Mark Blyth delivers a masterful, blistering, devastating, and totally convincing critique of austerity in his book Austerity: the history of a dangerous idea. It’s impossible to read this book and still believe that austerity is the right policy. Blyth writes engaging, powerful economic history of economies applying austerity, including the US, UK, Sweden, Germany, Japan and France in the 1920s and 1930s, Denmark and Ireland in the 1980s, and the Baltic states in 2008, demonstrating in each case that austerity does not work. It does not generate growth or reduce debt. He shows that the current hot spot crises in Greece, Spain, Ireland, Portugal and Italy are not due to profligate government expenditure, but to more differentiated specific factors. He makes the point that other economies cannot follow the German example of high savings and high exports, as the UK and EU seem to expect, since the whole world cannot be a net exporter.
He sets out the intellectual claim for austerity argued by the Bocconi University of Milan economists Alberto Alesina and Francesco Ardanga. Their core argument is that ‘when spending cuts are perceived as permanent, consumers anticipate a reduction in the tax burden and a permanent increase in their lifetime disposable income’ (p172). Alesina delivered this diagnostic to the ECOFIN meeting in Madrid in 2010, labelled by Bloomberg as ‘Alesina’s Hour’. The claim is very weak theoretically, and Blyth shows that the country economy data Alesina and Ardanga quote rejects rather than confirms their austerity hypothesis. So far, so good, in fact very good.
Blyth’s weakness is that his diagnostic does not go far enough. He is content to prove that austerity doesn’t work and then rather lamely propose forced government bonds and high tax as the alternative remedy. He places partial blame for the crisis on the Euro, which makes little sense, since the US and UK economies with sovereign currencies experienced exactly the same crisis. Beyond this he blames the banks, and claims that the taxpayer is paying for their errors. This is the well rehearsed standard view and is where Blyth needs to go further and dig deeper.
The missing diagnostic which he hints at, but doesn’t develop, is that the crisis was caused by demand deficiency. In the UK economy between 2001 and 2007, real GDP grew by 19.5% but real disposable consumer income by only 11.5% (Office of National Statistics Blue Book data). This is the gap that led to unsustainable consumer credit and government deficit. We need to ask why this gap arose, and what better remedy can apply. Rising productivity is bound to reduce the income element of output, reducing demand for the output supply. The only effective solution is a citizen income. Allied to this, a new understanding of money is needed. Blyth follows financial orthodoxy in insisting that money issued by government either has to be supported by gold, or if not, has to be matched by a debt incurred as a government bond sold to the market. Neither is true. Money is entirely virtual. To secure its value, it has to match output GDP, and that alone. The crisis has been funded by such virtual money and has not at all been charged to the taxpayer – the amounts involved render this impossible. Until we face the intellectual challenge of a virtual theory of money which delinks money from the issue of government bonds, we will be faced by the unsolvable crisis of insufficient demand which we regard as unfundable. As Blyth writes ‘postwar economics never put all that much thought into money’ (p145). It’s time to correct that oversight, because herein lies our mistake, and it’s one which Blyth ultimately perpetuates.
* Geoff Crocker is a professional economist whose book A Managerial Philosophy of Technology is published by Palgrave Macmillan.