In two of my blogs, the first one titled "How Taxation Has Everything to Do With Economic Growth, Mr. President!" and the second one being "Just to Make the American People Forget About the Acts of Political Profligacy Within the White House, Congress and the President Decide to Raise the Debt Ceiling Again for the Second Time This Year... As Well As Our Federal Deficit," the controversial topic of economic austerity is brought to mind with regards to the Eurozone's economic situation. Two of the nations in the Eurozone -- Germany and Latvia -- are experiencing exceptional economic growth by virtue of practicing this form of economics, while the rest of Europe -- particularly Spain and Greece, both of whose unemployment rates are hovering at or near the 25% threshold, are mired in what has been referred to by several economists as the "uber Depression." What seems to be the secret to Germany's and Latvia's success?
Two of the excuses one of the economic magazines I have read about Latvia posit are: 1) Latvia is a relatively small country in comparison with the rest of Europe; and 2) There is not as many political divisions as there are in the other member nation-states of the Eurozone. Yet, this does not explain the phenomenon of Germany's success with the practice of austerity. As of 2010, the following is true of Germany's population by state and capital, as well as racial and ethnic demographics (Courtesy of "Kreisfreie Stadte und Landkreise nach Flache unde Bevolkerung 31. 12. 2010" [XLS] [in German] Statistisches Bundesamt Deutschland. October 2011; and "International Migration 2006" UN Department of Economic and Social Affairs.):
State Capital Area (km²) Population Baden-Württemberg Stuttgart 35,752 10,753,880 Bavaria Munich 70,549 12,538,696 Berlin Berlin 892 3,460,725 Brandenburg Potsdam 29,477 2,503,273 Bremen Bremen 404 660,999 Hamburg Hamburg 755 1,786,448 Hesse Wiesbaden 21,115 6,067,021 Mecklenburg-Vorpommern Schwerin 23,174 1,642,327 Lower Saxony Hanover 47,618 7,918,293 North Rhine-Westphalia Düsseldorf 34,043 17,845,154 Rhineland-Palatinate Mainz 19,847 4,003,745 Saarland Saarbrücken 2,569 1,017,567 Saxony Dresden 18,416 4,149,477 Saxony-Anhalt Magdeburg 20,445 2,335,006 Schleswig-Holstein Kiel 15,763 2,834,259 Thuringia Erfurt 16,172 2,235,025
and this list of statistics:
Ethnic Group | %[156][157] | population |
|---|---|---|
European | 88.0 | 71,935,000 |
Ethnic German | 80.7 | 65,970,000 |
Polish | 2.0 | 1,654,000 |
former Soviet Union (primarily Russian Germans, Russians and Jews) | 1.7 | 1,400,000 |
European Other (Western Europeans and former Yugoslavians) | 3.6 | 3,000,000 |
Middle Eastern | 5.2 | 4,260,000 |
Turkish | 4.0 | 3,260,000 |
others (primarily Arabs and Iranians) | 1.2 | 1,000,000 |
Asian | 2.0 | 1,634,000 |
Afro-German or Black African | 1.0 | 817,150 |
Mixed or unspecified background | 2.0 | 1,634,000 |
Other groups (primarily the Americas) | 1.8 | 1,470,000 |
Total population | 100 | 81,715,000 |
With a population of 81,715,000, Germany is the largest nation in the European Union. And unlike Latvia, there are several political parties within the parliamentary system of government that hold seats, such as the Social Democratic and Christian Democratic parties, the Free Democratic Party, the Alliance '90/The Greens, as well as minor parties like the Left, Free Voters, and the Pirate Party. So, this debunks some of the Left's theories that austerity cannot work. If you will refer back to the second article's link I posted above, it will go into detail what is causing the practice of austerity to backfire for the members of the Eurozone. (Courtesy of Ludwig von Mises Institute) :
The Myth of Austerity
Mises Daily: Friday, November 30, 2012 by Philipp Bagus
Many politicians and commentators such as Paul Krugman claim that Europe's problem is austerity, i.e., there is insufficient government spending. The common argument goes like this: Due to a reduction of government spending, there is insufficient demand in the economy leading to unemployment. The unemployment makes things even worse as aggregate demand falls even more, causing a fall in government revenues and an increase in government deficits. European governments pressured by Germany (which did not learn from the supposedly fateful policies of Chancellor Heinrich Brüning) then reduce government spending even further, lowering demand by laying off public employees and cutting back on government transfers. This reduces demand even more in a never ending downward spiral of misery. What can be done to break out of the spiral? The answer given by commentators is simply to end austerity, boost government spending and aggregate demand. Paul Krugman even argues in favor for a preparation against an alien invasion, which would induce government to spend more. So the story goes. But is it true?
