Tuesday, September 21, 2010

Veronique de Rugy on Austerity

In reply to Paul Krugman's numerous missives that the only way governments should react to the downturn is to spend, spend, spend, Veronique de Rugy has a piece in Reason that contradicts Krugman's points. (Yeah, I know, Reason gets Koch money, just as Krugman's people get Soros money. Call it a wash.)

Ms. de Rugy writes:
One of the key signaling devices for international investors is how a government behaves under financial duress—how it balances the demands of its debtors with those of its welfare recipients. Announcements of lower spending and higher taxes tell investors a country is willing to go to great lengths not to default on its debt obligations. If the government instead focuses on preserving its welfare state and public employee benefits, investors know default is more likely and will shy away from that country’s bonds.Japan has the world’s biggest debt as a percentage of GDP, at 227 percent, nearly four times the economist-recommended 60 percent ceiling. It has gotten away with its carelessness without risking default because the country relies more heavily than most on domestic investors to fund its follies. The United States, despite a dangerous debt burden relative to GDP (66 percent) and a structural deficit among the highest of developed countries (almost 4 percent), has so far also escaped investor censure, thanks to the perception that the dollar remains the safest currency in the world. European countries don’t have that luxury.
I would add that the people in power in this country act as though the U.S. Dollar is impervious to any kind of international challenge. They forget that just 40 years ago, that is precisely what happened, and the crisis of 1971 left the USD in the lurch.

She continues:
The notion that austerity is bad and stimulus is good rests on the Keynesian theory that if government spends a lot of money, that money will create more value in economic growth. This purported increase in gross domestic product is what economists call the “multiplier effect.” It’s a nice story, but like most fairy tales, it has scant basis in reality.

In a 2010 paper published by George Mason University’s Mercatus Center (where I work), economists Robert Barro and Charles Redlick showed that in the best-case scenario, a dollar of government spending produces much less than a dollar in economic growth—between 40 and 70 cents. If that was the rate of return on our private-sector investments, America would soon cease to be a leading economic force.

Barro and Redlick also looked at the economic impact of raising taxes to pay for spending increases. They found that for every $1 in tax-financed spending, the economy actually shrinks by $1.10. In other words, greater spending financed by tax increases damages the economy. The stimulus isn’t working, because the economic theory it is based on is fundamentally flawed.
As I said before, this piece is worth reading. Krugman won't like it, but people who actually believe that economics is more than just stuffing money into an economy of homogeneous factors are going to find it stimulating reading.

20 comments:

Another Anonymous said...

A ludicrous article. The fantasy is in the assumptions. And everywhere else. The account of bond market behavior is pure fantasy. The risk of Japanese or US default is zero. No fiat currency issuer has ever defaulted. And 50% of that 227% is held by the Japanese Central Bank, so the government owes it to itself - what a horrible burden. Europeans don't have that luxury because they went insane and got on the Euro, and the continent is now ruled by the austerity maniac Jean-Claude Trichet, as much as it ever was by Charlemagne, Napoleon or Hitler. And of course the more austerity, the worse the economic performance has been proven by events there.

The 1971 problem was because the dollar was on the remnant of the gold standard. Everybody wanted dollars, the reserve currency, and because of the unprecedented and unrepeated economic growth caused by worldwide adherence to Keynesian full employment policies, there just wasn't enough gold to go around - which primitive (but not very ancient) superstition tied the dollar to. So the dollar went back to purely being what money always has essentially been for thousands of years - a tax credit. (Money is a lot older than usage of coins and precious metals.)

Barro is the concoctor of perhaps the stupidest and least empirically supported idea in economics - and that is saying a lot - "Ricardian" equivalence - which of course Ricardo mentioned only to say how silly the idea was.

a dollar of government spending produces much less than a dollar in economic growth—between 40 and 70 cents Who cares? Even if this contrived small estimate were true, who cares? Costs a lot less than 40-70 cents to print a dollar/input it into a computer. If a private company got a return like that, they would think they're on a cocaine high. The only thing that is meaningful is inflation. In current conditions, the idea is ridiculous, as has been proved by inflation free stimulus all over the world.

