Monday, 1 September 2014

Fiscal pessimism


At Pieria, I discuss the inadequacy of monetary policy and the implications of the Fiscal Theory of the Price Level for the conduct of government policy. There needs to be a greater role for fiscal policy, and an end to the fear of debt and inflation that is preventing governments from taking the actions required to restore growth. But this means reversing the prevailing direction of economic thought for the last 30 years:
"In the present situation - what Sims calls “fiscal pessimism” - FTPL predicts disinflation. Fiscal pessimism means that people look with horror at rising government debt burdens and future fiscal commitments such as those arising from an ageing population, and think “how on earth are we going to afford this”? They expect much higher taxes in the future and/or serious cuts to spending programmes. If this is also combined with very low interest rates, so they make little or nothing on their growing holdings of government debt, they feel poorer even though their nominal wealth is actually increasing. They may therefore cut discretionary spending and increase precautionary saving in compensation, causing a disinflationary trend....
"It is all very well observing that hope seems to have departed and people appear to have resigned themselves to a depressing, and depressed, future. But why are people so pessimistic? What – or who - has convinced people that government debt levels are unsustainable and there is significant pain to come? In a word, economists."
Read the whole post here.

This is the second of several posts at Pieria covering topics discussed at the recent Lindau Meeting for Economic Sciences. The first post can be found here


7 comments:

  1. I watched Sim's speech. I couldn't see past the fact that he was merely making a Ricardian Equivalence argument. I can't for the life of me see any link between what he says and practical policy making. Essentially in his model of the world everything boils down to how people are feeling. I call this the 'label the residual', or 'guess the external shock' approach to economics. So how do we make everyone feel better?

    I'm keen to read more about the even though.

    ReplyDelete
  2. "For growth to resume and fiscal burdens to be reduced, the pessimistic have to be induced to spend."

    Why call them pessimistic, call them realistic. An individual does not think about his government's debt before spending. He will spend if he is secure about the future otherwise he will save for the future. Instability about the future begets pessimism. Just pray that one more burst does not happen anytime soon. Else spending is done for.

    “I can't see that punishing countries for breaking the debt rules is helpful”, he said.

    Then why have debt rules if there are no consequences to not obeying. Do away with it.

    ReplyDelete
    Replies
    1. What you have posted is a fine example of exactly what Sims is talking about.

      If applying what you call "consequences of" and Sims calls "punishment for" breaking debt rules means that growth declines even more and economies become even more highly indebted (since debt/GDP is a ratio), then it is completely counterproductive. Better no debt rules at all than penalties for rule breach that make the situation worse.

      Delete
  3. Frances, did you know about this post? (you're mentioned in it: in particular this post of yours):

    http://informationtransfereconomics.blogspot.com/2014/09/what-is-inflation.html

    ReplyDelete
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  6. It does not help that politicians like Dave call the UK 'bankrupt.'

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