Steven Rattner is wrong. The US has stumbled into the right kind of ‘austerity’

Credit: The New York Times

Credit: The New York Times

Steven Rattner, in a New York Times blog post, is worried about “balance.” He is concerned that as things stand now, “spending reductions would end up as the overwhelming contributor to our budget deficit reduction effort. If sequestration remains in place, we will have taken $3.5 trillion out of the projected budget deficits of the coming decade. Less than 20 percent of that will have come from last year’s tax increase.”

Which is exactly how you are supposed to do fiscal “austerity” — heavy on the spending cuts, light on the tax hikes. That’s the appropriate “balance” (particularly when it’s spending rather than revenue that’s skedded to be way off its historical average over the coming decade). Economists Alberto Alesina and Francesco Giavazzi:

The accumulated evidence from over 40 years of fiscal adjustments across the OECD speaks loud and clear:

1. Fiscal adjustments achieved through spending cuts are less recessionary than those achieved through tax increases. (These accompanying policies include easy money policy, liberalisation of goods and labour markets, and other structural reforms.)

2. Second, spending-based consolidations accompanied by the right polices tend to be less recessionary or even have a positive impact on growth.

3. Spending-based adjustments have eventually led to a permanent consolidation of the budget, as measured by the stabilisation – if not the reduction – of debt-to-GDP ratios.

And here are similar findings by AEI’s Andrew Biggs, Kevin Hassett, and Matt Jensen:

The data also clearly indicate that successful attempts to balance budgets rely almost entirely on reduced government expenditures, while unsuccessful ones rely heavily on tax increases. On average, the typical unsuccessful consolidation consisted of 53% tax increases and 47% spending cuts. By contrast, the typical successful fiscal consolidation consisted, on average, of 85% spending cuts.

So we have the general structure right, but the internals could be better. The discretionary cuts reduce spending too much in some areas such as defense and scientific research. Entitlement reform remains undone. The tax hikes have been of the absolute worst kind, raising marginal tax rates on labor and investment. But over all, Washington has stumbled into roughly the right kind of austerity.

4 thoughts on “Steven Rattner is wrong. The US has stumbled into the right kind of ‘austerity’

    • I reckon indeed…
      Actually, largely via the post-Cold War ‘peace dividend’ that allowed a gradual dismantling of the military and the 1995 Republican takeover of the House, the government did cut spending in the 1990s. And you’ll also see that big increases in federal government receipts occurred only AFTER the substantial 1997 capital gains tax cut from 28% to 20% – allowing Clinton’s claim to have turned deficits into surpluses.

  1. Reply from Alberto Alesina
    Submitted by voxeditor on Tue, 04/17/2012 – 06:32.

    Reply from Alberto Alesina and Francesco Giavazzi
    Thank you for your insightful comment. Our piece was directed to European countries. To what extent it apples identically to the non European countries (with a smaller governments) which you mention remains to be seen top some extent, although results along similar lines may apply, in some but not all cases . Yes cutting transfers, bloated public employment and subsides is more likelyy to be beneficial than cutting public infrastructures but lack of physical infrastructures is certainly not one of the main European problems at the moment.

    And where was the U.S. mentioned, Jimmy P.?

  2. When Rattner says $3.5T will be cut, that is off a baseline that assumes spending will double in the next 20 years. That is an irrational way to look at it, yet sadly common for this subject.

    Even after adjusting for inflation and population, spending is increasing in the future in virtually all scenarios. The amount of misinformation like Rattner’s post is nauseating.

Leave a Reply

Your email address will not be published. Required fields are marked *

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>