Gimme Shelter
Martin Wolf Begs for More Expansionary Policy

The Obama Administration's Fiscal Policy Scares Ryan Avent

On some measures, the likely U.S. fiscal contraction over the next two years is larger than what Britain is currently undergoing.

Ryan Avent:

Fiscal policy: Feeling confident? | The Economist: I'VE been trying to figure out, mainly as a matter of curiosity, whether the administration's pivot to an emphasis on deficit-reduction early last year was a product of genuine economic conviction or political expediency. Certainly Zach Goldfarb's reporting on Tim Geithner suggests that the Treasury secretary was convinced of the benefits of debt-cutting despite the weak economy. Peter Orszag, formerly the head of the White House Office of Management and Budget, was likewise supportive of a bigger emphasis on deficits than on stimulus.

Whether or not the move toward austerity was heartfelt, the administration has now embraced the policy choice. At a White House forum on the economy yesterday, I heard from several administration officials who defended the present policy path in no uncertain terms. Austan Goolsbee, outgoing chairman of the Council of Economic Advisers, played down the May employment figure as just one data point and touted administration efforts to support entrepreneurship and facilitate private investment. I asked him whether his comments could be taken as indicating that the administration no longer felt fiscal stimulus could or should be used to support aggregate demand. Not at all, he replied, before talking more about the investment incentives and regulatory initiatives the White House has supported. These were, almost exclusively, supply-side policies. The administration's business-support efforts look like useful steps to me, but they're clearly not designed to provide a direct boost to aggregate demand. The time for that has passed, or so Mr Goolsbee seemed to imply.

The comments from Gene Sperling, Director of the National Economic Council and a key member of the team negotiating an agreement on an increase in the debt ceiling, were clearer still. The White House believes, he said, that deficit-cutting is an important component (the emphasis was his) of a growth strategy. And he repeatedly said that deficit-reduction was crucial in generating economic confidence. Confidence—he repeated this word many times.

He made clear that the administration isn't being entirely incautious about the risk of fiscal drag on recovery. He pointed out that the White House wanted a 12-year, rather than a 10-year, window for $4 trillion in cuts, so as to reduce their-short term economic burden. He also noted that the administration has fought hard to preserve crucial investment components.... At the same time, he said it is plain that a deal with the Republicans will involve a "bipartisan downpayment". There will be short-term cuts, despite warnings from Ben Bernanke, Christina Romer, and many others.

I struggle to understand the logic. Britain counted on "confidence" to lift the economy amid austerity and has been sorely disappointed, despite an accommodative central bank. The literature on expansionary austerity suggests that it's not an impossibility, but that it nearly always occurs in countries where high debt levels have produced high interest rates. America simply can't benefit from the interest rate impact of austerity; its interest rates have nowhere to go but up.

There is reporting this morning that White House advisers are pushing for a new payroll tax cut.... [I]t's not clear why there couldn't be room for a bit more immediate borrowing, to be made up in the out years. But Mr Sperling hinted that immediate cuts were likely a foundational part of any deal, perhaps because there would be little room for trust between the parties on the issue without it. In any case, it seems a sure thing that fiscal policy will be a net drag on the economy in coming quarters, and not an insignificant one either.

This does seem to be a significant shift from the first Obama team, where everybody--Orszag and Geithner as well as Romer, Summers, and Bernstein--was agreed that what the economy needed was more short-term stimulus and more long-term fiscal rebalancing...