They found that for every $1 in tax-financed spending, the economy actually shrinks by $1.10. Oooh / "Ricardian" equivalence / homeopathy here maybe? Good thing there is no such thing as tax-financed spending.

So the policy that Barro and Redlick's "research" implies is obvious. Cut taxes & and spend - a lot, since we only get 40-70 cents on each gubmint buck created out of thin air. Maybe the Chinese get the rest - they're nice people, and deserve it, so good for them!

Stuffing money into an economy as if it were made of homogeneous factors is of course imprecise. But if someone is dying of thirst, the answer is water. How much is the perfect amount? Who knows? - give the guy some and see. The Austrian / de Rugy answer is - bleed him! - it's a fluid problem - he has too much! But when will they learn that the Law of Scarcity cannot be repealed?

AP Lerner said...

There’s really nothing to add to this post that another anonymous did not already point out. Does anyone care about empirical evidence anymore? Does anyone care about facts, data, and common sense? My guess is no when it does not support your ideology. All one has to do is look at the rates on Japanese and US government securities to know that this essay is baseless, and ignorant to how the bond market operates. Like Prof. Anderson, Higgs, and Murphy, Rugy is completely clueless to how the monetary system of a non- convertible, free floating currency operates. As AA said, no sovereign country that is a monopoly issuer of an unpegged currency has ever defaulted. Never (and please don’t invoke Zimbabwe. That will just further show your ignorance.).

I truly feel sorry for the students of Frostburg.

bravo said...

Can i have some of what you guys are tripping balls on? Its sounds fantastic

bill said...

"But if someone is dying of thirst, the answer is water. How much is the perfect amount? Who knows?"

Or in other words - inflate, Inflate, INFLATE!

(yawn)

Anonymous said...

Great rebuttal, Bravo.

If I that knew calling people drug users settled arguments, I would have started doing it sooner.

jason h said...

Lighten up Anon. Here's my favorite chemically induced or sober zinger.

According to MMTers, gold was selected by a market consensus as a suitable currency thousands of years ago not because of its properties, but because of primitive superstition.

I'd like to hear the common sense empirical evidence, that explains the primitive superstition theory.

Anonymous said...

Wow, an ad hominem and then a red herring? Good job at addressing his points. Stay classy.

burkll13 said...

ok then, this is an interesting question for you MMTers, why have people, for thousands of years, chosen gold?

jason h said...

A Red Herring is a fallacy in which an irrelevant topic is presented in order to divert attention from the original issue.

I was addressing this point actually.

The 1971 problem was because the dollar was on the remnant of the gold standard. {...] there just wasn't enough gold to go around - which primitive (but not very ancient) superstition tied the dollar to. So the dollar went back to purely being what money always has essentially been for thousands of years - a tax credit. (Money is a lot older than usage of coins and precious metals.)

Conveniently history is re-written to support the ideology that money is derived from the State rather than the market.

Stayin' classy! (Without dragging out the same ol' arguments and Frostburg insults)

Chartalist said...

When we asked for facts and empirical evidence, we didn't actually want facts and empirical evidence.

We have created a New Man, not subject to budget constraints, nor the Law of Scarcity. (Which the State can repeal at any time, by fiat.)

iawai said...

Empirical Evidence: how many fiat (non-commodity backed) currencies survived for more than two generations? Zero.

Did their State-issuer always "declare bankruptcy"? Of course not - that would be an admission of failure, something which the institution of a State can never do. The more common historical remedies to a collapsing fiat currency are: plunder of foreign lands, taxation to cover debts, hyperinflation, being invaded by creditor nations, and currency reissuance.

None of those are very desirable situations, and "bankruptcy" of a nation-state may be the better, more civil solution, of course bankruptcy requires cooperation of your creditors - and has typically been in the realm of State monopoly power to force the creditors to take the coordinated default conditions without further claims on the debtor.

