fiscal Archives

New Thinking in the News

These are the latest reflections from new thinkers around the on what should have been done already, what must be done next, and what the near future may look like:

1 | New Study Reveals Stark Picture of Bay Area Poverty Leading up to Covid-19 Pandemic, in Tipping Point Community, by john a. powell.

“Known for its progressive politics and rich diversity, the San Francisco Bay Area is no exception to patterns of systemic racial and economic inequality found across the nation,” said john a. powell, Director of the Othering & Belonging Institute at UC Berkeley. “In fact, the Bay Area’s hot housing market and booming economy may exacerbate these trends, making it harder for low-skilled workers to find affordable housing and pay their bills. This study, drawing upon an original survey of Bay Area residents and census data, gives us a vivid portrait of poverty and inequality, and what we should do about it, even before the COVID-19 pandemic occurred. Now this research is more urgent than ever.”

2 |30 million Americans are unemployed. Here’s how to employ them in Vox, by Pavlina Tcherneva

“But the program will actually stabilize these fluctuations. There are reasons unemployment feeds on itself. If you have this kind of preventative program, where people trickle into other employment rather than unemployment, their spending patterns are stabilized, so you have smaller fluctuations in the private sector. We see this in countries that have active labor-market policies, that do a lot more public employment than we do.”

3 | Messages from “Fiscal Space” in Project Syndicate by Jayati Ghosh

“Well before the pandemic arrived, it was evident that the financialization of the global economy was fueling massive levels of inequality and unnecessary economic volatility. In this unprecedented crisis, the need to rein it in has literally become a matter of life or death.”

4 | The ‘frugal four’ should save the European project in Social Europe by Peter Bofinger

“It is therefore crucial that the frugal four [Austria, Denmark, Sweden and the Netherlands] abandon their opposition to a joint financing facility at EU level. Only in this way will the European project be able to survive and Europe respond to this terrible crisis in a manner as effective as in the United States. For, as the US economist Paul Krugman has put it, paraphrasing Franklin Roosevelt, ‘The only fiscal thing to fear is deficit fear itself.’”

5 | Making the Best of a Post-Pandemic World, in Project Syndicate, by Dani Rodrik

“It is possible to envisage a more sensible, less intrusive model of economic globalization that focuses on areas where international cooperation truly pays off, including global public health, international environmental agreements, global tax havens, and other areas susceptible to beggar-thy-neighbor policies. Insofar as the world economy was already on a fragile, unsustainable path, COVID-19 clarifies the challenges we face and the decisions we must make. In each of these areas, policymakers have choices. Better and worse outcomes are possible. The fate of the world economy hinges not on what the virus does, but on how we choose to respond.”

6 | Two Rounds of Stimulus Were Supposed to Protect Jobs — Instead We Have Record Unemployment with Tom Ferguson in the Institute for Public Accuracy

“We all know that the U.S. response to COVID-19 has lagged far behind other countries. But now a real trap is closing. The public premise of the government stimulus programs was that they would be needed only for a short period and channeling aid to businesses would enable them to retain workers on their payrolls. So vast sums were handed out while the Federal Reserve intervened massively in financial markets. But now unemployment is soaring, in a country whose health insurance system is keyed to the workplace. Small businesses are collapsing and plainly never got much aid. Workers are also dropping out of the workforce in enormous numbers while a major health and safety crisis rages. Government policy has got to address these issues before it’s too late. It can’t simply grant blanket immunity to businesses for the sake of a hasty, premature reopening. A major re-calibration of policy is in order.”

Every week, we share a few noteworthy articles that showcase the work of new economic thinkers around the world. Subscribe to receive these shortlists directly to your email inbox.

Why You’re Not Getting a Raise

By Nikos Bourtzis.

Much of the developed world has experienced stubbornly low real wage growth since the financial crisis of 2007. Currently, the British people are seeing their earnings decline in real terms. Even in Germany, where unemployment keeps falling to record lows, wage growth is stagnating. This phenomenon has squeezed living standards and has been one of the main culprits behind the rise of anti-establishment movements. Faster pay rises are desperately needed for the global recovery to accelerate and for ordinary people to actually be a part of it. This piece explains why rising labor compensation has been relatively minuscule during the current economic upturn and how this phenomenon could be remedied.

