Marginal Revolution
Let’s say that private gdp is 100 and government spending is 100. Gdp then suddenly goes up to 200, so government spending as a percentage of gdp falls from 50% to 33.3%. This is not a contractionary event. It is fully possible to argue “government spending should go up too, to slot more public goods into the larger output,” but the initial change is expansionary, even though government spending as a percentage of gdp took a steep dive.
Let’s say that private gdp is 100 and government spending is 100. Government spending stays the same in nominal terms but there is overall price inflation from a nominal change. It is fully possible to argue “government spending should go up too, to restore the percentage of public goods in national output,” but the initial change is again expansionary in macroeconomic terms. Nominal values are up.
In other words, when judging whether fiscal policy is contractionary or expansionary in macroeconomic terms, we do not automatically adjust for percentage of gdp and inflation. Start instead by looking at nominal government spending, and then perhaps take a glance at nominal gdp or related measures. The theory, after all, is about nominal values, most of all in the short run.
If you wish, I could construct a similar exercise for population or an increase in the labor force and come out with a similar result.
There is one case you could embrace (though I don’t see the critics doing it). Say gdp is 100 and government spending is 100. A negative real shock lowers real gdp and creates some price inflation. Nominal government spending stays the same but in real terms it falls and that is quite possibly contractionary. In that case the “adjustment for inflation” makes more sense, because the boost in prices is not producing some other positive, expansionary pressure. That scenario is fully coherent, but of course suddenly the negative real shock is the major problem and the fall in government spending is a secondary and derivative problem, albeit a potentially important one.
Going back to my initial post on European fiscal policy, there are many upset commentators but in general they are not grasping these points much less responding to them or showing some level of understanding which is deeper than my own.
I am more than willing to admit that there are deeper understandings yet than what I offer in this post, but we are not at them yet, not in this discourse at least.
I don’t wish to respond point-by-point to some of the writings in the blogosphere, but given the above, Ryan Avent also is not looking deeply enough. Both he and Brad Plumer did not see that the posts in question clearly distinguished between spending cuts and “austerity” (Brad did issue what is arguably a correction.) I admire both bloggers and read them regularly, but these two posts both fail; here are some comments from Veronique. I would say there is a dominant narrative, repeated many times in not always precise language, which people find it very hard to think outside of.
Most of the time “austerity” is a misleading word and more precise concepts — readily intelligible I might add — are available. There really are some times when we should relabel austerity as “mostly tax increases,” but many people are reluctant to do so.
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I heard on the radio (really) a commentator agreei with you. He said something to the effect that the word “austerity” is too charged and another word such as “retrenchment.” I like “reversion.”
A change in vocabullary may result in less hystrerical reactions.
In the run up to the current, global economic “wailing and gnashing of teeth”, many nations experienced public sector growth that was significantly greater than private sector growth. That may be an indicator of whether reversion may be required. As in reversion to 2006 public sector spending levels and/or recoupling public sector growth to private sector growth.
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This is Tyler at his best
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Really? I think this might be the most confusing post of his I’ve ever read. I have at least three ways of interpreting the 2nd paragraph, and I can’t tell which (if any) of these was intended.
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Tyler,
Who is on your blog roll? That seems worthy of a what I have been reading post.
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He has them listed on the bottom left.
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I’m a bit surprised at the focus on this, since it doesn’t really affect Veronique’s graph much. After all, a lot of pixels were spilt railing against spending cuts that never happened.
Most of the time "austerity" is a misleading word and more precise concepts "” readily intelligible I might add "” are available.
Ahem solvency ahem.
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The argument in the second paragraph seems misspecified, or at least incomplete. I take it that simultaneous with the inflation, the private sector grows in real terms enough to make up for the real decline in government? But that still doesn’t make the event “expansionary”; the real output of goods and services has stayed the same. I don’t think most people consider nominal values going up while real output holds steady to be what is traditionally meant by macroeconomic expansion.
So I’m still not sure why we wouldn’t adjust for inflation, but point taken on adjusting for economic growth. However, shouldn’t the baseline be the counterfactual rather than t=0? And unfortunately, I don’t think Greece’s GDP (or that of the various others) has doubled lately.
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If GDP=100 and Gov spending =100 then Gov spending is 100% of GDP. If GDP rises to 200 (unlikely in that scenario!) & Gov spending stays at 100 then it is then at 50%. Problem for many countries is GDP contraction made Gov spending a higher than affordable % of GDP.
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OMG.
GDP = *private* GDP (in Tyler’s post). 100 private + 100 govt spending = 200, making govt spending 50%. 200 private GDP + 100 govt spending = 300, making govt spending 33.3%.
This comment is more illustrating of what is at stake than all other comments I have seen. Govt spending is extracted *at the threat of imprisonment* from private GDP, and those that object to de Rugy’s post simply do not see it that way.
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This reminds me of when someone claimed a borrowed dollar of gov’t spending has a positive multiplier to GDP not just in the year spent, but for every following year, and was promptly asked how then gov’t debt could ever be larger than GDP.
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Another embraceable case: justice and other public goods are assets & important factors of production that require maintenance. Required spending to maintain the “adequate policing” asset may well be a function of GDP, population, etc.
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Sure. The socialists won in France promising to re-establish the retirement age to 60 from 62. Among other things.
IOW your point is irrelevant.
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All that makes sense, but if unemployment increases by 30% (say, from 7% to 9.1%) and, as a result, (1) unemployment benefits go up, (2) requiring the government to layoff teachers and not open a new school as planned, people are going to look at that as austerity, even if it really isn’t contractionary. People are going to be especially mad if, in addition to that, their taxes went up. They might be mad even if they are not paying more in taxes because, even though rates went up, they pay no more than they did before because they had to replace a higher paying job they lost with a lower paying job. We need a new framework for understanding and arguing about this stuff.
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What I found most perplexing about the arguments that there have been “savage” cuts to government spending, only they are masked by booming automatic stabilizer transfers (unemployment benefits), is that these very transfers are trotted out as the ideal speedy, targeted stimulus. Why would people be so upset about this, unless they thought that were “structural” issues that were better treated by longer term spending.
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Just to be clear, you are implying Greece’s government/GDP drop is because the Greek economy is growing so strongly? (You may replace Greece in that sentence with France or Spain.) And since Avent didn’t answer this hypothetical, his understanding is less than your own?
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