jamesz

Fiscal multipliers are unhelpful

/in , /by

John Quiggin has re-opened the fiscal multiplier debate to advocate for fiscal stimulus. Quiggin, along with others such as Krugman, Summers and DeLong, and Blanchard claim that the effect of government spending on production will be greater than the government’s initial injection. The empirical evidence they use tends to rely on cross-country regressions, although some calibrated modelling has been done by NIESR.

An important caveat on these studies is that they rely on the unusual macroeconomic circumstances of the current recession. In ‘normal’ times one would expect that a central bank would lean against fiscal policy, resulting in very small multiplier effects. Scott Sumner has discussed this point extensively. To summarise, he claims that:

It sort of implies ‘the’ multiplier is some sort of stable parameter out there, waited to be discovered. Like the cosmological constant. In fact, it is nothing more than an estimate of central bank incompetence, which will vary from one case to the next.

Obviously the illustrious authors of the multiplier studies aren’t unaware of this problem. The general theme of their arguments is that we are currently in a liquidity trap and monetary policy has little traction in these circumstances. Central banks are thus unable to counteract the effects of fiscal policy, which is only doing what the central bank would do itself if it could: boosting demand. Sumner rejects the idea of a liquidity trap, hence the disagreement.

Obviously, these estimates of fiscal multipliers are entirely contingent on the response of the monetary authority. As discussed on Vox, the characteristics of an economy and monetary policy regime can cause the multiplier to vary between zero and 2, which is basically the difference between being in favour of fiscal stimulus and considering it a complete waste of money. Without estimates for each country individually that means the average multiplier is likely to be a poor guide to the multiplier in an individual country. That doesn’t make the estimates ‘wrong’ but it does mean that cross-country estimates are unreliable as a guide to national, fiscal policy. From a policy perspective then, it’s unclear that these estimates provide much guidance on the extent of fiscal stimulus or austerity; at least not without a lot of investigation of country-specific factors.

Update: FT said much the same thing. Simon Wren-Lewis suggests that the theory on this is obvious and people just got too caught up in the empirics.

jamesz

University enrolments are down

/in , /by

The FT reports that university enrolments in the UK have dropped 6% over last year, following a similar fall in the previous year. It speculates that this may be, in part, because “the rise in fees from £3,375 to an average of more than £8,000 appears to be suppressing demand.” No doubt the reduced subsidy has had an effect but we need to be careful with language here. The FT’s reporting suggests that demand has been ‘suppressed’ by the fall in the Government’s fee subsidy. It might be more accurate to say that the subsidy no longer inflates demand to the same extent.

The difference is important because the main justification given for subsidies is that tertiary education generates some wider benefit to society. The important question then is how great the benefit is relative to the subsidy, and so how much we want to subsidise to boost demand. Talking about ‘suppression’ implicitly assumes the optimality of the previous subsidy and ignores the distortionary effect that the subsidy has had on the market for tertiary education. If the externalities from tertiary education are small then it is entirely possible that the fall in student enrolments represents a welfare gain for society.

jamesz

Harford on economic forecasts

/3 Comments/in /by

Writing in the FT he says:

I think forecasting in a complex world is a poor test of expertise because luck is the overwhelming success factor. … The wonderful thing about a forecast is that both the forecaster and his audience feel that something profound has been expressed. And nobody will remember the forecast anyway.

I’m not sure that’s wholly true: forecasters seem to spend a lot of time disavowing their predictions and claiming that the narrative is the important thing. Of course, they still publish headline figures and institutions such as the Bank of England, who only publish a range, get regularly criticised for being too vague. Even if you don’t believe Harford’s explanation, those facts need to be reconciled somehow.