Thursday, July 19, 2012
Something for everybody on the IMF's menu
Posted by David Smith at 06:45 PM
Category: Thoughts and responses

The IMF's detailed Article IV consultation document on the UK economy is interesting, not least because of the ground it covers. Those who think the Office for Budget Responsibility went too far in revising down the estimate of Britain's output gap - spare capacity - will find comfort in the fact that the IMF agrees.

The IMF thinks the output gap is 4%, the OBR 2.7%, The difference between the two numbers translates into a smaller amount of future fiscal tightening that will be needed to eliminate the structural budget deficit.

On fiscal policy more generally, the key point will be reached in early 2013. If growth fails to pick up, then the planned fiscal consolidation for next year, 1.5% of GDP, should be cut back. The IMF thinks this could be achieved as long as the government puts in place credible deficit-reduction measures for the longer-term such as accelerating the increase in the state pension age.

The IMF says fiscal policy was too loose before the crisis, which contributed to the present difficultiues, though most of Britain's fiscal problems arise from the impact of the crisis. It thinks the government should look at scaling back public sector pay and welfare entitlements to make room for more infrastructure spending.

Is it an open call for a Plan B? Not yet, and what comes over strongly from the document is the extent of uncertainty over the effects of fiscal policy. It backs more quantitative easing, lower interest rates and credit easing measures. Its thoughts on fiscal policy are in two parts:

"Budget neutral reallocations should be undertaken to make room to increase
government spending on items with higher multipliers (e.g., public investment)."

And: "The planned pace of structural fiscal tightening will need to slow if the recovery fails to take off even after additional monetary stimulus and strong credit easing measures."

The report is here. You get the sense that the IMF is using the example of the UK to forge a new and more rounded version of the Washington consensus. Some of the things it is concerned about, for example the hysteresis effects of high unemployment (essentially people who don't work losing the ability to work productively) suggest a more stagnant labour market than recent figures have suggested. If they apply to Britain, they apply to other countries in Europe even more.