|
The
prevailing view amongst Keynesians is that the austerity measures being taken
in Europe to prevent a complete currency and bond market collapse is the cause
of their current recession. But blaming a recession on the idea that an
insolvent government was finally forced into reducing its debt is like
blaming a morning hangover on the fact that you eventually had to stop
drinking the night before.
There is now
a huge debate over whether the developed world's sovereigns should embrace
austerity or increase government spending in an effort to boost demand and
avoid a full-blown economic meltdown. Former U.S. Secretary of Labor and
current professor of public policy at the University of California, Robert
Reich, recently wrote a commentary titled, "We
Should Not Imitate the Austerity of Europe." In it, Mr. Reich
contends we should simply; "Blame [the recession] on austerity economics
-- the bizarre view that economic slowdowns result from excessive debt, so
government should cut spending" He continued, "A large debt with
faster growth is preferable to a smaller debt sitting atop no growth at all.
And it's infinitely better than a smaller debt on top of a contracting
economy."
But Mr. Reich
and those like him who vilify austerity measures are ignoring the reality
that investors in periphery European sovereign debt had already declared
those markets to be insolvent. Sharply rising bond yields in southern Europe
and Ireland were a clear signal that their debt to GDP ratios had eclipsed
the level in which investors believed the tax base could support the debt.
Once sovereign debt has risen to a level that it cannot be paid back, by
definition, the country must default through hyperinflation or restructuring.
However, in
the unlikely scenario that the bond market actually has it wrong, a dramatic
reduction in government spending gives sovereigns their only fighting chance
before admitting defeat and pursuing one of the two default strategies.
If these
governments can quickly balance their budgets and lower the level of nominal
debt outstanding; it gives them a chance to restore investors' confidence in
the bond market, bolsters confidence in holding the Euro and offers the hope
that the private sector can rapidly supplant the erstwhile reliance on public
sector spending.
Keynesians
must realize that it was
the high level of government spending supported by a compliant central bank
that initially caused the debt to GDP ratios to skyrocket to the point where
governments are now deemed to be insolvent.
These
governments already tried over borrowing and spending and it didn't work. How
is it possible to believe that adding even more public sector debt, most of
which is printed, can fix the problem? Public sector spending doesn't grow an
economy; it just adds to the debt and thus, increases the debt to GDP ratio.
Yet more government spending, or investment as they like to call it,
guarantees the bond market will be correct in judging Europe sovereigns
bankrupt. Additional public borrowing not only increases debt but steals more
money from the private sector that would otherwise be used to pare down
onerous household debt levels or invest in the private sector--the only
viable part of the economy that can support growth. It would also cause the
ECB to print more money and create more inflation; resulting in a further
reduction of economic growth and the standard of living.
The sad truth
is that austerity is coming to Europe regardless of whether it is voluntary,
or because the international bond market forces it upon them. Pursuing
voluntary austerity measures gives Europe, and indeed the developed world,
there only chance before defaulting on the debt. Indeed, Japan and the U.S.
now have a better opportunity than Europe to make austerity measures work. That's
because both their bond markets are currently quiescent; despite that fact
that both of their debt to GDP ratios are far worse than in the Eurozone--EU
(17) debt to GDP is 87%, while the U.S. has 103% and Japan has 230% public
debt to GDP ratio. But the bottom line is that austerity is the market-based
mechanism to countervail decades of profligate government profligacy.
Forcing down
a few more drinks to delay a hangover isn't a very good strategy. Mr. Reich
and the rest of the Keynesians should acknowledge that it is impossible for
individuals, or a nation, to stay drunk forever.
|
