Spending back to growth

By John Rapley

From my distant remove here in London, I have been observing with interest the debates in which I once took part when I ran the Caribbean Policy Research Institute. In particular, the arguments as to whether austerity is appropriate in a time of recession, and whether the government has the option of pursuing Keynesian stimulus at such a time, always interest me.

The Keynesian approach, named after the famed Cambridge economist John Maynard Keynes, argued for governments to use fiscal policy to stimulate demand during a recession, and then to tamp it during booms. By managing demand, governments could smooth out the business cycle. Accumulating debt during a recession was not seen as bad, since the lack of private demand meant governments could borrow cheaply to fill the breach.

Keynesianism came in for fierce, and sometimes overblown, criticism in the last quarter of the 20th century, as the ascendancy of neoclassical economics, monetarism and rational-expectations schools turned the focus on the failings of government policy. However, since the 2008 financial crisis, Keynesianism has been making something of a comeback.

Is stimulus appropriate?

In Jamaica, the principal argument made against a Keynesian reflation strategy is that a heavily indebted government, dependent on globalised capital markets for its credit, simply has no fiscal space to engage in serious reflation. However, let us put aside that debate for a moment and assume, for the sake of argument, that Jamaica could find the funds for a short-term stimulus programme. Would it be appropriate?

This is where international experience offers clues. Keynesianism is, by definition, a counter-cyclical approach. The government's task is to act against the trend of the market. If private demand is too low, it must step in to boost it. If private demand is too high, it must step in to reduce it, by cutting back its own expenditure.

At the moment, it seems patently obvious that private demand is too low in Jamaica. The problem is that when we ask what is happening in the market, we must look beyond Jamaica's shores. With so much of Jamaica's output going abroad, Jamaica's market is, in no small measure, the North American economy.

Right now, the North American economy is not in recession. At least for the time being, the US economy is picking up speed and Canada, while slowing, is still growing. If Jamaica fails to ride this growth, it will be because of a lack of competitiveness. And the risk of reflation would be that it could further inhibit improvements to that competitiveness.

Aesop's ant and grasshopper

Canada stands as an instance of a country which figured out how to adapt Keynesianism successfully to the global age. Like Jamaica, its market is in no small measure the US. During the US boom of the 1990s, Canada cut its budget and reduced its debt. It meant Canada missed much of the US boom. But when the bust came this century, it was able to generously stimulate its economy and avoid the collapse that hit the US.

By contrast, France showed us how to do Keynesianism wrong. When François Mitterrand was elected president in 1981, France was in recession. The new government boldly expanded its activities to spend the country out of recession. The problem was that France's trading partners were then embarked on austerity programmes. Because they had cut spending and kept a lid on demand, their firms were able to outcompete their French peers. So French stimulus money happily made its way into German bank accounts.

The pity is that Jamaica missed the golden opportunity of the 1990s, when it could have used the Canadian approach. At that time, it should have cut government spending and reduced employment, so that it could hire back and boost public-sector wages when the time came - like now. Instead, government opted for pro-cyclical policies: public employment rose through the decade, as did public-sector wages and programmes.

Now, the best option might be for the government to keep its stimulus powder dry in the event the US goes back into recession. It's not a particularly bright option, but it may be the least bad one left.

John Rapley is a research associate at the International Growth Centre, London School of Economics and Political Science. Email feedback to columns@gleanerjm.com and rapley.john@gmail.com.