First of all, is there really austerity in the eurozone? One would think that a person is austere when she saves, i.e., if she spends less than she earns. Well, there exists not one country in the eurozone that is austere. They all spend more than they receive in revenues.
In fact, government deficits are extremely high, at unsustainable levels, as can been seen in the following chart that portrays government deficits in percentage of GDP. Note that the figures for 2012 are what governments wish for.
The absolute figures of government deficits in billion euros are even more impressive.
A good picture of "austerity" is also to compare government expenditures and revenues (relation of public expenditures and revenues in percentage).
Imagine that a person you know spends 12 percent more in 2008 than her income, spends 31 percent more than her income the next year, spends 25 percent more than her income in 2010, and 26 percent more than her income in 2011. Would you regard this person as austere? And would you regard this behavior as sustainable? This is what the Spanish government has done. It shows itself incapable of changing this course. Perversely, this "austerity" is then made responsible for a shrinking Spanish economy and high unemployment.
Unfortunately, austerity is the necessary condition for recovery in Spain, the eurozone, and elsewhere. The reduction of government spending makes real resources available for the private sector that formerly had been absorbed by the state. Reducing government spending makes profitable new private investment projects and saves old ones from bankruptcy.
Take the following example. Tom wants to open a restaurant. He makes the following calculations. He estimates the restaurant's revenues at $10,000 per month. The expected costs are the following: $4,000 for rent; $1,000 for utilities; $2,000 for food; and $4,000 for wages. With expected revenues of $10,000 and costs of $11,000 Tom will not start his business.
Let's now assume that the government is more austere, i.e., it reduces government spending. Let's assume that the government closes a consumer-protection agency and sells the agency's building on the market. As a consequence, there is a tendency for housing prices and rents to fall. The same is true for wages. The laid-off bureaucrats search for new jobs, exerting downward pressure on wage rates. Further, the agency does not consume utilities anymore, leading toward a tendency of cheaper utilities. Tom may now rent space for his restaurant in the former agency for $3,000 as rents are coming down. His expected utility bill falls to $500, and hiring some of the former bureaucrats as dishwashers and waiters reduces his wage expenditures to $3,000. Now with expected revenue at $10,000 and costs at $8,500 the expected profits amounts to $1,500 and Tom can start his business.
As the government has reduced spending it can even reduce tax rates, which may increase Tom's after-tax profits. Thanks to austerity the government could also reduce its deficit. The money formerly used to finance the government deficit can now be lent to Tom for an initial investment to make the former agency's rooms suitable for a restaurant. Indeed, one of the main problems in countries such as Spain these days is that the real savings of the people are soaked up and channeled to the government via the banking system. Loans are practically unavailable for private companies, because banks use their funds to buy government bonds in order to finance the public deficit.
In the end, the question amounts to the following: Who shall determine what is produced and how? The government that uses resources for its own purposes (such as a "consumer-protection" agency, welfare programs, or wars), or entrepreneurs in a competitive process and as agents of consumers, trying to satisfy consumer wants with ever better and cheaper products (like Tom, who uses part of the resources formerly used in the government agency for his restaurant).
