Failed Austerity Jeopardizes Euro Future

It is getting increasingly difficult to keep up with the unraveling of the European super-state project. Every day brings more news about the fiscal stress and its political fallout across the euro zone. But there is no reason to get frustrated: we here at the Liberty Bullhorn will keep up, and not just report, but also analyze the events as they unfold.

Today we hear yet more evidence of escalating desperation among Europe’s political elite. On the one hand we have yet more panic-driven budget cuts in one of the euro zone countries; on the other hand we have signs of a dawning insight spreading among the Eurocracy that the combination of a maintained euro zone and austerity is actually doing a great deal of harm to the entire continent.

Let’s begin with the latest round of panic-driven budget cuts. This time it is Italy that is desperately struggling to close a gaping hole in its budget:

Italian Prime Minister Mario Monti won a confidence vote on Tuesday (7 August) linked to another €4.5 billion worth of spending cuts aimed at convincing investors that Italy’s economy is sound. But fresh data shows a worsening recession and rising borrowing costs. The bill – which comes on top of previous spending cuts amounting to a total of €26 billion by 2014 – was approved with 371 MPs, while 86 said No and 22 abstained. The €4.5 billion worth of cutbacks will be implemented by the end of this year. The remaining €21.5 billion are to be spread out over the next years.

Some commentators here in the United States continue to claim either that there are no spending cuts in Europe, or to the extent that there are cuts, they are merely cosmetic. It would be interesting to hear how these cuts can be defined as mere cosmetics:

Thousands of hospital beds are to be slashed and 20 percent of top public officials to be fired as part of the austerity drive.

As I have explained earlier, Greece has already executed massive spending cuts along similar lines, and Spain is in full force slashing its government spending.

It is puzzling, to say the least, to see a growing wall of denial here in America about what is actually happening in Europe. It is bothersome that in the face of stark evidence, some commentators with influence over the public policy discourse – and over many key players in Congress – continue to deny that Europe’s welfare states are indeed cutting spending. There are a couple of possible explanations why these influential libertarians remain in denial about Europe; one is that they simply fail to understand the distinction between productive spending cuts and harmful spending cuts – a distinction I analyze at length in this paper. By refusing to grasp this distinction they conclude, falsely, that all spending cuts are the same. But all spending cuts are not the same: spending cuts associated with maintained or even increased taxes are particularly harmful.

Productive spending cuts roll back government permanently, combining less spending with deregulation and lower taxes. The problem for Europe is that it won’t give itself enough time to execute such cuts. Instead they pull out the fiscal chainsaw and slash the budget across the board – as fast as they can. This does, of course, have seriously negative consequences for a nation’s economy, as is evident in Greece today, as was evident in Sweden in the ’90s and in Denmark in the ’80s.

As the EU Observer reports, Italy is having a similarly bad experience with panic-driven budget cuts:

Meanwhile, fresh data shows that Italy’s gross domestic product shrunk by 0.7 percent in the April-June period compared to the previous three months. Italy’s borrowing costs for the benchmark 10-year bond are also above six percent, less than one percent short of what is considered bailout territory. Monti in recent months relentlessly pushed for a “semi-automatic” intervention by the eurozone’s bailout funds and the European Central Bank (ECB) when countries, such as Italy and Spain, do the right thing but pay too much interests on their bonds.

The Italians are faithfully executing their austerity-driven budget cuts, just as dictated by the ECB and the EU, under the auspices that as they do the cuts the world’s financial investors will regain confidence in their treasury bonds and interest rates will go down. That is, of course, not happening. Any student of macroeconomics with any insight into phenomena such as the paradox of thrift will know that austerity – the combination of across-the-board, right-now spending cuts and sustained or increased taxes – will in fact prolong an economic crisis. If harsh enough, austerity will send the economy hurling into a depression.

Investors on the world’s market for treasury bonds know about the paradox of thrift. That is why, as the EU Observer reports, the spending cuts executed…

…by the Italian technocrat – a respected economics professor and a former EU commissioner – have so far failed to impress markets.

