The Eurozone Crisis (PART FOUR)--AUSTERITY

One of the big debates unleashed by the EZC involved the policy of "austerity," which was imposed by the Troika on Greece and elsewhere.

The first thing to notice is that the word Austerity is used in multiple different ways. Unfortunately, the author or journalist or blogger often doesn't bother telling you which sense of the term they have in mind. (For an excellent book on the topic, see Mark Blyth, Austerity: The History of a Dangerous Idea)

I've come up with 6 different uses/definitions, which I've distinguished with names.

1. Consolidation-austerity.

Fiscal consolidation (or fiscal adjustment, as it is also sometimes called) involves the effort to lower a budget deficit by way of tax increases or public expenditure cuts. The expenditure-cut component of that fiscal consolidation might be referred to as "consolidation-austerity."

No economist--certainly no Keynesian economist--can be against consolidation-austerity, since it forms part of a well-timed counter-cyclical fiscal policy. 

As John Milton Keynes himself wrote (1937): “The boom, not the slump, is the right time for austerity at the Treasury.”

      Disagreements arise, however, over:

           (a) timing;
           (b) amount;
           (c) composition (tax increases v spending-cuts); and/or
           (d) the duration.

These disagreements are fed, at least in part, by the fact that fiscal consolidation is not the only way of removing a budgetary deficit. States can, in favourable circumstances, remove a deficit through economic growth and/or borrowing and/or devaluing their way out of the problem.

2. Perverse-austerity

These involve fiscal adjustment programs that fail in one or more of the dimensions (a-d) above. Most critics of austerity use the term in this pejorative sense, even though they might disagree on why austerity is an inappropriate or perverse policy.

One difficulty with any use of austerity in this perverse sense of the term is that economists disagree on the measure of austerity. Measurements might include:

(i) annual changes in public sector expenditure;
(ii) annual changes in government expenditure as a percentage of GDP; or
(iii) annual changes in the cyclically-adjusted primary balance.

(See here the different points of view of the critics of the austerity policies of the Troika like Paul Krugman and defenders like Bershidsky (and here) and Krugman; for a more technical debate, see the work of defenders of "fiscal contractionary growth" like Alesina and Ardagna (1998, 2013) and their critics.)

Because of these measurement disagreements, people can't always agree when a policy of austerity begins and ends. Thus the former UK Chancellor of Exchequer George Osborne announced an austerity policy in 2010, which, depending on how it is measured, eased up or even ended in 2013.

Reading the Alesina literature on fiscal contractionary growth, I sometimes think that the debate between him and his critics turns entirely on the question of relevant time-period and lags. It is hard to dispute the claim of the critics who believe that a fiscal contraction causes a short-term slump; the difficulty arises in assessing the subsequent medium or long-term growth (if there is any). Was that caused by fiscal contraction or by something else?

3. Outcome-austerity

Both consolidation-austerity and perverse-austerity refer to a process involving (typically) cuts in public expenditure. Some commentators (Simon Wren-Lewis, for example) use the term to describe the economically sub-optimal outcome (or state of affairs) that *necessarily* results from perverse-austerity (i.e. an austerity policy that is mistimed, too large, and/or badly designed) and *possibly* results from fiscal consolidation.

As SWL puts it: "Think of fiscal consolidation as an action and austerity as a state. Logically fiscal consolidation may or may not lead to austerity" ("Defining Austerity"). Elsewhere he writes: "Austerity may be defined as a large fiscal contraction that causes a substantial increase in unemployment (Dublin paper--later version here--praised by Krugman here)" In this latter sense--a fiscal consolidation gone wrong, as it were--this contraction (or tightening), would count as (in my terminology) "perverse-austerity."

Again issues of measurement complicate the attribution of the term austerity in this outcome sense. In its simplest form, outcome-austerity exists when high unemployment exists; in a more sophisticated form, outcome-austerity exists when an "output-gap" exists.

Thus Britain currently (early 2016) has a 5.1% unemployment rate, the lowest in 10 years--and unlike the US, a labour participation rate that is higher than pre-crisis--but Britain remains for Wren-Lewis and others in a state of austerity, because Britain has an output gap.

(See here Simon Wren-Lewis, "Defining Austerity," "The Austerity Con;" for the opposing UK Treasury View, see Nicholas Macpherson's recent Mansion House speech ("Keynes' General Theory at 80")and his earlier review of William Keegan's book on Osborne.)

Strictly speaking, Britain doesn't actually fit SWL's own definition of outcome austerity, simply because the British economy hasn't seen "a substantial increase in unemployment." (To be more precise: UK unemployment increased substantially from mid 2008 until last quarter 2012 and then decreased substantially to a level below pre-crisis levels.) See this table:

4. Consumption-austerity

Historically, some states--Britain in the 1940s and 1950s, for example--have repressed household consumption to divert resources elsewhere in the economy. (See David Kynaston's famous book Austerity Britain 1945-1951.)

5. Classical austerity

This describes the general presumption in favour of the markets and against the state. This line of thought traces back (allegedly) to Locke. It is present, albeit in a more tempered form, in the classical economists like Smith, Hume, Ricardo and Mill.

6. Neo-liberal austerity

This describes a general antipathy (usually on the part of others) to public expenditure and the social-democratic state.

It is worth noting--although no one does--that being anti-austerity is not exclusively a left-wing or social democratic position. In the early-2000s, the Bush/Cheney Administration announced that "deficits don't matter" and blew out the budget on useless wars.

Other Useful Papers:

Sebastian Dellepiane and Niamh Hardiman, The New Politics of Austerity: Fiscal Responses to Crisis in Ireland and Spain