Jul 052011

In my July 3, 2011, post, I referenced my favorite economics columnist, Martin Wolf of the Financial Times. I mentioned he has argued consistently since the financial panic in the fall of 2008 that governments of rich countries should risk doing too much rather than too little to combat falling demand and balance-sheet contraction in the private sector.

Going through my file of newspaper clippings over the long holiday weekend, I came across his column in the June 16, 2010, issue of the FT. Here are some excerpts:

Yet again, we hear the cry of the old economic religion: repent before it is too late; the wages of fiscal sin is death. But is it already time to retrench? I doubt it. At least, we must recognize the risks: delayed retrenchment poses the danger of inflation and even default; premature retrenchment threatens recession and even deflation…

Having barely survived the biggest financial meltdown in history, we need to appreciate that these downside risks are serious.Some argue that the economy is always in equilibrium – that, in the words of Voltaire’s Dr Pangloss, everything is for the best in the best of all possible worlds. Others argue, with Andrew Mellon, US secretary of the Treasury under Herbert Hoover, that, after a big credit boom, we should “liquidate labor, liquidate stocks, liquidate farmers, liquidate real estate . . . it will purge the rottenness out of the system.”

I am not addressing inhabitants of either of these caves. I am addressing those who recognize that past mistakes have put the world economy into a deep hole and want to escape as quickly as possible.

Wolf went on to say that opponents of deficit spending — Tea Party types, if you will, my words, not Wolf’s — are worried about at least four things: That markets will put the U.S. in the same file as Europe’s deadbeats (Greece, for example); that public spending will crowd out private spending; that deficits necessarily lead to inflation, and that they don’t do any good because they fail to support demand. Wolfe tackles all four of them, and then comes to this prescription:

The best policy is to put together measures that sustain strong growth in demand in the short run, while constraining the huge deficits in the long run. This is walking and chewing gum at the same time. Why should that be so hard?

… Yes, I understand that huge fiscal deficits make people nervous. I understand, too, the desire to make solvency credible. But following fiscal rules blindly, while ignoring what is going on in the private sector or in external balances, is a recipe for disappointment and political conflict. Fiscal stabilisation that supports growth is welcome. Premature fiscal stabilisation that undermines it is yet another folly.

For my money, that reads as well today as when it was written more than a year ago.

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