The GDP figures published in the Eurostat press release on the 15th of November 2012 for the Economic and Monetary Union (euro area) marked the confirmation of a double-dipped recession (with negative growth in quarters 2 and 3 of 2012). Gross domestic product was 0.6 per cent lower in the third quarter of 2012 compared with 12 months earlier. Germany and France have so far managed to escape the double dip for the present, but most other countries, including the more hawkish on fiscal austerity (such as Netherlands, Finland) recorded lower output in 2012 Q3 compared with 2011 Q3. For other European Union (EU) countries, the UK had emerged from its double-dip recession with Olympic boosted growth in Q3 after three quarters of negative growth, leaving 2012Q3 GDP at same level as 12 months earlier. Output remains below its 2007 level in the EU and in the European Monetary Union (EMU) — indicating, in effect, at least a lost half-decade.
The return of recession is symbolic of the failure of the austerity programmes, which have been striking down economic activity throughout the EU and EMU. It should give rise to some thoughts as to why the austerity programmes are not working to bring down budget deficits without damaging economic activity. There have been many claims that austerity does work in that the so-called fiscal consolidation brings down deficits and restores full employment – under the heading of expansionary fiscal consolidation. The national income accounts equality between income, output and expenditure necessarily means that a rise in output has to go alongside a rise in expenditure. A cut back in public expenditure can then only go alongside a rise in output if there is a more than compensating rise in private expenditure. The mainstream argument (wrapped up in arguments such as the Ricardian Equivalence Theorem) is that indeed cutting public expenditure will “restore confidence”, lower interest rates, etc., leading to higher private expenditure.
It has to be recognized that a capitalist economy goes through periods of boom and bust, and that if the fiscal consolidation occurs during a boom phase, then the budget deficit can indeed fall (as tax revenues rise with the boom) and economic activity can rise. In the USA in the second half of the 1990s, the budget deficit programme of Clinton occurred alongside an IT-stimulated investment boom (and the dot.com bubble) and the budget moved into surplus and unemployment fell.
But it was not the efforts at fiscal consolidation which brought down the deficit but the investment boom, and when the investment faltered the budget position turned from surplus into deficit. The lessons from austerity and fiscal consolidation programmes should be clear – when through luck or good judgement a programme of fiscal consolidation goes alongside an investment or export boom then it can reduce deficit and sustain economic activity. But when (as in present circumstance) investment is sluggish and prospects for exports are generally poor, then fiscal consolidation has little impact on reducing the budget deficit and comes at the expense of a revival of economic activity.
The situation within the EU threatens to be a grave one as further austerity comes into effect. The British government’s austerity programme announced in June 2010 for a five year period was structured so that the majority of cuts are still to come. It is, though, the application of the fiscal compact of the EMU, which gives most cause for concern: we have discussed the nature of the fiscal compact in previous blogs: ‘The Dangers of Pseudo Fiscal Union in the EMU” and ‘The EU ‘fiscal compact“. The fiscal compact drives the countries of the EMU to adopt deflationary measures at much the same time, and a programme of co-ordinated deflation. Whilst the EMU has rather low trade with the rest of the world, there is very substantial trade between the EMU countries—so rather than being rescued by an export boom, each country is faced with recession in its major trading partners.
It must also be noted that member countries with a public debt in excess of 60 per cent are required to run a budget surplus designed to reduce its debt level by one twentieth of the difference between their debt ratio to GDP and 60 per cent. The central focus of the fiscal compact is on the achievement of a so-called structural balanced budget – that is, a budget which would be in balance when the economy is operating at “potential output.” In ‘The Fiscal Compact is Unachievable”, (Social Europe Journal) we have argued that a government budget in balance and actual output equal to potential output (or full employment), are in general incompatible. The historic experience of most industrialised economies throughout the post-war period is that budget deficits are required to sustain the level of demand. The common pursuit by EMU countries of the unachievable balanced budget will bring further austerity.
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