A major reason why the ECB and the EU are forcing ailing euro-zone welfare states into these reckless, destructive austerity policies is that they are trying, very desperately, to save the common currency. They rightly conclude that excessive borrowing in countries like Greece have negative ramifications for all of the euro zone, but they also, and wrongly, conclude that austerity is the way to eliminate that borrowing. Therefore, they have bet the future of the entire euro zone on the hope that these austerity policies will work. Which they don’t.

As the austerity policies fail in country after country within the euro zone, the common currency itself grows weaker and weaker. This is now, slowly, dawning on the Eurocrats who have thus far adamantly protected their political super-state project. But reality has a way of getting to you no matter how much you try to shield yourself from it. Therefore, it is not surprising that we now hear, in another EU Observer story, that one of the very architects of the euro zone is slowly coming around:

Former European Central Bank (ECB) chief economist and German central banker Otmar Issing has warned that the eurozone may split up – another voice in the chorus talking about a Greek exit from the common currency. “Everything speaks in favour of saving the euro area. How many countries will be able to be part of it in the long term remains to be seen,” Issing wrote in his latest book, entitled: “How we save the euro and strengthen Europe.” Seen as one of the founding fathers of the euro, as he was at the ECB when the euro was launched in 1999, Issing contradicted the current ECB chief who last week insisted that the euro was irreversible. … The role of the ECB as a firefighter in the euro-crisis is also something Issing dismisses: “The less politicians address the root of the problems, the more they look with their expectations and demands to the ECB, which is not made for this. It is a central bank and not an institution to rescue governments threatened by bankruptcy.”

In other words: stop bailing out failing welfare states. He does not point to the welfare state as the root cause of the fiscal problems around the euro zone, but at least he admits that it is not the role of a central bank to print money at the request of spendoholic politicians.

Again, as the EU Observer story continues, we hear how more and more Eurocrats and high-ranking European politicians are admitting that the euro zone is about to break up:

Issing’s book come just a few days after the head of the Eurogroup of finance ministers, Jean-Claude Juncker, said that the area would “manage” a Greek exit, even if it was not desirable. German economy minister Philipp Roesler last month said the prospect of Greece leaving had “lost its terror,” while regional politicians in Bavaria are demanding for the country to exit by the end of the year.

A Greek euro exit is not just palatable, but necessary. This growing support of a break-up of the euro zone could very well originate in a growing realization among Europe’s leaders that if Greece is not allowed to leave, the country will continue to nudge closer to an extremely dangerous political and economic breaking point. As the EU Observer explains, the politicians in Athens are forced there by the IMF, the EU and the ECB – holding hostage those who critically depend on the Greek welfare state for their daily survival:

Dow Jones newswire reported that the troika of international lenders is delaying its return to Athens to October, rather than September, amid continued struggles by the Greek government to seal a deal on €11.5 billion worth of spending cuts. The cuts are needed for more money from the €130 billion bailout to flow to the troubled country, upon a troika report saying the Greeks are doing the right things. In the meantime, the country is rapidly running out of cash. A €3.1 billion bond held mostly by the ECB matures on 20 August, posing an immediate liquidity risk to the twice-bailed-out nation. Deputy finance minister Christos Staikouras told Skai tv that the spending cuts must be finalised by 14 September when eurozone finance ministers are meeting in Cyprus for an informal gathering. The cuts were due to be sealed in June, but after two successive elections, Greece has missed all the deadlines for this year. “We are looking everywhere,” conservative Prime Minister Antonis Samaras told reporters in Athens.

The breaking point that Greece is heading for is more dangerous than anything Europe has seen since the Berlin Wall crisis in 1961. It is putting the very democratic system of government in jeopardy. When a welfare state tries to balance its budget by means of austerity, the ultimate victims will be democracy and freedom. Hopefully, it is this insight that is now dawning on Europe’s otherwise stalwartly arrogant leaders.

If so, there is still hope that Europe can turn around before the entire continent goes over the cliff and down into the abyss of authoritarianism and industrial poverty.