A Frugal Policy is the Better Solution

Jeffrey Sachs joins forces with George Osborne to make the case for a frugal fiscal policy in this FT article.

32 thoughts on “A Frugal Policy is the Better Solution”

  1. @ Philip Lane,

    I know it may be un-fashionable to combine macro-economics with micro-economics. But this particular paragraph from the Sachs/Osborne FT article I noticed:

    Furthermore, we are sceptical that a sustainable economic recovery can be based on either reinflating the sectors that have declined or believing future job creation can come simply from the public sector payroll. Sustainable recovery is a medium- and long-term project: investing in the next generation of technologies, workers, and families. Those who are hurt between the collapse of the recent bubble and the start of a new growth era must of course be protected. But it is naive to believe that governments can create high-quality, high-productivity jobs that last by inflating bubbles or digging ditches.

    Reminded me of something Stephen Kinsella wrote in his blog entry about the Innovation Taskforce.

    chumpeter thought innovation was a destructive force, in that it replaced older forms of production with new ones in a messy and costly transformation. Go into PC World and ask for a typewriter ribbon, and you’ll get the idea. For people like Schumpeter, the innovating entrepreneur could in some cases be bad for the economy in the short run, by forcing inventories to increase and costly retooling to take place. Real innovation is transformational, in that it does lead to growth, but not through a reproduction of the system today–rather through its co-optation and destruction.

    http://www.stephenkinsella.net/2010/03/14/looking-twice-at-the-innovation-task-force-report/

  2. @ Philip Lane,

    I know it may be un-fashionable to combine macro-economics with micro-economics. But this particular paragraph from the Sachs/Osborne FT article I noticed:

    Furthermore, we are sceptical that a sustainable economic recovery can be based on either reinflating the sectors that have declined or believing future job creation can come simply from the public sector payroll. Sustainable recovery is a medium- and long-term project: investing in the next generation of technologies, workers, and families. Those who are hurt between the collapse of the recent bubble and the start of a new growth era must of course be protected. But it is naive to believe that governments can create high-quality, high-productivity jobs that last by inflating bubbles or digging ditches.

    Reminded me of something Stephen Kinsella wrote in his blog entry about the Innovation Taskforce.

    chumpeter thought innovation was a destructive force, in that it replaced older forms of production with new ones in a messy and costly transformation. Go into PC World and ask for a typewriter ribbon, and you’ll get the idea. For people like Schumpeter, the innovating entrepreneur could in some cases be bad for the economy in the short run, by forcing inventories to increase and costly retooling to take place. Real innovation is transformational, in that it does lead to growth, but not through a reproduction of the system today–rather through its co-optation and destruction.

    http://www.stephenkinsella.net/2010/03/14/looking-twice-at-the-innovation-task-force-report/

  3. A particularly interesting line is this.. “But it is naive to believe that governments can create high-quality, high-productivity jobs that last by inflating bubbles or digging ditches.”.

    Unfortunately, it is not naive for politicians to believe that they can waste money very effectively in the short-medium term and effectively buy at least a couple of elections.

  4. @Hugh
    Yeah, timing is everything. The only beauty contest for politicians is the one at the ballot box.

    The challenge for ‘Green’ society is the transformation of the consumer from a consumer of ‘this’ to a consumer of ‘that’. We know that ‘this’ is shiny consumer tat, but what is ‘that’? We all have to do something, or be happy to be doing nothing or pay for someone else to do nothing. Is it enough to be? Probably not if you want to eat too.

  5. This is useful and thanks, Philip, for exposing it here.

    The times and the economy have changed. Bubbles only exist if there is a source of Ponzi credit. That is in the process of disappearing. The only source of borrowing from the future is now the government sector. They will borrow as much as possible and then waste the future earnings, needed to repay the debt. The Irish approach is reasonable except that new revenues were and are necessary.

