The limits to policy-making

IMF calls for stimulus, no, make that austerity

The world economy continues to struggle to pick up speed. The International Monetary Fund recommends stimulus — or maybe austerity.

In the UK, the official lender is tired of what it sees as austerity. Olivier Blanchard, the fund’s chief economist, calls for “a reassessment of fiscal policy.” But in Japan, the fund warns that aggressive new stimulus “carries important risks” and calls, ironically enough, for precisely what the UK has, a “medium-term fiscal consolidation plan”.

The IMF’s assessment of the UK does not look astute. The UK government has in fact already relaxed its austerity policy: it is on course to miss the deficit targets it set earlier but has not announced further tightening. Its fiscal policy can hardly be called tight. The deficit likely to be recorded this year of about eight per cent of GDP is by far the biggest of Europe’s major economies. And, the current account deficit of about three per cent of GDP means British consumers are providing stimulatory demand for the UK’s trading partners. Perhaps, rather than criticising the UK’s tight policy, the IMF should be applauding its stimulus.

Japan, meanwhile, is embarking on extreme stimulus, yet the IMF is worried. “The stimulus-induced recovery could prove short-lived, and the debt outlook significantly worse” the fund writes, correctly. Fiscal stimulus has been run time and time again in Japan, boosting growth temporarily — and debt sustainably. The IMF does appear to approve of Japan’s planned additional monetary stimulus. But here too scepticism is appropriate. The new policy has pushed down the yen’s value but the eventual impacts on lending, growth and inflation are highly uncertain.

What should the IMF recommend in Japan? Structural obstacles are important. It is not easy to prod a declining, rapidly ageing and inclined to save population into more spending. Higher immigration might help but that’s not the fund’s business. Japan could be an extreme case but it is important to realise as governments strain for growth that not all the solutions can be found in the fiscal and monetary policy levers. Believing so is dangerous. It could lead to unsustainable debt and still worse crisis, as the fund seems to fear in Japan — though not in the UK.