained in the Republican-passed budget in the House of Representatives represent exactly such an immoral choice: Medicaid, unemployment insurance, and so on, would all be cut deeply, and those programs would be redesigned so that their benefits would not increase, even in the face of growing needs.

Sadly, even some of the Democrats’ response to the Republicans’ cuts amount to an unnecessary austerity plan.  At least, however, the Democrats would not kick people when they are down.  This is not the ideal approach, but it is better than the Republicans’.  If we cannot bring ourselves to enact policies to expand the economy, at least we must mitigate the resulting pain.

6 responses to “Denying the Failure of Austerity Policies by Claiming That They Were Never Enacted: Understanding the Last-Ditch Effort to Save a Disastrous Ideological Agenda

  1. Edward Tomchin says:

    Mr. Buchanan, I’ve followed your essays — especially those on austerity — for some time and always found them enlightening and accurate.  However, I’m afraid your words fall only on the choir’s ears.  Those who really need to hear them are deaf and dumb to even the suggestion of stimulus.   In a manner limited far more than your essays, I have also received the same blank response.  Permit me my latest amateur attempt to convince the friends of austerity with rational and prudent example.

    Damn The Debt, Full Speed Ahead

    Everyone is screaming the debt!  The debt!  Reduce the debt!  No one is appraising it rationally, historically, and factually.  Let’s try that approach.

    First of all, we are not bankrupt and no where near it.  The net worth of the United States of America is around $60 trillion and we generate new wealth to the tune of $16 trillion a year.  We only owe around $15 trillion.  Consider the comparison.  If you, an individual, including your mortgage, car payment, credit card debt, etc., only owed a grand total of a year’s wages, would you be worried.  Of course not.  That would be absurd.  So why get freaked out because our nation only owes a year’s worth of earnings (GDP.) 

    Others scream about how no one wants to loan us any money!  A complete falsehood and blatant misrepresentation.  No one wants to loan Greece money because they are near, if not past, being bankrupt and there are serious doubts about their ability to repay anything.  That’s why their bonds yield 6% to 7%.  They have to pay that much to get anyone to purchase their debt. 

    On the other hand, U.S. bonds (T-bills) currently have a functionally negative yield.  While seemingly counter-intuitive, negative yield is a sign that our debt is considered first rate.  When the markets and investors become “risk-averse” (a fancy way of saying scared) they put their money into bonds of the nations and corporations which are considered fully safe.  Consider how safe our T-bills are at a negative yield wherein people pay us for the privilege of loaning us money.  We actually make money on our debt rather than paying it out.  Our debt is a safer investment than gold.

    Let’s look at our national debt historically.  In our Post Revolutionary War period we were 30% of GDP in debt, mostly to European barons who saw a positive future for our country.  Ben Franklin went to Europe and borrowed $10 million from the Dutch bankers on the potential strength of our future growth.

    Our post Civil War debt was 30% of our GDP and we turned that around rather fast as our new nation began to crank up the industrial revolution.  Our post W.W.I debt was 32% of GDP, then we went into a Depression where our debt grew to 48% of GDP.  Still no one was worried.  We had no trouble borrowing whatever we needed and wanted.  The U.S. was a nation on the rise and everyone wanted onboard.

    Consider that in the post W.W.II world (1945), we were 120% of our GDP in debt and simultaneously funding the Marshall Plan and the rebuilding of Europe, Germany and Japan.  By the early 1950s, this huge debt fell rapidly due to post war industrial expansion.  It reached a low of about 45% of GDP in 1973.  Note that both the Senate and the House had Democratic majorities during most of this period.

    Now in this post 2008 Recession, wherein our economy is slowly clawing it’s way back to full throttle, we are still only about 80% of our GDP in debt.  Far below our post-W.W.II debt to GDP ratio.

    People scream entitlements!  The facts are that Social Security, Medicare and Medicaid would all be financially solvent or near to it were it not for corruption and waste (i.e., bureaucracy.)  Then there’s the “baby boom” to contend with, which will raise the cost of Social Security and Medicare as the boom flows through the entitlement period.  However, within ten years there will be a corresponding and continual lowering of costs as the baby boom ages and dies off (sorry for the brutal truth) and costs drop to one of our lowest levels of population entitlements in recent times.  We’ll likely be in surplus territory and have all our debt paid off since it is well known that Congress hardly ever reduces taxation to match lower demand.

    Once the nation is back up and running its economy, which should happen within the next three to five years, the debt will also have a natural attrition due to inflation.  In good times, average inflation runs around 4% or better.  That means that each year the value of the debt we owe is reduced by 4% or better. 

