UCL European Institute


Austerity is not Working

17 May 2012

John Maynard Keynes argued that ‘Economics is a moral and not a natural science’. Analogously, austerity policies should not be seen as a natural or a hard science. On the contrary, it is an ideological and normative construction. Supporters of austerity aim to deregulate further labour markets. In their most extreme expression – the ‘Shock Therapy’ scenario - such as Pinochet’s Chile in the 1970s, Russia in the 1990s, Argentina in the 2000s or today Greece and Portugal – austerity policies inflict incommensurable suffering on the populations which are subjected to it. What is more, they are not working.

1. Why austerity?
Put simply, the idea is that too many Eurozone countries have lived beyond their means for too long and now need to take responsibility for their profligacy. Budget retrenchment will ensure that countries live within their means while deregulation, privatisation of ‘bloated’ public services and more flexible labour markets will make them leaner and fitter. Before too long a revitalised Europe will be punching above its weight in the global economy.

It is worth noting that Spain and Ireland are both in deep recession and subjected to draconian austerity policies. However, they had very modest public debts compared to France and Germany before the beginning of the crisis. The large deficits were created, not by the state, but by private sector borrowers – notably property developers and mortgage borrowers – who took on unsustainably large debts.

It is also worth remembering that France and Germany were among the first countries to break the Stability and Growth Pact which does not allow member states to have an annual deficit of more than 3% of budget deficit to GDP, while Spain and Ireland ran surpluses before the 2008 crisis. Germany was in breach of the deficit/debt rule in 1998-99, 2002–05 and 2008–10.

It is finally worth observing that the public bailouts of private banks in 2008-09 hardly get a mention nowadays. Yet, these bailouts are largely responsible for aggravating the public deficits. Today, government and bankers pretend that the deficit has been created by ‘excessive’ welfare spending and labour costs. 

2. What is the main purpose of austerity?
The main purpose of austerity is to restore the profitability of the capitalist sector of national economies after the Great Recession and resulting decline in profits. The decline in profits was counteracted by a massive expansion of credit in the 2000s leading to the credit crunch and the Great Recession. Now profitability needs to recover and the policies of austerity are designed to help do that. 

So the ‘Austerians’ see the need to keep government spending down, reduce the ‘size of the state’ and cut sovereign debt not as ends in themselves, but as part of an effort to revive profitability in the capitalist sector by cutting the costs of taxation and welfare. 

Indeed, the most important policies of austerity are not really the control of government spending but the accompanying ‘supply-side’ reforms that aim to ‘liberalise labour markets’: i.e. cut jobs, reduce wages, lower pensions; in other words, lower the cost of variable capital (i.e. labour costs) and drive up the rate of surplus value. 

3. Who supports austerity?
Only a small number of people supports austerity, but they are very influential and powerful: the world of finance, of big business, the ‘Troika’ (IMF, European Commission and ECB) and all governments in Europe.

Austerity policies are no longer carried out exclusively by conservative or right-wing governments. Social-democratic governments support austerity as well, although grudgingly. When they are in opposition, they tend not to oppose austerity - or to avoid using the infamous ‘A-Word’ - they do not oppose ‘cuts’. In the UK, Ed Miliband is not opposed to ‘cuts’ in public spending in general, but he just objects to the timing, pace and scope of the cuts decided by the Liberal-Conservative coalition government.

François Hollande had promised French voters to undo Nicolas Sarkozy’s austerity policies and renegotiate the Fiscal Compact. He broke each of these fundamental promises. In line with Sarkozy’s economics, dramatic cuts have been adopted, VAT will rise and taxation on the rich will be minimal and temporary.

Austerity is conceived by the majority as trying to destroy people’s living standards now and in the future. On 14 November 2012, Europeans took part in the first pan-European strike to oppose austerity policies in Europe. There were demonstrations across 23 countries and general strikes in Spain and Portugal.

4. Does austerity really work?
According to most prominent economists, austerity does not work. Joseph Stiglitz (in The Guardian, 17 August 2012) argued that ‘[N]o large economy has ever recovered from a downturn as a result of austerity. It is a certain recipe for exacerbating the recession and inflicting unnecessary pain on the economy. Any additional spending should address the longer term problems – inequality and industrial restructuring – and target the neediest in society who, because of the downturn, are suffering the most. A more progressive tax structure – higher taxes at the top, lower taxes at the bottom – would stimulate the economy. Taxing the excessive speculation that goes on in the financial sector would also be a good thing’.

Paul Krugman advised George Osborne (in The Guardian, 12 August 2012) to ‘[d]o the opposite of what you've been doing for the last two years. This is a time for the UK government to be borrowing and spending. If everyone tries to slash spending at the same time, that's a recipe for what you've got: a depressed economy’.

The case of Greece is mind-blowing. The IMF-EU austerity measures have reduced Greece from a developed to an underdeveloped country, given that under austerity in the past two years GDP has declined by an astonishing 13%, and is expected to drop an additional 5-8% by the end of 2012.

As a result of austerity:

  • Greece had an unemployment rate at over 25% in January 2012 (or double what it was before 2008)
  • Poverty affects 1/3 of the population (+10% what it was before 2008);
  • Wages and social security benefits have dropped by 40% and living standards have dropped by 50%
  • Public debt has risen from 120% of GDP before the IMF-EU austerity to 160% today and is expected to rise at 192% by 2014
  • Small businesses, which employ the vast majority of the labour force, are closing at a rate of 5,000 per month this year, on top of roughly 100,000 small businesses, employing 250,000 people, going bankrupt since the beginning of austerity
  • The tax burden has fallen on the salaried sector and social security recipients, not on the tax evaders, especially the millionaires who owe billions to the government
  • Of the 160 billion euros in new loans, in addition to the previous 160 billion euros, roughly 80% goes back to creditors to service past debts, 15% for Greek banks and 5% to pay existing government obligations to domestic and foreign creditors. Not one euro of those 320 billion in bailout has gone for economic development or social programs
  • To top it all, Greece now has an openly pro-Nazi party, Golden Dawn, whose members freely beat up foreigners in the streets of Athens and allegedly collude with elements of the police. In May 2009, Golden Dawn received 0.46 % of the total votes at the EU election. In the parliamentary elections of June 2012, Golden Dawn received 6.92% of the share of the vote and elected 18 MPs