More Evidence That Austerity During Depressions Works

Sorry, no. I am being sarcastic.

From Bloomberg:

The U.K. economy shrank in the first quarter as construction output slumped, pushing Britain into its first double-dip recession since the 1970s and raising pressure on officials to salvage the recovery.

Gross domestic product contracted 0.2 percent from the fourth quarter of 2011, when it shrank 0.3 percent, the Office for National Statistics said today in London.

Last month I described Britain’s problems: GDP levels have never recovered to pre-crisis levels, the unemployment rate continues to climb from post-crisis levels, government debt level continue to climb, inflation levels are elevated, and all of these metrics are somehow worse than the situation in America. 

And now Britain is back in recession.

The bottom line here is that trying to conduct an austerity program during the depths of a recession is dangerous. Less government spending and higher taxation translates into falling incomes for many, which often translates into falling tax revenues (as is the case here), which means that “deficit reduction” just produces larger deficits. Greece is the extreme example.

Nations in the Eurozone that have seen the most growth have conducted the least austerity:


So what would a successful conservative economic program look like today?

Well, until the nation is out of the slump and consistently growing, it should begin and end with slashing regulation and barriers to entry so that more unemployed people can become self-employed. It could include some form of program to encourage taxpayer-funded banks to lend to people who want to start businesses, for the same reason.

While not throwing around stimulus slush money (for that tends to end up in the pockets of well-connected corporations) it would maintain spending levels, and look to redirect some spending toward more productive endeavours for instance giving small businesses tax breaks for every job they create, or every factory they open.

The welfare cuts must wait until there is a strong and self-sustaining recovery, for when the economy is creating lots of jobs, for when there is a demand for labour. Slashing welfare when there are no jobs to go to is totally self-defeating.

The deficit reduction must wait until tax revenues are consistently rising due to a strong and self-sustaining recovery.

It frightens me that conservative voices have gotten this so hideously wrong. We had a decade of fiscally reckless government, where governments, consumers and businesses totally forgot the imperative to save in the fat times to spend in the lean, and joined the leverage mania and the derivatives casino. That was dangerous and foolish. And now policymakers have chosen to focus on deficits at precisely the wrong time. It is absolutely the worst of both worlds.

About these ads

71 thoughts on “More Evidence That Austerity During Depressions Works

  1. And the environment finally pokes its mouth out of the water and takes a breath.

    Time to move into the house Grandmother left behind. Use her car and household goods. Spend all that spare time learning, loving living. Maybe the rust can be sanded, the stones in London scrubbed, the Thames refreshed.

    Go out to Sherwood Forrest and plant new trees on the peripherary. Perhaps if we place a monetary value on these actions, we’ll have growth, but a real growth.

  2. Pingback: More Evidence That Austerity During Depressions Works « Financial Survival Network

    • It would be great to move into Grandma’s house. Get married, have a child, take them to the park, to a game, fishing, hunting. You know actually enjoy life. Instead of 7-7 work (Including dressing and commute time) then doing chores on the weekend, so we can have the 20 plasma TV, consumer goods, new car, bigger house, repay the loan.

  3. Slashing regulation and barriers to entry is also virtually free.

    But, it would mean a lot of lawyers, accountants (I mean sheesh the US tax code is now 71,000+ pages long, busy work for accountants) and the well connected would be most affected.

    I can’t say I’m an expert on UK economics, but from what I gather, we’re in the same boat.

    • Slashing regulation and barriers to entry is also virtually free.

      This is the key. You don’t need to spend money to produce an economic recovery. You need to get the government out of the way.

      • As an Accountant in Australia, I agree!

        As a company (Corporations grow into monsters) grows it seeks various strategies to minimise tax. Transfer pricing with a foreign subsidiary is one. But the Australian Tax Office (IRS) is onto this. There is little one can get away with these days, but as a result the tax code is huge.

        However one can take risks and hope the incompetent tax man does not catch you. It is illegal but if one multiplies the risk of a fine and repaid tax by the probability of getting caught, the downside is small.

        I actually wrote to the Treasurer of Australia, Wayne Swan on this matter. I said there are a lot of Accountants and Lawyers making a living off unnecessary complexity. This costs money, and is a drag on other more productive areas. For example, spending ones money on Accountants depletes the available dosposable income to give to research on cure for cancer.

  4. I have my doubts. If you didn’t do it during the fat years, and default is catastrophic (and you decide it’s not a choice), and either the bond market pressures you to do it or simply the economy cannot recover (i.e. getting back to those fat years) until the underlying structural problems are fixed (reflating a flawed system?), then you still have to do it at some point and take the damn pain (no matter how many years it will take).

    Many small countries that no one ever hears about have done it again and again simply because they felt they’re insignificant and have to take the pain because no one gives a damn about them. But not the big shots; no, they can’t take the pain, why would they? There must always be alternatives, because their populations are so educated, their workforce so strong, the “potential capacity” (laughable term) of their economies so high etc. etc.

    From AEP: http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/9189398/Europe-and-the-Law-of-Sticky-Wages-technical.html

    The Baltic states have done so in very particular circumstances, but mostly with devastating falls in GDP (26pc top to bottom in Latvia, and some have the gall to cite Latvia as a success story).

    Really? Who gives a damn about the GDP and the fact that it fell by 26% over a few years?

