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Can Fiscal Contraction Ever Boost Growth?

Recent experience in Europe suggests that fiscal contraction cannot be expansionary. In two South American countries, however, the idea that cutting government spending can spur growth should be revisited.

SANTIAGO – Europe’s recent experience suggests that a fiscal contraction cannot be expansionary. When tried in Greece, government spending fell, taxes rose, and output collapsed. The same thing happened, in less dramatic form, elsewhere on the continent. Europe’s austerians, as the Nobel laureate economist Paul Krugman likes to call them, lost the argument.

But the lessons of the West need not apply to the rest.

In two South American countries, the idea that fiscal consolidation can spur growth should be revisited. In Brazil, the government has been cutting an enormous fiscal deficit just as the economy is recovering from its deepest recession in decades (though the corruption scandal now embroiling President Michel Temer may derail that effort). In Argentina, President Mauricio Macri’s administration could cut the deficit more aggressively than it has so far, without risking a return to stagnation.

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