With Greece desperately trying to obtain more time to carry on its fiscal consolidation plan, it is interesting to read a recent IMF working paper on “Successful Austerity in the United States, Europe and Japan”. The study tries to assess how fiscal consolidation and the growth rate affect each other, in expansions and in contractions. I copied and pasted (from their page 7; I just suppressed a couple of technical points) the main results of the paper:
Update: An edited version of this piece appeared as a Project Syndicate commentary
A few weeks ago on Project Syndicate Raghuram Rajan offered his view on inequality and growth, thought provoking as usual. His argument can be summarized as follows:
- Inequality increased starting from the 1970s, across the board
- Two different explanations of this increase can be offered: a progressive one, that blames pro-rich policies, and an “alternative” one, that focuses on skill biased technical progress. I do not understand Rajan’s restraint, and as I like symmetry, I will label this alternative view “conservative”.
- Both views agree that inequality led to excessive debt and hence to the crisis.
- According to Rajan, nevertheless, the alternative/conservative view is more apt at explaining what happened to Europe, that remained more egalitarian, but was able to hide the ensuing low growth and competitiveness through the euro and increased debt.
- The exception is Germany where, following the reunification, structural reforms had to be implemented to reduce workers’ protection. This explains why Germany today is so strong in Europe.
- Thus the solution is for Southern Europe to implement structural reforms and accept increased inequality through lower workers’ protection; the alternative is sliding into an “egalitarian decline” like Japan.
The way I see it, there are a number of problems with Rajan’s analysis, and more importantly a fundamental (and unproven) assumption that underlies his argument. Let me start with the problems in his analysis, and then I’ll turn to the core of this piece, i.e. challenging the underlying assumption.