    • Really, engaging in a program that leads to a 26% drop in GDP and a spike in unemployment is stupid and self-defeating, whether you’re a minnow or whether you’re a giant.

      I don’t even thinking austerity will fix underlying structural problems, either. If you’re slashing welfare with no jobs for people to go to you’re by no means “fixing underlying problems”. If your country has a regulatory environment that lets the unemployed become self-employed, then maybe, but in a nation where it is very difficult to start a business or become self-employed due to regulation and barriers to entry this is just shooting yourself in the head.

      Plus, look at Greece. The more they cut spending, the more tax revenues fall, the bigger the deficits become. It’s a swift road to total fiscal breakdown.

      By the way, the more austerity goes on and the more damage it does (yes, having people sitting on the unemployment scrapheap for years is damage) the better Paul Krugman will look. Making Paul Krugman look good is not a good idea, because he is mostly wrong about the larger picture.

      • Really, engaging in a program that leads to a 26% drop in GDP and a spike in unemployment is stupid and self-defeating, whether you’re a minnow or whether you’re a giant.

        I wouldn’t think so; the pain was sharp and then it ended – there’s a reason he said top to *bottom*. And you yourself agree GDP is more or less a meaningless number.

        • the pain was sharp and then it ended

          Greece? I don’t see the pain ending. I see Greeks exiting the Euro-denominated economy and going into the black market. This is a short road to total fiscal collapse. GDP does effect one key thing — tax revenues.

        • AEP seems to agree with me:

          Yes, Mussolini pulled off a 20pc cut in wages with Fascist control over the unions to underpin his Lira Forte policy in the late 1920s. How can a democracy bring about such cuts in private sector wages without use of police coercion?

          The Baltic states have done so in very particular circumstances, but mostly with devastating falls in GDP (26pc top to bottom in Latvia, and some have the gall to cite Latvia as a success story). Such economic contractions across Club Med as a whole would be large enough in aggregate to tip the whole eurozone into catastrophe.

        • Yes, Mussolini pulled off a 20pc cut in wages with Fascist control over the unions to underpin his Lira Forte policy in the late 1920s. How can a democracy bring about such cuts in private sector wages without use of police coercion?

          I can’t disagree with this. And I do agree the future of the euro currency looks uncertain. But he was not talking about austerity (the one you talked about in your article) above. He was talking about the choice between explicit pay cuts, or being bamboozled by destroying the currency (in order to gain back productivity across the entire economy).

        • Such economic contractions across Club Med as a whole would be large enough in aggregate to tip the whole eurozone into catastrophe.

          I agree with Roubini (for once) that austerity is necessary here and now even in the EZ. He says that it should be offset by monetary stimulus. Italy may choose the “bamboozle by destroying the currency” path (but it’s funny that even the population doesn’t want it when they have a choice – if the country has a printing press, the population doesn’t have a choice; people in Germany, Netherlands, France are much more pro-euro-exit because they don’t fear a weak currency so much). I do believe however there’s a possibility for EZ with Italy inside to survive if that “monetary stimulus” is correctly applied to ease the pain of severing those unworkable economic structures (could come for example from EU structural funds and be targeted specifically at creating productive jobs etc.).

          I can’t agree with any statement of the form: economist X is right. I’ve already seen that video and could tell Keen is very sure of himself even though it’s pretty clear he doesn’t fully understand everything he’s talking about throughout the video. Most self-described economists are windbags only talking slight variations on the views espoused by their own posses. I’m not an economist so I can afford the idea that I’m spewing garbage (which I probably do a lot, but hopefully not most of the time). The answer to the question “How many times have you been wrong in the past, or how often did you have doubts regarding your own views?” is to me very telling w.r.t. the competence of a person in any matter.

      • Plus, look at Greece. The more they cut spending, the more tax revenues fall, the bigger the deficits become. It’s a swift road to total fiscal breakdown.

        There’s no easy path. You can’t expect to remove barriers of entry and improve the business environment and hope the people on welfare or state payroll to start businesses. And I believe the idea of self-employment is a non-issue (I don’t know of any country of significant size where single self-employed people make a difference) – making it easy to start a business yes (but this is a different matter).

        So what I’m trying to say is that you have to both cut/sever flawed structures and at the same time improve matters on the other fronts. Hoping this process will proceed flawlessly without taking a great deal of pain is I believe, an utopia.

        And now about Greece. Notwithstanding what you see on the streets, I found it amusing that most political & economical heads agree they’re a basket case and that it will take years to get back on track no matter what is done. And Greece is on life support (don’t look at the debt numbers, they’re meaningless) – EU will keep it there no matter how long it will take as long as their leaders agree with this as well (and funnily the population as well prefers the relative stability of the EUR fearing – from their history – a future drachma that will be thrashed by the markets).

        From Bill Bonner: http://dailyreckoning.com/austerity-around-the-world/

        Argentina took the equivalent “euro exit” policy and destroyed their savers, but then experienced an economic recovery. However, their economic recovery had much to do with their natural resources and huge productive landmass. Argentina is back in the hole however, dragged back by the same politicians that “saved” her 11 years ago. Most Greeks prefer the current situation because they fear the uncertainty part described by Bonnner (w.r.t. Argentina).

        • And I believe the idea of self-employment is a non-issue (I don’t know of any country of significant size where single self-employed people make a difference) – making it easy to start a business yes (but this is a different matter).

