- “The boom, not the slump, is the right time for austerity at the Treasury.”
Krugman then goes on to give a rousing defense of Keynesian stimulus. He points out that austerity in Ireland and Greece has only depressed the economies in those countries even more. He finishes by noting that interest rates for US Treasury bonds remain at rock bottom levels, concluding that the markets are telling the United States to borrow and spend even more. Keynes was right, Mr Krugman concludes.
Krugman's quote of Keynes begs the question of whether the Treasury ever has exercised or ever will exercise austerity during boom times.
There is merit to the Keynesian hypothesis: a government that has demonstrated its fiscal probity by running surpluses over many years, a government that is but little burdened with debt, can, it would seem, during periods when the economy is depressed, increase its spending, run a temporary deficit, and thereby increase aggregate demand and stimulate the economy, only to take its foot off the accelerator and return to balancing its budget when the economy improves.
But that is not the situation we find ourselves in today. Rather, our government has never run an extended surplus at any time in the last 30 years and, by the end of his term, Mr Obama will have increased the debt burden by more than any President who came before him. We are now buried under a mountain of debt and entitlement liabilities. And the reason why Treasury rates are so low is certainly not because investors have great confidence in the economic prospects of the United States, but because they are terrified that things are much worse elsewhere and are fleeing to Treasuries as a last resort.
Under such circumstances, continued borrowing and deficit spending no longer stimulates, but instead depresses and undermines the economy. As Kenneth Rogoff and Carmen Reinhart have recently pointed out in their book This Time is Different, countries with significant debt burdens generally tend to follow a lower growth trajectory and to be vulnerable to unforeseen exogenous shocks. It is precisely this vulnerability to unforeseen exogenous shocks that Krugman so cavalierly ignores when he trumpets the fact that the United States continues to be able to borrow at such low interest rates. (Krugman reminds me of a someone who has smoked cigarettes for 30 years, who has recently upped his intake to 3 packs a day, and who says: "Well, I don't have cancer yet, so, obviously, smoking is not harmful to my health.")
As I have pointed out in another blog post, the real situation we find ourselves in is that of the Petro-State, as described by Daniel Yergin in his book The Quest:
- When [oil] prices soar, governments are forced by society's rapidly-rising expectations to increase their spending as fast as they can -- more subsidies to hand out, more programs to launch, more big new projects to promote. ... But when world oil prices go down and the nations' revenues fall, governments dare not cut back on spending. Budgets have been funded, programs have been launched, contracts have been let, institutions have been created, people have been hired. Governments are locked into ever-increasing spending. Otherwise they face political and social explosions.
In other words, during boom times there never is any austerity, any setting aside of resources for future periods of economic downturn, any saving for a rainy day. Instead, during boom times politicians ramp up their spending as quickly as the tax dollars flow in. They generously expand social programs and make long term commitments to their political supporters, most notably in the United States, to the public service employee unions. And then, inevitably, when all this overspending on less productive programs inevitably collapses, they voice the Keynesian whine: "We need more stimulus, not austerity, to help us out of our economic slump!" Stimulus, in the form of deficit spending over the last several decades, is, in fact, precisely what has gotten them into the current economic mess. And yet, we are asked to believe that stimulus, in the form of even greater deficit spending, accumulation of even greater debt, is now the way out. Hogwash!
I can do no more than to paraphrase what I have already written:
- [T]he problem with the Keynesian approach is not chiefly a theoretical one, but a practical one. There are two sides to the Keynesian coin: short-term stimulus during hard times, and counter-cyclical fiscal tightening during good times. But for the practicioners of modern Keynesianism there never, in fact, comes a time when austerity measures are applied and spending and debt are reined in. Instead, ever expanding government spending and borrowing become a permanent way of life. And what is worse, the government spending is often the kind of spending that has an abysmal return on investment ("crony" or "special interest group" capitalism). The end result of this process is that, as the years roll on, mountains of debt are piled up while the return on the spending funded by that debt becomes less and less. We owe more and more and get less and less in return.
Thus, it does little good, Mr Krugman, to point out that, theoretically, Keynes was right. Permanent deficit spending, along with the accumulation of enormous debt that goes with it, without any counter-cyclical tightening during boom times is, simply put, not Keynesianism anymore. Keynes would be appalled to see his name invoked to defend the kind of out of control deficit spending that Obama and other Democratic politicians are engaging in today.
