WHY AUSTERITY IS A DANGEROUS IDEA: When everyone tries it at once, austerity makes the debt
bigger, not smaller
The current debt and deficit panic is nothing new. It’s been
a staple of American politics since the Republic’s inception. But this season
it has taken a new turn. Congress,
the fiscal arm of the government, is engaged in asymmetric siege warfare. On
one side the Republicans want only cuts, on the other the Democrats want both
cuts and tax increases. Both agree however that cuts are absolutely necessary;
the only question is the timing and magnitude involved. Unfortunately, budget
cuts are exactly the wrong thing to do at this moment. And before anyone throws
up their hands and says “Keynesian claptrap,” there is nothing necessarily
Keynesian in what I am about to say. Simple logic and arithmetic will suffice.
Austerity,
the policy of cutting state spending to solve debt and growth problems, sells
itself to us through a strange combination of morality and seduction. Its moral
claim lies in the love of parsimony over prodigality that characterizes
economic thought from Adam Smith onward. In this morality play, saving leads to
investment, and investment leads to growth. Spending, in contrast, leads to
consumption, and consumption leads to debt, especially when the government is
involved. What we see in Greece therefore
is simply the most egregious example of a secular trend toward overspending. We
must cut to restore ourselves and not become Greece. So the story goes. Austerity
suggests that you can have your cake and eat it too, but only when you cut the
cake first. Cuts are seen to
be growth enhancing, not growth retarding. They restore that all-important
“business confidence” necessary for the economy to function. There is however a
rather big problem with this line of thinking. The first is that for people to
save, they need to have income from which to save. So if you are, for example,
a state in the euro zone today, and every similar state saves at the same time
by cutting spending, the result is the shrinkage of everyone’s economy since
they are one another’s trading partners and sources of income. Perversely,
their debt goes up, not down, relative to their (shrinking) GDP, which is what
has happened to every European country that has undergone an austerity program
since 2010. They now have more debt, not less.
Austerity, when everyone tries it at once, makes the debt
bigger, not smaller. The E.U. is one of the two largest growth centers of the
global economy. If the U.S., the other big one, decides to join in this
“austerity binge” the result will be more, not less, U.S. debt and an even
bigger growth crisis for the global economy. So why then did so many countries
in Europe do this? It’s about money all right, but not in the way you think. As
we found out in the mortgage crisis in the U.S., you can’t have over-borrowing
without over-lending, and core European banks (which are twice the size and
three times as levered up as their “too big to fail” American counterparts)
over-lent to southern Europe on an epic scale, spending northern European
savings in southern European bond markets and stuffing their balance sheets
with those bonds in the process. Now that these bonds have gone bad, deprived
of national currencies with which the governments responsible for these banks
could bail them out (a side effect of the euro) European states are reduced to
cutting, adding liquidity and praying while the situation goes from bad to
worse. Cutting in such a world turbo charges the already bad shrinkage problem.
What about the theory that cuts will lead to greater
confidence if only we lose our fear of the cuts and really go for it? The
technical, and very non-Keynesian idea here is called the expansionary
fiscal-consolidation hypothesis. It goes like this: when the government
cuts spending in the middle of a recession, despite the economy falling about
our ears with jobs and income evaporating around us, we will know that years
ahead the state will be smaller and so we will pay less taxes relative to our lifetime
income. Buoyed by this knowledge we will spend more today, despite the
recession, thereby curing it. This is the mechanism that is supposed to make us
all more confident and spend more. If you know anyone in the world who actually
behaves like this, don’t lend them any money.
Given then that cuts lead to more debt and less confidence;
does it follow that we can have whatever level of debt and deficit we like with
no consequences? Absolutely not. And this is where a Keynesian idea is
appropriate: that the time for austerity is the boom, not the
slump. Countries that have successfully reduced debt have done so when
others are expanding and their own economy is booming, which makes perfect
sense. This is why austerity is a dangerous idea: it doesn't work in the world
that we actually inhabit. In the imaginary world of austerity, cuts always
happen to someone else. Sadly, as Europe is proving all too well, in the world
that we actually inhabit there is no “someone else” to pass the costs on to as
we all try to shrink to grow.
Mark
Blyth: Mark Blyth is a
professor of International Political Economy at Brown University and the author
of Austerity: The History of a Dangerous Idea.
Further Reading on Austerity on the Links Below:
No comments:
Post a Comment