By G. J. Weill 05.07.2010
Austerity: how to kill economic growth.
Those days the new fashion policy in Europe is Austerity. England, France and Germany launched the new summer style: reduce spending and increase taxes in order to reduce deficits.
The goal is to persuade investors that there is no sustainability problem in Europe. The main objective is to show European lenders that the European members are able to pay back their debts. This noble ambition could be a great idea in a growing economic context in order to fight inflation and to guarantee a stable economy. But some politicians of the European countries forgot that Europe is only starting to recover from the Crisis.
To implement an austerity economic policy in Europe at this moment is like denying water to firemen. It is imprudent as it is counterproductive.
The European council fought so hard to get the 500-bilion-euro-crisis fund. This was more than enough. There is no sustainability problem in Europe. The members of the EU still borrow money at a very low cost on the markets. So why do European leaders have to launch such a counterproductive economic policy?
The advocates of such policy are telling everyone that it is a necessary move to reestablish confidence in the market. In order to do so governments cut the expenses and want to raise taxes. Georges Soros thinks that this kind of policy could kill the European currency and even the “European project”[1]. Obviously his statement is made in order to increase the European public awareness of the dangerous aspect of austerity policies.
The crisis is not over. The unemployment rate in the developed countries[2] is still very high (8.6%[3]). and the GDP rate was negative in Europe in 2009 (-4.7%[4]) . The most amazing thing is that inflation is very low in Europe (1%) so why should the European leaders implement such policy?
The IS-LM model showed that thanks to a strong budgetary policy (low tax and high public expenses) the economy is strengthened. Instead of cutting the public budgets, Europe should spend more in order to facilitate the economic growth and development. Instead of doing so, the governments are cutting expenses and try to implement an austerity fiscal policy. The second part of the model is about the monetary policy. The interest rate has to be low in order to give the opportunity for entrepreneurs to launch new projects. Actually the interest rates in Europe (and in the rest of the world) are low.
Unclear policy
The main problem with the EU economic policy is its lack of transparency. The monetary policy is administered by the European Central Bank. The main goal of Mr. Trichet, the Chairman, is to prevent inflationary pressure. His prerogatives are not purely for economic growth but rather the prevention of inflation. The budgetary policy is run by each European government and focuses only on the economic growth. This dissociation between the two main tools of the economic policy (i.e. monetary policy and economic policy) leads to a lack of effectiveness. Instead of working together to implement efficient economic policies the ECB and the European governments don’t team up to achieve the same goals.
The main goal has to be Economic Growth. Implementing an austerity policy , will lead to what happened in the 1990’s in Japan. It is what the economists called “the lost decade”. After a strong economic growth, Japan experienced an economic crisis in the beginning of the 1990’s.The government s reaction was to implement an austerity economic policy (increase of the interest rates).The debt burden was too heavy on the companies and the crisis worsened.
Instead of austerity and being afraid of hypothetical inflation, European government s and the ECB should concentrate their efforts to implement efficient economic policies to decrease unemployment and increase economic growth.