          The more small businesses you have, the more small business you have that can be hiring. It’s not all self-employment. You need to create the conditions for a self-sustaining recovery.

          Taking “painful measures” very often does the exact opposite to creating good business conditions. It creates the possibility of a deflationary and recessionary spiral, where spending keeps falling, incomes keep falling, and so new businesses can’t even take root. And as I point out above, very often leads to bigger deficits. Latvia was very lucky to not experience that fate.

          Steve Keen is right:

      • Most people won’t ever be successful entrepreneurs. This idea that regulations are keeping people from employing themselves is nonsense. What are they going to sell, and to whom? Further, regulations don’t stop lobbyists and crooks – they just work harder to get around the rules. Just like taxes don’t stop innovators from innovating. As for welfare, that spending simply dries up as jobs come back – there is no need to cut it, it cuts itself IF the economy starts to grow again. Same with deficit reduction – it reduces itself IF the economy starts to grow. To get growth, Gov must spend. The UK is soveign in its own currency – so unlike Greece the Gov can spend its way to growth. Put money into the hands of people who will spend it (like infrastructure jobs – these people need the money and will spend it) which is like putting a carrot in front of a would-be entrepreneur’s nose – “hey, those guys have money, what can I sell them” and as that money changes hands over and over again, the economy starts to grow, welfare checks shrink, the Gov has less need to spend, etc. America is doing this to some extent – not enough for a great recovery, but enough to make the UK jealous of its recovery.

        • Most people won’t ever be successful entrepreneurs. This idea that regulations are keeping people from employing themselves is nonsense. What are they going to sell, and to whom?

          Historically, during periods of decreased employment, it was much easier to become self-employed. I’m not talking about entrepreneurship, or at least not the modern (Buffett + Gates) definition, I’m just talking about people with a car becoming taxi drivers, peole manning food carts, selling lemonade, doing odd jobs.

          In NYC it costs $1 million to acquire a licence to run a taxi. Food carts require thousands of dollars of training, safety equipment, licensing, etc. It is illegal to prepare food at home for sale, and illegal to sell home-produced vegetables and fruits. This is a huge swathe of regulatory bulk that means that unless corporations and businesses are hiring, it is almost unprecedentedly hard to hire yourself, pick yourself up and go after some of those dollars that are sitting out there.

          Yes, there are opportunities for self-employment today particularly in IT (e.g. App Store development), but not everyone has the skills or intellect to do that. Much of the low-skilled manual work is hyper-regulated, which is problematic.

          To get growth, Gov must spend. The UK is soveign in its own currency – so unlike Greece the Gov can spend its way to growth. Put money into the hands of people who will spend it (like infrastructure jobs – these people need the money and will spend it) which is like putting a carrot in front of a would-be entrepreneur’s nose – “hey, those guys have money, what can I sell them” and as that money changes hands over and over again, the economy starts to grow, welfare checks shrink, the Gov has less need to spend, etc.

          I don’t necessarily disagree that there is some merit in this path, but there are a lot of political problems that make it problematic. A lot of the stimulus money in the US ended up in very wasteful projects like Solyndra, or in the pockets of speculators on Wall Street.

          So while I agree that America and Britain should both undertake big infrastructure projects (not solely for stimulus purposes — Zero Hedge published a shocking chart last weekend that shows that power outages are about 500% more frequent than in 2000), I do not have much confidence in current regimes to spend on the right things, and I tend to believe that the bulk of the money will shoot off as slush to well-connected insiders, Wall Street, lobbyists, etc.

  5. Also, quick story.

    I have been working on and off on a house in Oregon. It is in a well-to-do part of town and the home owners can be described as upper-middle class to rich.

    The houses all sit on 5-20 acres of land and most homes are 2,500 sqft+.

    The story is this, a supposed $1 million+ home just went on the market for $575,000. One of the owners just passed and his wife wants to downgrade into something smaller. (shes 78) This was the first house to go up for sale in the last couple of years. It’s sale price will be the #1 comparable used by real estate agents, future prospective buyers and appraisers.

    The residents of the of the development are shell shocked. They have seen $300,000-$400,000 in equity vanish in a day. Residents were walking around in small groups and talking in hushed tones as if the country had just been invaded by a forgeign army. I have never seen this before. Not in 2008 or any day since. Money, both the gain and the loss of it, does strange things to humans. I wish Bernanke had been there.

    It is the unfortunate reality of the West’s current economic state, but there is no solution to boom and bust brought on by the over-expansion of credit. It just doesn’t exist. QE, austerity or deficit spending just doesn’t work. We can let the bad debts be realized, take our lumps and rebuild. It is the only solution.

      • Wow.

        Those kinds of prices might be sustainable in Hong Kong, or a densely populated European nation with extremely strict (anti-) building regulations, but in a wide open expanse like Australia or America it is a joke.

        • My mate had 250 acres 10km from this suburb.. He sold for a few million about 5 years ago. It is all land banking and onerous development guidelines keeping prices up. Hence why I located 1 hourr drive away and bought acres of land. I don’t need curbed pathes and a mall with a lake gates and a fountain.

  6. By the way, Andrei, about Argentina and Bill Bonner. That is a case unto itself. Yes there are huge problems there, which I more fully investigated last year. Yes, the Argentine model of walking away from debt and nationalising resources is looking problematic right now (even if I probably think it is better than the Greek path). But I agree with Bonner I think both the Argentine path and the Greek path are fraught with danger. The way to avoid both kinds of messes is to be fiscally responsible in the first place, and to avoid adopting policies that lead to huge capital inflows into your economy that create an economic bubble that bursts, as happened in both nations. Once you are in the mess, whichever route you choose will be painful to some degree.

