Krugman is back to his oh-so-objective presentation of the facts, which smuggle in the Keynesian policy prescriptions:
There is some tendency among economic commentators to think that austerity policies in a deeply depressed economy are mainly a European thing; you even find a fair number of people imagining that the United States is still engaged in fiscal stimulus. But the truth is that federal stimulus is years behind us, while state and local governments have cut back, so the overall story is one of fiscal contraction that’s smaller than in Europe, but not by that much.
To see what’s going on, you need to do two things. First, you should include state and local; second, you shouldn’t divide by GDP, because a depressed GDP can cause the spending/GDP ratio to rise even if spending falls. So it’s useful to look at the ratio of overall government expenditure to potential GDP — what the economy would be producing if it were at full employment; CBO provides standard estimates of this number. And here’s what we see:
Spending is down to what it was before the recession, and also significantly lower than it was under Reagan….So this is actually a picture of very bad policy.
Yes, this is a decent way to analyze the world, assuming that the economy is fundamentally suffering from a lack of demand and that government spending would fill the gap. But if the Austrian story were correct–that the economy had years of unsustainable, phony prosperity that actually ate away the underlying capital structure–then the above analysis is totally misleading.
Let’s see what happens if we take (a) total government and (b) federal government expenditures, and divide by actual GDP, not “potential” GDP. We find this:
Huh, how ’bout that? According to this metric, government spending (whether total or just federal) is still higher than at just about any point in the last 50 years, save for the crisis period itself and a few little blips. Couple that with the fact that the economy right now is arguably worse than it was during the Great Depression–both DeLong and Krugman tell us this is so–and it’s a good prima facie case that massive government spending hurts the economy. That should make sense, because it lines up perfectly with commonsense “micro” thinking.
Yet even on Keynesian grounds, it’s not obvious to me that “government spending as a share of potential GDP” is the right metric. Suppose we have an economy where government spending is initially $0, private spending is $100 billion, unemployment is 90%, and potential GDP is $1 trillion. Then in the next period, the government runs a deficit of $100 billion.
According to a Krugman/DeLong analysis, I would expect this to have a humongous multiplier. So not only would there be no crowding out, but in fact total private spending would increase, let’s say to $120 billion. Thus GDP in the next period would be $120 billion + $100 billion = $220 billion, a 120% increase. Unemployment would probably fall by more than 10 percentage points. It would seem a good Keynesian would explain the smashing success of this pump-priming by saying, “Ah, the deficit went from 0% of GDP to 100% of GDP (or 45.5% if you use the 2nd-period GDP figure). So no kidding the economy more than doubled.”
And yet, judging from Krugman’s preferred metric, you would have to explain the record-shattering growth in GDP by saying that the deficit went from 0% of potential GDP to 10% of potential GDP.
Don’t get me wrong, you can flip things to the other extreme and come up with cases where relying on deficits as a share of actual GDP would be misleading (within the Keynesian paradigm). For example, suppose we have an economy that initially is all government spending. It’s $1 trillion government spending (all deficit), with $0 private spending, with full employment. Then the government cuts its budget in half, and the private economy doesn’t pick up any of the slack. So total GDP falls from $1 trillion down to $500 billion, and unemployment shoots up to 50% or so. Yet the government deficit as a share of GDP would be the same, at 100% of GDP.
UPDATE: Oh, by the way, Krugman’s line about “the truth is that federal stimulus is years behind us” makes you think there have been crazy spending cuts at the federal level. In fact:
So yes, the stimulus is “years behind us” and federal spending is still about where it was, during the height of the “emergency stimulus spending.”