    All investments made in the recent past and continuing should be reviewed for sense now. All costs should be reducing as deflation takes hold. Renegotiate contracts. Workers do it by striking. Employers do it by lockout. Negotiation is the best but not only way.

    Frugality is the new whatever. Savings are increasing. There will be overshoot. And yet more overshoot as pensions collapse, because of the paradox of savings! That money will reduce funds flow into unsafe investments, even though it might cost money to save! The Green society will reduce as it is exposed as yet another deception or bubble. Sound conservation will always be useful, and some new industries will arise that can be called green, but tugging at the emotions by calling any old scam “green” will no longer work.

    For DOD: things are bad now, but are a picnic compared to where they will be in five years! It is going to be the equivalent of a flood every year! Jobs disappearing and capital leaving Ireland to flee to Australia. The governments will be unable to raise enough revenue. Borrowing will hit limits. Frauds will be revealed that knock back investment plans. Stock prices will fall to six times earnings.

  6. Today’s Irish Times shows that the fight-back against Gov’t waste has begun. According to the Irish Times Political Correspondent, in Chicago a US newspaper has reported that ‘Mr Cowen was “heading to Washington as a global spokesman for fiscal restraint”.

  7. “If the starting position is a large structural deficit, further fiscal “stimulus” can darken consumer and business confidence by creating fears about future debt burdens.”

    Whether the deficit is structural or not is key.

    In the US and Ireland it is structural, and should be addressed by either higher taxes or lower spending (I would prefer higher taxes). However, it is possible to have a fiscal stimulus and address the structural deficit simultaneously.

    For example, the US could reduce non-productive defence spending by €100 billion, and increase infrastructure investment by €100 billion. The net effect would be fiscally neutral, but it would reduce the structural deficit.

  8. “But it is naive to believe that governments can create high-quality, high-productivity jobs that last by inflating bubbles or digging ditches.”

    Sounds good, but it’s a bit simplistic. The first point is that sometimes ditches need to be dug. Perhaps economists have forgotten gridlock Dublin, the ramshackle state of the schools and the laughable state of our public transit network, but those of us who exist in the real world haven’t. Fixing those things when labour and materials are cheaper doesn’t seem like the most radical move in the world.

    The second point I’d make is that the quoted sentence could be taken too far. Government investment does lead to high-productivity jobs. The largest economy in the world is the USA – on a continent found and settled with government grants. This communication medium involves computers and the internet. From UK investments in computers (Babbage and Turing to name two points in a 100+ year history of the making of the computer) to US DOD DARPA grants that funded the creation of the base hardware and protocols of the internet (the then arpanet). Nearly 200 years of frequent injections of public spending led to what you’re using to read this and a multi-billion dollar industry that has rapidly increased productivity. The same stories can be told in several other industries.

    And while they’re great stories, the fact is that to generate profit from those discoveries workers need to be educated in schools, cared for in hospitals and commute to and from work. That means government spending on schools, hospitals, transit and yes, the occasional ditch.

  9. @Kevin.
    Investment in fundamental infrastructures is certainly one of the ways – and a good one – that government can create the environment for jobs to grow and an economy and society to prosper. That’s true. I agree.

    However, don’t forget that private investment has often had exactly the same impact (trains, planes, etc.).

    Another problem with government is that its criteria for spending are often very different from what anyone would recognize as criteria for investment (even allowing for the fact that govt investment can reasonably aim to include externalities that most private investments could never monetize and could therefore potentially invest sensibly in things that no almost private investor would ever be able to invest in).

    Anyway, private investment makes mistakes (the channel tunnel), but government often errs deliberately. Similarly, private investors err with their own money. Government errs (deliberately) with other people’s money. This is, IMHO, unforgivable.

    Then we are forced to look at the degree to which government errs normally. This depends primarily on the competence and integrity of the political system and of the government apparatus in the country. Then we should look at the degree to which government errs in Ireland and where we score on these two criteria of competence and integrity.

