The International Monetary Fund recently admitted that they have, since the beginning of the crisis, grossly underestimated the damage that austerity policies have been doing to the economy.
The admission was made in the latest edition of the World Economic Outlook released at their bi-annual meeting in Tokyo. This admission fatally undermines the economic case for the UK coalition government's insistence on austerity as the only path to growth.
It was contained in a research note investigating the accuracy of the short term fiscal multipliers used in economic forecasts for advanced economies. Multipliers can have many different meanings, but in this instance they describe the effect of fiscal policy on output growth. More intuitively, they measure the impact that changes in government expenditure and taxes will have on the economy as a whole. For example, if the government decided to reduce expenditure by cutting the pay of teachers, teachers will then spend less of their income in the economy each month and this will have knock-on effects through retailers and producers eventually resulting in decrease in the total output of the economy, otherwise known as GDP. Fiscal multipliers are a very important calculation as they predict by how much the cut in teachers' pay will lower GDP.
It is for this reason that widespread astonishment greeted the announcement by the IMF last week that they may have gotten their sums quite badly wrong. The IMF have looked at the gap between actual growth rates of the economy for 2010/2011 and what they had forecasted for the same period in April 2010. They then looked to see to what degree this gap is associated with fiscal consolidation (austerity) in each economy. They found a very significant relationship. They found that large gaps between actual and expected growth are associated with large amounts of fiscal consolidation (austerity). This leads to a stark admission:
"The main finding, based on data for 28 economies, is that the multipliers used in generating growth forecasts have been systematically too low since the start of the Great Recession".
The IMF is now admitting that they have substantially underestimated the damage done to the economy by cuts in expenditure and increases in taxation. Before, the IMF calculated that for every 1% of fiscal adjustment, there would be a loss to total output (GDP) of about 0.5%. This number made very comfortable reading for people like Chancellor of the Exchequer George Osborne. He could argue that for every pound of government expenditure he cut, he only shaved 50p off growth.
The IMF's recent findings now indicate that the real fiscal multipliers under current conditions are actually between 0.9 and 1.7%. This is a huge difference. This means that £1 of fiscal consolidation (austerity) leads to an average output (GDP) loss of £1.30. These startling findings demolish any shred of evidence used to justify current UK austerity policies.
When the current UK coalition government came to office and put forward their plan to use aggressive cuts in public expenditure and tax increases to eliminate the deficit, they said that austerity would unleash potential and deliver growth. They were wrong. Austerity isn't working. The Northern Ireland Committee of the Irish Congress of Trade Unions has argued against austerity imposed by the Westminster Government since 2010, and this new evidence adds considerable weight to that position. The IMF has admitted they were wrong and that austerity isn't working. It's about time this government did the same.
The article originally appeared in the Irish News.