The French election and two-dimensional politics

Unless something very surprising happens, the French presidential election will be between Marine Le Pen of the Front National and François Fillon, who recently won the primaries for a collection of parties (essentially the right wing republican party). Fillon’s platform was extremely neoliberal. As Renee Buhr describes here:

“His policy proposals largely indicate a small government, low taxation and free market approach to economic policy, while his campaign rhetoric takes aim at the usual ‘boogeymen’ cited by liberal politicians – government regulations, public expenditures, high taxes and public sector institutions and employees.“

This makes we worried that Le Pen will win.

If you see politics as all about a left/right axis, my concern makes no sense. Choosing someone whose economic policy is very much to the right of the centre/right parties should eat into Le Pen’s support, while those on the left will vote (reluctantly) for the lesser of the two right wing parties. However this one dimensional view is far too simplistic, and perhaps fatally so in this case.

To illustrate why, I want to briefly look at a piece by Jonathan Wheatley, which uses UK politics before the 2015 election. A sample were asked their views on 30 different policy issues. A technique was then used to find a pattern in the responses. The first interesting result was that the strongest pattern was two dimensional: there seem to be two common factors underlying these responses. To quote:

“The first is an economic dimension, drawing on issues such as the mansion tax, the bedroom tax, and privatisation of the NHS. The second is a cultural dimension, drawing on issues such as EU membership, immigration, same-sex marriage and English Votes for English Laws.”

We could say the cultural dimension was about identity, varying from communitarian to cosmopolitan views. He then looks at the political party people supported. Here is the result:

On the cultural dimension, party supporters are where you would expect. But on economic issues UKIP supporters are less rather than more right wing than Conservative party supporters.

I know of no similar analysis that looks at French voters, but this does not matter for the point I want to make. Suppose we use the same diagram to represent a political party's policy position. In that case the area occupied by UKIP in the diagram above does seem to correspond to Front National policies. Their position on the identity axis is certainly well to the south of other parties, but their position on economic issues is far from neoliberal. In choosing who to vote for, the voter will position themselves on the diagram, and look for the party that is closer to them in this two dimensional space. (Of course we cannot use the diagram to actually measure distance, as the implicit weighting between the two aspects is arbitrary, and may not correspond to that of the voter. But the conceptual argument still works.)    

From this two dimensional perspective, choosing a candidate to oppose Le Pen who is pretty right win in economic terms does nothing to capture Front National voters. But more seriously, it risks losing the support of left wing voters. While they may dislike Le Pen because of her stance on immigration and other identity issues, Le Pen is more acceptable in terms of economic policies than a very neoliberal candidate.

Eurozone fiscal policy - still not getting it

The impact of fiscal austerity on the Eurozone as a whole has been immense. In my recent Vox piece, I did a back of the envelope calculation which said that GDP in 2013 might be around 4% lower as a result of cuts in government consumption and investment alone. This seemed to accord with some model based exercises of the impact of austerity as a whole, but others gave larger numbers.

We now have another estimate, which can be thought of as a rather more thorough attempt to do what I did in the Vox article. This paper by Sebastian Gechert, Andrew Hughes Hallett and Ansgar Rannenberg uses multipliers and applies them to the fiscal changes that have occurred in the Eurozone from 2011. Apart from the later start date, the first difference compared to my back of the envelope calculation is that they include all fiscal changes, and not just government consumption and investment. As a large part of the fiscal consolidation in the Eurozone has involved reducing fiscal transfers, this is important.

The second, and more interesting, difference is that rather than pluck a multiplier out of the air, as I did, they use a meta analysis of other studies. I have previously mentioned this meta analysis by Gechert: this paper is based on a follow up by Gechert and Rannenberg. [Correction from original post.] The studies on which these meta analyses are based are not ideal from my personal point of view (more on this later), but what this second paper shows is that fiscal multipliers are larger in depressed economies. Applying these ‘meta multipliers’ to the Eurozone fiscal consolidation implies that GDP was 7.7% lower by 2013 as a result. These numbers are more in the ballpark of the Rannenberg et al paper that I have discussed before.

