A guest post by Mark Sadowski
In “Good and Bad Blog Debates” Simon Wren-Lewis claims that he and Jonathan Portes are really, really interested in debt stabilization.
“Now here he talks about ‘fiscalists’ rather than mentioning me by name, but anyone reading this post would assume that I was among the people he is talking about. Another fiscalist named in this debate is Jonathan Portes. Now it just so happens that Jonathan and I have just written a substantial paper, which is all about debt stabilisation! Whoops.
Here is the beginning of the abstract of the paper that Wren-Lewis and Portes have written:
“Theory suggests that government should as far as possible smooth taxes and its recurrent consumption spending, which means that government debt should act as a shock absorber, and any planned adjustments in debt should be gradual. This suggests that operational targets for governments (e.g. for 5 years ahead) should involve deficits rather than debt, because such rules will be more robust to shocks. Beyond that, fiscal rules need to reflect the constraints on monetary policy, and the extent to which governments are subject to deficit bias. Fiscal rules for countries in a monetary union or fixed exchange rate regime need to include a strong countercyclical element. Fiscal rules should also contain a ‘knock out’ if interest rates hit the zero lower bound: in that case the fiscal and monetary authorities should cooperate to formulate a fiscal expansion package that allows interest rates to rise above this bound…”
I’ll grant that the main focus of the paper is on debt stabilization, but the underlying theme is the degree to which fiscal policy should be countercyclical, and under what circumstances fiscal rules should be relaxed in order to support monetary policy in its consensus assignment of aggregate demand stabilization. The paper specifically argues that the fiscal policy of countries in a monetary union, such as the Euro Area, needs to be strongly countercyclical. This is a reasonable suggestion if the currency area is largely devoid of an automatic fiscal transfer mechanism to absorb asymmetric shocks, which the Euro Area evidently does. It also argues that there needs to be ZLB “knockout” under which the focus of fiscal policy shifts away from debt stabilization to aggregate demand stabilization if policy interest rates are likely to fall to zero. This too is reasonable, if one approaches this subject from a Neo-Wicksellian perspective, but in the final analysis what the paper fundamentally addresses is how to make fiscal policy rules more flexible in the face of aggregate demand shocks.
I want to call attention to the following passage in Section 5.
“This strongly suggests that any fiscal rule for an economy within a monetary union or fixed exchange rate regime should contain an important countercyclical element. However, the same logic also suggests that the focus should be on the cyclical condition of the economy relative to the other union members, rather than some absolute measure of cyclicality. If, for example, there was excess demand in all union members, then the consensus assignment suggests this is best handled by monetary policy at the union level, and not by fiscal policy operating within all the union members.”
In my opinion, at least away from the ZLB, this passage should be interpreted in a perfectly symmetric fashion. That is, if there is deficient demand in all the monetary union members, then Wren-Lewis and Portes should believe that the consensus assignment suggests that this is also best handled by monetary policy at the union level, and not by fiscal policy operating within the monetary union members.
Recall that in early 2011 the Main Refinancing Operations rate (MRO) was 1.0%, and it was raised to 1.25% in April and then to 1.5% in July. Thus not only was the Euro Area not at the ZLB, it was moving away from the ZLB just before the second Euro Area recession started. Thus Wren-Lewis’ original statement that “the major factor behind the second Eurozone recession is not [controversial] : contractionary fiscal policy” seems to be very much at odds with this paper that he and Portes have just written.
Simon Wren-Lewis also believes that his homepage confirms beyond a shadow of a doubt his passion for debt stabilization.
“An unlucky error? No, it’s much worse. A quick look on my homepage will show you that much of my academic research since 2000 has been about debt stabilisation. Unlike MS, I do not think the subject is really dull. Issues like what the long run target for debt should be, how quickly we should get there, what happens to monetary policy when debt is not controlled by the fiscal authority, seem to me rather interesting.”
His homepage lists the research he has published since 2008 or for the last six and a half years. I have no intention of digging all the way back to 2000, or for the past decade and a half, to see everything that he has written since then. Yes, the period since 2008 may be somewhat biased in favor of countercyclical fiscal policy, due to the Great Recession, but I am not going to spend the time, and welcome others to repeat the analysis that I am about to do concerning his research since 2008.
There are 16 papers listed on Simon Wren-Lewis’ homepage. Given he agrees that the consensus assignment of fiscal policy is debt stabilization, he should also agree that all of his papers on fiscal policy should at least tangentially address this issue. So the question is not whether his papers ever touch on the subject of debt stabilization, but whether the main focus of these papers is debt stabilization.
According to my classification, there is one paper the main focus of which is the consensus assignment of monetary and fiscal policy, one paper the main focus of which is microfoundations, one paper the main focus of which is the effect of influenza on the UK economy, one paper the main focus of which is on both countercyclical fiscal policy and debt stabilization, two papers the main focus of which is monetary policy, two papers the main focus of which is debt stabilization, three papers the main focus of which is fiscal policy governance, and five papers the main focus of which is countercyclical fiscal policy. So, by my weighted average count, that’s 5.5 papers on countercyclical fiscal policy to 2.5 papers on debt stabilization.
There is some overlap between Simon Wren-Lewis’ research papers and his blog posts. In particular he identifies six blog posts that are connected to two of his papers. But given my experience reading his blog these past few years, and a casual search of his blog by keyword, the bias of his posts towards countercyclical fiscal policy, and away from debt stabilization, is even more extreme than his research.
In short, be careful what you ask for.