Krugman Seconds Auerback on Fiscal Austerity

JUNE 10, 2010, 12:38 PM

Oy, Canada

Marshall Auerback points out that the new UK government, in arguing that fiscal austerity won’t destroy the economic recovery, is pointing — wrongly — to Canada’s experience in the 1990s. Actually, it’s even worse than Auerback says.

As he points out, Canada was able to offset the contractionary effects of fiscal austerity through increased exports to a booming US economy. What he doesn’t point out is that this export boom had a lot to do with this:

 

Yep, you can have fiscal austerity without contraction if you have a massive devaluation against your main trading partner. So we can have austerity without a new depression as long as all the world’s major economies devalue against … oh, wait.

fredgraph.jpg

fredgraph.jpgAnd monetary policy, of course, wasn’t up against the zero lower bound, so the Bank of Canada could and did offset fiscal austerity with looser monetary policy (which partly explains the drop in the loonie.)

I do feel a sense of despair here. Ever since the crisis began, some of us have been trying to get across the point that you have to be very careful with your historical precedents, that things work very differently when you have a synchronized severe financial crisis, with interest rates near zero everywhere. And here we are, two years in, and it’s as if we’ve been talking to a wall.

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