Wednesday, August 17, 2011

Europe's Fiscal Overkill

This from the excellent Christine Lagarde, the IMF’s new chief.

Her warning that fiscal tightening in a string of countries is now going beyond the therapeutic dose entirely reflects my own view. She writes:

For the advanced economies, there is an unmistakable need to restore fiscal sustainability through credible consolidation plans.

At the same time we know that slamming on the brakes too quickly will hurt the recovery and worsen job prospects. So fiscal adjustment must resolve the conundrum of being neither too fast nor too slow.

Shaping a Goldilocks fiscal consolidation is all about timing. What is needed is a dual focus on medium-term consolidation and short-term support for growth and jobs.

Support for growth in the near term is vital to the credibility of any agreement on consolidation. After all, who will believe that commitments to cuts are going to survive a lengthy stagnation with prolonged high unemployment and social dissatisfaction?

(Come to the Telegraph next time. On vous aime. Yes, I am smitten with her, ever since being invited for croissants and café in her Trésor days at the Batiment Colbert). She continues:

Will the markets buy such an approach? In some countries, they seem to be pushing for sharp fiscal adjustments. And some policymakers have decided that is the road to follow. But in many countries a short-term focus would be wrong.

We should remember that markets can be of two minds: while they dislike high public debt – and may applaud sharp fiscal consolidation – as we saw last week they dislike low or negative growth even more. (more)