    But I think after all the wreckage has cleared it will be much clearer: austerity in Greece crushed tax revenues, which led to bigger deficits, which ultimately resulted in Greek default, the full consequences of which (I think they will be dire) we are yet to fully appreciate. Greece will come out of this looking worse than Argentina, in my view.

    • IMO, for Argentina it’s just a matter of booting those peronists out of power. Argentina is blessed with a huge landmass and resources (water/aquifers, shale gas/oil, productive farmland) which would be enough to make Argentina one of the richest countries per capita in the world. Greece is no Argentina w.r.t. these matters so a direct/plain comparison is probably not fair.

      • Argentina is a perfect example of country that messed around with it’s currency until the end.

        Argentines were used to currency debasements like the changing of the seasons. It had been a part of life since atleast the 1970’s (My research stopped there, it could have been longer) and had adapted as best as they could.

        Then came 2001. Even the forgeign banks that kept deposits in dollars (to supposedly guard depositors from currency debasments) were allowed to depeg those deposits from dollars (And some Euros) and into Argentine Pesos. The result has an overnight 75% loss of purchasing power for Argentine depositors and holders of Pesos.

        The moral of the story is this, your country can have many natural resources, an educated population, a strong national defense etc. and it doesn’t matter. If your government manipulates the currency, the result will be massive poverty for the general population.

  7. The problem with continuing the spending on things like welfare during a depression is that you end up like Japan – 20 years down the road with flat GDP. Japan has only survived due to a shrinking population and improving exports by devaluation.

    If you continue to spend on welfare programs, people loose the incentive to work – look at the perennially high unemployment in Europe and parts of Canada. Look at the effect in the US with 99 week benefits. The cuts have to happen, or else there will be no “recovery”. The books must be balanced and economies deleveraged before we will see significant recovery. We borrowed the against the future and it has come calling.

    • Austerity makes deficits bigger due to falling revenues. If you want to balance the books you cannot do it by stopping spending, because as Europe is discovering, this leads to falling revenues. Governments in debt need revenues to pay down debt, and what they can’t make from taxation they have to roll by borrowing more. I think it is very important to address deficits, but austerity (or certainly the austerity we are seeing in Europe — I am more open to Ron Paul’s ideas of cutting foreign militarism first and bringing the money home) is not the way to do it. You need growth.

      Japan’s problems mostly arose out of bailing out banking zombies which destroyed the market mechanism, reflated a load of worthless junk and created a much, much larger welfare class — a corporate one.

      My entire economic program differs radically from this. In my world you never bail out banks and corporations. Welfare should solely be for individuals.

      When you let the bad banks, corporations, companies, systems and debt to be liquidated, then you will have an organic recovery simply from the economy’s inherent demand. But we do not live in a world where governments follow this kind of economic program. Instead, banks and corporations are bailed out, while the ordinary public has to suffer by losing welfare and services. Even that would be more acceptable if the economy was not so massively overregulated, and if more people had access to capital to start a business and become self-employed, but the current paradigm puts up barriers to entry and regulations that make decreasing unemployment this way quite difficult.

      So in reality we are in a very difficult position, because governments will not allow liquidation, and insists on crazy austerity programs that just lead to bigger deficits. All of this will end in default, nationalism and perhaps even war.

      • Austerity makes deficits bigger due to falling revenues. If you want to balance the books you cannot do it by stopping spending, because as Europe is discovering, this leads to falling revenues.

        Well, you do what you can, when you must. This is not a problem if you start from a low level of debt, or if the bond market is patient enough. And if it all stops working, you just default (an idea you proposed in the past) – which would be a kind of like an anti-bailout which would hurt the banks (for some reason Tyler didn’t like the idea maybe because he disagrees w.r.t. the form of the final apocalypse – he probably prefers one with trillions printed in order to not make a mockery of contract law, which would also coincidentally make gold more valuable).

        • Tyler and I had a really interesting conversation about this over email a few months ago when I was promoting Taleb’s debt-to-equity idea…

          He has a very strong sense of respect for contract law….

          Tyler: “Debt for equity would destroy the financial system, as everyone’s liability (i.e. debt) is someone else’s asset. If you write down even $1 you will start a cascading chain reaction of impairments.”

          Aziz: “Taleb’s idea was the forced conversion of debt into equity.

          My corollary is that it’s not really implementable from a top-down angle (most obviously because of the contractual implications), but instead from a bottom-up angle, i.e. by banks changing lending practices to more robust equity-based lending. ”

          Tyler: “It is a risk transformation with implicit contractual terms in case of defeasance i.e. default. Biggest difference between debt and equity is you have an unsecured claim in bankruptcy for debt, when equity is completely gone.
          Then again with recent stuff out of Europe, it appears nobody even buys contract nature of debt any more.”

          The obvious corollary of policymakers proceeding with a contract-law-abiding approach is hyperinflation down the road. Will that be the outcome? Tyler and I are both to some degree idealists. I don’t think central bankers or government planners are.

