The US recovery wasn’t wrecked by massive cuts
T HE ECONOMIC recovery in the United States is well underway. The trough of the recession was reached in the second quarter of 2009. Since then, real GDP has risen for ten successive quarters and now stands above its previous peak at the end of 2007. By any standards, the recession in America is over.
The speed of recovery was fairly sluggish when compared with most recessions since the Second World War. But this is not surprising given the truly massive shock of the financial crisis. Unemployment does remain high, but it has fallen nearly 2 per cent since a peak of 10 per cent at the end of 2009.
Contrary to received wisdom, the recovery appears to have been driven by expansionary fiscal contraction. To many people this phrase is an oxymoron. How can fiscal contraction be expansionary? But the evidence suggests that this is exactly what has been happening in the United States.
Real GDP has grown by over 6 per cent since the second quarter of 2009. Where has the growth come from? Not from public spending. Current public expenditure in real terms fell by $66bn (£41.7bn), or by some 2.6 per cent, between the second quarter of 2009 and the fourth quarter of 2011.
The private sector has grown and the public sector has contracted. Private consumption rose by $500bn, by over 5 per cent. Most impressively of all, investment rose by $470bn, or a staggering 33 per cent. True, some of this was a turn round in the inventory position, but delving into the data we can see that, while residential investment flat-lined, investment in equipment and software rose by 32 per cent. Overall, the private sector delivered growth.
The employment figures tell the same story. Employment changes tend to lag behind output, and the lowest level of total employment was not reached until February 2010, when 129.2m people were employed.
Between then and January 2012, public sector employment fell by 500,000. But private sector employment rose by nearly 3.7m – a net increase of 3.2m. A net increase of over 3m jobs when the public sector was being cut is remarkable.
The falls in current public expenditure are particularly significant. When economists use their models to try and calculate the size of the “multiplier” – how much the economy eventually expands following a fiscal stimulus – this is the standard way of asking the question. The models, for what they are worth, estimate the overall impact of a sustained increase in current public expenditure. Well, in real-life America, a sustained reduction was accomplished alongside overall growth and a substantial increase in employment.
Other things have been going on. The Federal Reserve learned a crucial lesson from the 1930s and followed an expansionary monetary policy, in complete contrast to the disastrous monetary contractions during the Great Depression. But current public expenditure, the classic tool of fiscal policy, has been cut and jobs have been lost in the public sector. And all the while, overall output and employment have grown.
Paul Ormerod is a founding partner of Volterra Partners and fellow of the British Academy for the Social Sciences.