The Krugman-Layard Manifesto

In their manifesto, Krugman and Layard (FT June 28) argue that when private spending falls short, government spending should sustain demand. Typically, partisans of austerity use two arguments: the first is the confidence argument insofar budget cuts keep interests low and help economic recovery; the second argument is is that output is constrained on the supply-side. If these arguments are wrong, it means that governments are imposing massive suffering to people  without addressing the real causes of the crisis. 

Critics would argue that the money to finance this plan is not available.  All peripheral countries need more than a trillion euro to repay their debt and cover current deficits, without counting bank recapitalization for Spanish banks (100 billion euro). Greece is probably an exception with a net borrowing of 10 per cent of its gross domestic product. For the other so-called peripheral countries, the net borrowing is more moderate (3% for Italy, 5% for Portugal). The market fundamentalist view is that high interest bonds signal a high risk of non repayment. But what about mutualizing European debt or creating safety nets to prevent even higher interest rates? The problem is not the debt of individual countries but European economic governance which is flawed.

The adoption of Keynesian measures by the New deal led to increases in wages, social benefits and public works programmes which materialized into lower unemployment and higher growth. The austerity measures introduced subsequently by Hoover caused a prolonged recession of the US economy as a result of wrong policies.The rise in output during 1940-42 was also due to higher spending, especially in defence. Of course, this is not desirable today, but the idea of boosting demand through  (civil) public programmes - provided that they are efficient economically and socially- remains valid. 

It is odd to consider Latvia as a super-model for the rest of the EU. The country suffered from overheating in 2008 as a result of credit expansion. The introduction of austerity measures, in the form of internal devaluation, which was deemed equitable (!) led to a dramatic fall in output and labour mobility. Is this efficient by any means? If Latvia - as well as the other two Baltic States- have lower deficits and higher growth rates does not indicate that they are undergoing economic recovery. One cannot judge economic performance by just one year and derive firm conclusions about the quality of economic policy. No country has recovered steadily as a result of austerity policies. 

This is just ideology, not economic sense.