It appears we are in for a grand and dangerous experiment. The stakes are high, and the outcome is unknown.
The industrial nations that met in Canada over the weekend determined that they would undertake a course of severe belt-tightening in response to the indebtedness that has plagued them as a result of the economic collapse. Britain’s new coalition government has announced a package of budget cuts and tax increases as severe as anything the nation has experienced since the Great Depression.
President Obama urged our allies to continue to stimulate their economies, but the demand for austerity is gaining momentum. Even Obama’s options are hedged in because of nervous members of Congress who are more focused on deficit reduction than on reducing joblessness and stimulating growth.
At one level the debate pits economic theories against one another. One of the leading proponents of the Keynesian approach is Paul Krugman, Nobel Prize winning economist and New York Times columnist whose pieces appear frequently on these pages. On the other side are scholars such as Niall Ferguson who argue that the debt amassed in order to stimulate the economy ultimately will stifle the economy.
Whom should we believe? Most of us are not economists. We bring a layman’s notions of money and politics to the debate. But Krugman was right about the economic collapse even long before it occurred. His predictions have been good, and his prescriptions for the future seem grounded in commonsense realities.
Take the state of Vermont as an example of what nations and states are facing around the world. Vermont has not been hit as hard as other states, but we are struggling with stagnation, unemployment and flagging revenues.
One of the state’s responses has been to curb state spending, which has led to the layoffs of hundreds of state workers. Those hundreds have been added to the thousands of workers who have lost jobs in the private sector as manufacturing and construction have contracted.
Joblessness creates self-perpetuating economic problems that extend beyond the personal travails of the unemployed workers. Loss of income translates to loss of buying power, which translates into depressed economic activity. Unemployed workers are not buying motorboats or houses. They are probably cutting back on their groceries. They are not contributing revenue to the state to be used for the host of state programs that serve those in need. What economists such as Krugman fear is a downward spiral like the lingering recession that has gripped Japan for many years. Deflation, when prices fall because of lack of demand, reinforces itself because people are reluctant to spend today when the price may be lower tomorrow.
In Vermont the downward spiral has been slowed in part by the infusion of federal stimulus money, which has replaced some state expenditures and has helped sustain economic activity. Vermont state government balances its own budget, but Vermont’s economy has been buoyed by the indebtedness incurred by the federal government. Now with additional federal money for the states in doubt, the states may be forced to lay off thousands of teachers, police officers and others, degrading services and further depressing the economy.
Even Keynesian economists such as Krugman acknowledge the looming problem of budget deficits and the national debt, but they say those are problems for the future and the present danger of deflation is far more worrisome in the present than the danger of inflation. The greatest stimulus program of all time was World War II, when military expenditures lifted the economy out of the Great Depression. The problem of inflation and debt was dealt with later and was ameliorated by the revenues created by the booming economy.
We now can see whether Britain, suffering draconian budget cuts, sinks further into depression or not and whether the moderate stimulus policies of the Obama administration help to lift the U.S. economy. The experiment is missing one option: a broad stimulus to see whether aggressive job creation through public works and other public investments could reduce joblessness and set us on the right track. It is too bad that option won’t be explored because millions of people are likely to languish without work as the results of this real-world experiment come in.
rutlandherald.com
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