        • I should add an explanation for my rather visceral reaction when I hear the phrase “austerity is a bad idea because it never works”. I practically grew up (my childhood and adolescence years) in my country where for ~20 years (post-communist regime) phrases like “austerity” and “austerity budget” where heard almost daily in the news. This was practically what was on the economic menu for 20 years or so. And it wasn’t because our politicians were misguided or because the Nazis tortured us, or because we were in the euro, or because we were at the end of a debt super-cycle, but simply because there was no other choice. All this was under the guidance of the IMF, World Bank etc. There were no better solutions, and if there were, I’d surely would have heard of them.

        • I am quite ignorant of the Romanian economy, but we are dealing with a totally different thing. Certainly there was a huge contraction coming out of Communism and another quickly afterwards in the late 90s. The data suggests that this was a protracted and painful slump, and I would be very surprised if there was anything less than a huge amount of hardship. Now, as you suggest this probably wasn’t very avoidable because of the ongoing economic transformation during the 90s. The currency was not a stable reserve currency like the dollar or euro. So people muddled through, with hardship and eventually — after a very long slump — things got better, though as far as I am aware Romanian GDP is still below where it was as a planned economy in the 1980s, so it does not really seem things are much better. Austerity is not the end of the world, but looking back on the Romanian data what the IMF enforced appears to be far from optimal.

          I think that the essential difference is that Western economies today are too bloated, dependent and over-leveraged to be able to muddle through, there will eventually be some kind of breakdown and that a breakdown in the Western economies could lead to a breakdown in the global trade system. So the main risk of Western austerity — beyond the kind of prolonged double dip slump Romania experienced in the 90s — is global contagion.

        • Austerity is not the end of the world, but looking back on the Romanian data what the IMF enforced appears to be far from optimal.

          Well, we tried to persuade them to give us money for nothing; the idea was that with so much money sloshing around in the private sector (as has happened in the Club Med), people would start businesses and turn our country into an entrepreneurial Mecca (joking :P). But they didn’t believe us, probably for good reason, thinking that one would not get to work unless he gets a serious kick in the butt :P

          And by the way, if full employment at all costs was the ultimate purpose, we might just as well turn into Burkina Fasso. The poorest countries in Africa are probably close to full employment. Gathering branches for fire, collecting mud/clay (for eating), picking fruits, etc.

      • “My entire economic program differs radically from this. In my world you never bail out banks and corporations. Welfare should solely be for individuals.”

        The problem with this is that very few people have the political will to get it done. When so much of the economy is intertwined with banking, letting the banks fail means wiping out the savings for thousands of Americans. Try to find a politician that will actually do that!

        What I think should happen is full scale investigation where you determine liability, punish the people involved, and then give the assets to their rightful owners.

  8. “Even in 1920-21, the now exhausted privileged-class world continued to criticize our young movement by saying that we had a hostile attitude towards the present State. Party gangs representing a collection of political views assumed they were justified in attempting, by any means possible, to suppress the young and unpleasant message of our new World-Concept. In the process, they somehow forgot that the present-day privileged-class world itself nolonger had any uniform concept of what the State meant, they had no uniform definition for it . and they can not reach an agreement among themselves. After all, those who do the explaining are often employed at our institutions of higher learning as professors of civil law. Their highest duty is to find explanations and interpretations that support those officials who currently provide their bread and butter through State support”

    Adolf Hitler, Mein Kampf (Uncensored Version) The Ford Transaltion pg 324.

    What goes around comes aroud. Readers may already know that my Grandmother suffered 5 years at the hands of the Nazis (Ukrainian OST Slave worker) Lets hope Germany does not demand repayment for all that support.

  9. What is the evidence that supports the UK having undertaken austerity measures? Public expenditure has risen throughout the crisis, including the Cameron era. Public debt has increased to record levels, both nominally and in terms of GDP. Taxes have risen, yes, so at best you can say that austerity has been done halfheartedly in the UK.

    Great blog by the way, I’m a long time reader who hasn’t posted before.

    • Hi Steve. Thanks for your support.

      As regards austerity, the key definition of “austerity” for me is the change in the government’s net intakes/outflows. When a government’s net position is falling (i.e. it is taking in more than it is putting out) is when the Greek problems start. This is precisely what Britain has done (the key problem is tax hikes, which suck the lifeblood out of the economy) although clearly it is by no means a huge austerity program.

      I can support certain types of “austerity” during recessions, e.g. the programs of Ron Paul and Gary Johnson, because they very often will end up disbursing more than they take in due to tax cuts. Ron Paul has mentioned that of course you can’t really begin to cut welfare until you have created a dynamic position where you have enough jobs for unemployed people to go to. He wants to start by cutting the militarism, and giving the money back to the taxpayer. That would be closer to my program.

      • That’s fair, but most of the anti austerity people don’t mention the increased taxes bit and focus on the ‘slashing spending’ part of the austerity, which hasn’t happened at all. I agree with the problematic role of higher taxes, and from that standpint I disagree with the notion of austerity. It seems that the UK has done even worse than austerity, because they haven’t even slashed the spending and debt, ostensibly the point in the first place. As for the second paragraph, I agree fully, spot on.

        • It seems that the UK has done even worse than austerity, because they haven’t even slashed the spending and debt

          This is the problem. The deficits keep growing.

        • Great blog. Don’t know if reducing foreign military spending is feasible. We are a military empire. The dollar-oil system is backed by our military might. We don’t manufacture anything of significance beyond military weapons. So how do we import the bread and circuses that is required to maintain our current system without a foreign presence.

