Must-Read: Paul Krugman (2013): Other Austerity Bloopers

Must-Read: This really ain’t rocket science, people. Or brain surgery…

Paul Krugman (2013): Other Austerity Bloopers: “It’s worth recalling the other paper that swept through the ranks of the VSPs…

…briefly becoming orthodoxy, what everyone knew, until people took a hard look at the data. Remember Alesina and Ardagna? That was the paper that supposedly showed that spending cuts were actually expansionary, because of Confidence (TM). It was so influential that Peter Coy at BusinessWeek wrote:

Alberto Alesina is a new favourite among fiscal hawks…. This is Alesina’s hour. In April (2010) in Madrid, he told the European Union’s economic and finance ministers that ‘large, credible and decisive’ spending cuts to rescue budget deficits have frequently been followed by economic growth. He was…influential enough to be cited in the official communiqué of the EU finance minister’s meeting….

A-A (beware of papers where both authors have the same initial?) used a statistical technique that was supposed to identify episodes of large fiscal contraction; but if you compared that estimate with actual policy changes, it bore very little relationship. What seems to have been going on was that the statistical filter was picking up extraneous effects, often correlated with good economic developments. For example, a stock market boom would increase revenue, reducing the deficit; A-A would count this as a contractionary fiscal policy, and marvel at the expansion that followed. Mike Konczal, who co-authored another careful critique, wrote:

To be frank, when I dug into the Alesina and Ardagna paper and finally understood the work their 1.5% primary deficit reduction was doing I wandered around stunned for a day or two. I called a bunch of people I trusted on macroeconomics and tried to see if I was missing something; was our elite discourse, the Sensible People Stuff, really being driven by this?

The point, as with Reinhart-Rogoff, was that the paper told austerity-minded people what they wanted to hear, and they seized on its message without carefully examining the underlying research…. A-A didn’t crash-land the way R-R did…. It was damaged by the IMF study, and thereafter got gradually discredited as the disastrous results of austerity in Europe became apparent. So there wasn’t a sudden moment of realizing that the emperor wore no clothes. Nonetheless, the underlying story, of dubious research put on a pedestal because it was what the VSPs wanted, was the same.

And Alberto is still digging in:

Alberto Alesina (2016): “The IMF, in 2010 wrote a rather pointed criticism about my work…

…whether there are cases where spending cuts accompanied by other policies can be expansionary, and the confidence argument that [Krugman] makes fun of is actually confidence, one of the many aspects; and we can elaborate on that. But I think that there are several episodes in which fiscal spending cuts have been accompanied not by a recession, but by an expansion. So, I think that those kind of statements by Krugman are trying to push a view which is respectable but they are not proven by the facts. Or at least they are not supported by research… http://scholar.harvard.edu/files/alesina/files/fiscaladjustments_lessons-1.pdf

Remember: Alberto Alesina (2016): “Many even sharp reductions of budget deficits have been accompanied and immediately followed by sustained growth rather than recessions even in the very short run…

…These are the adjustments which have occurred on the spending side and have been large, credible and decisive…. Governments which have initiated thorough and successful fiscal adjustment policies have not systematically suffered at the polls… especially… when the electorate has perceived the sense of urgency of a crisis or in some cases in the presence of an external commitment. On the contrary, fiscally-loose governments have suffered losses at the polls…. Thus relatively painless (economically and politically) fiscal adjustments might be possible; whether government will take the opportunity remains to be seen… http://scholar.harvard.edu/files/alesina/files/fiscaladjustments_lessons-1.pdf

It’s not the adjustments that are “large, credible, and decisive” that are accompanied by expansions. It’s those that are:

1. the result of large positive supply shocks,
2. accompanied by massive monetary expansion, or
3. associated with large declines in the value of the currency.

This ain’t rocket science, people…