The CBO's forecast, with and without "austerity"
By Scott Sumner
After my previous post, commenters James (in London) and Jeff directed me to the official CBO forecasts of August 2012, with and without austerity:
CBO’s Baseline: Taking into account the policy changes listed above and others contained in current law, under CBO’s baseline projections:
• The deficit will shrink to an estimated $641 billion in fiscal year 2013 (or 4.0 percent of GDP), almost $500 billion less than the shortfall in 2012.
• Such fiscal tightening will lead to economic conditions in 2013 that will probably be considered a recession, with real GDP declining by 0.5 percent between the fourth quarter of 2012 and the fourth quarter of 2013 and the unemployment rate rising to about 9 percent in the second half of calendar year 2013.
• Because of the large amount of unused resources in the economy and other factors, the rate of inflation (as measured by the personal consumption expenditures, or PCE, price index) will remain low in 2013. In addition, interest rates on Treasury securities are expected to be very low next year.
An Alternative Fiscal Scenario: To illustrate the consequences of possible changes to current law, CBO has produced projections under an alternative fiscal scenario that incorporates the following assumptions: that all expiring tax provisions are extended indefinitely (except the payroll tax reduction in effect in calendar years 2011 and 2012); that the AMT is indexed for inflation after 2011; that Medicare’s payment rates for physicians’ services are held constant at their current level; and that the automatic spending reductions required by the Budget Control Act, which are set to take effect in January 2013, do not occur (although the law’s original caps on discretionary appropriations are assumed to remain in place).
That set of alternative policies would lead to budgetary and economic outcomes that would differ significantly, both in the near term and in later years, from those in CBO’s baseline:
• In 2013, the deficit would total $1.0 trillion, almost $400 billion (or 2.5 percent of GDP) more than the deficit projected to occur under current law.
• The economy would be stronger in 2013: Real GDP would grow by 1.7 percent between the fourth quarter of 2012 and the fourth quarter of 2013, and the unemployment rate would be about 8 percent by the end of 2013, CBO projects.
Now in fairness the actual austerity was not quite as bad as it might have been. The deficit fell roughly $400 billion to $680 billion in fiscal 2013, a reduction about 10% less than the predicted amount, which would have produced an estimated $641 billion deficit with the entire fiscal cliff enacted. But that’s certainly a lot of austerity compared to keeping the deficit at a trillion dollars.
Obviously the economy did much better than the negative 0.5% RGDP growth and 9% unemployment in late 2013 that were expected by the (Keynesian) CBO. But even more strikingly it did far better than the 1.7% RGDP growth and 8% unemployment at yearend in the alternative scenario.
In fact, RGDP grew 3.12%, and unemployment fell to 6.7%.
Here we have not only the economy reacting to the Great Austerity Experiment better than predicted by the CBO, but even far better than predicted if there were no austerity.
Does this ring a bell? Do you remember the Great Stimulus Experiment of 2009? The time that the unemployment rate didn’t just rise much more than expected in response to the stimulus, it rose far more than expected under the alternative scenario of no stimulus!
In that case the Keynesians said something to the effect that the crisis turned out to be far worse than expected. I’m actually not sure that’s true; we pretty much knew the size of the financial crisis when the forecasts were made. But I’ll cut them some slack; the severity of the GDP decline in late 2008 was not fully understood.
But that excuse hardly applies to 2013, which was a run of the mill recovery year much like all the others of the past 5 years—with no notable shocks.
Except of course for the Fed’s stimulus, which the market monetarists predicted would offset the effects of austerity, and did so.
Two grand Keynesian experiments and two abject failures. Followed by two times where the Keynesians started crowing about how they’d been right about everything. You can’t make this stuff up.
PS. Some people ask me; “If the Keynesian model is so bad then why do experts like the CBO use that model?” Good question.