As a follower of Paul Krugman’s blog, I noticed that the lion’s share of his posts contains either of the following two messages:
1) Republicans are idiots
2) Austerity economists are idiots
Yesterday, Krugman wrote once again that economically Europe is not recovering as it potentially could, because it insists on policies of austerity – that is to say, to cut on government spending. He even argues that austerity measures caused that Mario Monti had to step down, whereas I think we should not underestimate the influence of Mr Berlusconi in this matter.
Although I understand the Keynesian principles behind it, I am not convinced by his case for significantly increasing government spending. In a general sense, as I have argued before and in a true Dutch calvinist tradition, some austerity every now and then may be healthy, not in the least because it fosters democratic discussion instead of just transferring the bill to future generations. Moreover, informed cutbacks may spur private investments, because it increases business confidence – it signals that taxes need not be increased in the near future. Increasing taxes, on the other hand, is found to be followed by plummeted business confidence and, in turn, depressed private investment.
But let’s think through, for a moment, what not implementing austerity measures would mean. It would mean that deficits would increase and that debt levels would increase even further. Markets, right now, already doubt the sustainability of Spanish, Italian, and Greek national debt given the increased interest rates these countries have to pay – what do you think will happen if a signal is given that this debt is to increase significantly in the upcoming years? Interest rates will immediately skyrocket, making the situation even more unsustainable, which will increase interest rates even further, etc. These countries will be pushed in a bad equilbrium, and will be forced to default. Really quick.
… taxes are raised accordingly. This is, however, likely to be followed by depressed private investments, but also, taxes are already very high – how much more can they be increased, really?!
… countries can print money to buy their own debt, creating some inflation. But in the Eurozone, they cannot, and “assuming” that this could happen in the near future is to ignore feelings of nationalism and understandable reluctance to surrender sovereignty.
Krugman once said that the Euro was a result of hubris on the part of European policy-makers (I agree). However, stubbornly insisting that government spending is the solution to everything, disregarding the economic and political realities that can be found within Europe, may be a form of Krugman’s own hubris. Following his advice will send us straight over our own cliff, into a situation in which the Euro may be dissolved chaotically. This would not only compromise economic developments, but all European projects – which after all were not all failures.