There are full-Keynesians and there are half-Keynesians.   Full Keynesians prescribe increased government spending during severe downturns in the economy to off-set reductions in aggregate demand from falling consumer spending, investment and/or net exports.  Full Keynesians then insist that governments pay down the debt accrued during recessions by running surpluses normal growth, or faster than normal growth, returns .  The budget must balance ‘over the cycle’.

Half Keynesians want big deficits during recessions and small deficits the rest of the time.  For half-Keynesians fiscal policy is all about stimulating the economy — balancing the budget over the cycle is good in theory but not a first order concern.  Debt can be paid down ‘later’.  High levels of Government debt are not really a problem.

Yesterday Australia’s Labor Government revealed that they were only masquerading as full-Keynesians, they are actually half-Keynesians after-all.

In its first 4 years the Labor Government ran deficits, as percentages of GDP, as follows:  2008/9 = 2.2%,   2009/10 = 4.2%,  2010/11 = 3.4%,  2011/12 = 3.0%.  That is, accumulated deficits of about 12% of GDP in its first 4 years.

The Labor Government didn’t actually promise to pay off this debt over the cycle, but merely promised to return the budget to surplus in 2012/13.  Given the global economic background, that promise was enough to mollify a public that is concerned that we are becoming as fiscally dissolute as many other developed economies.

Now, the Gillard Government has announced that even though we are headed into a third straight year of at-trend growth the budget cannot be balanced.  When the Treasurer Wayne Swan is asked how large the deficit will be he won’t commit.  And, that’s the problem isn’t it.  Now the Gillard Government can let it all hang out.  That must be such a relief for them.

How large will the deficit be?  Well, lets’s think,  what happens when a dieter’s will breaks and they open the fridge door – is that first chocolate followed by a carrot and a stick of celery?  When an alcoholic falls off the wagon, then what follows that first drink?  You know what is coming next in terms of fiscal discipline in Australia –  binge spending.

Many economists are forecasting a deficit of about 1% of GDP in 2012/13.  I think that is hopelessly optimistic, now that the fridge door is open, but let’s go with that.  Why will we have a 1% deficit.  The Treasury Department projects that receipts (from taxes) will average 24.2% of GDP over the next 4 years.  What about spending?  In the 4 budget years before the GFC 2004/5 to 2007/8 spending average 23.7% of GDP.  Then in the two years at the height of the GFC,  2008/9 and 2009/10,  spending ran at 25.6% of GDP.  Now the problem – in the following three years 2010/11, 2011/12, 2012/13, spending is running at 24.6% of GDP.

So, spending after the GFC is running at about 1% of GDP higher than before the GFC.  That is the 1% that the Labor Government can’t find.  Yes, it is true that Treasury receipts are considerably lower after the GFC than before, but if spending was running at the same level now as it was before the GFC then there would be no deficit.  Government receipts will be about 23.7% of GDP in this fiscal year.  If the base level of Government spending (after the extraordinary stimulus of the GFC) had not blown out by about 1%, then we would not have a deficit.

I admired the Prime Minister’s determination to maintain fiscal discipline.  It is sad to see Julia Gillard’s Government surrender its economic credentials in this way.

6 Responses to Full-Keynesians and half-Keynesians

  1. Jasbo says:

    Oh for god’s sake, your final paragraph only makes sense if you believe media releases to be economic behaviour. This govt hasn’t maintained fiscal discipline since Rudd was in charge. You are far too credulous.

  2. Jim Rose says:

    these definitions over-lap too much with tax smoothing as per robert barro

  3. derrida derider says:

    Spending is running, as you say, at 24.6% of GDP – but you have cherrypicked your starting point. It was 25.2% in 2000-01 – the 4 years up to the GFC were extraordinarily low due wholly to a combination of sub-5% unemployment and what I call “peak demography”****. The government is still likely to run a macroeconomically insignificant deficit (a tenth or two of a percent of GDP) – there is no political advantage to going on a spending spree, even in an election year.

    The three least responsible spending decisions were all made on Rudd’s watch. These were the boost in health and public housing funding for the States (without which they’d all be in deep s**t BTW – but why aren’t you caning the States for their pathetic tax policies?), the pension increases (quite unnecessary on the evidence, and they took welfare funds from where they WERE needed) and the NDIS (the problem with which is less the scheme per se but the need to buy out the States on extortionate terms). The worst policy decision of the Gillard government was raising the compulsory super rate but that doesn’t cost much revenue.

    We are NOT at full employment and given the commodity price slide we will, if anything, move further away from it in the next year or two. There does not seem much scope for getting back to it by monetary policy alone – liquidity preferences mean monetary policy starts to lose traction well before the literal Zero Lower Bound is reached. So given this Keynesian framework why is a moderate (larger than the one we’re getting) deficit not appropriate at present? By all means dispute the whole framework but you can’t claim Keynesians are internally inconsistent at present.

    **** Australia had its highest ratio of working age people to total population EVER in those years, and ppn of the population over 65 of the population was always forecast to increase at its most rapid rate in the following decade. Demography matters much more than most economists realise – the economy is currently facing a noticeable demographic headwind.

  4. Sam Wylie says:

    DD
    Thanks for adding some context. The only point I am trying to make is that the Labor Government are not committed to balancing the budget through the cycle. We had a big boost to spending in the GFC, that was good. But it is 3.5 years since the low point of the GFC in June of 2009, and we are still racking up deficits. That makes the Gillard Government half-Keynesians who stimulate the economy when necessary and make nice noises about paying off the debt when things get better, but never do.
    Regarding the starting point, if go back 10 years before the GFC — average spending is 24.1% of GDP.

  5. Skuter says:

    Perhaps it would be best to describe the current government as following a bastardised Lernerian philosophy a la The Theory of Control?

  6. Baz says:

    It seems hard to describe our current place in the business cycle as the frothy exuberance of the boom, which is where they should be pulling out all of the austerity stops and building up a big surplus. There’s just too much uncertainty in the rest of the world.

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