O’Austerity

Liz Alderman at NYT:

As Europe’s major economies focus on belt-tightening, they are following the path of Ireland. But the once thriving nation is struggling, with no sign of a rapid turnaround in sight.

Nearly two years ago, an economic collapse forced Ireland to cut public spending and raise taxes, the type of austerity measures that financial markets are now pressing on most advanced industrial nations.

“When our public finance situation blew wide open, the dominant consideration was ensuring that there was international investor confidence in Ireland so we could continue to borrow,” said Alan Barrett, chief economist at the Economic and Social Research Institute of Ireland. “A lot of the argument was, ‘Let’s get this over with quickly.’ ”

Rather than being rewarded for its actions, though, Ireland is being penalized. Its downturn has certainly been sharper than if the government had spent more to keep people working. Lacking stimulus money, the Irish economy shrank 7.1 percent last year and remains in recession.

Joblessness in this country of 4.5 million is above 13 percent, and the ranks of the long-term unemployed — those out of work for a year or more — have more than doubled, to 5.3 percent.

Now, the Irish are being warned of more pain to come.

“The facts are that there is no easy way to cut deficits,” Prime Minister Brian Cowen said in an interview. “Those who claim there’s an easier way or a soft option — that’s not the real world.”

Paul Krugman:

The key thing to bear in mind about calls for harsh austerity in the face of a a depressed economy is that such calls depend on two propositions, not one. Not only do you have to believe that the invisible bond vigilantes are about to strike — that you must move to appease markets, even though right now bond buyers are willing to lend money to the United States at very low rates; you must also believe that short-term fiscal cutbacks will in fact appease the markets if they do, in fact, lose confidence.

That’s why the Irish debacle is so important. All that savage austerity was supposed to bring rewards; the conventional wisdom that this would happen is so strong that one often reads news reports claiming that it has, in fact, happened, that Ireland’s resolve has impressed and reassured the financial markets. But the reality is that nothing of the sort has taken place: virtuous, suffering Ireland is gaining nothing.

Ryan Avent at Free Exchange at The Economist:

For it’s trouble, Ireland has suffered rising borrowing costs alongside Greece, Portugal, Spain, and Italy. An early austerity push did nothing to convince markets that Irish government debt was a safer bet than southern European debt. Ireland has succeeded in cutting labour costs, but with consumers and businesses retrenching everywhere, this hasn’t turned into an export bonanza (devaluation against Europe would help but is obviously an impossibility for any euro zone nation). As recovery proves illusory, a steady stream of Irish are leaving the country for greener pastures elsewhere.

What this should illustrate is that austerity alone won’t necessarily lead to economic salvation (eventually). Positive experiences with budget cuts are almost always associated with devaluations, which are off the table for euro area members. They’re usually combined with structural reforms, but Ireland has already rid itself of much of the burdensome economic rules that held back its economy in earlier decades. Austerity can also boost growth by reducing interest rates, but this isn’t helpful when markets shrug off the cost-cutting (as they have where Ireland is concerned) or when rates are already low (as they are in America and Britain).

Reihan Salam:

The story is vividly written, and it includes a number of harrowing examples of urban decay and distress. One wonders, however, if we can judge the decision to embrace budget-cutting on this short a time horizon. Did anyone expect austerity policies to yield robust growth in the space of a few months? There is a tragedy here:

Despite its strenuous efforts, Ireland has been thrust into the same ignominious category as Portugal, Italy, Greece and Spain. It now pays a hefty three percentage points more than Germany on its benchmark bonds, in part because investors fear that the austerity program, by retarding growth and so far failing to reduce borrowing, will make it harder for Dublin to pay its bills rather than easier.

But we don’t have a very good sense of the counterfactual. Would investors have rewarded Ireland for engaging in a major fiscal expansion? And will we see the so-called PIIGS diverge over the next few months as the various governments embrace different policy responses?

Calculated Risk:

As the Irish government cut the budget, the economy contracted faster and the deficit as a percent of GDP increased.

And how will they break the downward cycle? Export to England and America …

[T]he government is pinning nearly all its hopes on an export revival to lift the economy. Falling wage and energy costs, and a weaker euro, have improved competitiveness.

This approach works for one country – or a few – but not if every country is doing it.

Atrios:

One hopes something will wake up our elite policymakers. Maybe a stock market crash would do it. But their track record has not been very impressive, though as we all know, nobody could have predicted…

Megan McArdle:

If Ireland hadn’t done the austerity budget, it might now be more like Greece–in danger of default without massive intervention from the rest of the European Union.  Intervention that might well not be forthcoming, if it became clear that too many countries were going to require it.