All these estimates point to huge losses, which monetary policy has neither been willing or able to counteract. Yet the speed at which those in charge of the Eurozone begin to realise the mistake that they have made is painfully slow. Take this recent Vox piece by Marco Buti and Nicolas Carnot. Thankfully they ignore all the Eurozone’s tortuous and sometimes contradictory rules, and just look at two numbers: a measure of ‘economic conditions’ (like the output gap), and a measure of the fiscal gap, which is the difference between the actual primary balance and what it needs to be to get debt falling gradually.

They argue that policy needs to balance the need to reduce both gaps. Looking at these two numbers, they conclude that Germany is overachieving on fiscal adjustment and has a need to increase activity, but although France and Spain also need to increase demand they have a long way to go to eliminate the fiscal gap, so this should dominate. The conclusion is that Germany should go for fiscal stimulus, but “moderate consolidation appears warranted in both France and Spain”. Overall “the Eurozone should conduct a close-to-neutral fiscal stance”.

Let’s deal with that last conclusion first. The mistake there is simple. When monetary policy is stuck at the Zero Lower Bound, it is crazy to balance the output gap with what is your main instrument for correcting that gap, which is fiscal policy. Getting the fiscal gap right is important in the longer term, but in the short term it is the means by which you get the output gap to zero. As the studies mentioned at the beginning of this post show, the current recession is the result of trying to correct the fiscal gap at completely the wrong time. The right policy is to get the output gap to zero, so interest rates can rise above the ZLB, and then you deal with the deficit. Readers of this blog and the blogs of others must be sick and tired of seeing us make this same point over and over again, but the logic has yet to get through to where it matters.

The same principles apply to countries within the Eurozone, except with an additional complication of within Eurozone competitiveness. If a country is too competitive relative to the rest of the Eurozone, it needs to run a positive output gap for a time to generate the inflation that will correct that position, and vice versa. For that reason Germany needs a large positive output gap at the moment (compared to an estimated actual negative gap), and therefore a much more expansionary fiscal policy - not because it is overachieving on debt adjustment. France and Spain now look roughly OK in terms of competitiveness relative to the average (see chart below, and assuming that entry rates in 2000 were appropriate), so there we need fiscal expansion to close the output gap.

So at both the aggregate and individual country level, the inappropriate bias towards fiscal contraction that caused huge losses in the Eurozone in the past continues to operate. Which means, unfortunately, that the needless waste of resources caused by austerity continues to get larger by the day.

Relative Unit Labour Costs, 2010=100, from OECD Economic Outlook

Eurozone Asymmetries

Suppose a large Eurozone country – let’s call it France - decided that it needs to substantially increase its minimum wage in order to reduce poverty. The increase is sufficiently large that it leads to a sustained increase in average French wage inflation, which in turn decreases the competitiveness of France relative to the rest of the Eurozone. France cannot be permanently uncompetitive, so the obvious consequence would be that France has to endure a subsequent period in which its relative inflation was below the Eurozone average.

However this would require a period where French unemployment was above its natural rate. French politicians declare that this would be politically unacceptable to French voters. Instead they suggest French inflation should remain at 2%, and the remainder of the Eurozone should increase their inflation rate to 4% for a time (giving an average Eurozone inflation rate of over 3%) to ensure France regains competitiveness. Now this would not normally be possible, because the ECB’s inflation target is 2%. However the influence of France on the ECB is such that the ECB fails to raise interest rates in time to prevent 3% average inflation, and subsequently keeps interest rates low because they repeatedly forecast inflation falling back down to 2% in due course.