If you think the second option is better, austerity is the way to go. More austerity and less government spending mean fewer resources for the public sector (fewer "agencies") and more resources for the private sector, which uses them to satisfy consumer wants (more restaurants). Austerity is the solution to the problems in Europe and in the United States, as it fosters sustainable growth and reduces government deficits.
Lower GDP?
But does austerity not at least temporarily reduce GDP and lead to a downward spiral of economic activity?
Unfortunately, GDP is a quite misleading figure. GDP is defined as the market value of all final goods and services produced in a country in a given period.
There are two minor reasons why a lower GDP may not always be a bad sign.
The first reason relates to the treatment of government expenditures. Let us imagine a government bureaucrat who licenses businesses. When he denies a license for an investment project that never comes into being, how much wealth is destroyed? Is it the expected revenues of the project or its expected profits? What if the bureaucrat has unknowingly prevented an innovation that could save the economy billions of dollars per year? It is hard to say how much wealth destruction is caused by the bureaucrat. We could just arbitrarily take his salary of $50,000 per year and subtract it from private production. GDP would be lower.
Now hold your breath. In practice, the opposite is done. Government expenditures count positively in GDP. The wealth destroying activity of the bureaucrat raises GDP by $50,000. This implies that if the government licensing agency is closed and the bureaucrat is laid off, then the immediate effect of this austerity is a fall in GDP by $50,000. Yet, this fall in GDP is a good sign for private production and the satisfaction of consumer wants.
Second, if the structure of production is distorted after an artificial boom, the restructuring also entails a temporary fall in GDP. Indeed, one could only maintain GDP if production remained unchanged. If Spain or the United States had continued to use their boom structure of production, they would have continued to build the amount of housing they did in 2007. The restructuring requires a shrinking of the housing sector, i.e., a reduced use of factors of production in this sector. Factors of production must be transferred to those sectors where they are most urgently demanded by consumers. The restructuring is not instantaneous but organized by entrepreneurs in a competitive process that is burdensome and takes time. In this transition period, when jobs are destroyed in the overblown sectors, GDP tends to fall. This fall in GDP is just a sign that the necessary restructuring is underway. The alternative would be to produce the amount of housing of 2007. If GDP did not fall sharply, it would mean that the wealth-destroying boom was continuing as it did in the years 2005–2007.
Conclusion
Public austerity is a necessary condition for private flourishing and a rapid recovery. The problem of Europe (and the United States) is not too much but too little austerity — or its complete absence. A fall of GDP can be an indicator that the necessary and healthy restructuring of the economy is underway.
Just as I said in other articles, the vast majority of Eurozone nations are not practicing austerity right, or at all, for that matter.
***
The Blaze was the first service today I read a report on the update of the state of the economy within the Eurozone. Here is the article:
BUSINESS
EUROPE’S INCREASINGLY-SERIOUS UNEMPLOYMENT PROBLEM SUMMED UP IN CHARTS
May. 31, 2013 1:53pm
The eurozone’s unemployment situation went from bad to worse in April as the 17-member union broke yet another record, putting itself on track to pass the 20 million mark this year.
“Eurostat, the European Union’s statistics office, said Friday that the unemployment rate rose to 12.2 percent in April from the previous record of 12.1 percent the month before,” the Associated Press reports. “In 2008, before the worst of the financial crisis, it was around 7.5 percent.”
“A net 95,000 people joined the ranks of the unemployed, taking the total to 19.38 million,” the report continues.
It’s worth noting that the eurozone’s unemployment problems are not uniform.
“The unemployment rate for the overall eurozone masks sharp disparities among individual countries. Unemployment in Greece and Spain top 25 percent. In Germany, the rate is a low 5.4 percent,” the AP notes.