A bit of history

The lack of meaningful pay rises is not a phenomenon that started with the financial crisis of 2007. It can be traced back to the 1970s and 1980s, when monetarism started sweeping into academia and politics. The stagflation of the 1970s, the simultaneous rise of inflation and unemployment, led some governments to abandon the Keynesian policies of the past because apparently these policies could not deal with the stagflation. Monetary policy became the preferred tool to control inflation, together with a revived notion that markets, if left to their own devices, would bring the best social outcomes. The Thatcher and Reagan governments are some of the most famous examples of States adopting and implementing these beliefs. The first institution targeted for deregulation was the labor market. Wages increases were frozen and employment protection was scaled back, because it was believed that demand and supply forces would restore full employment. However, unemployment in the UK exploded after Thatcher came into office in 1980, increasing to over 10% and never returning to its post-World War II lows of between 1% and 2%.

Labor unions are one of the most important institutions regarding pay rises. In most industrial countries, they are responsible for wage and working conditions negotiations between employers and employees. Union membership in OECD countries grew until the mid-1970s but then started dropping. With the rise of neoliberal governments in the West, organized labor came under attack. Under the free-market ideology, unions disrupt economic activity with strikes and demand higher-than-optimal wages. Thus, their power needed to be kept in check. What is more important, though, is the shifting of ideas in what the goals of the State should be. In the post-War period, an expressed purpose of governments was to keep aggregate demand at full employment levels. The UK government, for example, stated full employment as its purpose after the War in its Economic Policy White Paper in 1944. That goal changed with the rise of neoliberalism.

When the commitment to keep employment levels high and stable was abandoned, and labor markets were deregulated, unemployment spiked in most countries and has never fallen at levels where it can be stated that full employment exists. Even during strong upturns unemployment levels in most countries did not dip below 4%. As a result, labor unions, and workers in general have lost their biggest bargaining chip. When there is full employment, and thus jobs are abundant, workers have more power to demand higher wages and better working conditions. With the neoliberal policies of the Reagan administration, real wages in the US got decoupled from productivity, meaning that workers stopped receiving their fair share of the output produced. The same phenomenon has been observed in many other industrialized countries, such as the UK. The policies introduced in the 1980s were pretty much sustained and expanded up until 2008.

The Financial Crisis: A turn for the worse

The situation became even worse after the financial crisis erupted. For example, in both the US and the UK the growth of wages slowed even more, as shown in the following figure, even as the headline unemployment returned to pre-crisis levels.

Moving towards a low headline unemployment rate, though, does not mean full employment is being achieved. In the US, the U-6 measure of the unemployment rate, which adds the underemployed to the headline rate, shows that the real unemployment rate is at 8.6%. Far from full employment! In the UK, it has been reported by the Office for National Statistics that the number of people employed in zero-hour contracts has risen by 400% since 2000 but most of the rise happened after the financial crisis. Thus, the employment situation is worse than before the crisis which leads to a further decline in wage growth.

Why is high wage growth important for the recovery?

It is essential to point out that one of the main reasons the current economic recovery has been weak is low wage growth. Wage income is the main propeller of consumer spending, which accounts for more than 60% of GDP in industrialized countries. Low wage growth means low consumer spending, thus low GDP growth and employment. Currently, households are borrowing to keep their living standards stable and that is what’s keeping consumer spending going. This process, though, is unsustainable and will not last long. When households cannot afford to borrow anymore another financial crisis will almost certainly occur. That’s why governments need to do everything in their power to restore wage growth.

What can be done?

The power of organized labor has been decimated since the 1980s. If workers cannot actually have a say in what happens in the workplace then they cannot fight for fair wages. This is why unions need to be strengthened and supported by governments. Employers should be forced to negotiate wages through collective bargaining and union coverage should be expanded above the current 50% OECD average. This will level the playing field between powerful employers and the currently weak labor class.

