Friday, July 23, 2010

Austerity - Who is right, who is wrong?

A year before I established the Forum on Debt and Development in 1987 I wrote in the magazine Alternatives, 'Today there is probably no other area of human concern that affects more deeply the living conditions of people all over the world than that of international finance. Nevertheless, the main policy-making in this field is in the hands of an amazingly small group comprising central bankers and finance ministers in the rich countries, heads of international organizations such as the International Monetary Fund and big commercial bankers. The opinion of people outside this charmed circle of financial managers is hardly ever taken into account. This is a pity, since economic policy-makers tend by both temperament and training to be rather narrow-minded; their thinking moves in a groove.'

In the trailer of the film The Visitor shown above, it is said that 'You can live your life and never know who you are until you see the world through the eyes of others.' The film is not about the narrow-mindedness of a banker or a finance minister but of that of a university professor who drops into his standby New York flat one night, only to find that a young couple has been renting the place from a scam artist. Instead of having them arrested, the professor befriends his naive squatters - a Syrian jazz drummer and a Senegalese jewelry maker - who then get a chance to teach him about passion, playing the djembe, and post-9/11 immigration policies. As the professor fights to keep one of his new friends from being deported, his own world opens up.

Narrow-mindedness is a general human phenomenon, and not an exclusive quality or propensity of finance ministers and bankers. And obviously, not all finance ministers and bankers are narrow-minded. Johannes Witteveen, for example, a former finance minister and head of the IMF, is not narrow-minded. Nor is Tommaso Padoa-Schioppa (see my previous post), also a former finance minister and board member of the European Central Bank. Nor is Andrew Sheng, another former central banker who is part of the FONDAD Network (see for his views many of my previous posts on this blog).

A few days ago I saw an animated cartoon video explaining today’s crisis in simple terms. It’s a bit fast, and you may like it, or dislike it. The explanation is based on a lecture given by a real university professor (opposite to the acting professor in The Visitor), David Harvey, whom you may also like or dislike. But the issue is that this video, and the lecture on which it is based, show on the one hand the attempt to make things clear that seem to be too complicated for the non-expert, and, on the other, the attempt or tendency to present explanations as if they are ‘reality’.

This brings me to the topic of this post: Who should we believe, those who preach austerity as a key ingredient for managing the crisis, or those who criticize austerity as being the remedy?

Austerity was for a long time a taboo word in France, but even there it is now elevated to official ‘wisdom’. So now we have policymakers in the rich countries, except the United States, propagating austerity saying it is urgent and inevitable, while a few economists are criticising austerity saying it is a silly thing to do as it creates, rather than solves, problems. The critics include Paul Krugman (we live in a US-dominated academic and financial world, in which Krugman’s words are echoed daily in almost every corner of the globe), Joe Stiglitz (same story), Martin Wolf (less known, except to readers of the Financial Times), and Robert Skidelsky (who knows him?) – to name a few of the critics (there are many more including those who criticise in a more fundamental way the power system and the power policies).

I will nor repeat or try to summarise the debates on austerity that are raging on, but instead focus on one element in them that is crucial: who is right, who is wrong?

The answer to that question depends on what you believe in. Or it depends on what you think the causal relationship is between, for example, austerity and gaining confidence of financial markets, or between austerity and addressing the fiscal debt problem, or between austerity and the resumption of growth. Or between austerity and the reduction of unemployment, or any other relationship you can think of.

Can those ‘causal’ relationships be established unambiguously? I don’t think so. There are other factors, other variables, at play. It is difficult to isolate any and each of these factors or variables – such is reality economists (and others) are dealing with. Moreover, this ‘reality’ is sensitive to human beliefs, practices, routines, power relationships, power dynamics, economic doctrines, political and economic ideologies, interest groups, government or market intervention (both governments and markets are determined by human action and thinking) and what else you have in the global economy.

If we cannot establish causal relationships in an unambiguous manner, what do we do? To repeat my question: Who should we believe, those who preach austerity as a key ingredient for managing the crisis, or those who criticise austerity?

I am afraid we can do no other thing than search for the best or most convincing or most challenging answers by exploring the given reality, or envisioning a possible different reality. For this, an attitude is needed of ‘seeing the world through the eyes of others’.

Such empathy and open-mindedness (and curiosity) would help to understand better the economic ‘reality’ we are living in. Obviously, empathy is needed with the needy and not with the greedy.

In the 1987 Alternatives article mentioned above I quoted Robert Triffin who said that 'the economy is far too serious a thing to be left to the economists'. I still believe that the living conditions of people all over the world are too important to be determined solely or mainly by financial policymakers.

Moreover, as I explained in a speech about Robert Triffin last year, I still believe that a fundamental reform of the international monetary system is needed to solve the crisis instead of just managing it. Unfortunately, the debate on the need of reform is much less prominent than the debate on austerity. Jane D'Arista and Korkut Erturk have written recently a very good paper on the need and ways to reform the international monetary system which you can read by clicking here.