    Oh dear. We’ll have to score a D+ on both counts. I, for one, will trust the Irish government to spend my money when they have demonstrated competence and integrity. Should I hold my breath?

  10. @ hugh sheehy

    You quote “But it is naive to believe that governments can create high-quality, high-productivity jobs that last by inflating bubbles or digging ditches.”

    The evidence is not so much that governments create bubbles. It is that the governmental/regulatory processes are captured/bought by those who have a major vested interest in blowing up a bubble. You can’t easily drive the fish into the net these days unless you can get the government to hold up the other end.

    You say ‘Similarly, private investors err with their own money’

    If only that were the case. It is sometimes, but the sense of ‘entitlement’ to err irresponsibly and repeatedly with galactic amounts of others folk’s money is pervasive today’s finance-centred global economy. Business acumen means you get to act the maggot (as we used to say in the old days) with more of other people’s assets than your competitors.

    Venerable institutions like ‘limited liability’, ‘commercial secrecy’, ‘banking discretion’ continue to be abused flagrantly in the name of innovation. The rest of are left Hobson’s choice between debt deflation or hyperinflation.

    If the present conjuncture teaches us anything, it is that the traditional distinction between private and public sectors is no longer very meaningful or useful for governance. The private sector is ever more demanding of state supports and guarantees, while the public sector turns out be riddled with private vested interests.

    The counterpart of excess public sector wages has been the excessive profits, fees, bonuses, grants, loan guarantees and other benefits extracted by the private sector in its dealings with the state. There were so many ‘great deals’ done in the Tiger era. Insofar as we seen competence, it would appear that it was sadly (for us) entwined with remorseless self interest.

    There is a difference between carrying out a policy badly and having a bad policy. Our state aspires to a development path which fosters private investment, but has lacked a sufficiently disciplined and transparent political culture. Now that the old sectarian divisions are finally being resolved it is time to build a more solid edifice.

  11. @Paul.
    Absolutely agree on the ability of bankers/financiers to waste other people’s money, particularly when they waste so much that they need to be – and are – bailed out. I was talking primarily about investment in infrastructure, so wasn’t focused about the financial sector.

    However, you’re one of the few people I’ve seen mentioning that regulations like “limited liability”, particularly when applied to the financial sector, have been a major contributor to the abuses. The ability of dodgy bankers to create a whole new way to sucker the world under the noses of financial regulators does hint at a requirement for alterations to legal concepts like that and I can only hope that something in existing legislation allows us to pursue and punish the dodgy ones.

    As for “remorseless self interest” and things like the “invisible hand”, it’s still important to remember that markets – and particularly any socially useful market – can only exist under the protecting hand of regulation but that the value of good state regulation is not an excuse for the state to start to engage in dodgy “investment” either, particularly when all the money required for “investment” must ultimately come from the private sector – particularly from the non dodgy private sector.

    As for your suggestion that we should further blur the distinction between private and public sectors, I entirely disagree.

    The value of the state sector is that it can and should engage directly in looking after the common good, and I mean common good not sectoral favouritism. The private sector should look after the rest.

    If nothing else, the less the state sector can corruptly control, then the less there is for the private sector to corruptly influence. We’ve become way too used to public and private “blurring”.

    (sorry for all the scare quotes)

  12. Among the many non-sequiturs in the piece is the following, “By contrast [to those arguing for fiscal stimulus], we believe financial markets are perfectly capable of getting spooked about the prospects of debt financing in the medium term. The dire market reactions to Greece may have a touch of panic to them, but are nonetheless having severe effects on the Greek economy.”

    But Greece hasn’t had any fiscal stimulus.

    And the course the authors advocate, early and sharp cuts in government spending has already been tried, in Ireland. Which has produced the second most ‘dire’ outcome for bond yields in the Euro Area.