As mentioned before, productivity and real wages have been delinked since the 1980s. That’s where the minimum wage could potentially help. In the US, the real minimum wage fell after 1980 and has stayed relatively flat since then. With the liberalization “mania” sweeping the western world, governments are freezing public sector pay rises and Greece even cut the minimum wage in the name of restoring public finances and growth. That’s the exact opposite of what should be done to restore growth. Wages drive consumption and growth, cutting them can only depress the economy. Hiking the minimum wage will help sustain consumption based on wages, employment growth and, thus, wage growth.

A sure way to speed up wage growth again is fiscal stimulus. Government spending lifts aggregate demand directly and effectively. If enough spending is injected into the economy, it will create enough jobs to bring full employment. The momentum and labor scarcity created by the stimulus will force wages up and give workers and labor unions more bargaining power. A Job Guarantee Program, if ever implemented, would effectively set a wage floor in the economy, since any person working at a lower wage than the Job Guarantee offers will be given work in the public sector.

The “curse” of low wage growth is not something new and it definitely got exacerbated with the financial crisis. Even though unemployment is currently falling in many countries, it is still way above full employment levels. With workers’ rights under attack for some time now, unions do not have the power they once did to promote strong pay growth. If the current recovery is to accelerate, and for ordinary people to participate in it, wage growth has to rise substantially. The only way to do this is for labor unions to be strengthened and governments to once again commit to full employment.

About the Author
Nikos Bourtzis is from Greece and recently graduated with a Bachelor in Economics from Tilburg University in the Netherlands. He will be pursuing a Master in Economics and Economic analysis at Groningen University. Research interests are heterodox macroeconomics, anti-cyclical policies, income inequality, and financial instability.

Let’s face it: Monetary Policy is Failing

By Nikolaos Bourtzis.

Monetary policy has become the first line of defense against economic slowdowns — it’s especially taken the driver’s seat in combating the crisis that began in 2007. Headlines everywhere comment on central bank’s (CB) decision-making processes and reinforce the idea that central bankers are non-political economic experts that we can rely on during downturns. They rarely address, however, that central banks’ monetary policies have failed repeatedly and continue to operate on flawed logic. This piece reviews recent monetary policy efforts and explains why central bank operations deserve our skepticism–not our blind faith.

What central banks try to do

To set monetary policy central banks usually target the interbank rate, the interest rate at which commercial banks borrow (or lend) reserves from one another. They do this by managing the level of reserves in the banking system to keep the interbank rate close to the target. By targeting how cheaply banks can borrow reserves, the central bank tries to persuade lending institutions to follow and adjust their interest rates, too. In times of economic struggle, the central bank attempts to push rates down, such that lending (and investing) becomes cheaper to do.

This operation is based on the theory that lower interest rates discourage savings and promote investment, even during a downturn. That’s the old “loanable funds” story. According to the neoclassical economists in charge at most central banks, due to rigidities in the short run, interest rates sometimes fail to respond to exogenous shocks. For example, if the private sector suddenly decides to save more, interest rates might not fall in response. This produces mismatches between savings and investment; too much saving and too little investment. As a result, unemployment arises since aggregate demand is lower than aggregate supply. In the long run, though, these mismatches will disappear and the loanable funds market will clear at the “natural” interest rate which guarantees full employment and a stable price level. But to speed things up, the CB tries to bring the market rate of interest towards that “natural” rate through its interventions.

Recent Attempts in Monetary Policy

However, interest rate cuts miserably failed to kick-start the recovery during the Great Recession. That prompted the use of unconventional tools. First came Quantitative Easing (QE). Under this policy, central banks buy long-term government bonds and/or other financial instruments (such as corporate bonds) from banks, financial institutions, and investors, which floods banks with reserves to lend out and financial markets with cash. The cash is then expected to eventually filter down to the real economy. But this did not work either. The US (the first country to implement QE in response to the Crash) is experiencing its longest and weakest recovery in years. And Japan has been stagnating for almost two decades, even though it started QE in the early 2000s.

Second came “the ‘natural rate’ is in negative territory” argument; Larry Summers’ secular stagnation hypothesis. The logic is that if QE is unable to increase inflation enough, negative nominal rates have to be imposed so real rates can drop to negative territory. Since markets cannot do that on their own, central banks will have to do the job. First came Sweden and Denmark, then Switzerland and the Eurozone, and last but not least, Japan.