          I think it is the same problem that Napoleon and Hitler had after they conquered mainland Europe. They needed additional resources to maintain their empire as well as something to busy the troops. With the low hanging fruit taken, they had to march east. An empire relying solely on the military requires constant warfare and tribute. It employs the troops, maintains domestic obedience, and secures additional resources.

          Once a society is wholly dependent on military conquest and subjugation how do you maintain the society when you no longer have the military presence. If we peal back our foreign exploits, can our government and society as currently constructed survive?

        • America would have to change the structure of its domestic economy: drill more at home, build more solar, manufacture more at home. A cursory analysis suggests it is possible, and all these things would become economically inevitable, but it will be tough in the short term to adjust.

        • But will the short term pain be so devastating and sudden that our political system is unable to cope. What do you do with a shock in the oil price when our food supply can’t function without cheap abundant oil? How would the government deal with nationwide energy and food shortages? This corrupt and ineffectual government? I doubt it.

          I agree inevitable, but I don’t to see any possible solution that could result in a peaceful transition to a new system. Too much anger and resentment built into the system waiting to explode. An evangelical me first culture backed with guns. Will we agree to shared sacrifice or demand fire and brimstone. I think it is too late for the nation to band together. Not after the bailouts. Not after the false hopes of Obama. Not after butchering or impoverishing the youth. Now we will likely demand blood and lots of it.

          Hope i’m wrong. Is there any historical basis to be hopeful?

        • I agree inevitable, but I don’t to see any possible solution that could result in a peaceful transition to a new system. Too much anger and resentment built into the system waiting to explode. An evangelical me first culture backed with guns. Will we agree to shared sacrifice or demand fire and brimstone. I think it is too late for the nation to band together. Not after the bailouts. Not after the false hopes of Obama. Not after butchering or impoverishing the youth. Now we will likely demand blood and lots of it.

          I never actually said that a recovery would happen… I just believe it is economically feasible. Generally broken empires tend to degenerate to a very strong degree before they even try to really fix themselves (Hubris? Vanity? Who knows…). One exception is Britain, which successfully adapted to the changing world order, although it is arguable that Britain and America are led by a contiguous Anglo-American elite. Another example is the Eastern Roman empire, which survived for a millennium after the decline of the Western empire.

  10. I agree with Andrei Canciu:

    So what I’m trying to say is that you have to both cut/sever flawed structures and at the same time improve matters on the other fronts. Hoping this process will proceed flawlessly without taking a great deal of pain is I believe, an utopia.

    Exactly! Austerity + deregulation + debt forgiveness is what we need. There’s no way to avoid the pain. We can only make it short or prolong it. I’m very much concerned lately that austrian principles have been neglected so easily in debates.

    Aziz mentioned:

    Really, engaging in a program that leads to a 26% drop in GDP and a spike in unemployment is stupid and self-defeating, whether you’re a minnow or whether you’re a giant.

    On the contrary! Temporary spike in unemployment is just side effect of realignments in the economy. Imagine what would happen if state dissapeared overnight. What would the free market do? Would it fail, as Krugman says?

    Think of current situation as of government-spending bubble. Why is it good to end housing bubble with no banker bailouts and at the same time to keep gov bubble and bail out welfare?

    Growth is when one produces more then he consumes. This is growth of productivity and wealth. Austerity is cutting excessive consumption (I explicitly exclude raising taxes here). You can’t produce more than you consume if you still consume… more than you produce.
    I also think there’s too much focus on liquidity, GDP and other filmsy statistics even among pro-market commentators. GDP growth doesn’t necessarily correspond to wealth and productiviy – it illustrates “economic activity”, including selling nothings there and back.
    Keeping debt-to-GDP ratios is just another way to prolong unsustainable status quo. It is unsustainable not because of numbers themselves but because of structural problems. Fixing numbers fixes reports, not reality.

    BTW, Argentina had defaulted, devalued but resigned of austerity and it’s back where it was again.

    By the way, the more austerity goes on and the more damage it does (yes, having people sitting on the unemployment scrapheap for years is damage) the better Paul Krugman will look. Making Paul Krugman look good is not a good idea, because he is mostly wrong about the larger picture.

    Austerity is not unemployment. Unemployment is inflexibility of overregulated economy. And we don’t want Paul Krugman look good because more of his ideas will get picked up. And avoiding austerity is just one of them.

    • Austerity + deregulation + debt forgiveness is what we need.

      You don’t need the first one if you adopt the latter two. The first one is a poor substitute for the latter two, an attempt to balance the books without accepting that the situation has become untenable.

      Ultimately, Euro-austerity will lead to a crushing slowdown that either creates Euro-breakdown via new nationalism (Tyler’s theory), or will make Paul Krugman look so good as to trick central bankers to go the other way and create hyperinflation by money printing.

      This is basically just debt forgiveness done slowly and painfully and with massive unemployment.

