The multiplier is a pretty recondite concept in Keynesian economics. Really it just expresses the fact that in the economy we’re all interdependent. So if I am plucked off the dole and get a job, I have more money to spend and my spending helps someone else to get a job. It’s called the multiplier effect.
The spool runs the other way too. If the government cuts public services and sacks public sector workers, that depresses economic activity generally.
The Tories don’t accept this. They argue that austerity and cuts will let the private sector grow instead of being ‘crowded out’, so cuts will make no difference to jobs. In effect they are arguing that economic activity will just be transferred automatically to the private sector to fill the gap. In their world everyone has a job all the time. What world is that?
If the multiplier exists, how big is it? The International Monetary Fund has reckoned in the past that it was 0.5. So if the government spends an extra £1 the economy will get an extra 50p for free. But if the government cuts £1, the economy gets 50p smaller. To that extent - 50p - the cuts haven’t worked. The IMF thinks the multiplier has changed because of the recession. It’s now between 0.9 and 1.7 (IMF-World economic outlook). As Wolfgang Munchau commented in the Financial Times (15.10.12), “It was disguised as a technical appendix, but it turned out to be an act of insurrection.”
So, on the most favourable assumptions, if the coalition cuts £1 it loses 90p of the effect in lost output. And, with a multiplier of 1.7, every £1 in cuts causes the economy to decline by £1.70. On most assumptions cuts are utterly self-defeating. Munchau goes on to calculate that, with a fiscal multiplier of 1.5, “A fiscal adjustment of 3% of Gross Domestic Product would translate into a GDP contraction of 4.5%. He explains, “The multiplier thus tells you what kind of recession Spain can expect. And it tells us that the Spanish government forecast of a 0.5% fall in GDP in 2013 is delusional.”
That would explain what is happening in Greece. The government there is cutting off arms and legs in order to go on a diet! It would also explain why austerity isn’t working here and why it won’t work. It explains why the government deficit is going up in Britain despite - no, because of - the cuts.
All this is from the IMF, which Anthony Sampson called the financial sheriff. The IMF has spent past decades rampaging round the world demanding that debtor countries cut, cut and cut again. They have destroyed millions of livelihoods in the process. Now they say they got their sums wrong.
Their fellow members of the troika which has put Greece on the rack, the European Central Bank and the European Commission, didn’t say the IMF’s findings were wrong; at the recent Tokyo summit they merely declared they were “not helpful.” On the other hand Jacob Funk Kierkegaard of the Peterson Institute (Financial Times 12.10.12) points out, “The WEO section on fiscal multipliers is a very important finding, which shows the IMF is a credible empirically driven institution not shy of giving up its own dogma on these issues.”
- Mick Brooks is the author of Capitalist Crisis - Theory and Practice