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A new @PEF_online report with Rob Jump, @meadwaj and Natassia Nascimento. With austerity retoric returning on both sides of the political divide, it's time to revisit macroeconomics of austerity.
What was the justification, and what were the results? 1/n
progressiveeconomyforum.com/publications/the-macroeconomics-of-austerity/
What was the justification, and what were the results? 1/n
progressiveeconomyforum.com/publications/the-macroeconomics-of-austerity/
The social consequences are now well understood -- but austerity was originally and explicitly sold to the public as a strategy for rebuilding the British economy.
In 2010, Osborne laid out a series of 'Benchmarks for Britain'.
In 2010, Osborne laid out a series of 'Benchmarks for Britain'.
Austerity was justified by Osborne, Cameron and others using the doctrine of 'expansionary austerity' proposed by a number of economists: the idea that government cuts would increase confidence, simulate investment and generate growth. 
However, the academic proponents of the 'expansionary austerity' doctrine laid out another mechanism by which austerity leads to growth: a sharp reduction in the bargaining power of labour lowers wages and forces people into employment simply in order to make ends meet. 
This justification was not used by Osborne, Cameron and co., who preferred to emphasise the 'confidence' mechanism -- as do more recent justifications for austery such as this from @DavidGauke. conservativehome.com/2023/01/02/david-gauke-in-defence-of-austerity/
What of the results?
In real terms, government spending per head fell continuously from 2010 until Johnson became Prime Minister in 2019.
In real terms, government spending per head fell continuously from 2010 until Johnson became Prime Minister in 2019.
On a per capita basis, output did not rebound strongly from the 2008 crisis. As austerity eased somewhat from 2013, growth rates recovered, but not enough to make up lost ground.
(UK in red, G7 economies in grey)
(UK in red, G7 economies in grey)
To the extent that 'expansionary austerity' worked, it did so entirely through the bargaining power mechanism. Real wages fell from 2010 onward as employment grew rapidly -- exactly as predicted by the 'bargaining power shock' mechanism. 
Weak to moderate output growth alongside rapid increases in employment have a straightforward implication: collapsing productivity growth. This was indeed the case, and has been widely discussed as the so-called 'productivity puzzle'. 
This is further evidence in favour of the bargaining power austerity mechanism.
The confidence mechanism, by raising investment and demand, should produce higher higher productivity growth. The bargaining power mechanism pushes in the opposite direction.
The confidence mechanism, by raising investment and demand, should produce higher higher productivity growth. The bargaining power mechanism pushes in the opposite direction.
There is no evidence that the confidence mechanism operated.
Osborne, in 2010, raised the problem that investment as a share of GDP was lowest in the G7.
The UK's performance was worse on average under Osborne in than in the previous decade.
Osborne, in 2010, raised the problem that investment as a share of GDP was lowest in the G7.
The UK's performance was worse on average under Osborne in than in the previous decade.
The UK's weak external trade position, also identified by Osborne in 2010, likewise did not improve meaningfully, even prior to the Brexit referendum. 
After a decade of austerity, with Bank rate at the zero bound, there is no evidence for the demand-enhancing effects of austerity. Instead, the mechanism was a macroeconomic supply-side shock: a sharp reduction in the bargaining power of labour. 
This is evident not only in pay, but in the type of jobs created: part-time, irregular, zero-hours contracts.
Single parents and coupled mothers were the groups which saw the greatest increases in employment. Families must be fed.
Single parents and coupled mothers were the groups which saw the greatest increases in employment. Families must be fed.
Was there an alternative? Yes.
A counterfactual 'balanced budget expansion' with an assumed multiplier of 1 results in £91bn higher spending -- equivalent to the entire education budget -- by 2019.
A counterfactual 'balanced budget expansion' with an assumed multiplier of 1 results in £91bn higher spending -- equivalent to the entire education budget -- by 2019.
Does this reduce 'fiscal space'? No.
Such an expansion would have led to a slightly lower debt/GDP ratio because of the effect on denominator.
Such an expansion would have led to a slightly lower debt/GDP ratio because of the effect on denominator.
It didn't need to be this way, and we don't need to make the same mistake again.
Thanks to Larry Elliott for this write-up. www.theguardian.com/business/2023/mar/03/tory-austerity-has-cost-uk-half-a-trillion-pounds-of-public-...
Thanks to Larry Elliott for this write-up. www.theguardian.com/business/2023/mar/03/tory-austerity-has-cost-uk-half-a-trillion-pounds-of-public-...
