As football’s World Cup enters its decisive phase and its organizers debate whether refereeing should finally enter the twenty-first century, weightier international clashes revolve around a fundamental economic question: “What should be done to assure growth and stability roughly two years after the financial crisis?”
At the G20 in Toronto last week, the world's economic leaders were more or less split into two teams:
Team Keynes, led by the US, argues that the recovery is still fragile and that further government stimulus is needed to ensure its sustainability. Public deficits are of course a concern but as long as the recovery is only tentative, lasting improvements in government budgets are anyway a long way off.
Team Austerity, led by Germany and – newly – the UK, with France, as usual being ambiguous, are convinced that as long as public deficits remain so high, the confidence of financial markets in government credit and in a sustainable recovery cannot be restored. They believe that taming public finances should be the foremost priority of governments.
The debate itself is not new. It has haunted economists at least since Roosevelt’s New Deal and the publication of Keynes’ "General Theory." Today, once again, economists are asked to take sides.
As a policy approach aimed at softening the effects of business cycle fluctuations, Keynesianism fell out of fashion in the 1970s. But challenging times have restored Lord Keynes’ credibility as governments struggle to fend off an economic depression. Among today’s loudest Keynesians is 2008 economic Nobel Prize winner Paul Krugman. In his New York Times columns, he paints a relentlessly bleak picture of the future if governments turn stingy. He has even gone so far as to suggest that the US government retaliate with protectionist measures if Germany continues to reject fiscal profligacy and in so doing, runs the argument, harming US exporters.
Krugman won his Nobel laurels for his academic work in trade theory and he characterizes himself as an expert on the Great Depression. This makes his recent protectionist rhetoric all the more astonishing, since most economic historians agree that US protectionism in the 1930s, and the tit-for-tat responses it engendered from other countries, only served to exacerbate and prolong the Great Depression.
There is another paradox at work in the call for Eurozone countries to support US exports by issuing more debt. Given how skeptical market participants already are about the euro, more Eurozone government debt might strengthen short-term growth prospects, but it would surely weaken the euro further, ultimately supporting euro-denominated exports. Hence, the net effect of more Eurozone debt on US exporters might not be positive.
The official communiqué of the G20 summit is a masterpiece ministerial of ambivalence. On the one hand, it states, “to sustain recovery, the G20 needs to follow through on delivering existing stimulus plans;” but it also declares that its members “have committed to fiscal plans that will at least halve deficits by 2013 and stabilize or reduce government debt-to-GDP ratios by 2016.”
So the heads of state of the 20 largest economic powers in the world also cannot achieve consensus. Like so many games at the World Cup, the G20 ended in a draw. But the next round may demand more clarity.
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