The Cedar Lounge Revolution

Austerity measures… and an outline alternative. June 24, 2010

It’s gloomy days, and not much to be cheerful about, but if you want to fast forward to at least one attempt to look past the gloom scroll down to the last paragraph. Otherwise…

Paul Krugman had a most interesting piece in the Irish Times this week on the attitude that is driving austerity in Europe. As he notes:

creating jobs is out, inflicting pain is in.

And…

But despite these warnings, the deficit hawks are prevailing in most places – and nowhere more than here, where the government has pledged €80 billion, almost $100 billion, in tax increases and spending cuts even though the economy continues to operate far below capacity.
What’s the economic logic behind the government’s moves? The answer, as far as I can tell, is that there isn’t any. Press German officials to explain why they need to impose austerity on a depressed economy, and you get rationales that don’t add up. Point this out, and they come up with different rationales, which also don’t add up. Arguing with German deficit hawks feels more than a bit like arguing with US Iraq hawks back in 2002: They know what they want to do, and every time you refute one argument, they just come up with another.

And…

German deficit hawkery seems more sincere [than the US variant - he points to the hypocrisy of those who would refuse to extend unemployment aid in Congress at a cost of $77bn while waving through Bush era tax cuts of $1.3 trillion]. But it still has nothing to do with fiscal realism. Instead, it’s about moralising and posturing. Germans tend to think of running deficits as being morally wrong, while balancing budgets is considered virtuous, never mind the circumstances or economic logic.
“The last few hours were a singular show of strength,” declared Angela Merkel, the German chancellor, after a special cabinet meeting agreed on the austerity plan. And showing strength – or what is perceived as strength – is what it’s all about.
There will, of course, be a price for this posturing. Only part of that price will fall on Germany: German austerity will worsen the crisis in the euro area, making it that much harder for Spain and other troubled economies to recover. Europe’s troubles are also leading to a weak euro, which perversely helps German manufacturing, but also exports the consequences of German austerity to the rest of the world, including the United States.
But German politicians seem determined to prove their strength by imposing suffering – and politicians around the world are following their lead.

And there’s an echo of this in David McWilliam’s piece this weekend in the Sunday Business Post where in the context of the Irish situation, which is without question somewhat – but not absolutely – different. He notes that the interbank market in Europe is ‘seizing up’ as the the realisation of how heavily exposed European banks may be to Greece, Spain and… er… us. €776 billion in total which, as he says, is a level of debt that could ‘destroy the German and French banking systems’ – although as we now know there’s almost no such thing as a destroyed banking system in an era where private malpractice and mismanagement and inefficiency is dealt with by socialisation of the bill:

The EU’s politicians have announced they are going to stress test 25 of Europe’s banks but, without any of these banks being declared bankrupt after the stress test, the test is merely another symbolic – and credibility-draining – gesture.

Are they prepared to say which banks are bust and which are not? The tests will have to identify those banks that need an immediate injection of equity. If they don’t do this, the markets will conclude that the banks are all in a mess, and sell them all accordingly.

Any further sell-off of European bank shares tightens the credit crunch further, and the interbank market gets less liquid. This is the economic backdrop to this weekend’s meeting of our EU leaders in Brussels. Amazingly, the leaders are yet again driving an agenda to cut budget deficits right back. With no signs of internal demand and a banking crisis, where do these guys think Europe’s growth will come from?

Where indeed, for as Michael Taft notes on Progressive-Economy, the markets sure aren’t trying to help anyone in all this, not when, as he quotes Joseph Stiglitz in the Sunday Tribune (presumably, now I think of it, syndicated – no?) as pointing out that in the Spanish context the markets have ‘after it announced cutbacks, the ratings agencies have downgraded its debt because of a result of those cuts!’.

For those of us watching the markets this isn’t exactly a surprise. Michael Taft compares Stiglitz’s prescription of ‘supporting growth through higher spending on public investment and infrastructure’ with McWilliams piece which argues for much the same, noting that ‘government spending in productive assets, like education or infrastructure, … means that, on one side of the balance sheet is debt, on the other side is an asset… which offers a return on investment [through higher productivity]‘.

But all this depends on us reconsidering the economic policies of this state, as developed across decades. Larry Elliot in the Guardian makes one central point, and this is vastly more applicable to this state than even the UK.

Ultimately, Osborne’s budget will be judged against its impact on growth and the signs are not especially encouraging. There are four components that make up gross domestic product: household spending, investment, net exports and government consumption. Last week’s report from the Office for Budget Responsibility showed that the cuts in state spending will shave around half a percentage point off growth in each of the next four years. The assumption is that the private sector – through a combination of higher consumer spending, a pick-up in investment or an improvement in Britain’s trade performance – will compensate.

Which is pretty much the hope here. It’s fingers crossed stuff.

Finally for this particular discussion, but most importantly, here’s something to very slightly cheer us up. It’s a set of outline proposals for an alternative economic approach that diverges from the orthodoxy. Produced by Michael Taft this serves very much as a base-line for where to go next. He notes that international borrowing is now much less of a prospect than it was at the start of the crisis, but he points to alternative sources of funding for investment to effect some measure of stimulus.

Worth considering seriously as an alternative to the current sturm und drang.