In his new testimony, Ben Bernanke basically endorses the “U.S.-could-be-Greece” line.Even the prospect of unsustainable deficits has costs, including an increased possibility of a sudden fiscal crisis. As we have seen in a number of countries recently, interest rates can soar quickly if investors lose confidence in the ability of a government to manage its fiscal policy. Although historical experience and economic theory do not indicate the exact threshold at which the perceived risks associated with the U.S. public debt would increase markedly, we can be sure that, without corrective action, our fiscal trajectory will move the nation ever closer to that point.
This is pretty annoying for a few reasons.
One, it dramatically undermines his more important warnings that sudden fiscal tightening could destroy the economy.
Two, there doesn’t seem to be any evidence that a country that can borrow in its own currency faces this kind of fiscal crisis risk.
The big risk for the U.S. is that it will become Japan, and yet Bernanke’s testimony gives rise to those who fear we’ll be the next Greece.
UPDATE: If Richard Koo were to comment on Bernanke’s testimony, he’d call it “indecent.”
Arguing need for longer-term fiscal consolidation is irresponsible
The insistence that fiscal consolidation is necessary in the longer term is like the doctor who, faced with a patient who has just been admitted to the intensive care ward, repeatedly questions the patient about his ability to afford the treatment. This is both lacking in decency and irresponsible.
If the patient loses heart after learning the cost of the treatment, he may end up spending even longer in the hospital, leading to a larger final bill. Completely ignoring the policy duration effect of fiscal policy and constantly insisting on longer-term fiscal consolidation was what prolonged Japan’s recession.
For instance, it was because Japan’s policymakers refused to give up the medium-term fiscal consolidation target of achieving a primary fiscal balance by 2011 that the government stumbled from fiscal stimulus to fiscal retrenchment and back again and, ultimately, was unable to meet its fiscal targets even once in the last 20 years.
That is why Japan’s recession lasted as long as it did and why the nation’s debt has risen to some 200% of GDP.