Friday, 13 March 2020
Alberto Alesina: one of Harvard University’s pro-austerity crazies.
Harvard is a hot bed of pro-austerity so called “economists”: Kenneth Rogoff, Carmen Reinhart and Alberto Alesina etc, who have campaigned for the size of stimulus packages during the recent recession to be cut or limited.
Alesina has long been regarded as a laughing stock in Modern Monetary Theory circles, e.g. see this 2010 article by Bill Mitchell entitled “The deficit terrorists have found a new hero.”
He has a new book out, pictured above, in which the blunders and nonsense come thick and fast right from the first paragraph of Chapter 1. So I’ll start right there: at the beginning of chapter 1.
The first paragraph reads, “The term “austerity” indicates a policy of sizeable reduction of government deficits and stabilization of government debt achieved by means of spending cuts or tax increases, or both. This book examines the costs of austerity in terms of lost output, what types of austerity policies can achieve the stated goals at the lowest costs, and the electoral effects for governments implementing these policies.”
Well certainly for the simpletons who think government debt is comparable to a household’s debt, it doubtless seems that a country, like a household, has to sacrifice its standard of living in order to pay down its debt. The reality however is that governments / countries are not like households. That is, government debt (at least in the simple case of a closed economy, i.e. an economy which has no dealings with the rest of the world) is simply a debt owed by one portion of the population to another portion (owed to those who hold government debt).
Thus, and taking a rather extreme illustration, government debt could be wiped out tomorrow simply by passing a law saying the debt has been wiped out. There is no obvious reason why that would involve any significant “lost output” to quote Alesina.
As opposed to the latter extreme example, a less extreme way of cutting the debt is for government to simply refuse to roll over debt that reaches maturity: that is, debt holders could be paid off, and be told to get lost if they wanted new debt to replace the matured debt. That amounts to QE, and while it might seem that strategy might be inflationary, QE does not seem to have had much of an inflationary effect. But if it did, there is an easy remedy: raise taxes and do nothing with the money collected. That could, certainly in principle, damp down demand to the level that is consistent with full employment while avoiding excess inflation: i.e. there is no “lost output” involved there.
In contrast to the latter hypothetical closed economy, real world governments let foreigners buy their debt, and the latter “QE” method of cutting the debt would induce some of those investors to place their money elsewhere in the World, which would depress the value of the currency of the country concerned on forex markets. And that in turn would cut living standards in the relevant country for a while. But note that that is only a TEMPORARY or one off effect. Sooner or later living standards would revert to their previous level.
Alesina’s second paragraph reads, “If governments followed adequate fiscal policies most of the time, we would almost never need austerity. Economic theory and good practice suggest that a government should run deficits during recessions—when tax revenues are low and government spending is high as a result of the working of fiscal stabilizers such as unemployment subsidies—and during periods of temporarily high spending needs, say because of a natural calamity or a war. These deficits should be balanced by surpluses during booms and when spending needs are low. In addition, forward looking governments might want to accumulate funds for “rainy days” to be used when spending needs are temporarily and exceptionally high. If governments followed these prescriptions, austerity would never be needed.”
Spotted the blunders in that para? If not the first one lies in the suggestion that government should balance its budget over the long term. The flaw in that idea is as follows.
The private sector wants a stock of government debt and base money, but the inflation target is 2%, which means that the REAL VALUE of that stock, assuming the inflation target is hit more or less, will fall at about 2%pa. It therefor needs topping up most years, and the only way of topping it up is a deficit! That is, there is no source of base money (which may or may not be loaned back to government, thus creating government debt) other than government (and its central bank).
And if that topping up via a deficit does not take place, then the real value of the central bank notes which most people have in their wallets would eventually decline to the value of about one slice of bread: not much use for doing the weekly shopping! Plus commercial banks also use base money to settle up with each other, so they’d be up shit creek without a paddle just like the latter hypothetical “shopper”.
And what was that bit about “funds” in Alesina’s second paragraph supposed to mean? (“In addition, forward looking governments might want to accumulate funds for “rainy days” to be used when spending needs are temporarily and exceptionally high.”)
Did governments need to “accumulate funds” to deal with the bank crisis which began in 2007/8? Nope: when the Fed wanted to lend a trillion to commercial banks to help them thru the crisis, neither the Fed nor the US government needed a “fund”: what happened was the Fed just created a trillion by pressing buttons on computer keyboards!
If you’re starting to get the impression that Alesina is clueless, that’s my impression, and the impression of Bill Mitchell and others.
Alesina’s fourth para.
The first half of his fourth para runs as follows.
“The second reason why austerity may be needed is that sometimes exceptionally large amounts of government spending (for example, because of a war or a major disaster), perhaps even larger than anticipated, create so much debt that it cannot be reduced simply with economic growth. In some cases countries have grown out of debt, but this is not always possible. In the immediate aftermath of the Second World War growth and inflation were high enough to reduce the debt accumulated during the war years. But in recent decades this has not generally been the case. In fact, high debt itself is sometimes an impediment to growth, for instance because of the high taxes needed to finance the interest payments on the debt.”
Well the first odd point in that passage is that he is now admitting that inflation does in fact whittle away the real value of the debt! Why didn’t he take that into account in his second para? Moreover, and contrary to Alesina’s suggestions, it is quite untrue to say that inflation has been near non-existent in the larger developed countries over the last ten years. It’s actually been a bit under 2% as compared to the 4% or so (in the US) for the ten years after WWII: not a HUGE difference (contrary to Alesina’s suggestion).
High debt impedes growth?
As regards Alesina’s claim that high debt impedes growth at the end of the latter passage, there’s a slight problem with that claim, namely that the REAL or inflation adjusted rate of interest on the debts of most large countries has been very close to zero!
Plus even if the real rate was substantially positive, why would that impede growth? The rate of growth is determined mainly by technological developments (ignoring, for the sake of simplicy, the effect of net immigration, if there is any). It is entirely unclear why the fact that one section of the population is making significant payments to another (holders of government) debt has any effect on technological development.
Moreover, interest rates in the larger developed countries in the 1990s were WAY HIGHER than they are. E.g. mortgagors in the UK typically paid THREE TIMES the rate of interest they do at the time of writing. But curiously growth was much better in the 1990s that it’s been for the last few years, which makes a mockery of Alestina’s claim that high interest rates damage growth.
To judge by the first few paragraphs of his new book, it looks like Alesina is every bit as incompetent as he was ten years ago, thus I can’t be bothered with anymore of his nonsense.
As for why incompetents manage to keep their jobs at universities, the reason is that economics, like one or two other professions, is for middle class boys and girls who have no interest whatever in calling each other out when they spot incompetence. Why rock the boat when you and your colleagues are making nice living ripping off taxpayers and fee paying students? And why bring your own profession into disrepute by revealing that it contains incompetents? It’s not in your interests, is it?