On Multipliers

Chris Dillow:

On multipliers: Richard Murphy writes:

[The government and OBR] believe that austerity generates growth and so cuts the deficit. The trouble for them is that all the evidence shows that the opposite is true: cuts shrink national income and government spending increases it.

This has attracted cheap abuse from some... Such abuse is wrong, and misses the point. It’s wrong, because - in the context he is writing about – Richard is right to claim that fiscal multipliers are big. There’s widespread agreement (pdf) that multipliers are bigger in recessions (pdf) than in normal times. For example, Lawrence Christiano, Martin Eichenbaum, and Sergio Rebelo say (pdf):

The government-spending multiplier can be much larger than one when the zero lower bound on the nominal interest rate binds.

The fact that Osborne’s austerity has failed to cut the deficit as much as expected is wholly consistent with this. Bigger multipliers than Osborne assumed meant that austerity depressed output by more than he expected thus making it harder to reduce borrowing.

In this sense, Richard’s critics are plain wrong. However, multipliers aren’t always big. They vary. ... One important factor here is the monetary offset. ... If inflation is around its target, the Bank of England would respond to fiscal expansion by raising rates, resulting in a lower multiplier. This might or might not be a good thing – the appropriate fiscal-monetary policy mix is a legitimate matter of debate – but it would mean that the fiscal multiplier might be disappointingly small. ...

In this sense, advocates of a fiscal expansion after 2020 might be making the same error as advocates of expansionary fiscal contraction in 2010 – they are wrongly assuming that the same fiscal multiplier applies at all times. It doesn’t.

I’m making two points here, one about economics and one about politics. ...

The political point is that Labour supporters should not rely upon a big multiplier as a case for fiscal expansion. And not need they do so. Lots of leftist policies ... can be designed without reliance upon fragile claims about the macroeconomy.

[Note: link fixed.]