by From Lars Syll So what’s wrong with the economy? … A 2002 study of United States fiscal policy by the economists Olivier Blanchard and Roberto Perotti found that ‘both increases in taxes and increases in government spending have a strong negative effect on private investment spending.’ They noted that this finding is ‘difficult to reconcile with Keynesian theory.’ Consistent with this, a more recent study of international data by the economists Alberto Alesina and Silvia Ardagna found that ‘fiscal stimuli based on tax cuts are more likely to increase growth than those based on spending increases.’ Greg Mankiw From Mankiw’s perspective ‘the Alesina work suggests a still plausible hypothesis.’ Hmm … Austerity policies not only generate substantial welfare costs due to supply-side
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from Lars Syll
So what’s wrong with the economy? …
A 2002 study of United States fiscal policy by the economists Olivier Blanchard and Roberto Perotti found that ‘both increases in taxes and increases in government spending have a strong negative effect on private investment spending.’ They noted that this finding is ‘difficult to reconcile with Keynesian theory.’
Consistent with this, a more recent study of international data by the economists Alberto Alesina and Silvia Ardagna found that ‘fiscal stimuli based on tax cuts are more likely to increase growth than those based on spending increases.’
From Mankiw’s perspective ‘the Alesina work suggests a still plausible hypothesis.’
Hmm …
Austerity policies not only generate substantial welfare costs due to supply-side channels, they also hurt demand — and thus worsen employment and unemployment.The notion that fiscal consolidations can be expansionary (that is, raise output and employment), in part by raising private sector confidence and investment, has been championed by, among others, Harvard economist Alberto Alesina in the academic world and by former European Central Bank President Jean-Claude Trichet in the policy arena.
However, in practice, episodes of fiscal consolidation have been followed, on average, by drops rather than by expansions in output. On average, a consolidation of 1 percent of GDP increases the long-term unemployment rate by 0.6 percentage point and raises by 1.5 percent within five years the Gini measure of income inequality ….
The evidence of the economic damage from inequality suggests that policymakers should be more open to redistribution than they are. Of course, apart from redistribution, policies could be designed to mitigate some of the impacts in advance—for instance, through increased spending on education and training, which expands equality of opportunity (so-called predistribution policies). And fiscal con- solidation strategies—when they are needed—could be designed to minimize the adverse impact on low-income groups. But in some cases, the untoward distributional consequences will have to be remedied after they occur by using taxes and government spending to redistribute income. Fortunately, the fear that such policies will themselves necessarily hurt growth is unfounded.
Economists have a tendency to get enthralled by their theories and models, and forget that behind the figures and abstractions there is a real world with real people. Real people that have to pay dearly for fundamentally flawed doctrines and recommendations.
Let’s make sure the consequences will rest on the conscience of those economists.