Keynesians also fetishise debt

This is my latest Perspective column for Fund Strategy.

There is an obvious riposte to last week’s Perspective column in which I attacked what I called “debt fetishism”. Although some political figures, most notably David Cameron, can be criticised for their debt obsession there are other influential voices who oppose this view. Barack Obama is easily the most high-profile example with his emphasis on promoting jobs and growth, although in Britain the shadow chancellor, Ed Balls, takes a similar view.

On the face of it Obama and Balls, with their Keynesian rhetoric, appear substantially different than Cameron. The distinction is not so much on their professed attachment to growth, since Cameron too claims to favour economic expansion, but in the emphasis on jobs.

Keynesian thinkers typically attach great importance to job creation programmes as a way of stimulating demand and kick-starting economic expansion. Having said that, Cameron and other professed fiscal conservatives also support job creation measures in practice.

A closer examination confirms that gap between the two sides is much less than first appears. They mainly relate to the exact timing and form of deficit reduction. Both Obama and Balls see reducing deficits as important but their time-scale is slightly less severe than that of conservatives.

Obama launched a high-profile initiative with the American Jobs Act he sent to Congress last September. This in turn followed his deficit framework announced in April, which aims to reduce the deficit by $4 trillion (£2.6 trillion) over 12 years.

From Obama’s perspective the two goals are complementary. Deficit reduction is a key goal but mitigating its effects by job creation measures is likely to work better.

In Britain, Balls has taken a similar line. In his speech to the Labour Party conference in September he mentioned the word “jobs” 16 times and “job” three times. But he also emphasised that, like his predecessor, he favoured tough fiscal rules to reduce debt. His concern was that deficit reduction should be “fair” and that it should not go too far or happen too fast.

Both conservatives and Keynesians seem to assume the problem of poor growth will resolve itself if the other problems are fixed. For the Conservative party, moves towards reducing the deficit will unleash the dynamism of the private sector as the dead weight of the state is reduced. So far, at least, there is little sign of such vibrancy emerging.

In contrast, Labour, along with America’s Democrats, seem to assume that economic weakness is cyclical. If demand can be boosted in the short-term, through stimulus measures such as job creation, then the long-term can more-or-less take care of itself. Once the growth cycle turns it will, from this perspective, be easier to tackle the deficit.

Both Labour and the Conservatives in their own ways fetishise debt. Each side see high debt levels as problems in themselves rather than as common expression of a more fundamental productive weakness.

The difference between them is that Labour tends to fetishise jobs as well. For Balls and his colleagues the role of job creation is to stimulate economic activity and therefore help growth.

This view focuses far too much on the demand side of the economy and it assumes Britain’s economic weaknesses are cyclical. It neglects the need to tackle the lack of dynamism in the supply side, or productive core, of the economy.

It also fails to appreciate the extent of the cultural aversion to prosperity expressed through such channels as environmental concerns. Measures that could help to generate more economic dynamism, such as building infrastructure, are often hobbled by excessive green regulation.

A complementary way to consider the debt question is to start from the recognition that economies that promise durable growth are in a better position to repay their debts.

Contrary to widespread preconception, the level of public debt in Britain is not that high by historical standards.

Paul Krugman, a Nobel laureate in economics and a thinker with whom this column often disagrees, has made this point well in his New York Times blog. “Britain … has had debt exceeding 100 percent of G.D.P. for 81 of the last 170 years.” (“British debt history”, December 4, 2011).

Krugman is more balanced than many other commentators but ultimately he falls for his own version of debt fetishism. He has consistently argued that the problem with Obama’s stimulus package is that it is not nearly big enough:

“So yes, debt matters. But right now, other things matter more. We need more, not less, government spending to get us out of our unemployment trap. And the wrongheaded, ill-informed obsession with debt is standing in the way.” (“Nobody understands debt”, New York Times, January 1, 2012).

This perspective is essentially a more radical version of the arguments propounded by Balls and Obama. Debt has an intrinsic importance but the short-term priority must be economic stimulus through job creation.

Krugman’s work consistently argues that lack of demand is at the core of the West’s economic problems. He frequently derides those who talk about the need to focus on the productive sphere.

The role of the economic analysis should be to identify weaknesses and to work out how they relate to each other. Such a task is a precondition for fostering new rounds of growth.

High levels of debt and deficits can certainly be problems. Unemployment is often devastating for its victims and it is also a threat that hangs over those in work. But to grapple with the economy’s fundamental weaknesses it is necessary to probe deep into its productive core.