Not surprisingly, the policy had the opposite effect of what was intended. Savings rates went up, instead of down, and businesses did not start borrowing more; they actually hoarded more cash. Some savers are taking their money out of bank accounts to put them in safe deposits or under their mattresses! The graph below shows how savings rate went up in countries that implemented negative rates, with companies also following suit by holding more cash.

Central bankers seem to be doing the same thing over and over again, while expecting a different outcome. That’s the definition of insanity! Of course, they cannot admit they failed. That would most definitely bring chaos to financial markets, which are addicted to monetary easing. Almost every time central bankers providea weaker response than expected, the stock market falls.

There is too much private debt.

So how did we get here? To understand why monetary policy has failed to lift economies out of crises, we have to talk about private debt.

Private debt levels are sky high in almost every developed country. As more and more debt is piled up, it becomes more costly to service it. Interest payments start taking up more and more out of disposable income, hurting consumption. Moreover, you cannot convince consumers and businesses to borrow money if they are up to their eyeballs in debt, even if rates are essentially zero. What’s more, some banks are drowning in non-performing loans so why would they lend out more money, if there is no one creditworthy enough to borrow? Even if private debt levels were not sky high, firms only borrow if capacity needs to expand. During recessions, low consumer spending means low capacity utilization, so investing in more capacity does not make sense for firms.

How to move forward

So, now what? Should we abolish central banks? God no! Central banks do play an important role. They are needed as a lender of last resort for banks and the government. But they should not try to fight the business cycle. Tinkering with interest rates and buying up financial instruments encourages speculation and accumulation of debt, which further increases the likelihood of financial crises. The recent pick-up in economic activity is again driven by private debt and even the Bank of England is worried that this is unsustainable and might be the trigger of the next financial crisis.

The success of monetary policy depends on market mechanisms. Since this is an unreliable channel that promotes economic activity through excessive private debt growth, governments should be in charge of dealing with the business cycle. The government is the only institution that can pump money into the economy effectively to boost demand when it is needed. But due to the current misguided fears of large deficits, governments have not provided the necessary fiscal response. Investment requires as little uncertainty as possible to take place and only fiscal policy can reduce uncertainty. Admittedly in previous decades, monetary responses might have been responsible for restoring some business confidence as shown in the figure below.

This effect, though, cannot always be relied upon during severe slumps. And no doubt, more attention needs to be given to private debt, which has reached unprecedented levels.

Monetary policy has obviously failed to produce a robust recovery in most countries. It might have even contributed in bringing about the financial crisis of 2008. But central bankers refuse to learn their lesson and keep doing the same thing again and again. They don’t understand that their policies have failed to kick-start our economies because the private sector is drowning in debt. It’s time to put governments back in charge of economic stabilization and let them open their spending spigots. A large fiscal stimulus is needed if our economies are to recover. Even a Debt Jubilee should not be ruled out!

About the Author
Nikos Bourtzis is from Greece, and recently graduated with a Bachelor in Economics from Tilburg University in the Netherlands. He will be pursuing a Master in Economics and Economic analysis at Groningen University. Research interests are heterodox macroeconomics, anti-cyclical policies, income inequality, and financial instability.

The Basic Income and Job Guarantees are Complementary, not Opposing Policies.

It’s disappointing to see debates between proponents of the Basic Income Guarantee (BIG) and the Job Guarantee (JG). These discussions detract from the fact that both of these ideal policies are distant from the policies we currently have in place. Supporters of either of these policies should be working together to get either one implemented, and we can debate adding the other later. Today, we need to move beyond our current disjointed welfare system to one that will help Americans, and either policy (or both!) seems like a step in the right direction.

If we look at the current system, the three largest welfare programs we have are Medicaid, the Earned Income Tax Credit (EITC), and the Supplemental Nutrition Assistance Program (SNAP). Before the Affordable Care Act (ACA), Medicaid was limited to certain low-income individuals, but the ACA expanded this program so that all adults with incomes below 138% of the federal poverty line are eligible. For FY 2015 Medicaid cost $532 billion to cover 73 million individuals. EITC provides additional income to low wage workers, and in 2014 paid out $67 billion to 27.5 million tax filers. Finally, SNAP guarantees an income to buy certain necessary items, and paid out $69 billion to 22 million households in 2015.