The rest of the Eurozone would understandably be upset at having to endure 4% inflation. Some countries might suggest that perhaps, in the absence of ECB action, they could tighten fiscal policy to get their inflation below 4%. However France refuses to countenance changes to agreed fiscal targets, and instead suggests that what is really required is for other countries to adopt a similar increase in the minimum wage to the one originally undertaken in France. The French head of the ECB gives a speech where he intimates that the ECB might be prepared to raise interest rates a little bit in exchange for other countries introducing this ‘structural reform’ to their minimum wage levels. The French government also hints that it might be prepared to allow very limited fiscal contraction outside of France, but only if this took the form of tax increases rather than public expenditure cuts.

Your reaction to this little imaginary story is that it couldn’t possibly happen because other Eurozone countries would not permit it to happen. My suggestion is that Germany rather than France is doing exactly this at the moment, except that in their case it started with a period where German wage inflation was below the Eurozone average (for reasons discussed by Dustmann et al here). [1] German control of the ECB might not be as complete and simple as I imagined French influence in the story above, but it has the advantage that interest rates have hit the zero lower bound, and the threat that anything unconventional could be declared illegal. And in this real world story I too wonder why other Eurozone countries allow Germany to get away with it.

[1] In fact what Germany is doing is worse, because inflation asymmetries and debt deflation mean that the output costs of achieving zero inflation outside Germany to regain non-German competitiveness are far greater than the costs associated with 4% inflation in my story. 

Eurozone delusions

I have already had a number of interesting comments on my previous post which illustrate how confused the Eurozone macroeconomic debate has become. The confusion arises because talk of fiscal policy reminds people of Greece, the bailout and all that. That is not what we are talking about here. We are talking about what happens when the Eurozone’s monetary policy stops working.

If Eurozone monetary policy was working, the Eurozone would be experiencing additional (monetary) stimulus everywhere, and average inflation would be 2%. Because Germany through 2000 to 2007 had an inflation rate below that in France and Italy, it now has to have an inflation rate above these countries. Something like 3% in Germany and 1% in countries like France and Italy for a number of years. If ECB monetary policy was working, Germany would get no choice in this, because it is part of what they signed up to when joining the Euro.

Monetary policy is not working because of the liquidity trap, so we instead have average Eurozone inflation at about 0.5%, with Germany at 1% and France/Italy at nearer zero. That implies a huge waste of Eurozone resources. That waste can be avoided, in a standard textbook manner, by at least suspending the Stability and Growth Pact (SGP), and preferably by a coordinated fiscal stimulus.

Why is this not happening? There are two explanations: ignorance or greed. Ignorance is a non-scientific belief that fiscal stimulus cannot or should not substitute for monetary policy in a liquidity trap. Greed is that Germany wants to avoid having 3% inflation, because it controls fiscal policy.

Those that say that Germany would be ‘helping out’ France and Italy by agreeing to suspend the SGP and enact a stimulus therefore have it completely wrong. If things were working normally, Germany would be getting a (monetary) stimulus, whether it liked it or not. What Germany is doing is taking advantage of the fact that monetary policy is broken, at the rest of the Eurozone’s expense. Germany gains a small advantage (lower inflation), but the Eurozone as a whole suffers a much larger cost.

Often greed fosters ignorance. It is unfortunate but not surprising that many in Germany think this is all about Greece and transfers and structural reform, because that is what they keep being told. How many of its leaders and opinion makers understand what is going on but want to disguise the fact that Germany is taking advantage of other Eurozone members I cannot say. What is far more inexplicable is that the rest of the Eurozone is allowing Germany to get away with it.

       

Austerity, France and Memories

Just a day after ECB President Draghi acknowledges the problems caused by European fiscal consolidation, President Hollande of France effectively sacks his economy minister for speaking out against austerity. There was a key difference of course: Draghi was careful to say that “we are operating within a set of fiscal rules – the Stability and Growth Pact – which acts as an anchor for confidence and that would be self-defeating to break.” In contrast French economy minister Montebourg apparently called for a “major change” in economic policy away from austerity, and complained about “the most extreme orthodoxy of the German right”.

