Sunday, June 21, 2015

What is “Austerity”?

I mean in an economic context.

People sometimes seem confused about what it means, but I don’t find it problematic. In an economic context, “austerity” has this sense:
(1) a situation where the net effect of a government budget (in all its aspects whether spending or taxation, etc.) is contractionary fiscal policy in which aggregate demand is reduced or drained from the economy. E.g., the fiscal policy of Greece and Ireland after 2008 was an example of this type of austerity.
However, sometimes people use the word “austerity” in a secondary, looser sense:
(2) a situation in which a government reduces a previously expansionary fiscal policy to a much weaker one but where the net effect of fiscal policy is actually expansionary rather than contractionary. In this sense, the government “austerity” consists in the reduction of the expansionary effect of fiscal policy. E.g., it would seem that the Tory-Liberal Democrat government that ruled Britain from 2010–2015 more or less pursued this type of austerity.
When people talk of “austerity,” they usually think of type (1), and so confusion is frequently caused in political and economic debates when people use the word in sense (2).

Type (2) “austerity” means that a government is refusing to create stronger aggregate demand in an economy by cutting the strength of its fiscal stimulus to a weaker level, though in reality its fiscal policy is still (even if only weakly) expansionary. This means that the economy is forgoing a higher level of output and employment: unemployment, for example, will be higher than it needs to be. But type (2) austerity is still a form of fiscal expansion, and this should not be forgotten. An economy may well continue to have positive GDP growth and continue on a less robust growth path under type (2) austerity, since the government is not actually reducing aggregate demand in the way it would in type (1) austerity.

To avoid confusion, one has to distinguish these two senses of “austerity.”


  1. OK, that clears up the meaning of the word as it is used, but I still don't think it's a good use of the word. No mainstream economist would deny that government budgets should go into deficit during a recession. I remember Milton Friedman conceding this in one of his books for lay people.

    But social democratic Sweden aims for a budget surplus of 1% of GDP over the business cycle.

    And ultra-liberal Hong Kong has virtually no public debt at all.

    These are both thriving economies, in their different ways.

    1. (1) it is a matter of supreme indifference to me what modern neoliberal governments of Sweden do. Governments should create full employment via Keynesian fiscal policy and direct employment programs as long as this is consistent with inflation and BOP constraints.

      (2) there are a lot of myths about "ultra liberal" Hong Kong, but in any case Hong Kong is an unusual small open city state, and it is hardly a country whose economic model can be generalised to the rest of the world.

    2. LK, point 1 is supremely arrogant and dismissive. In Sweden like in every civilized country there are different economists that advise the governments and i'm willing to bet not all of them are "Neoliberal".

  2. I propose another definition of austerity by the way. The idea of austerity is suffer now and you'll be richer tomorrow. This idea can lead to many different policies. Some of these policies may very well cause suffering in the future too, thus defeating the whole purpose.

  3. Hmm. The first definition is redundant and therefore otiose, no? If it is just being used in a certain context as a synonym for contractionary we don't need it. Use contractionary. But we do need a word for the second. These seems a good way to distinguish, no?

    Of course I expect you have Austrians in your sights, and as we both know they spend most of their time tendentiously redefining words and then dcrying objections as semantics and nit-picking. "By perfect I *mean* as the result of property rights enforced by private cops ..."

  4. So would a government cutting taxes & decreasing spending fall under definition 1?