Not the Treasury view...: Self-defeating austerity?: Is austerity – particularly the fiscal consolidation programmes currently under way in most European Union countries - self-defeating? This question has been thrown into sharp focus by the IMF’s belated reassessment of the magnitude of the “fiscal multiplier”… New research from NIESR makes the first attempt – to our knowledge – to model the quantitative impact of coordinated fiscal consolidation across the EU…. [I]n "normal times", fiscal consolidation would lead to a fall in debt-GDP ratios, in current circumstances, fiscal consolidation is indeed likely to be "self-defeating" for the EU collectively, and for most individual member states, including the UK.
As a result of the fiscal consolidation plans currently in train, debt ratios will be higher in 2013 in the EU as a whole rather than lower ; by about 5 percent for both the euro area and the UK…
Jonathan Portes: This is a European suicide pact: There are several reasons one might expect the negative impact of fiscal consolidation on growth to be greater now. Normally, monetary policy offsets some of the impact of fiscal policy. But interest rates are already at exceptionally low levels – and it is far from clear that extraordinary measures, such as quantitative easing and the ECB's outright monetary transactions, are having much impact on the economy. Second, during a downturn, when unemployment is high and job security low, a greater percentage of households and firms are likely to find themselves without access to credit. And finally, with all countries consolidating simultaneously, output in each is reduced not just by fiscal consolidation, but by that in other countries (through trade links). In the EU, such spillover effects are likely to be large.
Fiscal policy started to achieve the opposite of what was intended in 2011, when deep consolidation measures were introduced in Portugal, Ireland and Greece – the three countries on bail-out programmes. Cumulative measures over the three-year period amount to close to 10% of GDP in Greece and Portugal and 8% in Ireland. Consolidation measures amounting to between 5% and 6% of GDP are planned in France, Italy, Spain and the UK, while only a modest adjustment is likely in Germany and Austria.
Our estimates are that in those normal times, fiscal consolidation would have reduced growth, but not by very much except in the bailout countries…. The desired objective of reducing deficits and debt would have been achieved. But taking account of the current environment changes the picture dramatically…. The policies pursued by EU countries over the recent past have had perverse and damaging effects….
What we have seen in Europe is the creation of a death spiral of deficit cutting, leading to reduced growth – which leads to reduced revenues and pressure to cut deficits faster. Paradoxically the EU was set up in part to avoid such problems by allowing members to co-operate to secure better outcomes. Co-ordinated EU fiscal consolidation looks less like economic policy co-operation and more like a suicide pact.