Whatever the politics of what just happened in France, the economic logic is with Montebourg rather than Draghi and Hollande. Once you acknowledge that fiscal consolidation is a problem, you have also to agree that the Stability and Growth Pact (SGP) is also a problem, because that is what is driving fiscal austerity in the Eurozone. The best that Draghi could do to disguise this fact is talk about an “anchor for confidence”, to which the response has to be confidence in what? He must know full well that it was his own OMT that ended the 2010-12 crisis, not the enhanced SGP.

Writing for the Washington Post recently, Matt O’Brien asks didn’t you guys learn anything from the 1930s? That the left in particular appears to ignore these lessons seems strange. In the UK part of the folklore of the left is the fate of Ramsay MacDonald. He led the Labour government from 1929, which eventually fell apart in 1931 over the issue of whether unemployment benefits should be cut in an effort to get loans to stay on the Gold Standard. The UK abandoned the Gold Standard immediately afterwards, but Ramsay MacDonald continued as Prime Minister of a national government, and has been tagged a ‘traitor’ by many on the left ever since.

Not that France needs to look to the UK to see the disastrous and futile attempts to use austerity to stabilise the economy in a depression. By at least one account, the villain in the French case was the Banque de France, which in the 1920s used every means at its disposal to argue the case for deflation in order to return to the Gold Standard at its pre-war parity, and it was instrumental in helping to bring down the left wing Cartel government. When it did rejoin the Gold Standard in 1928, the subsequent imports of gold helped exert a powerful deflationary force on the global economy.

So why has the European left in general, and the French left in particular, not learnt the lessons of the 1920s and 1930s? Why do most mainstream left parties in Europe appear to accept the need to follow the SGP straightjacket as unemployment continues to climb? Perhaps part of the answer lies in more recent memories. After many years in the political wilderness, François Mitterrand was elected President in 1981, and his government became the first left-wing government in 23 years. In the UK and US high inflation was being met with tight monetary policy, but he and his government took a different course, using fiscal measures to support demand, and hoping that productivity improvements that followed would tame inflation. Although the demand stimulus did help France avoid the sharp recession suffered by its neighbours, inflation remained high in 1981 (not helped by increases in minimum wages and other measures that raised costs) and rose in 1982, at a time when inflation elsewhere was falling. The sharp deterioration in the trade balance that followed led to pressure on the Franc, and the government’s fiscal measures were reversed. Economic policy changed course.

To a macroeconomist, this story is very different from today, where Eurozone inflation is 0.4% and French inflation 0.5%. However, the political story of the early 1980s associates fiscal stimulus and demand expansion with ‘socialist policies’, and their failure and abandonment is associated with Mitterrand staying in power until 1995. When the markets again turned on fiscal excess in Greece in 2010, perhaps many on the left thought they would once again have to subjugate their political instincts to market pressure and undertake fiscal consolidation. Unfortunately it was not the 1980s, but events over 50 years earlier, that represented the better historical parallel.

French macroeconomic policy improvisation

I’m confused about macroeconomic policy under François Hollande. When he came to power in 2012 he made deficit reduction a priority. The chance to lead some opposition to the dominant policy of austerity was lost. However where French policy did seem to differ from some other Eurozone countries was that tax increases rather than spending cuts would play a prominent role in deficit reduction. As I noted in this post, the Commission’s austerity enforcer, Olli Rehn, was not pleased.

However policy in France now seems to have taken a rather different turn. In January Hollande announced cuts to social charges paid by business. Many outside comments declared that this was a move ‘to the centre’. His speech also seemed to imply that he had become a convert to Say’s Law. But maybe there was a more modern logic to this policy: by reducing employment costs, perhaps the government was trying to engineer an ‘internal devaluation’.

