IMF: Budget Cuts Will Hurt Growth

Among the profound conclusions in the IMF’s new “World Economic Outlook” is that “initially fiscal retrenchment typically has contractionary short-term effects on economic activity, with lower output and higher unemployment.”

The statement is obviously true. The economies of the world’s developed nations are already beset by slow GDP improvement and high unemployment. Actions by governments to put into place austerity measures and withdraw stimulus might burden some economies more than they can bear.  That could plunge some nations back into deep recessions.

The IMF’s assumption is that austerity will eventually be its own reward. In some distant future, deficits will come down, and with them the need for higher taxes. That, in turn, should help stimulate GDP growth.

The IMF’s best suggestion as the world waits for a recovery is that statutory retirement ages should be linked to life expectancy and that entitlement programs should be more efficient. This is academically a reasonable point of view. The populations of many large nations have begun to age. People on average live longer. The poor are sustained to a large extend with government aid. The same is true of the ill and disabled.

The IMF’s suggestion has a great deal of support in economic theory but nearly none in the political and social realities of countries such the US and the nations that make up the EU. Politicians in America are appropriately frightened to ask voters to take less in Social Security, Medicare, and Medicaid. People who want to be elected or re-elected to the Congress know that they must stand in favor of these programs, even if it means they face insolvency at some time in the distant future.

The social unrest tied to austerity is worse in Europe, at least for now. There have been labor strikes over plans by governments to cut wages and benefits. That agitation will only get worse.

The IMF has the advantage of being an intellectual body which can analyze and make proclamations about what governments should do to solve their problems. It is clear by its new recommendations that it does not have to face those troubles itself.

Douglas A. McIntyre