Budget result, an outcome AND policy choice?

This post has been a real pain to edit so I apologise if I have missed anything in the conversation below. The near-original version can be seen here. I have omitted retweets by other economists/professors and replies by market traders.

Stephen Koukoulas is an economist and financial market strategist who between October 2010 and July 2011, was economic policy advisor to the Prime Minister of Australia, Julia Gillard.

John Quiggin will be best known to most as the author of Zombie Economics and is a Federation Fellow in Economics and Political Science at the University of Queensland. He is prominent both as a research economist and as a commentator on Australian economic policy.

What follows is a twitter conversation on April 2nd, 2012 with these two and myself.

Stephen Koukoulas
@TheKouk
2 Apr 12

I see today there's a flood of commentary saying govt shouldn't aim for surplus: But none of saying what budget objective should be.

Australian MMTer
@AusMMT

@TheKouk the result of a budget is an outcome not a policy tool



Stephen Koukoulas
@TheKouk

@AusMMT what utter rubbish. So why austerity mesures in europe? Why sovereign ratings?

Australian MMTer
@AusMMT

budget deficit is an economic outcome, not a policy choice. - James Galbraith huff.to/ep83er cc @TheKouk

Australian MMTer
@AusMMT

@TheKouk Sovereign Ratings agency measure inflation risk not default risk once you get over their language barrier

Australian MMTer
@AusMMT

@TheKouk Because the EU is a poorly designed faux-gold standard

Australian MMTer
@AusMMT

@TheKouk There is no risk of default in any country that creates its own currency (hyperinflation sort of an exception to that)

Australian MMTer
@AusMMT

@TheKouk so you don't accept Jamie Galbraith's view?

Australian MMTer
@AusMMT

budget deficit is an economic outcome, not a policy choice. - James Galbraith huff.to/ep83er cc @TheKouk

JohnQuiggin
@JohnQuiggin

@AusMMT @TheKouk Budget deficit is an economic outcome *and* a policy choice. Econ outcomes are jointly determined by policy and conditions

JohnQuiggin
@JohnQuiggin

@AusMMT @TheKouk Budget deficit is an economic outcome *and* a policy choice. Econ outcomes are jointly determined by policy and conditions

Stephen Koukoulas
@TheKouk

@JohnQuiggin @AusMMT Yes: Govt can spend more or less; change tax rates, but growth cycle will also drive revenue & spending

JohnQuiggin
@JohnQuiggin

@AusMMT @TheKouk Budget deficit is an economic outcome *and* a policy choice. Econ outcomes are jointly determined by policy and conditions

Stephen Koukoulas
@TheKouk

@JohnQuiggin @AusMMT If govt decides to cut $5b from spending to "lock in" surplus, an unexpected global recession wld still see a deficit

JohnQuiggin
@JohnQuiggin

@TheKouk @AusMMT Agreed: economic variables are stochastic except policy instruments like tax rates. But I don't think that's the issue

Now let's quickly revisit the fundamentals of the mechanics of modern money operations:

• Production levels are based on aggregate demand - spending.


• Employment is created to generate output to meet demand for it.


• This generates income which is consumed or saved.


• Saving constitutes a "leakage" from the spending-output system.


• We call this a spending gap.


• If it remains unfulfilled then output and employment fall.


• The responsible fiscal policy is to fill this spending gap.


• Crucial point: the federal government is never revenue-dependent.


• There is no such thing as the government 'running out of money'.


• This is not the same thing as saying the government should spend infinitely.


• It must fill that spending gap.

_{These bullet points borrowed from a powerpoint presentation given by Bill Mitchell}


Two well-known Australian economists disagree with the arguably better known James K. Galbraith.

Galbraith says in his Huffington Post piece linked above that:

Let me begin by noting that the realized budget deficit is an economic outcome, not a policy choice. So long as the economy faces high unemployment, there is no fiscal formula -- no combination of tax increases and spending cuts -- that can make it go away.

and

One can reduce projected deficits -- for future years -- by raising future tax rates or cutting programmed spending for those years. But this is an artificial and unreliable exercise. The actual realized deficits in the future will depend on economic performance at that time, and it is economic performance that actually matters, not the deficit or the public debt. Thus tax reform -- and spending policy as well, in my view -- should properly focus on economic performance and not on deficits.

The only way the Australian Federal Government can achieve a surplus without rising unemployment is to resort to accounting trickery otherwise counter-cyclical measures will kick in and the promised political surplus is unobtainable.