Economic illiteracy in the service of economic misanthropy: An Econ 101 reminder of the meaning of the multiplier for austerians

Here is a quote from a recent pro-austerity article in an Establishment Greek newspaper: “Let us not forget that [Greece’s] primary surplus in 2009 was 10% and the result was a recession of 2.8%. Thus the fiscal multiplier was -3.5, not 0.5, not 0.75, not 1.7!” The author’s purpose, of course, was to argue that the IMF’s mea culpa regarding the mis-calculation of fiscal multipliers was, in fact, grossly exaggerated; that if there was an error it was one of over-estimating Greece’s multiplier rather than underestimating it. Indeed, through his illiterate eyes, Greece’s multiplier appears to the article’s author… negative, a negative 3.5, and thus he comes to the remarkable conclusion that the nation’s problems would be, as the author in fact argues, “to hand over the keys” to Greece’s creditors.

It is now becoming obvious that economic illiteracy has forged an unbreakable alliance with economic misanthropy and self-hatred by certain members of the Greek Establishment’s Commentariat. But let me, for now, stick to the ‘economic illiteracy’ part of this unholy alliance.

As high school students taking economics know,

Y = Jμ – Wλ

where,

  • Y is national income (GDP)
  • J are the injections into a macroeconomy (i.e. the sum of government expenditure, export income and, of course, investment)
  • W are the withdrawals from the macroeconomy’s circular flow of income (i.e. the sum of taxes paid, expenditure on imports and money saved)
  • μ is the injections multiplier, which in turn equals to 1/m, with m being the percentage of the last euro of national income that was withdrawn from the macroeconomy’s circular flow of income (e.g. taxed by government, spent on imports or saved) – m is also known as the marginal propensity to withdraw
  • λ is the withdrawals multiplier, which equals the ratio (1-m)/m

What happened in 2009 in Greece, and of course elsewhere, was that investment suddenly fell sharply (following the Credit Crunch, the reversal of capital flows into the Periphery, and the increase in interest rate spreads etc.). Thus, injections J fell considerably. With a value of m approximately equal to 0.5 (i.e. of the last euro of GDP 50 cents were either saved, spent on imports or saved) giving an injections multiplier μ of around 2, for every billion of lost investment GDP fell by 2 billion. As national income fell, say by 2 billion, taxes fell too and, to boot, the government’s expenditure increased due to the increase in unemployment and the extra costs of unemployment (and other related) benefits – not to mention the money that went to prop up the defunct banks.

Thus, in 2009 we had both an increase in the government deficit (and expenditure) and a reduction in national income (the recession of 2.8% that the article mentioned). This is the stuff of recessions. But to surmise from this observation that the injections multiplier (which equalled 2 during these developments) was negative (and equal to -3.5) is the height of economic illiteracy! 

So, the question becomes: Why do ‘venerable’ newspapers publish such illiterate tracts? The answer, I am afraid, must be sought in the Establishment’s desperation to persevere with an austerity program that even its authors, the IMF, has abandoned. And why such a commitment? Because it is essential to the preservation of the alliance between Greece’s time honoured Cleptocracy and our newfangled Bankruptocracy.