Austerity vs Growth

In his recently released book ‘End this Depression now!’ Nobel-Prize winning economist Paul Krugman cuts against the current economic consensus, arguing for a return to Keynesian economics to push us out of the current recession. He believes that the deficit needs to be extended with more public spending in order to restore the confidence of consumers and businesses. With the recent democratic revolutions in Europe against austerity, Krugman has stated that today's voters across Europe have proved themselves "wiser than the Continent's best and brightest.”

Krugman’s arguments will be wind in the sails of Labour, who are advocating a ‘pro-growth’ strategy of enlarged public spending. The logic is that just like in the 1930s, governments must spend more during a recession in order to stimulate demand. The danger is that, as R. Rajan in Foreign Affairs has pointed out, the current recession is very different in nature to that of 80 years ago. He has argued that the recent growth has been fuelled by cheap borrowing – and this ‘debt-fuelled growth’ is unsustainable. Austerity is therefore necessary to cut the deficit and ensure the confidence of those lending to Britain.

So what is it to be – Austerity or Growth? With Europe’s voters rejecting austerity, the coalition is coming under increasing fire from both voters, in local elections, and many commentators also. Labour has rallied against austerity, blaming the coalition for the ‘double dip’ that the British economy has taken. However, the major extent of the coalition’s austerity has yet to hit, and with the EU being Britain’s largest trading area, the Euro implosion is undoubtedly having a significant impact.

Across the pond, Obama can take credit for overseeing a rejuvenation of the US economy with a significant stimulus package, evidence for Krugman and Labour’s cause. But US fiscal policy also mixes in necessary fiscal restraint, perhaps in part enforced by the brinkmanship tactics of the Republicans. Furthermore the US economy is also being rejuvenated by dynamic states who enjoy significant autonomy from the centre but are nevertheless required to balance their budgets – policies that are noticeably far from the Labour vision.

America is proving that austerity and growth are not necessarily mutually exclusive: Obama’s emphasis on ‘fairness’ is certainly a more palatable message to voters than the austerity enforced by centre-right parties across Europe (and facing widespread rejection). Yet the question has still not been answered as to when the bill will be paid. Obama’s plan, in an election year, may be successful in securing his re-election – in France, Hollande has been successful in using a more drastic plan to overturn Sarkozy. Here, Labour are promising much of what Krugman has advocated, but like Obama and Hollande are yet to decide when the budget deficit will be reduced. As a party largely reliant on high public spending, it is difficult to see them taking the plunge (if they are elected and recovery occurs) to cut spending when Britain is on the up again. It’s all very well promising more ‘debt-fuelled growth’, but Labour are yet to prove they are mature enough to keep the more sour end of the fiscal bargain – footing the bill during the good years.