Former Treasury Secretary Larry Summers, in June 4 testimony before the Senate Budget Committee, offers a scatter diagram which allegedly shows “that countries that pursued harsher austerity policies in recent years also had lower real GDP growth.” He acknowledges, but does not adequately explain, that the causality may well be backwards: Bond markets would not allow countries in severe economic distress (Portugal, Ireland, Greece and Spain) to continue financing deficits at the peak levels of 2010.
Summers defines “austerity” as the three-year change (regardless of the level) from 2010 to 2013 in cyclically-adjusted “primary” deficits (excluding interest expense) as a percent of potential GDP. His scatter diagram then compares those changes to average real GDP growth from 2010 to 2013, using unexplained estimates for 2013.
Measuring fiscal stimulus by the change in budget deficits means several countries with little or no budget deficit in both 2010 and 2013 appear as employing the most “fiscal stimulus” in Summers’ graph. Sweden’s deficit is estimated at 0.1 percent of GDP for 2013, according to The Economist, and was literally zero in 2010. Keeping the budget balanced puts Sweden on the admirable left side of Summers’ diagram – the side ostensibly choosing growth rather than austerity. Germany is another country Summers counts as avoiding austerity, even though Germany’s brief cyclically-adjusted deficit of 3.5 percent of GDP in 2010 was cut to zero in 2012-2013.
When it comes to real GDP Growth, Hong Kong, Singapore, the Slovak Republic and South Korea appear near the top of Summers’ graph. It is revealing that Hong Kong is also far to the left on the pro-growth side of the austerity axis. This may appear paradoxical since Hong Kong ran budget surpluses in 7 of the past 8 years, and will do so again in 2013. No amount of cyclical adjusting could turn chronic surpluses into deficits. Simply because Hong Kong has not switched from a big deficit to a smaller one, that alone suffices to place it among the least “austere” economies on list. Similarly, South Korea’s budget surplus is estimated at 1.3-1.4 percent of GDP in both 2010 and 2013, according to the OECD, but keeping the budget in surplus between those years counts as stimulative policy in Summers’ reckoning.