“The differences are particularly stark when looking at the rates of youth unemployment. While Germany’s youth unemployment stands at a relatively benign 7.5 percent, well over half of people aged 16 to 25 in Greece and Spain are jobless,” the report adds.
In fact, as Italy passes the 40 percent mark, Germany’s rate is only 7.5 percent — 20-year low territory:
But Germany’s excellent record aside, youth unemployment in countries such as Spain and Greece has become a serious and ongoing problem. Indeed, as noted earlier on TheBlaze, youth unemployment has likely contributed to the rise of the neo-Nazi Golden Dawn party in Greece.
And speaking of Germany, it’s also worth noting that while other eurozone countries continue to struggle with recession (Greece is in its sixth year), the Deutschland enjoys solid economic growth.
But Germany alone may not be able to turn things around.
“Eurostat said Friday that inflation in the eurozone rose to 1.4 percent in the year to May from the 38-month low of 1.2 percent recorded in April,” the report adds. “It attributed the increase to rising food, alcohol and tobacco prices.”
–Follow Becket Adams (@BecketAdams) on TwitterFeatured image AP photo.Of the nations in Europe executing austerity properly, it is interesting that those two nations -- Germany, Iceland, and Latvia, as were mentioned above -- are two polar opposites of one another.
However, with the exception of Germany, each of these countries had public-debt-to-GDP ratios that increased (i.e., worsened) from 2010 to 2011, as indicated in the chart at right. Greece's public-debt-to-GDP ratio increased from 143% in 2010 to 165% in 2011. This indicates that despite improving budget deficits, GDP growth was not sufficient to support a decline (improvement) in the debt-to-GDP ratio for these countries during this period. Eurostat reported that the debt to GDP ratio for the 17 Euro area countries (EA17) together was 70.1% in 2008, 80.0% in 2009, 85.4% in 2010, 87.3% in 2011 and 90.6% in 2012. Further, real GDP in the EA17 declined for six straight quarters from Q4 2011 to Q1 2013.
Unemployment is another variable that might be considered in evaluating austerity measures. According to the CIA World Factbook, from 2010 to 2011, the unemployment rates in Spain, Greece, Ireland, Portugal, and the UK increased. France and Italy had no significant changes, while in Germany and Iceland the unemployment rate declined. Eurostat reported that Eurozone unemployment reached record levels in March 2013 at 12.1%, up from 11.6% in September 2012 and 10.3% in 2011. Unemployment varied significantly by country.
***
Does the United States need to trend down this path of economic austerity as has Europe? Statistics would suggest that if we do, we may or may not like the results we reap. However, if Dr. Bagus is correct in his assertion that the majority of Eurozone nations are not actually engaged in the practice of austerity because they are still endeavoring in deficit spending (the charts show that very clearly), that might answer a lot of questions.
Has the U.S. ever practiced austerity economics before? I have read in a couple of articles that, indeed, this nation has (Courtesy of Investopedia):
When a government tightens its belt in tough economic times the entire nation feels the squeeze. With less money to pay for the full spectrum of government services because of declining tax revenues and increasing debt, deep cuts in expenditures would seem inevitable. A reduction in government spending, however, is usually a last resort as long as legislators permit deficit financing of what government provides for its citizens. Deficit financing means borrowing money to pay for government services and benefits, and taxpayers incur the debt.
A government austerity program may be imposed when its debt reaches unsustainable levels and the government can't even service that debt - meaning pay interest on what it owes - without borrowing or printing more money and thus causing inflation.
In addition to government debt are its operational expenses: salaries, pensions, healthcare costs, defense and military spending, infrastructure repair and maintenance, and all the many other commitments of government.
What Is An Austerity Program?
At its simplest, an austerity program, usually enacted by legislation, may include one or more of the following:
A cut, or a freeze without raises, of government salaries and benefits.
- A freeze on government hiring and layoffs of government workers.
- A reduction or elimination of government services, temporarily or permanently.
- Government pension cuts and pension reform.
