Tim Harford is an economist, author and columnist at the Financial Times. His most recent book, The Undercover Economist Strikes Back: How to Run or Ruin an Economy, brought him to the LSE for a public lecture. In this conversation, he gives his views on a range of topics, from the nature of the UK recession to forward guidance.
In your book you distinguish between a Classical and Keynesian type of recession using a POW camp and babysitting co-op as illustrative examples. What is the distinction and how can you tell what kind of recession is afflicting an economy? What kind of recession has the UK suffered from?
A POW camp recession being basically something went wrong with the supply – something exogenously hit the economy. A Keynesian babysitting co-op recession is some kind of internal malfunction which government can do something to fix. There’s no hard and fast way to tell one from the other. One of the things to look at is whether there is spare capacity in the economy. Have we lost supply capacity or have we just lost demand and we can maybe stimulate it? I would also look at certain patterns in unemployment, at the trend, and surveys of business – do they think they’re operating at capacity or under capacity? There are various indicators but they’re mixed.
Regarding the UK, even though an external shock was involved the downturn has been so sharp that there must be some Keynesian element in it. There must be some degree in which it’s just the economy failing to adjust, and the economy could be encouraged to adjust with help from policy. So I would say that there’s enough Keynesianism in this recession to warrant a Keynesian response. Although we are getting to the point where it’s almost too late.
Has George Osborne been very wrong to embark on an austerity programme since 2010?
I wouldn’t put it that strongly. I would say that one could take the view that if we think that Keynesian economics is right in the short run and classical economics is right in the long run that would tell us that George Osborne could have been wrong for years and finally gets to be right, but he should have been right a lot sooner.
I don’t think anything in macroeconomics is black and white. I do think that Osborne has got some very important things wrong. I do not think that if we had Ed Balls instead the economy would look radically different. It would look a little bit different; his ideas were more suitable for 2010 and we would be in a better situation. But I do not think it is in any way a gigantic effect. The situation we were in was too serious.
What do you think of the Bank of England’s new forward guidance policy?
It is one of the things you might want to do to get out of a severe recession; a situation where you print money and people just put it in cookie jars, and you print more money and still people put it in cookie jars because they think this money might come in handy when there’s a recovery. And because nobody spends the money you never get the recovery.
What do you do about that? It’s partly about the threat to create inflation. What you’re saying is look, we may not be able to create inflation now but you can be damned sure that when we do create inflation we’re really going to create a lot of it, so you better start spending the money now. You’re kind of trying go take this threat to get people spending: Spend money now because it will be worth less in the future.
Of course Mark Carney hasn’t phrased it like that, but that’s what forward guidance is. It’s basically saying: You may think that the moment there’s a the hint of a recovery I’m going to raise interest rates, and because you think that you’re nervous. And because you’re nervous there is no hint of recovery. Well I’m telling you that even if there is a recovery I’m not going to raise interest rates. That’s the idea of forward guidance. By taking that promise about what the central bank will do in the future you get people going now.
In this case, central banks have devoted so much attention, so much effort to creating a reputation as inflation fighters, it’s really hard to believe that when there’s a recovery the Bank will still keep interest rates that low. Are we really going to believe you? And of course Carney has left himself all these get-out clauses.
Forward guidance is a good idea, but it is really hard to pull off. And of course you could go too far. I talk about all this in the context of game theory, the Cold War and the film Dr Strangelove. In Dr Strangelove, the very powerful credible commitment, beloved of game theorists, is the doomsday device and the world blows up. Credible commitments sound good but they can cause you trouble as well, as they have in the case of the Eurozone which is another credible commitment which has gone badly wrong.
Central banks have been successful as independent, technocratic institutions fighting inflation. Should we expand technocratic policymaking to other areas?
There are certain things that we want to try to leave to technocrats. We don’t want people to vote on exactly how the fire system works. We want them to figure out how to dispatch the fire engines and just do it. apparently we want to vote on how the police system works. I don’t know why that’s a good idea. There are just certain things you want to let the technocrats deal with and I think that monetary policy is one of them.
You could make the argument that we should do climate change policy like that or that we should do fiscal policy like that. I think it gets really tricky and the reason it gets really tricky is because we get to a situation where there are so many possible policy levers, there are so many possible policy objectives. But it is perfectly legitimate for someone to say I would rather cope with a change in climate than pay higher energy bills. I disagree with that, but it’s not an outrageous political view for someone to express. It starts to get very tricky to give more lists of what is essentially contested stuff out to technocrats
For monetary policy there are areas where it becomes contested, areas where it becomes redistributive, but essentially we have a situation where the government says we want stable low inflation, everyone agrees that that’s a good idea and the Bank of England delivers. We have had extraordinary times recently but generally people are not arguing about it.
What are your thoughts on the US government shutdown and potential default?
It’s a total disaster. It’s very strange that US politics has frozen up to such an extent that instead of passing legislation the regular ways a minority, rather a majority in a single house, is able to shut the government down and seems willing to do that over any particular piece of legislation they want. That is a political system that is in a very strange place and the consequences are potentially quite serious. The consequences of the US repudiating its debt even for a few minutes are reasonably serious, it would trigger all kinds of weird contracts. So we better hope that, as in all previous occasions, they do not repudiate the debt.
It’s one thing to shut down parts of the US government, it’s another to blow up international financial markets.
Note: This article gives the views of the author, and not the position of the British Politics and Policy blog, nor of the London School of Economics. Please read our comments policy before posting.
Tim Harford is an economist, journalist and broadcaster. He is the author of “The Undercover Economist Strikes Back” and the million-selling “The Undercover Economist”, a senior columnist at the Financial Times, and the presenter of Radio 4′s “More or Less” and “Pop Up Ideas”. Tim has spoken at TED, PopTech and the Sydney Opera House and is a visiting fellow of Nuffield College, Oxford.