It's not surprising that bankruptcy of a nation hasn't resulted in the past because the factors needed to pull off such action haven't been aligned. However, today presents a situation where China, Japan, and others would be in a better situation marking down US gov't bond holdings than, say, invading the US and taking by force what they feel they are owed.

Empirical Evidence stands against the Keynesians.

Bob Roddis said...

This "you don't know how the system works" crap from the Chartalists is getting very tedious. As "iawai" explained, the state won't default because it can loot everyone and everything while diluting the currency. That is why Chartalist eschew morality. For criminals, immorality, theft and murder "work" just fine.

That is what our "debate" here is really about. Chartalists simply cannot believe that Austrians are sincerely concerned with morality.

Austrians should be free of any misconceptions about the Chartalists: They explicitly favor and advocate immoral and criminal policies and continuously express amazement that anyone should be concerned about such immorality.

Bob Roddis said...

Let's not forget the McCulley "wisdom":

But, you retort, the private sector is ultimately on the hook for the government’s liabilities, so how can those liabilities be considered the private sector’s asset? Simple: They can be sold for hard cold cash*. To be sure, someday the government’s debt must be rolled over, or retired. But in real time, government securities are assets of the private sector (or the foreign sector). And for a fiat currency country, there is no reason to think that the debt cannot be rolled over, as such countries have a technology called a money printing press.

*I doubt that McCulley sees the irony in his choice of words here.

bravo said...

Actually what i meant was that you guys are under this impression that when people in the government spend money its somehow different than when you or i spend money. Its magical, it "multiplies". So seriously stop bogarting whatever mind altering substance made you come to this conclussion, i know my limit and wont toss my cookies on your carpet.

Gavin said...

(I originally posted under the name Chartalist) I was satirizing the MMT'ers in this thread, and how they ask for evidence and data, and yet when it is given to them, they try to completely blow it off as irrelevant.

Another Anonymous said...

(#2 of 2, #1 hasn't appeared yet, may repost)

@bill

"But if someone is dying of thirst, the answer is water. How much is the perfect amount? Who knows?"
Or in other words - inflate, Inflate, INFLATE!


Yes, because we are in a period of intense deflationary pressures. Giant trade deficits are highly deflationary. Financial collapses and household deleveraging are deflationary. And longterm, productivity increases and technological advances are deflationary. The US and the world economy has been run on nutty economics for 30 years - make the rich, especially the large number of rich crooks, get richer, squash the ordinary people down, so they don't have the money to buy anything and live a normal life. When unemployment and unused capacity is high, then inflating the money supply - which again has major deflationary effects to counter - is NOT inflationary in the real world sense that anyone sane cares about - purchasing power.

Bob Roddis somehow thinks this "money printing" is immoral - and calls it money-diluting. But why? If it causes no price increases, and just makes some (maybe all) people better off financially and in real terms, and hurts nobody, what could be wrong with it? If someone increases their real wealth by, say building a house out of logs they cut down on their own property, does this diminish anybody else's real wealth, or hurt them in any way? It just makes them have a higher proportion of the real wealth of the world. Why is it OK for individuals to do this in the real world, but not for the government, democratically elected by individuals, to do this in the financial world, with the real world effect of making some people much better off, everybody a little better off, and nobody worse off?

I think Austrians should either call MMTers crazy or immoral, but not both.

@BravoCan i have some of what you guys are tripping balls on? Its sounds fantastic
Yes, you can. It is a drug called THOUGHT!!! - Highly Addictive. You can get it some of it cheap on the intertubes - or from a librarian in their flashy Cadillac bookmobiles saying hey kid, the first one is free. But once the thought-pushers hook you, you gotta pay for those concentrated packages called bo-oks to get the same high. These monsters even have thought-dens called schools and can make you pay to get in- they've been known to ruin neighborhoods and push out the honest capitalist pimps, hos and crack dealers.

Actually what i meant was that you guys are under this impression that when people in the government spend money its somehow different than when you or i spend money. Its magical, it "multiplies". So seriously stop bogarting whatever mind altering substance made you come to this conclussion, i know my limit and wont toss my cookies on your carpet.
Actually, its exactly the same. The difference is that the government has a lot more money than you or I. In fact they have an infinite amount. And in fact, if it weren't for the government, you or I wouldn't have any money at all.