  13. @Michael Burke

    The potential for a stimulus here existed – this is now clear to me – but the requisite resources are being poured like coke up an over-exuberant ideological fundamentalist free_mawrket_eering junkie’s nose to satisfy the needs of the zombie banks http://www.irisheconomy.ie/index.php/2010/03/11/ronan-lyons-on-nama-and-yields/#comment-39885

    we could have handled a substantial reduction in the fiscal deficit (which is necessary – question is how and who), AND provided a pragmatic real wealth creating stimulus – use of the National Pension Reserve Fund for example – €20 billion now going into the black_hole ……….. policy madness as the Irish citizenry is deemed of a lower order of serf_dom to the needs of the upper_echelons to stay in positions of power and protect their own wealth and pander to the needs of an abstraction.

  14. Rory O’Farrell

    Correct! Sadly, as there is a global depression, the reduction in actual sustainable economic activity will be more massive than it needed to be, if conservative fiscal policy had obtained since EZ entry. Revenues in Ireland are a very crude mismatched indicator of the reduction required, as normal tax base has been absent for some time as it was in stimulus mode for far too long. Just abolishing the “tax incentives” will help yields and enable a better gauge of what is likely to be sustainable. NAMA brings an enormous level of uncertainty to the process of increasing confidence and will be an obstacle as it is too large a project for successful completion according to local desires. The EU will step in, time and again, making it all the more uncertain, but speeding up the process.

    Of course, once we all beleive that the correct levels have been found then some growth will occur!

  15. Michael Burke
    Greece has been spending more than it said and more than it should. More than it should because all estimates assumed the easy credit would continue. Is that not a form of stimulus?

    As most of the overspend has been into submarines which are a waste of time, surely, then correcting the expenditure may not impact too much. Of course, one of the further problems is that they did not pay fully for the subs. Credit has been too free there and the loss of it will have very substantial effects.

    Stimulus cannot be sustainable if it is based on an economy that will not exist for twenty more years and if it isn’t then it is wasteful. Japan has been stimulating their economy for that length of time. Their public debt levels may be unsustainable if ever interest rates rise.

  16. Hugh Sheehy
    I have posted on the question of limited liability on this site. Bankers of the investment variety, should be as they once were: partnerships. This takes care of excessive bonuses as they will reinvest and of carelessness with OPM. The joint stock liability company is an indispensible part of all large quasi-frauds. Too late now!

    Agree with your post completely. The state is far too likely to be a problem. It erects itself as a power structure that is impossible to alter via voters needs and perceptions and union power and should be restricted to essential services where rule based delivery is literally, vital. Profit based delivery is vitally required and competition is enabled by a level playing field with ease of entry essential.

  17. Sounds like a typically fatuous Sachs tome. Long on sound bites and bullshit, short on practicalities.

    The Americans were praying early on in this crisis for a bout of fairly severe inflation so as to debase the dollar further. Hence the orgy of money printing. Instead they got severe deflation and mass unemployment. Raising interest rates will not now work as any increases in debt service costs will pulverize the American economy. And whither they go, we go.

    The Greeks are screwed and so are we unless we dump the odious idea of equality for all. We are not equal, any of us. Those that get ahead do so by dint of hard work and taking risks. Too many parasites in Socialist economies. I also find it nauseating to cite the Swedes or the Danes as paradigms of virtue because they have societies that are “more equal” that others. Its not equality that we need but wealth creation and entrepreneurship.

    Innovation is a private sector affair by the way. The Government is too stupid to innovate anything.

    Education (secondary, third level and vocational) also needs to be wrested from the turkeys who promote grade inflation in our Leaving Cert exams. Universities need to get back to being centres of learning not just degree factories. Again, a shift back to private sector funding for the Uni’s in the State will assist these institutions back into the real world.

    Indeed, the only thing proposed by Sachs and Osborne that will help us is if our Government was to backstop a big infrastructure program (of nuclear plant construction say).

    @David O’Donnell

    Many people mix up free market Capitalism with whatever it was that we have experienced in the last fifty years of Socialist expansion – a free market economy would never have got into this shit and certainly would not have bailed out the banks. The only way for what has happened to our economy to have happened is because of bad government. Socialist, power mad and clueless.