  11. Pingback: More Evidence That Austerity During Depressions Works |

  12. Generally higher unemployment is a byproduct of a slowdown in production, sales, or services. Line Managers will always cull the most unproductive, troublesome, or inefficient workers. Ok sometimes there is structural unemployment, where very good employees are lost because the company collapses, but generally the good ones see the writing on the wall and leave. I agree there is always a natural rate of unemployment. The trick is keeping these people who arecit first in meaningful employment that is suitable for their abilities. In the past these people sold tram or train tickets. Swept streets, drove trucks or other monotonous tasks. With increases in technology how do we keep these people busy and in the labour force (Wake up to an alarm, shower and keep to a routine) instead of wasting away unemployed and on welfare. I think a work for a dole program is preferred so that the Government and remaining taxpayers get some value. Society benefits with cleaner streets and manned train stations or safer streets because of “Night Watchmen”. If you don’t like the menial work you can always apply for a new job when one is available. At least you will have a supervisors report to give the new employer spme confidence you WILL show up at work and try to learn the on the job skills. Will this cost money. Yes. Will Ultra Rich Taxpayers pay for this? I believe so. Especially if they appreciate cleaner safer streets. We tried tp get this implemented in Australia, but the Welfare Lobbyists said this was demeaning. I don’t think it is. If you are on welfare for a certain period, you need all the help you can get to get back into a routine. I shovelled chicken manure to earn money whilst at Uni, and I admitted it to my first Employer. Arthur Andersen. The partner appreciated my work ethic.

  13. Pingback: Morning Caffeine 4-26-2012 | Modern Monetary Realism

  14. Normally I agree 100% with what you write Azizonomics. I definitely agree that higher taxation is always a burden on economies. The point I disagree with is demonizing reduced government spending. I think you are ignoring the spending “which is not seen”. Money will be spent & invested by the private sector, government is not needed to encourage that. Government spending is always misallocation of wealth.

    After WWII, reduced government went hand in hand with increased economic GDP in the U.S.

    • … Many people will see “reduced social programs” as simply doublespeak for redirection of State funds to re-capitalizing banks, bailouts, etc. The trick is to not get distracted by the doublespeak and focus on the core truth: State spending is bad, so reducing it should be the goal.

    • I would believe that view if the evidence supported it, but it does not seem to. The “what is not seen” confidence spending does not appear to be great enough to counterbalance the fall in government spending to support tax revenues.

      The evidence show that the greater the austerity (this of course includes tax hikes) the greater the drop in GDP, and thus the greater the drop in tax revenues, and in a debt-driven economy — not that I necessarily agree with a debt-driven economy, but it is what we have — this is hugely problematic.

      I’d caution readers to not view my position as an endorsement of continued big government. Government through capital misallocation perverts the market mechanism, just as heroin or prescription drugs perverts the human body. I do not think that it is wise to reduce drug intake faster than the body can handle it, though.

        • There’s a few structural differences.

          1/ A whole lot of soldiers (10 million) came home and started working and spending money. Society welcomed these newly-unemployed people, and created a lot of jobs (the Employment Act of 1946 kind of insisted upon this).

          2/ Today, society’s attitude to the newly unemployed is entirely different. I think a lot of corporations won’t touch someone who has been long-term unemployed; there is this presumption that they will collect welfare.

          3/ I would be very keen on a program that replicated some of this; e.g. closing bases and bringing troops home, so they spend their money in the US, as well as (for example) giving tax cuts to businesses who take on the unemployed.

          4/ Government cut taxes instead of raising them as they generally do during an “austerity” program.

          Essentially, I think the possibility for such a recovery exists today, but it wouldn’t be called an “austerity” program. It would be called a “bring our troops home” program, and a “cut taxes for businesses that recruit unemployed people” program. The focus wasn’t on paying back war bonds.

        • Aziz, what would you give as an example of where government spending cuts (not changes in tax rates) made an economy worse off? The chart you show above seems to focus on Taxation and GDP, is that right?

        • The chart I showed is net austerity (i.e. cuts plus tax hikes) as a percentage of GDP.

          I think the best example of where austerity has wrecked an economy is Greece.

        • I think the best example of where austerity has wrecked an economy is Greece.

          I would say this is a very misleading statement. It was not austerity that wrecked the economy, but the overflow of cheap money readily handed over by the government during the boom years (14 monthly salaries in a year FTW; average railroad worker getting ~7000 USD/mo.). Simply, the whole structure of the economy was unsustainable. When the money spigot was turned off, the day of reckoning came.

          Really, it’s a truism to say that austerity leads to a lower GDP when by definition GDP counts spending. And again, it’s pretty much a truism that people more readily become self-employed during a boom. When there’s so much money sloshing around, you can get paid for doing almost anything.

          What the US needs to do (and other countries like UK, Japan) is to get their debt/deficit down before the bond market or a currency crisis imposes this onto them.

          Again it’s a truism to say that austerity leads to more human suffering. But outside of countries enjoying “exorbitant privileges” (e.g. reserve currency), there are no free lunches. You must work for what you get in life. Krugman only looks at the short term effects and hopes (probably fully believes) that a currency crisis or a bond market strike will never occur. Medium-tier countries (like Australia, New Zealand) can do this (austerity to avoid worse outcomes in the future) and expect the bond market to be patient enough with them; others (Hungary, Romania, Latvia etc.) need to do it under IMF guidance (they provide the money until the finances are back in order). Currently, only the US can afford to hope that you can spend your way to prosperity forever – or so it is in Krugman’s head. For most other countries on the globe, the finances of a country work most like the finances for an individual. At some point, you need to start paying down your debts no matter how much suffering this causes to the individual.

        • What the US needs to do (and other countries like UK, Japan) is to get their debt/deficit down before the bond market or a currency crisis imposes this onto them.