Yet more recently, Hollande has appeared to pledge tax cuts to middle class voters. With non-existent growth and a rising budget deficit, the macroeconomic logic behind this policy escapes me. Many taxpayers will quite reasonably assume that any tax cuts will turn out to be temporary and will therefore save a good proportion of them, so the impact on demand will be weak compared to the cuts in public spending required to pay for them. A deflationary balanced budget cut in spending is the last thing you want with an estimated negative output gap of 3% or more. On a more positive note, he also appears to be trying to form alliances to loosen the eurozone fiscal straightjacket, although what success he will have remains to be seen.

The latest OECD forecast predicts a gradual pickup in growth, despite a sharp fiscal contraction, although this fiscal contraction is not enough to stabilise the debt to GDP ratio by 2015. The danger is the by now familiar one: that fiscal contraction will inhibit growth by more than forecasters expect, which will generate pressure to undertake additional fiscal contraction. Is there a clear strategy to avoid this outcome, or is Thomas Piketty correct when he says: "What saddens me is the ongoing improvisation of François Hollande.”

What we do know

After reading all about the latest ECB moves, I happened to read this by Noah Smith (HT MT). It made me unusually irritated, but it is not really Noah’s fault. He is right that there is much that we do not know in macro, and also right that there are many different views around. Alternative assessments of how effective the ECB’s policy changes will be illustrate that. Noah puts all this down to lack of data, rather than politics. When it comes to unconventional monetary policy this is also right. However there are some things where the data is pretty clear, and where any macroeconomist with an open mind should be able to come to a clear conclusion. But somehow this does not happen.

When pouring over the detail of what are minor moves by the ECB, there is a huge elephant in the room: fiscal policy. Too often this is portrayed by those outside as a game with two sides: the PIIGS, where austerity is a necessity because of difficulties in funding debt, and Germany, where there is no domestic interest in offsetting periphery austerity with fiscal expansion. However there is a third bloc of countries in the Eurozone, where there has been no debt funding crisis, but where there exists a large amount of spare capacity. This bloc is dominated by France (2014 output gap -3.4% as estimated by the OECD), but also includes the Netherlands (output gap -4.4%), Belgium (output gap -1.7%), Austria (output gap -3.2%) and Finland (output gap -3.8%). The chart below shows what is happening to fiscal policy in those countries.

Underlying Primary Balances: OECD Economic Outlook May 2014

All of these countries are tightening their fiscal policy this year and next: in the case of France, Finland and the Netherlands quite substantially. So the focus on Germany as a country (as opposed to its influence on Eurozone institutions), where the OECD projects some very modest fiscal expansion, is misleading. Damage is being done elsewhere, and for this group of countries where negative output gaps are large fiscal policy is just perverse.

The theory and evidence behind this last statement should not be controversial. The theoretical framework used by monetary institutions almost everywhere says that fiscal contraction at the zero lower bound will do serious damage to output and unemployment (and therefore reduce core inflation). The evidence overwhelmingly confirms this proposition. While the reasons for the Great Recession may still be controversial, the major factor behind the second Eurozone recession is not: contractionary fiscal policy, in the core as well as the periphery. So this is something we really do know. Yet too many macroeconomists seem reluctant to acknowledge this. There are the anti-Keynesians who want to deny the monetary policy consensus; there are others, who want to deny the importance of the zero lower bound; and still more, who for some other reason want to deny the importance of fiscal policy.  

This allows policymakers to continue to press for fiscal consolidation in the Eurozone, largely ignoring those economists who do challenge this policy because they just represent 'one view' within the discipline. Every reluctant and far too late bit of stimulus by the ECB is undone by the actions of the Commission and the political consensus behind austerity in Europe. As far as economists are concerned, although our macroeconomics is much better than it was 50 years ago, in this case our collective influence on policy has gone backwards. 

