Many people have been taken with a new paper, The Time for Austerity: Estimating the Average Treatment Effect of Fiscal Policy, by Òscar Jordà, of the Federal Reserve Bank of San Francisco and University of California, Davis, and Alan M. Taylor, University of California, Davis, the NBER, and the CEPR.
At a time when the debate in Britain is starting to move on, the paper has been seized on in support of claim that the coalition government’s austerity programme has been responsible for most of what was a disappointing recovery until this year. The paper, available here, is worth reading.
It compares the economy’s performance with that predicted in June 2010 – ahead of George Osborne’s first budget (its pre-budget report) by the Office for Budget Responsibility (OBR). The difference amounts to 5.2% of GDP and it estimates that 3 percentage points of that, 3% of GDP, was due to what it describes as the coalition’s austerity programme.
There are one or two things wrong in the report’s narrative, presumably because it was written before recent data became available. The double-dip it refers to has been revised away, and it uses an earlier forecast for 2013 by the OBR, 0.6% growth, which is likely to be exceeded significantly.
There are, however, two more fundamental problems. The first is that ther paper overstates the amount of fiscal tightening that has occurred in the UK. The authors may not have been aware of the distortion to the figures for the public finances in 2012-13, as a result of the Royal Mail pension transfer and Bank of England asset purchase facility transfers. This greatly exaggerates the extent of fiscal tightening in 2012-13, and thus the overall tightening.
The second problem is that the authors use the June 2010 pre-budget report forecast incorporating Labour’s planned fiscal tightening. This had growth predictions of 1.3% for 2010, 2.6% 2011, 2.8% 2012 and 2.8% for 2013.
The June 2010 post-budget forecast, incorporating both Labour’s planned tightening and that of the coalition was for 1.2% growth in 2010, 2.3% 2011, 2.8% 2012 and 2.9% in 2013.
The key point is that both forecasts, while very over-optimistic, incorporated a big fiscal tightening, and the pre-budget forecast incorporated most of it. To say that the difference between forecasts and outcome was due to the fiscal tightening is to double-count. Yes the OBR has proved itself to be a bad forecaster but to use that as a test of the impact of the fiscal tightening that it did not allow for is a huge stretch. In fact it is a mistake.
Britain’s slow growth has been due to a variety of factors, including the fiscal tightening, but also the squeeze on real wages, the impact on trade and confidence of the eurozone crisis, and persistently weak (often non-existent) credit growth. That remains the position.
This piece is cross-posted from EconomicsUK.com with permission.