    Your point about using the National Pension Fund is a good one. But as you say they have probably blown that on social payments so that we can all be more equal.

  18. @Mokabaybob

    You should perhaps not beat around the bush so much and say what you mean.

    Personally, I would rather live in a society where the strong are given opportunity but the vulnerable are given some level of protection against them, rather than the ‘dog eat dog’ utopia you are hinting at where a handful of people class the rest as ‘stupid’ (and then proceed to rip into them under the guise of ‘free markets’, raping societies and the planet with no regard to the future). But hey, maybe we should take that conversation somewhere else.

  19. Just so long as we’re clear on who needs to be frugal (working people, mostly), and who doesn’t (the rich). If you are a PAYE worker, you will have no option but to be frugal, as social services and paycheques fall, regressive taxation targets you, and negative equity traps you. If you’re rich, of course, however and at whose expense you came by it, we understand that you can’t be expected to pay more, there’s no pot of gold, sure you’d avoid the taxation anyway, we have some nice NAMA loan-forgiveness for you, all corporate bonds made whole, and now the wages you’re paying are lower. Also, if you’re rich, you get the unflagging support of useful idiots among university lecturers who are weirdly happy to shiver in their over-mortgaged suburban houses so you afford a midnight private plane flight to Marrakesh.

  20. Is this a trailer for a re-run of the “Odd Couple”? I wonder who approached whom. On top of two nations divided by a common language we have fundamental differences in the process of fiscal policy design and implementation that this op-ed piece glides over. Many US economists and commentators seem to think that, because they believe it is self-evidently the best, all other established democracies have a system of democratic governance similar to the US.

    George Osborne’s hope and desire is to be Chancellor of the Exchequer in a majority Conservative government that will be subject to minimal restraint by Parliament during its term in office. In marked contrast to a US President or Treasury Secretary, neither he, nor the Treasury, will countenance any evidence-based or democratic constraints on the fiscal policy stance. And any EU attempts to encourage fiscal co-ordination will be bitterly resisted.

    However, given the failure of democratic governance throughout the EU to develop and apply these constraints on overmighty governments, EU institutions are being required (and being encouraged by the forces in favour of political integration) to fill this vacuum. I expect the price of the emerging Greek support package will be much wider and more intrusive centralised fiscal supervision of the Eurozone.

  21. @ Pat Donnelly

    The Greeks had a structural overspend, supposedly hidden from the EU’s view. More than half of that was on the military, mostly unproductive spending. But there is no move, either by the EU or the Greek government to cut military spending in half. That alone, alongside improved tax collection, would see the deficit tumble.

    Instead, the ‘remedy’ is pay cuts for the low-paid and welfare cuts for the poor. However, these are the groups most likely to respond by having to cut consumption, and, since the former are among the few in Greek society that actually pay taxes, the deficit will only rise as a result.

  22. @Michael Burke.
    The expectation, or assumption, that the deficit will rise if welfare and low pay is cut is common and commonly expressed.

    It is not necessarily true, either generally or specifically.

    In Greece’s specific case I’d agree with your suggestion that the solution may well be to cut military spending (and Greece hardly needs a major military unless they plan to invade Turkey) and to actually tax the middle/upper income earners instead of letting them evade everything. That doesn’t exclude the possibility that welfare is too high and that the low paid are still costing more than Greek businesses can support. (I can’t comment on those with any authority because I don’t know enough about Greece.)

    However, I would still stress that government should spend as little as it can to achieve the things it needs to do to promote the common good. Apart from whether this is the appropriate path out of the current problems, I’d hope that we could live in a world where this was true. Today, it is hardly ever the case. That well-worn old Bastiat quote comes to mind.

    Government frugality should be a norm, not the exception.

  23. “so you afford a midnight private plane flight to Marrakesh.”

    Ye, its good to see treasury transferring their debts to NAMA while its owners jet set around the world. Was it mid week?