Anonymous said...

@Iawai:
Empirical Evidence: how many fiat (non-commodity backed) currencies survived for more than two generations? Zero.

Wrong. A current major currency, the Canadian dollar, has been nonconvertible & fiat since 1933; with short periods of US dollar pegging, sometimes when the US was pure fiat like 1933-45.
Tally sticks - a fiat currency - were the main money used in merrie olde England for centuries - that's where we get the words "stock" and "stub" from. http://en.wikipedia.org/wiki/Tally_sticks

China, Japan, and others would be in a better situation marking down US gov't bond holdings than, say, invading the US and taking by force what they feel they are owed Why on earth would China and Japan do any of these things? Why do you think they think they are owed something from the US other than what they absolutely know the US owes them - bond interest payments - and that they are absolutely correct in believing the US will continue to pay?

Here is a quote from Wray's book I mention below, concerning the complex matter of how currencies are valued in foreign exchange markets:

More implausibly, there is a widespread belief that slow economic growth, high unemployment, fiscal austerity and tight monetary policy that taken together impoverish the domestic population is the surest path to a strong currency. While there might be some short-run trade-offs (cyclically slow growth might reduce inflation and increase a trade surplus, putting upward pressure on the currency), over the longer run it is very difficult to believe that a currency's strength is maintained in such a manner. Rather, strong economic performance and a highly productive labour force must ultimately be the source of a currency's strength.

@ jason h & burkll13
Conveniently history is re-written to support the ideology that money is derived from the State rather than the market.

Economists have a pseudohistory of money that overemphasizes the role of barter and precious metals, to fit with theories of neutrality of money or laissez-faire gold-standarism.. Anthropologists, archaeologists, historians, sociologists who have actually studied (ancient) history instead of just making it up, find that the state & society is more important & that credit preceded commodity money. Their conclusions fit well with Modern Monetary Theory / NeoChartalism - and its forebears like Knapp, Mitchell-Innes, Lerner, Keynes' Treatise on Money, etc.

An excellent place to learn about the history of money are Alfred Mitchell-Innes’ classic articles written in 1913-14 and the articles in the book Randall Wray edited on them: Credit and State Theories of Money: The Contributions of A. Mitchell Innes (http://www.amazon.com/dp/1843765136 ) - you can download the whole book at http://www.arno.daastol.com/books/wray/Wray,%20Credit%20and%20State%20Theory%20of%20Money%20(2004)w.doc

jason h said...

Fisherman and merchants voluntarily buying and selling their wares on credit is far from the NeoChartalism you advocate. The credit is still based on actual goods, and there is no force or coercion.

jgo said...

Iawai wrote: "Empirical Evidence: how many fiat (non-commodity backed) currencies survived for more than two generations? Zero."

anonymous wrote: "Wrong. A current major currency, the Canadian dollar, has been nonconvertible & fiat since 1933;"

You must be one of those ephemerals I read about.

Of course, lawai should have been more specific.

Even accepting the incredible US government figures, the US dollar was worth over 22 times as much in 1913 as it is, today. And that was after more than a century of only miniscule variations. That doesn't sound in the least bit like monetary health.

When the federal government spends money that didn't exist before they spent it, it dilutes the value of the money you and I have, and, besides, they don't spend it on what you or I would voluntarily wish to spend it, adding to mal-investment. The "magic multiplier" is a negative effect.

Another Anonymous said...

Ephemerals? Huh? Generations are usually reckoned to be 20-30 years. 77 is more like 3 generations, not two. If you want to look at the real history of money, look at the Mitchell-Innes book I linked to.

So the US$ inflates by 22 in 97 years? Who cares? Do you frequently travel in time and are you inconvenienced by this?

When the federal government spends money that didn't exist before they spent it, it dilutes the value of the money you and I have That can happen when there is full employment. At times like now .. If it is spent on sensible things - all it will do is create real wealth. The quantity theory of money is wrong.