IREF - Institute for Research in Economic and Fiscal issues
Fiscal competition and economic freedom
The French Minister of Finance, François Baroin, concluded the G7 meeting in Marseille with a statement that an equilibrium had been found between the necessity for fiscal consolidation and the necessity to avoid a recession. What kind of equilibrium is he talking about and is this equilibrium stable?
The discussions in Marseille started on a fairly correct assessment of the situation: one needs to tackle the sovereign debts crisis and the global economy (and in particular western economies) is slowing down.
For decades and no latter than 2009, the usual way to address the second problem—the slowing down of the economy—has been to inject more money into the economy and increase public spending. The recipe never really worked—unless a bubble is considered as good medicine for a healing economy—and unemployment never went down. But today things are different. Indeed, the discussion is no longer whether the recipe works because the recipe is simply no longer available. Or, more precisely, the heads of the States realize how costly it would be.
To what extent everyone is convinced by the need of a new strategy is still a matter for debate. Barak Obama’s move last Thursday shows that, although the US debt is surging, a new $450 billion stimulus is, according to him, a way to reduce unemployment. In the meantime, the EU (Olli Rehn), the British (George Osborne), the German (Wolfgang Schäuble) and, may be to a lesser extent, the French (François Baroin), wish to give a priority to fiscal consolidation. So, one way to understand François Baroin’s “equilibrium” is that the G7 agrees that everyone should be free to follow what he believes is the best recipe.
Another way to understand the “equilibrium”, and probably the one Baroin has in mind, is an “equilibrium” between stimulus and fiscal consolidation. How could that be possible? Stimulus would create growth that would create more tax revenues and promote fiscal consolidation. Sounds good. But it also sounds very much like the old recipe that has been tried for decades. A very unstable equilibrium indeed, has the sovereign debt crisis plainly demonstrated.
The only stable equilibrium is to promote growth via a cut in regulation and public spending. Simple, but it requires a change in mentality. May be one can interpret this G7 positively by saying that we are half way between the stable and the unstable equilibrium….