What UK conservatives know about economic policy that many US conservatives don’t


How refreshing to hear a center-right politician talk good sense about monetary policy. Here is George Osborne, the UK’s chancellor of the exchequer, who spoke at AEI last week:

Proponents of the “secular stagnation” argument say that over recent decades monetary policy has had to work harder and harder to sustain growth, and has now reached its limits. Demand, they say, can only be sustained with further fiscal stimulus and higher government debt.

This argument is difficult to defend in light of recent developments. The evidence increasingly shows that monetary policy, broadly defined and effectively deployed, can work, but with two caveats. Banks need to be well capitalized so that the monetary-transmission system is working. And fiscal policy must be credible.

Quibbles with Osborne about how exactly monetary policy works are more than offset by general agreement about the potential effectiveness of monetary policy. While Republicans have been quick to point to Europe as cautionary tale of fiscal excess, the real lesson is one of the dangers of monetary restraint. As economist Michael Darda recently put it:

Both the U.S. and euro area have had sharp fiscal consolidations; however, the U.S. has enjoyed steady, albeit unspectacular, growth, whereas the euro are fell into a two-year double-dip recession. Given similar fiscal adjustments in both regions, the difference in economic performance over the last few years is largely explained by relative monetary policies. In other words, the Fed has done a better job sustaining NGDP growth with QE and forward guidance, whereas the ECB made the fateful error of tightening monetary policy twice in 2011, precipitating a double-dip recession that has just recently begun to abate.

Three charts from Darda: The first showing fiscal austerity in the form of declining deficits between the US and Eurozone; the second showing unemployment; the final showing industrial production




One thought on “What UK conservatives know about economic policy that many US conservatives don’t

  1. Monetary policy is one of the infinite number of combinations of factors affecting the economy. Mr. Pethokoukis prefers to think that the differences in culture, work ethic, government taxation, government-provided entitlements, and government regulations have no apparent affect upon the differences in the economies of the EU and US, leaving only monetary policy as the magic ingredient causing the manifested difference in industrial production and unemployment.

    But Mr. Pethokoukis should look more closely at his first graph, showing government deficits as a percentage of NGDP. The EU interest rate hikes occurred in mid-2011, but the EU was diverging from US deficits (as a percentage of NGDP) well before the start of 2009. There is something other than the Fed-inspired economic engineering advocated by Mr. Pethokoukis that affects economies.

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