Must-Read: Very interesting. But do we have a read on what productive capacity is in Europe these days outside of Germany and Holland? Isn’t everybody else still substantially depressed. So it is clear that Fatás and Summers are estimating something very important and interesting here. It is not clear that it is Larry’s and my influence-of-slack-demand-on-the-supply-side-in-the-long-run parameter η:

Antonio Fatás and Lawrence H. Summers: The Permanent Effects of Fiscal Consolidations: “The global financial crisis has permanently lowered the path of GDP in all advanced economies…

…At the same time, and in response to rising government debt levels, many of these countries have been engaging in fiscal consolidations that have had a negative impact on growth rates. We empirically explore the connections between these two facts by extending to longer horizons the methodology of Blanchard and Leigh (2013) regarding fiscal policy multipliers. Our results provide support for the presence of strong hysteresis effects of fiscal policy. The large size of the effects points in the direction of self-defeating fiscal consolidations as suggested by DeLong and Summers (2012). Attempts to reduce debt via fiscal consolidations have very likely resulted in a higher debt to GDP ratio through their long-term negative impact on output….

DeLong and Summers (2012)… assuming plausible values for g and r… [and] a multiplier of about 1.8… the hysteresis parameter [η] would have to be between 0 and 0.025 [for austerity not to be counterproductive]…. If we take our results at face value, the hysteresis effect is much larger than any of these values…. [From] Table 8… we would be calibrating the parameter η to be at or above 1…. Fiscal consolidation… was self defeating and instead of delivering the outcome of reducing debt, it led to an increase…

Www nber org papers w22374 pdf