The European Situation?

I note a new post here on the Cynicuseconomicus blog:

The European Situation, June 11, 2011

The main argument is as follows:

“Since the alarm bells about the debt of Greece, Ireland, Italy, Portugal and Spain were first rung, there have been a series of deals, bailouts, negotiations, austerity measures, and on and on... but still the crisis pops back into life. … In all of the above cases, the economies were living on too much borrowed money, and that borrowed money shaped the structure of the economies. The direction of that money was into consumption, and the consumption beyond the actual income was unsustainable. However, a county that has lived on borrowed money has developed an economic structure to support the consumption of the wealth creation of other countries. In simplistic terms, this translates into the means of importing and distributing goods and services paid for by the wealth creation of other countries.”

The complaint here appears to be that excessive private debt in the EU was causing trade deficits and importing of goods from other countries.

But what type of analysis of the EU neglects to mention that Germany – the largest economy in the EU – has a huge trade surplus and current account surplus, and massive manufacturing base? Germany, along with North Europe, trends to give the whole EU a trade surplus or trade balance. Since the EU is supposed to be run as a whole economic unit, the trade deficits in the rest of the union are no more a problem than the state trade deficits inside certain areas of Germany.

The main trouble with the EU is that a monetary union without federal fiscal policy is a disaster, and this is what we are seeing happen as some EU nations are broken on the cross of gold that is the Euro. Because of the neoliberal monetary system, EU countries like Ireland, Greece and Spain cannot devalue their currencies or engage in aggressive bond purchasing programs to drive down their bond yields and make government deficits (and fiscal stimulus) easier to sustain. Their policy options are reduced to austerity and internal wage and price deflation. And this is the road to serfdom, as can be seen plainly in Latvia. Internal wage and price deflation only results in debt deflation, mass unemployment, and the collapse of perfectly healthy sectors of the domestic economy.

We can contrast the export-led growth in Latvia that has come at a price so brutally high that no sane human being could tolerate it, with the export-led growth in the UK, where sterling depreciation (with QE and Keynesian stimulus for the domestic non-tradable sector) has seen a rise in the UK’s exports in early 2011 in which total sales of goods overseas rose by 1.3% to £25.1bn in February, the highest since 1980. It is austerity in the UK’s trading partners that will derail that export-led growth, but it is precisely austerity that advocates of internal wage and price deflation propose for Europe and other countries around the world!

The other issue raised by the post is that it seems to pre-suppose the idea that a trade deficit or current account deficit is a sign that a country is “living beyond its means.”

This is simply false. If a country manages to attract a capital account surplus to fund its current account deficit, then it is certainly not living beyond its means. The nation attracted the money needed to pay for imports – the means to pay for current account deficits were available because foreigners bought that country’s financial assets or real assets and the US dollars (or other foreign exchange) to pay for imports flowed in, as foreigners freely gave that money in exchange for ownership of domestic assets. Simple as that. The only time that a country is actually “living beyond its means” is when it has a balance of payments crisis.

A New Post at Cynicus Economicus

I see with some interest that the Cynicus Economicus blog has a new post, which I urge people to read:

“An Occasional Return,” April 27, 2011.

There are some comments on the UK, as follows:

“The simple fact of the matter is that, despite talk of austerity, the UK government continues upon its binge of borrowing and spending …. The UK economy is still sitting upon the life support of government borrowing, and has yet to face what might happen when the borrowing stops, and repayment starts. Even with the linked inflation and currency devaluation, the UK debt position remains in a dire position.”

In reality, the UK government-debt-to-GDP ratio is about the middle of the range and (for the UK) not historically that large:

List of sovereign states by public debt

UK National Debt Charts, Three Centuries of the National Debt.

Both Germany (at 83.20%) and France (at 81.70%) have worse government-debt-to-GDP ratios, yet the sky is not falling in those nations.

The fact that government borrowing has continued and the government-debt-to-GDP ratio has risen under the Tories is not even remotely surprising. Why? First, the real effects of austerity are only kicking in this year, and, secondly, there is already ample evidence that, without truly extreme cuts, austerity causes the budget deficit to get worse, as economic activity and tax revenues plunge, and more people become unemployed and claim social security from the state.

Take a look at Ireland. Ireland rejected Keynesian stimulus, and implemented austerity early. The result? By 2009, it already had the biggest budget deficit in Europe in terms of the percentage of its GDP. The country suffered a depression and the government-debt-to-GDP ratio is now 123.80%. Stunning proof of the success of this type of austerity?

The apologists for austerity will perhaps complain that the cuts weren’t deep enough. To really cut government spending and debt the austerity has to be so brutal that the country is plunged into severe depression and people are driven overseas. This is what has happened in Latvia:

“Neoliberal austerity [sc. in Latvia] has created demographic losses exceeding Stalin’s deportations back in the 1940s (although without the latter’s loss of life). As government cutbacks in education, healthcare and other basic social infrastructure threaten to undercut long-term development, young people are emigrating to better their lives rather than suffer in an economy without jobs. More than 12% of the overall population (and a much larger percentage of its labour force) now works abroad. Children (what few of them there are as marriage and birth rates drop) have been left orphaned behind, prompting demographers to wonder how this small country can survive. So unless other debt-strapped European economies with populations far exceeding Latvia’s 2.3 million people can find foreign labour markets to accept their workers unemployed under the new financial austerity, this exit option will not be available.”
Michael Hudson and Jeffrey Sommers, “Latvia provides no magic solution for indebted economies,” Guardian, 20 December 2010.

Perhaps there are some who want to claim that this is actually a vindication of their approach to economics.

Fortunately, the economic theory behind austerity of any type is deeply flawed, and an alternative is available to us: Post Keynesian economics.