GLENN HUBBARD is by many accounts a sensible economist. But he is currently advising Mitt Romney, and political entanglements often nudge sensible people toward curious arguments. In a recent Financial Times piece outlining "a conservative growth agenda for the US economy", Mr Hubbard writes:
"High and rising debt burdens are a structural impediment to growth. They raise expected future tax burdens, discouraging investment and limiting productivity growth. Some recent estimates of this adverse effect suggest our debt-to-GDP levels would reduce expected growth by half a percentage point per year over the next decade. How debt reduction occurs is also important. Recent research by Alberto Alesina of Harvard, and others, has emphasised that reducing transfer spending is more likely to lead to long-lasting decrease in debt and support for growth than raising taxes.
Gradual fiscal consolidation may also be stimulative in the short run. Research by Hoover Institution economists concludes that reducing federal spending relative to GDP to pre-financial-crisis levels over a decade would increase GDP in the short and long term. This outcome reflects lower future tax rates and the boost from lower interest rates to investment and net exports."
The economics of the growth impacts of austerity is a subject to which this newspaper has paid considerable attention over the past few years. See this, this, and this, for instance. It seems clear that very high debt loads can have a negative impact on growth, and the taxes needed to bring down borrowing can also have incentive effects that undermine growth. These are important things to consider.
But the evidence on the precise level of debt at which growth impacts become severe is fairly uncertain, and there is good reason to suspect that America can sustain higher debt loads at little cost than most other economies. Episodes of austerity with higher ratios of spending cuts to tax increases are associated with better growth performance, but—crucially—much of that effect can be chalked up to difference in central-bank willingness to accommodate the two strategies: central banks do more to offset spending cuts than tax rises.
Most importantly, episodes of expansionary austerity are clearly associated with two dynamics: large declines in interest rates and big currency depreciations. America would derive zero benefit from the first effect; the real yield on the 20-year Treasury is now...0.0%. It couldn't expect to get much of a boost from the second effect either. Trade is a relatively small share of total American output. And there is at least some risk that an aggressive campaign to devalue the dollar could encourage foreign investors to move out of Treasuries, raising interest rates. Though they might also simply fight back. At any rate, the only thing conservative politicians seem to hate more than tax increases is the idea of a falling dollar. And as recent events demonstrate, Republican legislators miss few opportunities to demand tighter policy from the man who could do most to cushion against the impact of austerity.
Now, I think you could get a lot of Democrats, including Barack Obama, to sign on to a broad tax reform with an eye toward improving the medium-run deficit, so long as the reform wasn't regressive and raised revenues on net. And that should have a positive impact on growth over the longer run. But there is very little reason to think that a conservative plan to come in and begin slashing deficits would be good for short-run growth.