- Interest on newly-issued government securities may be cut, thus making these investments less attractive to investors, but reducing government interest obligations.
- Government expenditures may cut. Previously planned government spending programs - infrastructure construction and repair, healthcare and veterans' benefits, for example - may be cut, suspended or abandoned.
- An increase in taxes, including income, corporate, property, sales and capital gains taxes.
- The Federal Reserve may either reduce or increase the money supply and interest rates as circumstances dictate to resolve the crisis.
- In times of war the austerities imposed by government may include rationing of critical commodities, travel restrictions, price freezes and other economic controls.
The result of these austerity measures will ripple through the entire economy and citizens will feel the economic squeeze.
Whether or not these austerities produce the desired results - a return to economic health and growth, or a reduction in government debt - has been debated by economists. Although consensus thinking favors most of the measures cited above, other economists have insisted that government spending - which requires the borrowing of more money and or printing more money - is the best way to emerge from hard economic times. In the case of war, the austerities imposed have proven effective in providing the money and material required for a major national military effort.
Austerity Programs in the 19th Century
The major entitlement programs of the 20th century - social security, Medicare and Medicaid, government pensions, targeted tax incentives or abatements, etc., - did not yet exist. In the free-wheeling decades of the 19th century, government intervention in the U.S. economy was minimal to non-existent.
Government land grants were awarded to individual homesteaders and prospectors, industries such as railroads, cattle and mining, and to state universities as the nation expanded westward. Government also gave special tax breaks and inducements to the telegraph industry, river and canal transport ventures, and overland mail routes. Tariffs were imposed on imports by the government to protect domestic goods and services. These were basically government gifts designed to stimulate growth and economic development.
And so, while government in the mid-19th century was generous in its gifts to individuals and business, government largess was far from costing the trillions of dollars spent in more recent times on the many entitlement programs enacted into law throughout the 20th century.
Austerity Programs in the 20th Century
In the years immediately preceding World War I, the American economy was booming, running the government became more expensive and Congress enacted the modern income tax law in 1913 to finance its operations. The government had imposed income taxes previously, notably to finance the war of 1812 (This is not true - JH), and the Civil War, but those tax rates were relatively low and taxable levels of income were high.
After the U.S. entered World War I in April, 1917, among the first austerities enacted was an increase in the income tax to a maximum effective rate of 77%. Food production and distribution was controlled by the government in an effort to cut domestic consumption and increase distribution to military forces abroad and to the civilian populations of countries in which food production was reduced by the war. Prices of staples and critical commodities were fixed and fuel consumption, including gasless days, was regulated. Daylight savings time was instituted, strikes were outlawed for the duration of the war, and wages and hours were dictated by government in critical, war-related sectors of the economy.
Depression Era Austerities
Without the government economic programs which helped individuals, business and industry enacted during the administrations ofpresident Franklin D. Roosevelt, economic conditions in the early years of the Great Depression, which followed the stock market crash of 1929, were very difficult. Unemployment at its peak rose to almost 25% around 1932. Bankruptcies and bank failures were frequent. The gross national product - the dollar value of all goods and services produced by a country's residents both domestically and abroad - fell 30%, and the wholesale price index declined a staggering 47%, reflecting the weakened economy. U.S.
Rather than impose austerity measures on citizens practicing their own involuntary as well as voluntary austerities, the government spent money through various programs designed to create jobs and stimulate the economy.
Austerities of World War II
With's entry into World War II in 1941, government and industry geared up for the war effort and the economy finally emerged from the depression. America
At the same time, the government imposed widespread austerities on its citizens in the form of commodity rationing, including food, gasoline and other commodities essential to the war. Travel restrictions were imposed, wages and work hours were fixed, and new automobile manufacturing was stopped as plants which previously made cars turned out tanks, Jeeps and other military vehicles.