Then beyond those three largest programs, we have a smattering of additional programs that help the poor in this country. There’s a housing assistance program, Supplemental Security Income (SSI) for the elderly, Pell Grants for college tuition, the Temporary Assistance for Needy Families(TANF) program, the Child Nutrition Program, the Head Start preschool program, various Job Training programs (like AmeriCorps and Job Corps) under the Workforce Investment Act, Unemployment Insurance, the Child Tax Credit, Supplemental Nutrition for Women, Infants, and Children(WIC), and then theres others I’m sure I missed (oh yeah, the Obama phone!) along with various state and local programs. The amount of overlap, overhead, and bureaucracy involved with running all of these programs surely diminishes their effectiveness.

All of these programs provide support by doling out income or necessities, with or without a requirement that the recipient be working. BIG and JG would both be ways to consolidate all of these programs, and then the debate becomes how much does someone have to work in order to receive assistance. A lot of people who advocate for BIG think that our current system has a lot of pointless jobs, and BIG would be away to allow those people to pursue something more creative. Considering that most entrepreneurs have one thing in common — access to capital — that may not be too far off. Then there are JG proponents who probably agree with that point, but think we can use the policy to help organize jobs that need to be done (liking cleaning up our environment, or building our infrastructure). Most people who support BIG worry that a JG would create “make-work”, quoting Keynes famous “bury bank notes and dig them back up” line. To them, just giving people the bank notes makes more sense. On the other hand, JG proponents worry about losing the social utility of work. People want to contribute to society, and they see work that needs to be done. Both policies seem hard to pass in todays political climate.

I think proponents of both the BIG and JG are disappointed with a U6 unemployment rate of 9.5%, current companies lack of interest in maintaining our environment, and over 45 million Americans living in poverty. Call it whatever you want, let’s guarantee every American access to the necessities: healthy food, shelter, and healthcare. Clearly this is going to require some people to do some work, so let’s make sure that work gets done with our social structure as well. Calling it a BIG or a Basic Necessities Guarantee (BNG) or a JG doesn’t matter so much to me.

In fact, I’d probably start with calling it the EITC. Get rid of the minimum income phase in, and we instantly have a “BIG”, with all the infrastructure already in place. It would only go to unemployed or low income citizens, since the EITC phases out, which helps it be a progressive policy. So that it can cover the housing benefits and others, we could expand the credit a bit too. How do we pay for this? It’s simple. Scrap the other welfare programs (keep Medicaid, that one’s complicated). The overhead of having all of these programs is gross. How feasible is this plan? Honestly, no clue. I’ve never made a policy. I’ve barely met anyone who even makes policy. It seems like the closest option there is, however. I can see the complaints already though. These ungrateful welfare abusers will buy alcohol and drugs with their new found income! Somehow it’s not OK to drink and do drugs if you’re poor, but if you’re rich, go for it, right? If you get rid of SNAP, people won’t buy food for themselves! Well surprise, there’s already a way to trade SNAP benefits for cash — it’s called craigslist.

Then there’s the other major complaint this would cause — now there is no incentive to work. We have to keep abject poverty as a social option so that people keep working at McDonalds making the McObese, and keep stocking the Wal-Mart shelves so that Wal-Mart can pay starvation wages which allow people to be eligible for the EITC in the first place. I’m not really sure those are the jobs that need to be done. If our low wage workers were working on local farms producing fruits and vegetables, I’d probably agree… someone has to do those things (or make robots to do them!). Yet I haven’t seen any proof an income stops people from working. It’s all speculation. I bet people still do things. Here I am, incomeless, and I’m doing something. I’m writing. I’m volunteering. I’m applying to jobs that I want to do and think will have a positive benefit. Getting rejected, but still, I’m trying.