The Left and Economic Policy

Why does the economic policy pursued or proposed by the left in Europe often seem so pathetic? The clearest example of this is France. France is subject to the same fiscal straightjacket as other Eurozone countries, but when a left wing government was elected in April 2012, they proposed staying within this straightjacket by raising taxes rather than cutting spending. Although sensible from a macroeconomic point of view, this encountered hostility from predictable quarters, as I noted here. But in January this year President François Hollande announced a change in direction, proposing tax cuts for business and public spending cuts. When your macroeconomic announcements are praised by Germany’s foreign minister as courageous, you should be very worried indeed. Any hopes that Hollande might lead a fight against austerity in Europe completely disappeared at that point.

You could argue that France was initially trying to oppose irresistible economic and political forces, and no doubt there is some truth in that. But what was striking was the manner in which Hollande announced his change in direction. He said “It is upon supply that we need to act. On supply! This is not contradictory with demand. Supply actually creates demand“. This is not anti-left so much as anti-economics. Kevin O’Rourke suggests this tells us that to all intents and purposes there is no left in many European countries. It would indeed be easy to tell similar stories about the centre left in other European countries, like Germany or the Netherlands. With, that is, the possible recent exception of the Vatican!

Unfortunately Europe here includes the UK. Labour’s shadow chancellor, Ed Balls, was correct in saying that the government’s austerity measures were too far, too fast, yet the party now seems to want to show they are as tough on the deficit as George Osborne. (Its opposition prior to that often appeared half hearted and apologetic.) Again you could argue that they have no choice given the forces lined up against them, and again I would agree that this is a powerful argument, but I cannot help feeling that this not the complete story.

I am not trying to suggest that if Labour had taken better positions, it would have necessarily made much difference. Take the issue of flooding, where Labour did try. The BBC failed to ‘call’ this issue, by for example reproducing the official data shown here, and instead fell back on ‘views on shape of the earth differ’ type reporting. Here the BBC failed in its mission to inform, and instead behaved in a quite cowardly manner. But at least in this case Labour tried.  

What strikes me about the economic pronouncements of the Labour Party is the number of tricks they miss. On too far, too fast, for example, an obvious line of attack would have been to note how Osborne did change his policy (proclaiming U turn! finally followed our advice etc). In addition they could say the recovery only took place once austerity was (temporarily) abandoned. Simplistic stuff I agree, but this is politics. To take a much more recent example, an easy line for Labour to take on the last budget and pensions was that Osborne’s policies would reduce incomes for prudent pensioners. Yet all Labour seems to be saying is that they will support the reforms, but want to wait to see the details. In other words, there is no opposition to the government’s claim that this was a budget for savers and pensioners.

With austerity and pensions there may be subtle factors that I have missed, but in their absence one conclusion you could draw is that the Labour Party in the UK is not getting good economic advice. I’m afraid I have no deeper knowledge on whether this is true or not. That has to be the conclusion in the case of Hollande’s apparent embrace of Says Law. Yet I doubt that the left does not want good economic advice. As I noted here, in the last Labour government the influence of mainstream economics had never been greater. Is this a paradox?

Perhaps not, if you think about resources and institutions. Seeking out good advice (and distinguishing it from bad advice) takes either money or time. An established government finds this much easier than an opposition or a new government. When labour came to power in 1997 they did immediately introduce well researched and judged innovations in monetary and fiscal policy, but they had had 18 years to work them out.

In addition, with the Eurozone there may be a factor to do with governance. I have just read a fascinating paper by Stephanie Mudge, which compares how economic advice was mediated into left wing thinking in the 1930s compared to today. To quote: “it stands to reason that an economics that works through inherently oppositional national-level partisan institutions would be especially fertile terrain for the articulation of alternatives; an economics that keeps its distance from partisan institutions and is more removed from national politics, but is closely tied to Europe’s overarching governing financial architecture, probably is not.” What is certainly true for both the Eurozone and the UK is that leaders of independent central banks often appear naturally disposed to fiscal retrenchment.