Belt-Tightening after the Great Recession
In the wake of the Great Recession which began roughly in 2008, the U.S. federal government, and state, county and municipal governments accumulated debt at a higher rate than seen in the previous 60 years. This was lower as a percentage of gross domestic product (GDP) than back in the 40's, but was increasing at a fast rate. These obligations taken on around 2008 included social security, Medicare and Medicare, pension requirements at every level of government, and of course the interest on debt - Treasury Bills, municipal bonds, general obligation bonds, and other promissory instruments.
As a result of these financial imperatives, widespread and deep cuts were imposed, and other cuts were discussed - some of which were both vigorously supported and vigorously opposed.
In addition to the austerities cited in the first section of this article, and with some specific programs noted below, many of the following were also implemented, or proposed for implementation:
- A reduction in pension benefits for new hires in the public sector - federal. state and local.
- A reduction in Medicaid benefits, which vary from state to state.
- Lower yields on government bonds, another form of belt-tightening.
- Cutbacks in budget appropriations for defense, education, infrastructure.
- Cutbacks in every form of previously provided social services.
- Cutbacks in foreign aid to targeted nations.
- The elimination of various bureaucratic redundancies and the elimination of certain departments of government deemed unproductive or unnecessary.
What's In Our Future: Austerity or Prosperity?
Do austerity programs work? America continues to test that hypothesis in the real world, in real time, rather than speculating on the theory of austerity. Belt-tightening worked well during World War II, but economic circumstances then were different than they are today.
What are the prospects for America? There are no certainties in economics - part science, part art, and subject to unpredictable variables. A burdensome austerity program and overwhelming debt may plague the American economy, and consequently its taxpayers, for the indefinite future. Or a vigorous economic recovery and long-term boom may be coming as a result of the austerity programs. Many a knowledgeable economist and savvy business people might predict a long period of exceedingly slow growth, if any. While economists may study their economic indicators and historical precedents and make their forecasts, nobody knows for certain when the next boom will begin, although if history is any indication, and with a little luck, good economic times are inevitable, sooner or later.
So, indeed, the U.S. has implemented austerity. The author of this falsely reported that an income tax was implemented during the War of 1812, but this is not true; it was considered, but never implemented. And as for FDR's social programs alleviating the burdens of the ailing economy during the Great Depression, this is also false; the only thing that brought the nation out of the depression was the start of World War II, which he arguably was responsible through an act of treason of starting.
***
So, there it is. Europe is suffering, but is it because of austerity? The nations of the Eurozone did, indeed, see their national deficits decrease, but there is still one problem: they still are engaged in deficit spending! According to Dr. Bagus, this cannot be if a nation is implementing austerity properly. From all indicators, it appears as if the U.S. is going to implement austerity as well, something that may have been occurring now since perhaps 2011 according to some articles I have read. The budget for 2014 as presented by President Obama predicts the federal government will pay down the deficit by $1.4 trillion. I do not know where he learned how to do his math, as this is a typical trait of Democratic lawmakers who believe they are going to cut spending and raise taxes when in fact that never happens. The president's implementation of Obama Care is going to cost about $1.8 trillion provided it does not fall between the cracks or, for that matter, get repealed by Congress. With his predictions that the economy is going to grow approximately $5.2 trillion between 2014 and 2023, where did he delude himself into thinking that we were going to have the deficit paid off by the last date of that time span? Does he really believe his "white elephant" of an economic strategy is going to pay off in the way of 3.5% real GDP growth along with 2.2% price inflation in order to maintain a deficit total of $500 billion? I don't think so.
What has Germany done to counteract the perceived ills brought forth by austerity? Looking at the graphs above, they have been taking in more tax revenue than they incurred public debt. And that, my friends, is why they are thriving under austerity while all other Eurozone nations except for Iceland and Latvia have struggled. Sadly, I fear that the U.S. will suffer the fate that other nations in Europe have endured due to the profligate spending of the Obama administration.
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