Winner of the New Statesman SPERI Prize in Political Economy 2016

Wednesday, 6 September 2017

Defining austerity redux

This is a rather dull post about definitions

In a previous piece I talked about how there is no clear definition of what we mean by austerity, and how different people mean different things. In the context of my ‘General Theory’ paper, I attempted a definition which made precise one strand of common usage. However, if you look at the comments to that post, others were not convinced.

Some recent exchanges on twitter have convinced me that we still need a clear definition, but that my own earlier attempt could be improved. In that earlier post I argued that equating austerity with one type fiscal consolidation - public spending cuts - was inadequate for two reasons. First, why not use ‘public spending cuts'! But second and more important, it would equate such consolidation taken at the height of a boom that did no damage to the economy with cuts in the depth of a recession.

The definition (call it Def A) I suggested was
“fiscal consolidation that leads to a significant increase in involuntary unemployment, or pwerhaps more formally but less colloquially as leading to a noticeably more negative output gap”.
If people wanted to restrict the definition to spending cuts, simply replace ‘fiscal consolidation’ with ‘cuts to government spending’.

One minor change I would now want to make is to remove the reference to involuntary unemployment. For a start unemployment may lag output, and conceivably unemployment could be avoided by workers pricing themselves into jobs, but this does not negate the fact that fiscal consolidation has reduced output and wasted aggregate resources.

However rephrasing the definition (Def B) to
“Fiscal consolidation/cuts to public spending that leads to a significantly more negative output gap”
still involves the problem that the output gap is poorly measured. For example, some think the UK output gap is currently zero, but I would want to apply the term austerity to the current fiscal consolidation. Replacing ‘negative output gap’ by ‘economic downturn’ does not help, and saying ‘in a recession’ actually makes it very restrictive given the formal definition of a recession. Another possibility would be to simply say (Def C) that austerity was
“Fiscal consolidation/cuts to public spending that leads to a significant fall in output”
The trouble with this is it allows austerity to be in some cases entirely appropriate: for example if spending was too high in a boom. Indeed that is the obvious problem with simply denoting austerity as cuts in public spending. There should I think be some connection with the other meaning of austerity i.e. hard times. Reducing spending in a boom is hardly that.

Let me go back to why I had a problem with definition B i.e. why would I want to apply the term austerity to current cuts in spending. The answer is that interest rates are at their lower bound. That suggests an alternative definition (Def D):
“fiscal consolidation/spending cuts that have a negative impact on aggregate demand which monetary policy is unable to offset.”
I prefer definition D to B because it gets to the heart of why austerity is a problem. The key idea is not that fiscal consolidation in some form is always bad or inappropriate, but that it should not take place when monetary policy is unable to offset its impact on output.

One of the criticisms of my original definition B, which also applies to D, is that it rules out the possibility of ‘expansionary austerity’. Instead we would have to call it expansionary fiscal consolidation. Once again, if we want this meaning of austerity to have some connection to hard times, then expansionary austerity seems a misnomer anyway.

I did warn you it was dull, but I really would be interested in comments on all this. Perhaps I should end on one reason why I think it is important. Suppose I asked what part of Labour's 2017 manifesto was anti-austerity? I think many would say the proposed increases in current government spending, but if you take the manifesto at its word that is not anti-austerity, because the spending increases are tax financed. What is anti-austerity, if you accept my definition, are the increases in public investment and the fiscal credibility rule.




12 comments:

  1. All of these definitions of austerity seem to make the assumption that austerity necessarily has negative connotations.

    This somewhat overlaps the point about "expansionary austerity", but presumably those who advocated for austerity to balance the budget after Labour's alleged "profligacy" (assuming they acted in good faith) did not think of it as a "bad thing", but more that it was a necessary course to limit perceived overspending. Therefore looking at it in terms of increased involuntary unemployment, a fall in output or negative output gap, all seem to frame it around the negative outcomes rather than the alleged objectives.

    Having said that, just because it was allegedly intended to achieve something else doesn't mean that defining it by what it did actually lead to is unreasonable...

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  2. I don't think a definition should mix action with outcome. And I worry that 'fiscal consolidation' or any other term that would be measured by aggregated data is wrong too. Suppose spending comes in two varieties, discretionary and automatic. If a government slashes discretionary spending in an attempt to reduce a fiscal deficit but finds that automatic spending rise by an equal amount (or maybe tax revenues fall), we would see no fiscal consolidation in the aggregate data, but we may want to call that austerity. I still think "attempting to reduce a fiscal deficit by cutting (some) spending" is best fit with what we mean by austerity, you could add "or by raising (some) taxes" if you want to take the fiscal consolidation angle, but I think most people see austerity as spending cuts and tax rises as an alternative to austerity. And "cut" needs to be understood as relative to previously budgeted, or similar, not as an absolute cut.

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  3. This is the Keynesian 'magneto' metaphor, but now needing to solve the productivity rather than solely the unemployment problem in the UK's case.