Let’s see what happens when everyone has some cash on hand. If we start starving and need the government to force us to produce food, we’ll do it then. Yet from the friends I’ve talked to, boredom is a very potent driver of change. I know my fellow millennials and I have dreams of growing our own food in our parents backyards, or the empty lot across the street, or the empty K-Mart, or the empty mall. If only they’d let us. If only we had a little income, a little land, and some water to give it a try. If only the police weren’t killing and hurting us. If only Nestle wasn’t pumping out water from government land for free and forcing us to spend money on it. A lot of us worked our asses off at school, and what did we get? The choice between huge corporations who we see as destroying the environment, or low incomes working retail living with our family and friends. Meh. My friends and I want something different. I choose believing there’s something better than choosing between two evils.

Remember when the public hated huge corporations for destroying small business, not each others’ identities? Do we remember The High Cost of Low Price? BIG and JG proponents, let’s not quibble. We’re on the same side. There’s work to be done. Get organized. Make it happen.

Originally published on Medium

In the Spotlight: Stephanie Kelton

If you want to be at the cutting edge of economic policy-making, listen to Stephanie Kelton. She explains how a government spends, and how confusion about debt and deficits have held America back. Shaking up democrats and republicans alike, she shows there is nothing inherently dangerous about a large budget deficit. We should aim for a balanced economy, not a balanced budget.

Her encouragement of ambitious fiscal spending is rooted in Modern Money Theory, which reveals the true nature of money as a creature of the state (discussed in detail here). So long as a government is sovereign and has its own central bank, Kelton shows, it is the sole issuer of its currency. Being the sole issuer of its currency, it can never run out of money, and it will never fail to meet its debt obligations. It’s completely able to spend as needed.

Kelton is always quick to respond to the most common points of critique. Is she arguing for the government to run infinitely large deficits forever? No. She is advocating for the government to determine its spending level based on the state of the economy. Spending should be high enough to facilitate full employment, and low enough to keep inflation in check. The spending level should be chosen based on the impact it has on the economy. Not based on whether it allows for two columns to sum up nicely in Excel.

Over the past couple of decades, this school of thought has gained significant momentum. Kelton, who teaches at the University of Missouri Kansas-City, gained traction in the world of finance and more recently broke into Washington, where she served as Bernie Sanders’ chief economic advisor during his campaign. Providing the economic backbone behind Sanders’ plans to raise the incomes of the 99%, the vast potential of Kelton’s approach to fiscal policy gained recognition. Kelton still works with Bernie to further his movement and mobilize support across the globe.

It is worth keeping Kelton’s message in mind as the Trump presidency unfolds. Judging by this article in Politico, Trump plans to cut taxes on the wealthy, and “make the deficit great again.” Considering Kelton’s stance on the matter, such a move should be recognized as problematic because it worsens income disparities, not because it worsens the budget deficit. We should judge Trump on the impact he makes on the economy, not on his ability to balance the books.

Kelton’s message can also provide a powerful weapon against the republican majority that the democratic party will soon be up against. Her advice for democrats is as follows:

“Democrats face a difficult road ahead. Having failed to recapture the Senate, there may be few opportunities to advance progressive goals — e.g. raising the minimum wage or boosting infrastructure spending — without compromising other core values. Democrats may be tempted to give Republicans a taste of their own medicine by hollering about budget deficits as cover for obstructionism. That would be a mistake. Instead, they should stand firm against cuts to programs like Medicare and Social Security, exposing the truth about the government’s ability to sustain these programs indefinitely. And when they fight efforts to deliver huge tax cuts for those at the very top, they should make it clear that their opposition is not based on the budgetary impact but rather on the social and economic effects of widening income and wealth disparities.”

If you’re curious for more, be sure to follow Kelton on Twitter, and keep track of the blog she runs with Bill Black. You should also have a look at her crystal-clear presentations. Click here for a talk on the role of government, here for her ideas on inequality, and here to hear about her thoughts on the Bernie Sanders movement. And if you want to know how all this applies to the Euro-zone, this piece she wrote with Randall Wray is a great resource.

Brazil May Be About to Give Up its Financial Sovereingty

These are strange times. For those who have been drowning in the craziness milk-shake that is the United States presidential campaign and have not been able to follow other world events (we do not blame you), it should come with some assurance to know that the rest of the world is not doing much better. Case and point is that the acting president of Brasil, Michel Temer, who came to power for being the VP of impeached president Dilma Rousseff, is trying to make Brazil the least financially autonomous nation in the world.