Of course, we do not yet have uncontrolled inflation (or really, any sort of inflation) in the United States.  And demand for US debt remains robust.  So why wouldn’t we try more stimulus?

That’s a plausible argument.  But you have to balance it against another plausible argument, which is that all the countries who are now in trouble were once countries who found themselves able to borrow at surprisingly attractive rates.  In fact, due to external market conditions, these rates were actually often somewhat lower than they were used to paying.  This did not end well.

Austerity is an expensive form of insurance against a true fiscal crisis.  And though it doesn’t necessarily seem like it when you’re not having one, fiscal crises are much, much worse than austerity budgets.  Fiscal crisis means that rather than unpleasant cuts, you have sudden, unmanageable collapses in things like public pension plans.  The resulting suffering is not unpleasant; it is disastrous.

A year or two ago, I’m sure some corporate executive at BP was asking why the company would consider installing expensive remote control valves on its offshore rigs, when this sort of spill is extremely rare, and the fail-safe might not even work.  One could even argue that given the economic cost of higher gasoline prices, and the rarity of these spills, BP made a good bet.  We might well . . . if the spill hadn’t happened.

But once it has, we’re damn sure that we wanted them to be a lot more careful, no matter what the cost.

Just as even before the spill, some environmentalists were sure they wanted the added protection at whatever cost, some fiscal hawks are sure they want the added protection from fiscal breakdown.  Given that the odds of fiscal crisis are less than 100%, this is certainly arguable.  But unless you know how much less than 100% they are, it’s not exactly crazy to try to head it off by spending less than the bond markets are willing to let us.

Alex Massie:

Responding to this New York Times piece on Ireland’s ecoomic woes Matt Yglesias, Ezra Klein, Kevin Drum and Steve Benen echo Paul Krugman and say: See, this just shows how stupid austerity measures are. And it’s true, Ireland really is in a terrible hole and won’t be getting out of it any time soon.

[…]

But the austerity-sceptics, while keen to use Ireland’s misery for their own domestic political reasons (and never mind that there’s precisely zero evidence that the Republican party is seriously interested in deficit-hawkery), make some of the same mistakes anti-stimulus campaigners in America insist upon committing themselves. That is, what if there hadn’t been a stimulus package? Maybe things would be even worse?

Now this is, of course, a tricky position. But one reason the Democratic Congress is unpopular is the sense, fair or not, that massive amounts of public money have been squandered on expensive stimulus packages that have little to show for themselves. The stimulus’s defenders say: ah, but think how bad things might be without it? And they may well have a point, even though it might be optimistic to expect voters to give Congress credit for staving off something that might have happened but hasn’t or to give Congress brownie points for matters not being as bad as they might otherwise be.

Sauce for the stimulus goose is sauce for the austerity gander however. It’s entirely possible that Ireland might be in an even worse position if it hadn’t opted for austerity. Apart from anything else it’s much too soon to say for sure. This is a point Megan McArdle makes and I commend her post to you.

But let us suppose the Irish had pretended they had not in fact run out of money. If Ireland “pays a hefty three percentage points more  than Germany on its benchmark bonds” despite its austerity measures then surely it might be paying a heck of a lot more than that without them? I don’t pretend to be any kind of economics whizz but this seems reasonably – perhaps dangerously! – elementary.

I don’t believe the Irish example necessarily holds many lessons for the United States (or even the United Kingdom) so I’m not quite sure why people are claiming it does (one way or the other). Ireland was well-placed to take advantage of the 1990s boom; rather unfortunately and for a number of complicated reasons, few of them having much to do with economics, it mismanaged that success. But, dependent as it was and is on financial services, inward investment and, of course, the construction industry Ireland was especially ill-placed to survive once the bad times came rolling in to town.

This being so, I’m not sure a policy of just pumping more money into the system (in as much as theyd have been able to do this anyway, what with the euro and all) would have done much to benefit Ireland. Nor is it actually obvious to me what the Irish could reasonably have spent this magic money on. More to the point, it seems heroically adventurous to suppose that there’s a Right and a Wrong approach to these matters. More probable, it seems to me anyway, is that there’s a choice of unpalatable measures all of which are likely to produce disappointing results. Saying, as Ezra does, that “Ireland made the wrong choice” and that “it didn’t have to be this bad” seems both too certain and too optimistic.

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Filed under Economics, Foreign Affairs, The Crisis

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