    I like 'trend line economic efficiency' because it highlights the failure of the present government to be anywhere near the trend line on output expected from the height of the US housing bubble in 2006, and all the wasted resources which went into stimulating that bubble.

    If you can't get back to the expected 2006 trend line then your actions have been economically inefficient in 2017.

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  4. Interesting question. I think your problem is that you are confusing the definition of an act or policy with that act or policy's outcomes.

    Austerity is surely a shorthand for fiscal consolidation. This is neutral and (quite) easily identifiable. The consequence of austerity may well be an increase in the output gap, unemployment or other bad outcome. But it may - in all fairness - be a fall in inflation when this is deemed too high (I leave aside arguments about whether inflation can only be controlled by monetary measures).

    The problem with the definitions you propose is - as you note - that, in the UK, austerity has, for the last seven years, co-existed with a fall in unemployment. If I were feeling really radical (and ready to go against all my economic instincts) I might be tempted to say that in this instance the classical hypothesis that a fall in demand will price workers into jobs seems to have worked. I would immediately go on to say that this can only be considered a good outcome if work is viewed as a benefit rather than cost.

    So why not simply stick to the 'positive' approach of defining austerity as a deliberate process of fiscal consolidation intended to reduce overall demand in the economy? We can then move on to debating whether austerity is, or is not, the appropriate solution to today's economic challenges.

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    Replies
    1. asocialdemocraticfuture7 September 2017 at 08:23

      As per anonymous above, the real issue or puzzle - and while accepting in some ways, yes, the post-GFC recovery path to stagnation has been positive in terms of combined high employment and low inflation - is how to uplift output, productivity, and wages in tandem (and at the same time reduce inequality and enhance equality of opportunity) without inducing a self-defeating inflationary spiral and an unsustainable rise in public debt.

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  5. Isn't austerity better defined as a political argument than just as an economic policy? It's fiscal consolidation or privatisation justified on the basis of 'belt tightening in hard times' or 'living within one's means' or other household budget analogies.

    I don't think it counts as austerity unless it's presented as the solution to the problem of ill-disciplined, excessive spending, which is presumed to be the cause of other problems such as high deficits.

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  6. On definition D: does it need to be the case that monetary policy is 'unable' to offset effects of consolidation? It might be that monetary policy-makers are unwilling rather than unable to offset effects. I'm thinking of, say, ECB and a small EMU country.

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  7. D makes more sense to me. A further problem with B is that if you allow people pricing themselves into jobs, why does output then decrease (assuming you are talking about real not nominal output)?

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  8. «Austerity is surely a shorthand for fiscal consolidation.»

    That to me seems just a mediamacro invention of recent times; in the stop-and-go era it meant simply the policies, both fiscal and monetary, that would switch to the "stop" phase.
    Indeed as a rule "austerity" in those times was mainly monetary (higher interest rates, credit tightening).
    The goal of "austerity" in those times was simply to cut consumption (or even investment), in order to reduce imports and protect the exchange rate. Fiscal consolidation often followed the monetary tightening because that would lead to a fall in tax revenue.

    That the mediamacro practitioners today want to redefine or newly define "austerity" as a purely fiscal-side policy seems to me fairly suspicious, and my guess is that it is motivated by the desire to never put in question the several decades of continuous "Barber" (consumption) and "Lawson" (asset) debt booms that UK politicians (but also in the USA and several other countries) have used for decades to redistribute upwards thanks to "wealth effects".

    In the old times loose fiscal and credit policy created the "go" phase, and then tighter fiscal and credit policy switched to the "stop" phase. A policy, as we have now, of loose credit to push up asset prices, and tight spending to push down wages, is not one of "austerity", but of "class war", of redistribution upwards.

    The average worker has lost far more income and wealth because of higher house prices and rents than because of lower fiscal spending.

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  9. There is a good piece in today's Guardian by Monbiot with an important remark about the philosophy underlying the micro-foundations of economics and its unquestioned acceptance:

    “We have been induced by politicians, economists and journalists to accept a vicious ideology of extreme competition and individualism that pits us against each other, encourages us to fear and mistrust each other and weakens the social bonds that make our lives worth living. The story of our competitive, self-maximising nature has been told so often and with such persuasive power that we have accepted it as an account of who we really are.”

    https://www.theguardian.com/books/2017/sep/09/george-monbiot-how-de-we-get-out-of-this-mess

    NK.

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  10. "Cuts in government spending for the purported purpose of 'spending within one's means' which are, however, unnecessary, ill-timed, and needlessly prolong recovery from an economic downturn".

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  11. While I am largely fine with Def D, what about the following approach, quite linked to that of the EU Commission:

    Austerity can be defined as a positive change in structural balance, i.e., a positive fiscal effort.

    Following the structural balance definition, this would capture i) the change in cyclical position via the output gap (ok, sizeable estimation problems), ii) focus on discretionary cuts rather than on the cyclical components of the budget and therefor pointing at the political nature of austerity.

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