According to Godley & Izurieta, and I believe them, in the current implosionary era, monetary policy is especially ineffective at preventing either deepening collapse or persistent stagnation. But what's fiscal policy to do? The first quote below suggests the unlikelihood of further expansionary programs in the US, except old-fashioned military Keynesianism. The problem is the political requirement (enthusiastically endorsed by the Democrats) that a budget surplus be maintained. The second article suggests that expansionary fiscal policy won't happen in Europe. It also seems quite unlikely in Japan. So what's going to happen? From SLATE: The LA [TIMES] ... leads with HHS secretary Tommy Thompson's comment Thursday that the slowing economy makes it more likely that funds will not be available to make good on a Bush administration commitment to extend health insurance coverage to some of those Americans who don't now have it. Thompson tells the paper that a pet program of his for covering children of low-income families is imperiled. He also casts financially-based doubts on the prospects for the administration's plans to reform Medicare or add a new prescription drug benefit. ----------- The ECONOMIST/August 25, 2001 EDITORIAL Scrap the stability pact THOSE who invent monstrous chopping machines, from Procrustes to Dr Guillotin, have a nice way of subsequently falling victim to them. It was thus divinely fitting that Hans Eichel, Germany's finance minister, should be one of the first to grumble publicly about Europe's "stability and growth pact", whose fiscal limits Germany may soon run up against. For the monstrous stability pact was designed and imposed, against the reservations of other putative single-currency members, by the previous German government, back in 1996. Mr Eichel has since renounced his apostasy, sworn fealty to the doctrine of budget discipline and promised not to seek any changes to the stability pact.... More's the pity. For, as he initially suggested, the automatic chopping that can be required by the stability pact could do serious harm in an economic downturn-of precisely the kind that now looms. The stability pact sets legally binding ceilings of 3% of GDP on euro-zone countries' budget deficits. The penalty for a breach is payment of a non-interest-bearing deposit that can be converted into a fine as large as 0.5% of GDP. There is a let-out clause in the event of recession, but it is far too tightly drawn, applying only if GDP falls by a minimum of 0.75%. Had the pact been in operation over the past 15 years, both France and Germany would have been liable to pay fines on at least three occasions apiece. Why does such a seemingly barmy pact exist? The German fear was that, without it, every euro member would have an incentive to run a big deficit, since the cost in higher interest rates and greater default risk would be shared collectively. Fiscal discipline was needed to get into the euro, but was even more urgent afterwards if the markets were to have confidence in the currency. These arguments are entirely bogus. If a euro member borrows more, the impact on other countries' interest rates is minimal. So long as there is no chance of a bail-out by the centre-and the rules of Europe's monetary union specifically rule this out-default risk will remain with the borrower and be reflected in its bond yields. And, though markets generally like fiscal discipline, larger budget deficits are more forgiveable than having the wrong fiscal stance for the circumstances. That is a particular danger now, as the euro area faces the possibility of its first recession. The single currency has deprived its members of any independent control over monetary policy or the exchange rate, so the burden of any necessary response to a recession falls more on fiscal policy. Yet the European Commission has declared that, in Italy, Germany and France, the stability pact must not only preclude any fiscal easing but even trammel the operation of fiscal "automatic stabilisers". That could mean that these countries are required to raise taxes or cut public spending even as their economies slow. That smacks of 1930s-style self-flagellation. Mr Eichel hinted that the stability pact should apply to levels of spending, not to budget deficits. The Belgians, Italians and others have suggested that the pact should be revised so that it applies to cyclically adjusted deficits, to allow more automatically for the effects of booms and busts. But since the stability pact serves no positive purpose, and risks doing such serious harm, it would be far better and cleaner simply to get rid of it altogether. Jim Devine [EMAIL PROTECTED] & http:/bellarmine.lmu.edu/~JDevine "It takes a busload of faith to get by." -- Lou Reed.
