Morning Must-Read: Paul Krugman Thinks About Larry Ball, Austerity, and Hysteresis

Paul Krugman: Austerity and Hysteresis: “If you believe official estimates of potential output…

…the Great Recession and its aftermath have done incredible damage, not just to short-run output and employment, but to long-run prospects…. Advanced country real GDP… grew 18 percent from 2000 to 2007… and… was… expected to keep rising at… the same rate… [but] advanced-country GDP is likely… in 2014… [to be] 10 percent below trend…. [with] estimates of economic slack… only 2.2 percent…. Something like an 8 percent hit to economic potential all across the advanced world, which is huge.

One possibility is that the output gap numbers are wrong…. Another possibility is that it’s just a coincidence that underlying growth slowed at the same time as the crisis. But if you take the numbers seriously… hysteresis… is a very big issue…. Austerity equal to one percent of GDP reduces potential output by around 1 percent. That’s huge–easy enough to make austerity a hugely self-defeating policy, even in purely fiscal terms…. Economic policy has been even more destructive than we thought.