Monday, June 6, 2011

Many Economies, Just One Medicine

The IMF in its last Fiscal Monitor suggests that developed countries must adjust because public debt is growing out of hand, and Latin American (and other developing regions) should do fiscal adjustment because their economies are overheated.  First, the graph below shows public debt in four developed countries.  It is clear that in all debt-to-GDP ratios went up after the crisis.  In other words, public debt is the result of the crisis not is cause.

It is important, also, to remember that the crisis has destroyed private wealth (even though governments went out of their ways to compensate some for their losses, in particular the big banks that got us into the crisis).  If private debt falls, and with it private demand, then public demand (spending) has to increase to compensate, unless one wants lower levels of activity.  So it is far from clear that the increase in public debt is problematic at all, and surprising that the “reformed” IMF already is pushing for contraction (note that the IMF has a central role in promoting brutal fiscal adjustments in Eastern Europe and the periphery of the euro too).

But what is really interesting is that if increasing public debt is a sign of dangerous fiscal profligacy, one would expect that Fund to at least be more lenient with countries that have constant or decreasing public debts.  The figure above shows the case of four Latin American countries.

In other words, if debt increases do fiscal adjustment. If debt falls do fiscal adjustment.  I’m starting to think the IMF is always for fiscal adjustment.  Instead of Dani Rodrik’s One Economics, Many Recipes, their motto is Many Economies, Just One Medicine.

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