Austere Illusions

A government cannot liquidate its deficit if the source of its revenues, the national income, is diminishing. It is deficit reduction, not debt, that is profligate, because it implies wastage of available human and physical capital, quite apart from the resulting misery.

LONDON – The doctrine of imposing present pain for future benefit has a long history – stretching all the way back to Adam Smith and his praise of “parsimony.” It is particularly vociferous in “hard times.” In 1930, US President Herbert Hoover was advised by his treasury secretary, Andrew Mellon: “Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. It will purge the rottenness out of the system...People will...live a more moral life...and enterprising people will pick up the wrecks from less competent people.”

To “liquidationists” of Mellon’s ilk, the pre-2008 economy was full of cancerous growths – in banking, in housing, in equities – which need to be cut out before health can be restored. Their position is clear: the state is a parasite, sucking the lifeblood of free enterprise. Economies gravitate naturally to a full-employment equilibrium, and, after a shock, do so fairly quickly if not impeded by misguided government action. This is why they are fierce opponents of Keynesian interventionism.

Keynes’s heresy was to deny that there are any such natural forces, at least in the short term. This was the point of his famous remark, “In the long run we are all dead.” Economies, Keynes believed, can become stuck in prolonged periods of “under-employment equilibrium”; in such cases, an external stimulus of some kind is needed to jolt them back to higher employment.

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