          Correct. But none of this addresses the fundamental problem that the more austerity you get, the less taxes you can collect, the bigger your deficit becomes. So it seems to me that the worst way of dealing with a crisis of excessive debt is with reduced spending.

          Probably that has a lot to do with why Romania doubled-dipped in the 90s, but again I do not claim to be an expert on Romania as I have not looked at the figures in any great depth.

          Greece got itself into a mess, but the austerity just made things much worse. And by definition, no country that didnt get itself into a mess ever tried to use austerity to get itself out, so this is something of a tautology.

          The thing I most blame Greece for is joining the Euro. All nations that joined should have known that this austerian paradigm would eventually come their way, because it was obvious from the outset that handing over the option of seigniorage to Brussels and Frankfurt would result in this kind of problem sooner or later.

          In a state that is dominated by government spending, and where output presently depends on government spending it is obvious that productivity and output will fall when government spending is cut. In a recession this is the last thing you need. I see this as the reality of creating state dependency; the real answer is to have an economy that is less reliant on government to begin with. But once you are hooked, the last time to get unhooked is during a credit crunch.

        • Correct. But none of this addresses the fundamental problem that the more austerity you get, the less taxes you can collect, the bigger your deficit becomes.

          This is correct. But the idea is that over time the system stabilizes – but at lower levels of structural deficits. Again, as I’ve said before, this is exactly as for an individual: he must cut back no matter how much suffering this causes to him because that’s how life works. Again, as I’ve said before, depending on the trustworthiness of the country, that country can do it under more lenient or more harsh conditions – simply there’s no other way because life does not treat us kindly, there are no free lunches.

          I wouldn’t say the euro is bad just because of what happened in Greece during the boom years. That’s how life works, there are cycles in everything. If the euro survives, countries like Greece and their lenders will know better. I myself much prefer the euro paradigm (the euro is not the single experiment, all alternatives are experiments) and as far as I know so do still most Greeks probably for the same reasons (experience with hyperinflation).

        • The real problem with the individual analogy is their spending power is not at all correlated with their ability to generate income. It is possible to cut spending and get a second job, therefore getting more income to deleverage.

          Governments do not generate income through work; they generate income through tax. If they spend less, it tends to mean they will end up generating less income.

          Perhaps that is a crazy system but it is the way the world works.

          Eventually there can be a long term stabilisation, but not without a lot of suffering, much of which probably was needless. I will always look to encourage economic activity to increase revenues before I ever look at cutting spending.

        • I would view the analogy with the individual at a higher level: you simply can’t live beyond your means. The particularities will differ, but it’s not the point. As an individual or as a country you decide the amount of pain you will take, when and how.

          Yes, there will be a lot of suffering until the system/country will stabilize at lower levels of structural deficits, but I can’t say it’s needless. God doesn’t come down from the skies to lend you money (and neither the IMF in the belief that if you just spent more, everything would self-correct over time – and the IMF is right: who on earth would do anything when the money just keeps flowing?) when no one is willing to lend you money, it’s up to each country to decide what to do to avoid that moment, or what to do when the moment has arrived. The conditions and particularities will differ for each country.

        • I agree with the idea of living within one’s means, but we have to define it…

          What are your “means”? Is it the amount of money you have? Or is it the amount of things you can achieve?

          If your economic policies result in capacity under-utilisation (i.e. much higher unemployment) then surely that defeats the purpose of “living within your means”, because if you can produce more then you can consume more.

          This focus on money as the sole arbiter of the size of the economy and the potential size of the economy is extremely problematic.

        • Well, yes, that’s why I said the conditions will be different for each country. For countries in the lower tier, it is much more clear: you don’t steer too far from prudence because you’ll definitely get burnt soon enough. For countries like US, UK, Japan, Australia, the best path to follow is more debatable, but what is very clear and pretty much the only certainty is that there IS a day of reckoning if you’ve strayed too far for too long from fiscal prudence (bond market strike forcing even harsher austerity terms or a currency crisis). And I accept the idea (and so will the bond markets for these more “trustworthy” countries) that an increase in unemployment, debts and deficits over the short to medium term can be the result of a good plan to avoid that day of reckoning.

        • PS:

          Or is it the amount of things you can achieve?

          And certainly IMF, EBRD the World Bank will try to help with this (investment programs etc.) as well if you’ve come to that day of reckoning. But this is only to the extent they do understand what you can actually achieve, while also taking into account the effects of their programs given all constraints (just keeping the flow of hard currency to these countries, without asking for anything in return, in the idea that most economies will self correct is foolish: more likely, in most cases, it will corrupt and destroy the economy even more).

  15. They are in a Recession because they blew the surplus in the boom years and don’t have any reserve in the treasury to buid futuristic public work programmes that tackle energy dependency, or fund research on medical problems that would earn valuable export income.

    If you are going to be a Keynesian do it right!

    The UK is virtually a Gilligan’s Island now. Most of the migrants from the former colonies are in the UK now, and they brought with them the remaining capital of the Islands (India Pakistan Jamaica etc)

    The only hope is to say sorry to the Aussies and let us in (EU residency and UK Passport), even if we are Convicts made good. It is a joke that we Aussies can’t migrate to the UK, but British citizens could freely come here. The only chance I had was a 2 year visa when I was in my 20’s. I liked the UK. Especially how you can take a trip to France and speak English to the French.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s