This gives us two problems that occur for the left and not the right. However the right has two problems of its own when it comes to getting good policy advice. The first comes from a key difference between the two: the right has an ideology (neoliberalism), the left no longer does. The second is that the resources for the right often come with strings that promote the self interest of a dominant elite. So although the right has more resources to get good economic advice, these strings and their dominant ideology too often gets in the way. But what this ideology and these resources are very good at is providing simple sound bites and a clear narrative.

  

France and the Commission

The platform I use for this blog gives my ‘pageviews by country’. One surprise is that, using this criteria, the country which comes third in the list, after the US and UK respectively, is France. (Over the last month, for example, about 12,000 pageviews compared to about 36,000 in the UK and around double that in the US, with a whole group of countries below France at around 5,000.) This is really nice, particularly as I have only once written a post specifically about France, over a year and a half ago.

So a recent post by Ronald Janssen in the Social Europe Journal allows me to make up for that. First some background if you do not live there. France is subject to the Fiscal Compact’s 3% budget deficit target like everyone else in the Eurozone.  European Commissioner Olli Rehn is the chief enforcer of these rules. In May the Commission granted France, along with a few other countries, 2 years grace before they needed to achieve that target. The Netherlands was given only one year, with consequences I talked about most recently here.

The chart below shows OECD numbers and forecasts for various fiscal measures in France. The financial balance relates to the 3% target. The underlying balance essentially cyclically adjusts this. As you can see, the key reason that France is not meeting the 3% target is depressed output. The OECD estimates the output gap in 2013 will be nearly -4%, rising in magnitude to -4.5% in 2014. The underlying primary balance is the best indicator of what government policy is doing: fiscal policy has been tightening ever since a sharp expansion following the 2008/9 recession.

  

So far, so typical of the Eurozone and elsewhere. However what makes France relatively unusual is the pattern of this tightening. As the IMF clearly showed in analysis I discussed here, it has achieved this fiscal contraction entirely through tax increases rather than spending cuts. The first best thing to do, of course, is to delay fiscal tightening until the output gap has closed. The Eurozone’s fiscal rules will not allow that, and instead in the current context encourage pro-cyclical fiscal policy. I have never met a macroeconomist who advocated pro-cyclical fiscal policy, but of course those behind the Fiscal Compact know best.

If you have to follow the Fiscal Compact, then I have always argued from the point of view of doing least damage to the economy in a recession any temporary fiscal tightening should focus more on tax increases than spending cuts. You might, for example, try to meet the Fiscal Compact rules in the short term through temporary tax hikes, and follow with more permanent spending cuts and/or tax increases once the economy recovers. To a first approximation that appears to be what the left wing government in France is trying to do (most notoriously by temporary increases in the top tax rate).

My argument has always been based on straightforward macroeconomic theory, but as Ronald Janssen points out in his post, this is fully supported by recent IMF empirical work. It is therefore entirely predictable that European Commissioner Olli Rehn should take completely the opposite point of view. He is quoted as saying that new taxes would “destroy growth and handicap the creation of jobs." “Budgetary discipline must come from a reduction in public spending and not from new taxes,” he added.

Now I'm not sure whether that counts as advice or instruction: within the Eurozone it is increasingly difficult to tell. I suppose you could argue that Rehn’s concern is more about the longer term size of the French state, and that his obvious belief that the French state is too big comes purely from worries about the implications for macroeconomic performance. But what struck me was simply this. In the election of April 2012 the French people elected a left wing government that had a clear platform of achieving fiscal consolidation partly through tax increases. Even if the Commissioner thinks that is a foolish thing to do, that is their choice.

It is one thing to have a set of fiscal rules that focus on overall budget deficits: however misguided those rules may be, the French government did agree to them. What I do not think any Eurozone government signed up to was having the Commission tell them what the size of their own state should be. With these remarks, together with its insistence that various Eurozone countries undertake certain ‘reforms’, the Commission appears to be doing its best to create a de facto fiscal union. The only problem, of course, is that the French did not elect Olli Rehn.