Temer and his cabinet, who have been working towards the implementation of austerity measures in Brazil since they came to power, have proposed a constitutional amendment that will severely limit Brazil’s flexibility in government spending. It would be the 93rd amendment to Brazil’s ‘young’ 1988 constitution. In short, the Constitutional Amendment Proposal 241* (PEC 241 in Portuguese), would create an artificial limit to government spending, which would become pegged to the previous year’s inflation.

The Brazilian economy is facing a dire recession even though the Bovespa stock index and real currency BRBY rank among the world’s best-performing assets this year. The pressure towards austerity is coming from both internal and external players, and the financial markets have rallied well to the prognostic of the amendment’s approval. Despite its failure to produce meaningfully positive results elsewhere, austerity is still seen positively by international financial markets.

The amendment makes Brazilian fiscal policy hostage to inflation, thus inverting the hierarchy of economic policy in the country; instead of using of its taxes and spending to control inflation, inflation would control Brazilian economic policy. On one hand it makes the job of lawmakers and policymakers a lot easier, on another it takes away powers granted by the constitution to the Brazilian congress and it is, as put by Brazil’s Attorney General, unconstitutional.

The amendment has been approved by a special commission in Brazil’s lower house on the 6th, and four days later was approved by the lower house as a whole. It comes as a victory to Temer’s austere aspirations for austerity measures had been failing to be implemented in Brazil even during the final days of the previous government. Temer’s own efforts had been facing serious challenges until now.

It is not to say that it all good sailing weather for PRC 241. Portions of the public have come out against the measure. Notably, economists have argued that the debt problem in Brazil is caused by a fall in tax revenue and not because of overspending. Indeed, the high unemployment rates combined with high inflation – among other factors – have caused a real decline in revenue of 2.5%. Meanwhile small business owners in retail have experienced decreases of as high as 30% to their revenue streams.

For those versed in Functional Finance and Modern Monetary Theory this will seem as completely nonsensical. Brazil, currently, is a financially sovereign nation to a good extent. It prints its own currency and taxes on that currency. It, however, has emitted debt in foreign currency, namely the dollar. The amendment would limit this sovereignty, making the Brazilian economy work only within the limits set by the (interior and exterior) factors that affect inflation.

If you have followed our posts for a while, you have read some strong arguments on why austerity is not the remedy for countries facing as recession and that smart fiscal stimulus is much more likely to succeed.

*Some of the sources for this article are in Portuguese.

*This post was written by Carlos Maciel

Italy is Hungry for Expansionary Fiscal Policy

In a meeting with Angela Merkel and Francois Hollande on August 22, the Italian Prime Minister Matteo Renzi proudly announced that Italy has the lowest public deficit of the last 10 years, and will continue with structural reforms to reduce it further. Monti has long aimed to “restore credibility” by cutting the public deficit, and now the Finance Minister Pier Carlo Padoan enjoys praise on his achievement of a deficit as small as 2.4% of GDP. The FED (Financial and Economic Document) goes so far as say this makes Italy “among the most virtuous countries in the Eurozone.”

A closer look at Italy’s economy, however, shows this “virtuosity” has no basis in reality. In 2015, 1.5 million households lived in absolute poverty. Another 4.5 million individuals saw stagnant incomes. The situation has not been this bad since 2005. In addition, the Migrantes foundation informs us that there has been a boom of italians who go abroad, 107,000 in 2015 (+6,2%). Especially youth from 18 to 34 years old (36,7%).
Source: [Ansa.it “Rapporto fondazione Migrantes”]

The percentage of serious material deprivation index is 11,5% for total households members. Official unemployment rate is at 11,9% whereas the real unemployment rate is well above the 20%. The inactivity rate is at 36,0 % and the fixed capital investment ratio is stuck well below the pre-crises (2007-08) levels.
Source: [“Rapporto annuale Istat, 2016”]

It is clear that Italy is stuck in a deep depression. And it’s not alone. Many other euro countries are suffering the same fate. Cutting public spending cannot help them recover. We turn to Keynes to see why it cannot, and consult the work of Minsky and Wynne Godley to see what can.

