A Further Perspective

Why Austerity Isn’t Enough

First of all, it's not austerity to raise retirement age by two years or cut public spending to 41 of GDP.

By 6.8.12

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No more austerity! Judging from recent European election results, that's the message presently being shouted at European politicians all over the old continent. It's a mantra echoed across the Atlantic by Americans such as Paul Krugman. Austerity, they argue, isn't just ineffective as a solution to Europe's economic woes. It's also providing, so they say, conservatives with the cover they need to do what they're always wanted to do: dismantle by stealth that most sacred of social democratic cows -- the welfare state.

Much depends, of course, on what's meant by "austerity." Strictly speaking, the type of austerity being pursued in most European countries is primarily focused on long-term government debt-reduction. This translates into tax increases and spending cuts. Part of the object of the exercise is to convey to creditors a serious intent on the part of governments to meet their present financial obligations, thereby allaying concerns they might default on their existing -- and extensive -- liabilities.

Here, however, it's useful to put European expectations of what constitutes austerity into perspective. Does France's raising of the official retirement age from 60 to 62 really constitute "hardship"? Does Greece's effort to reduce its public sector payroll expenses from a 2009 high of 55 percent of state revenues to something close to the 40 percent figure recorded in 2000 represent "privation"? Does the British government's 2010 plan to return public spending to 2006 levels of a mere 41 percent of GDP suggest that David Cameron is "gutting" the welfare state? Please.

Leaving aside, however, many European governments' modest conceptions of fiscal restraint, there is a case to be made that austerity alone won't be enough to facilitate the growth needed to pull Europe out of its economic black-hole. Restoring sanity to public finances is one thing. Wealth creation is quite another.

The standard Keynesian argument is that economic downturns necessitate government stimulus packages. Unfortunately, the track record for stimulus programs -- Exhibit A being the Obama Administration's 2009 injection of a trillion (borrowed) dollars into America's economy -- doesn't provide many grounds for optimism.

But the lesson of successful economic reform programs -- Sweden, ironically, being a good example -- is that stabilizing or reducing government debt and spending isn't enough. You also need substantial economic liberalization: i.e., measures such as deregulating labor markets and removing other barriers that inhibit competitiveness, discourage entrepreneurship, and thereby unduly restrict an economy's growth-capacity.

There is considerable evidence suggesting that the prevalence of high labor costs and regulations in many European countries contributes significantly to their relatively low productivity levels. Many European businesses actually choose to stay small because of the heavy regulatory environment and often-compulsory unionization immediately imposed on many businesses once their employees exceed a certain number.

According to France's 3,200 page Code du Travail, for example, any company inside France that exceeds 49 employees is legally obliged to establish no fewer than three worker councils. If such businesses decide they need to let go some employees, they're required to present a reorganization plan to all three councils. Is it any wonder that many French businesses simply don't bother expanding their employee base, a factor that often inhibits their capacity to generate more wealth?

Unfortunately for Europe's other problem children, it's precisely in these areas that little reform has occurred. In April, for instance, Italy's Prime Minister Mario Monti tried to change the law that essentially forbade businesses with more than 15 full-time employees from dismissing staff. Monti's goal was to substitute a situation of jobs-for-life for some and perpetual insecurity for others, with severance provisions for people let go on economic grounds. Under pressure from Italian unions, however, Monti's proposal was watered down to uphold the extensive powers enjoyed by courts to investigate whether a company's decision to fire someone was justified. This guaranteed maintenance of the status quo.

Needless to say, Greece is Europe's poster child for reform-failure. Throughout 2011, the Greek parliament passed reforms that diminished regulations that applied to many professions in the economy's service sector. But as two Wall Street Journal journalists demonstrated one year later, "despite the change in the law, the change never became reality. Many professions remain under the control of professional guilds that uphold old turf rules, fix prices and restrict opportunities for newcomers." In the words of one frustrated advisor to German Chancellor Angela Merkel, "Even when the Greek Parliament passes laws, nothing changes."

Politics helps explain many governments' aversion to reform. Proposals for substantial deregulation generates opposition from groups ranging from businesses who benefit from an absence of competition, union officials who fear losing their middle-man role, to bureaucrats whose jobs would be rendered irrelevant by liberalization. The rather meek measures that Europeans call austerity have already provoked voter backlashes against most of its implementers. Not surprisingly, many governments calculate that pursuing serious economic reform will result in ever-greater electoral punishment.

In any event, America presently has little to boast about in this area. States such as Wisconsin have successfully implemented change and are starting to see the benefits. But there's also fiscal basket-cases such as (surprise, surprise) California and Illinois that continue burying themselves under a mountain of debt and regulations.

America's national debt situation is even more sobering. The Congressional Budget Office recently stated that by the end of 2012 "the federal debt will reach roughly 70 percent of gross domestic product, the highest percentage since shortly after World War II." Without major policy changes, it added, America is on track to realize a national debt-to-GDP ratio of 93 percent within ten years. Several studies suggest that it's at this level that public debt starts to undermine an economy's growth-capacities.

Yet former Administration heavyweights such as Larry Summers are actually calling for more government borrowing. As for deregulation, the current Administration is hardly going to alienate those interest-groups whose support it desperately needs in an election year. More importantly, it's manifestly not philosophically-inclined to freedom-orientated solutions to economic problems.

And perhaps, in the end, that's what it's all about. Most of Europe's political class -- and many of their American equivalents -- have no faith in people's economic creativity or their ability to assume responsibility for themselves and their families. Nor do they trust civil society to help those genuinely in need. Moreover, despite generating unsustainable debt and failing to pursue growth-orientated reforms, they remain utterly convinced they know better.

Of course, it may be that many ordinary Europeans also remained wedded to the social democratic myth of eternal security through endless government. As Edmund Burke once lamented, "Among a people generally corrupt, liberty cannot long exist." If so, then much of Europe is doomed to steady economic decline and dissatisfaction. The question is whether enough Americans have effectively succumbed to European-like expectations, or if they have the gumption to actually embrace the liberty they talk so much about.

On that issue, I'm afraid, the jury's still out.

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About the Author
Samuel Gregg is Research Director at the Acton Institute. He has authored several books including Becoming Europe and most recently Tea Party Catholic.