The Issue Of Latvia's Recovery
Which brings us to recent the controversy over how Latvia's strong recovery should be interpreted.
Both Paul Krugman and Matthew Yglesias criticize again the view that Latvia shows that austerity can lead to economic success, using the argument that GDP and employment is still significantly below the 2007 peak levels. However, as I wrote a few months ago:
But the issue here isn't whether or not Latvia should be content with the current state of affair in its economy, as far as I know no one has asserted that they should be (and I certainly don't think they should be content). The issue is what effect the austerity measures had, and when you evaluate a certain policy, you should compare current GDP and unemployment not with some previous cyclical peak, but with the point in time when the policy was implemented. And Latvia didn't implement austerity in 2007 or 2008, they implemented them mostly in 2010 and 2011. And GDP grew and unemployment fell significantly in both 2010 and 2011.
Krugman really just pretends to not understand this, because he has tried to make a similar argument about Iceland. Iceland like Latvia had a deep slump, from which it has, again like Latvia, partially but only partially recovered. Yet the fact that the recovery has only been partial hasn't stopped Krugman from using it as evidence for the conclusion that currency devaluation works. That is despite the fact that the actual data provides no support for that causal analysis as most of the slump came after the devaluation, and recovery started only nearly two years after the currency had stabilized .
BTW, Yglesias is wrong in stating that Latvia's cumulative recovery has only been 5%, it's actually been more like 15%