Keynes and Aggregate Demand

In The General Theory, J.M. Keynes explains the challenges blocking achieving and maintaining full employment in a market economy. He argues that the booms and busts associated with capitalism make this state of equilibrium very difficult to reach. When a bust occurs, and businesses expect their profits to fall, there’s no reason to expect a magical market-force to step in and fix employment while costs are being cut.

This applies to Italy, too. After years of austerity and a Global Financial Crises, aggregate demand levels have declined sharply most people feel uncertain about the future. Additional demand for labor is close to zero and the private sector is pessimistic. Investment and spending is not sufficient to employ the unemployed. Cutting down government expenditure is not going to to help. It will simply make it worse.

Minsky and Fiscal Policy

A follower of Keynes, Hyman Minsky explained how any analysis of a monetary capitalist economy must start from the analysis of balance sheets and its relative financial interrelations ‘measured’ in of cash flows. If balance sheets and especially the relative financial relations are not taken into account within an analysis of an essentially financial and monetary economy, that analysis fails to reflect the full reality.

Minsky’s alternative analysis shows that in case of crisis, a nation needs a “Big Government” (The Treasury Department) and a “Big Bank” (The Central Bank) to step up. These institutions must focus on serving as an “Employer of Last Resort” and a “Lender of Last Resort”, respectively. This way, they can prevent wages and asset prices from dropping further, and tame the market economy. In the Euro-zone, this has not been realized. The Treasury Department is constrained, leaving them unable to reach full employment. Meanwhile, citizens continue suffer under austerity.

Wynne Godley and the Government Budget

Wynne Godley’s sectoral balance approach sheds more light on this Minskyian alternative. He shows the economy consists of two sectors: The government sector, and the private sector (all households and businesses).** The private sector can accumulate net financial assets only if the other sector, government, runs a budget deficit. That is, only if the flows of the government spends more than it receives in taxes. It is impossible for both sectors to run a surplus at the same time.

And as a simple matter of macro-accounting, for aggregate output to be sold, total spending must equal the total income generated in the production process. So given households’ decisions to consume and given firms’ decisions to invest, there will be involuntarily idle labour for sale with no buyers at current wages, if the government deficit spending is too small to accommodate the net desire to save of the private sector.

What Renzi and Padoan are Really Saying

We can now see what Renzi and Padoan are really congratulating themselves for. Having done nothing to lift a struggling private sector out of the recession, they patting themselves on the back for worsening it’s social and economic situation. Renzi may claim he will go to Brussels to “sbattere i pugni sul tavolo”, but his executives continue to respect the Stability and Growth pact regime, and decrease the deficit further.

From Wynne Godley, we know that further decreasing the government deficit corresponds to further deterioration the private sector surplus. So when the officials say they “need to put public accounts in order,” they are actually saying they will put households and business accounts in dis-order. So when they say that Italy has the lowest budget deficit of the last 10 years, they are actually stating that the government is draining more financial assets from the private sector than it has in a decade.

When they call Italy virtuous for keeping a smallest deficit, they assign virtue to the nation that most effectively perpetuates poverty and social disarray. When Renzi says that his non elected executive “will continue […] the reduction of the deficit for our children and grandchildren”, he is instead telling us that his government is going to reduce the net desire to save of the current population, to keep involuntary unemployment and part-time working levels high and to firmly deteriorate the (net) financial and real wealth of the future generations.

Unless Italy changes its approach and adopts expansionary fiscal policy, it will not serve the well-being of the society and its economy. The main goal of full employment will never be attained and maintained. Work will lack moral and economic dignity, public sector goods will fall short in quantity and quality, and basic human rights will be violated. Not only will policy goals fail to be achieved, they will be even farther out of reach. One thing is certain: either Renzi and his ministers don’t know what they’re doing, or they are doing it in bad faith. I am afraid of it may be both.

* To be as precise as possible, Italian public budget deficit has been systematically reduced from 1991, that is the year when the Treaty of Maastricht was ratified which, among other things, established the respect of the parameter of the 3% to the public deficit and 60% to the (flawed) public debt/gdp ratio.
** I do not take into account the foreign sector balance sheet, because the substance of my brief argument won’t be undermined.