    Then let’s not forget forgiveness.  A large portion of our debt is held by other nations in the form of Treasury bonds.  As in the past, advantageous situations will arise wherein nations holding our debt will forgive portions of it in exchange for something advantageous, such as trade and business considerations.

    Then there is the wealth that will be generated in the next half century, which will be so great as to make our debt payments miniscule or at least far less weighty.  And last but not least, a lot of bond debt principle is never repaid, it is just rolled over and over while we continue to service the debt (pay the interest) until the debt itself disappears through a mix of all the above situations.

    Yes, there is a level of debt which can be disastrous.  Portugal, Italy, Greece and Spain (the PIGS) are excellent examples.  However, we are no where near that level of debt, nor do we have the non-functional economies the PIGS have.  As noted above, we are not that far in debt, our debt is considered among the safest in the world, and there are numerous ways to reduce it.

    There is also the unrecognized truth that European economies in general and the PIGS specifically, are plagued with corruption that has been deeply embedded in their national cultures and personas for far longer than our nation has existed.  We complain about the corruption here in the U.S., but we are pikers when it comes to real corruption.  This is also true with emerging economies such as China and India.

    That said, let’s get back to spending on the infrastructure (highways, bridges, business incentives, education and training) which will get us back on the track to generating wealth.  There’s no reason our GDP shouldn’t be around $25 trillion a year by 2020.

  2. AHP1081 says:

    I read the first two paragraphs of your article and found no reason to read more.  My conclusion is “you are impressed with your titles and know nothing about the economy”.  obama has been throwing good money after bad since he got in office and all he has done is increase the deficient by 6 trillion dollars.  In short your lack of common sense is apparent.


  3. Bill says:

    Thoroughly pointless politicized article that presents some of the problems with austerity but fails to provide a solution.  Austerity is not implemented because people are heartless sadists as the author would suggest, but out of necessity as borrowing money for eternity is not an option.  This would have been worth my time if it proposed WHEN spending cuts should be introduced – although the article seems to suggest they should be introduced when the economy is performing well.  Of course, what it ignores is whether or not that’s politically feasible in a democratic government.

  4. Jwr3 says:

    Sure, let’s remove (tax) money from the economy so that government can decide where it should go. Or maybe we should borrow even more from China, so our borrowing cost goes through the roof and devours the federal budget. Brilliant.

  5. Eric Charles says:

    Another point of view:

    “To test whether the Keynesian or monetarist view was supported by the empirical evidence, Prof. Friedman recounted two episodes in which fiscal and monetary policies moved in different directions. The first was the Japanese experience during the early 1990s. In an attempt to restart the Japanese economy, repeated fiscal stimuli were applied. But monetary policy remained “tight,” and the economy remained in the doldrums.

    Prof. Friedman’s second example was the U.S. experience during the 1990s. When President Clinton entered office, the structural fiscal deficit was 5.3% of potential GDP. In the ensuing eight years, President Clinton squeezed out the fiscal deficits and left office in 2000, with the government’s accounts showing a structural surplus of 1.5%. Ironically, the two years in which fiscalist Prof. Lawrence Summers was President Clinton’s Secretary of the Treasury (1999-2000), the U.S. registered a structural surplus of 0.9% and 1.5% of GDP. Those years were marked by “tight” fiscal and “loose” monetary policies, and the economy was in an expansionary phase. Note that Prof. Summers has clearly had a sip of snake oil since his heady days of 1999-2000.

    Prof. Friedman concluded with the following remark: “Some years back, I tried to collect all the episodes I could find in which monetary policy and fiscal policy went in opposite direction. As in these two episodes, monetary policy uniformly dominated fiscal policies.”
    We can further demonstrate the existence of the fiscal factoid by comparing changes in the output gaps and general government structural balances. In the accompanying table, the first column records the output gap. When the gap is positive (negative), actual output is above (below) the economy’s potential. The second column in the table is the general government’s structural balance. When it is negative (positive), a fiscal deficit (surplus) exists. The third and fourth columns record the changes in the output gap and general government structural balance, respectively. A positive (negative) change in the output gap implies an economic expansion (contraction), and a negative (positive) change in the general government structural balance implies a fiscal stimulus (consolidation).

    If the fiscalists are correct, we should observe an inverse relationship between changes in the rate of growth in output (the third column of the table) and the budget balance (the fourth column of the table). From 2001 through 2016, as projected by the International Monetary Fund, the U.S. economy does not behave in the way that Prof. Krugman and other Keynesians have asserted and proselytized. Indeed, the number of years in which the economy responds to fiscal policy in an anti-Keynesian fashion is more than double those in which the economy follows the Keynesian dogma.”