    It willl be interesting to see whether treasury do in fact meet their obligations, and if not, whether there are personal guarantees in place, the enforcement of which has been forebeared by the NAMA process.

    This is the kind of stuff that really pisses people off, and while I would not like the issue of which developers get credit under NAMA to be politicised, if it was to be, I think Treasury would be an unsympathetic victim.

  24. @Joseph

    “Dog eat dog utopia” -oxymoron aside, what you follow on with after this point is hysterical nonsense.

    Our Government is corrupt, immoral and stupid. Whats to dispute about that?

    We live under an ill-conceived Socialist system which has now utterly failed. What is untrue about this statement?

    I would be happy to here your defense of the current system.

  25. @Moyakabob, Joseph
    Apart from observing that emotive language is unconducive to increased understanding on the internet, I suspect we could all agree that there has been enough raping of various people under the guise of free markets recently, and that it is a bad thing. We’d probably even get agreement that the current government’s integrity, morality and intelligence is not beyond reproach.

    We could perhaps leave discussions of what “good” free markets look like and why or whether they might be a good thing to another day?

  26. Returning to the fiscal policy theme of the original post, Prof. Paul Collier, from whose books and papers I have learned much, has an interesting op-ed piece in today’s UK Guardian:
    http://www.guardian.co.uk/commentisfree/2010/mar/16/british-government-fiscal-prudence

    Among many useful observations, I find his focus on state assets and liabilities to be particularly relevant. Until citizens are presented with some assessment, however heavily caveated, of existing state assets and liabilities and of their likely future trajectory, they will not be in a position to express a judgement on the merits of fiscal policies advanced by competing political parties.

    UK citizens (or subjects, according to taste), at least, will have an opportunity within two months to pass judgement; Ireland’s citizens, unfortunately, may have to cope with the application of the mushroom method for the next two years.

  27. There is no coincidence that prior to the “crisis” inequality of assets and income was never greater, at least in the UK and the US. The rape of capital was a transfer of value that accelerated. Fiscal policy would not be wrong to decide that democracy of participation might be best served by arranging another transfer of assets. The national income would pick up, if the capital were properly invested.

    Private markets are the best mechanism for many profit based activities. Some activities are so important that they need to be non-profit. Then we have government activities.

    This mix needs to be addressed. Publicly, to show we have a working local democracy. Thinking strategically not politically. This means a recognition that the middle classes are the most productive, but that the economy needs consumption, and the working classes for want of a better word, spend 100% of income. We also need the capital currently owned by a very few individuals. They must be cuddled and loved and told how wonderful they are! (Some of them are but not for good reasons!)

    But the future all rests on how we use and value our land. Barring a CME, communicaions and eagerness to eat will incentivize folks if employment of any kind is available. How do we create that?

  28. Michael Burke
    Yes, very likely. The subs may have had a destination in Turkey in mind. Dangerous toys. As usual, the innocent and silent suffer most.

  29. I always thought a good idea to promote frugality would be a system of bonuses for politicians and senior civil servants such that

    – for every deficit-neutral reduction of the average tax burden of 1%, policymakers receive a bonus of 5% of their base salary.

    Such a system would incentivise small government. And the problem is that govt otherwise has natural incentives to keep eating.

    In fact, government frugality is rather like my fitness regime – unless there are real incentives, I only occasionally find the self-discipline resources to drag my flabby behind out of bed at 6:30 to go running in the park. The rest of the time, I enjoy too much good food and relaxation … the pork always gradually comes back.

  30. …and sticking with my flabby arse analogy –

    Keynesians are like an Italian mama, who, during the Christmas festivities, attempts to convince you to keep eating by arguing that in order to lose weight, you need energy to exercise, so the more you eat, the more you will have energy, the more weight you will lose…it doesn’t make much sense to you, but when that second bowl of quattro fromaggio ravioli appears on the table, you just let yourself be convinced….

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