Is Austerity the Solution?

According to the United States Department of Labor Survey, the United States added just 83,000 private sector jobs in the month of June 2010.  Additionally, the unemployment rate did decline from 9.7 percent to 9.5 percent, but as 652,000 American citizens left the workforce, the decline in unemployment is not an accurate picture. 

In order to improve the state of the economy, many politicians, including ones in the United States, are now embracing austerity.  For instance, while the G20 was more in favour of a stimulus in 2009, but now many G20 leaders are actively discussing and embracing austerity measures.  In fact, at the G20 Meeting in June 2010 in Toronto, Ontario, the leaders pledged to cut their deficits in half by the year 2013. 

That said, people against austerity in the United States say that budget cut supporters are doing exactly what Herbert Hoover did – before the country launched into the Great Depression in the 1930s.  They argue that cuts to the deficit at present will only result in economic stagnation – since at present, the economic output is really low, unemployment is high and consumer spending is low.  Instead, most economists against austerity argue that it is better to stimulate the economy now and pay back the deficit when the economy is booming once again.  They understand that the US has a large deficit, but they argue that since both a deficit cut and a stimulus have unknown outcomes, that it is better to implement the policy that will cause the least amount of damage if implementing a stimulus turns out to be an incorrect choice.  They state that if a stimulus turns out to be unnecessary, the deficit would only be increased by a fractional amount.  However, if the stimulus was necessary and it was not implemented, then the economy could plunge into a second recession or even a depression.  In turn, long-term deficit reduction would be extremely difficult. Further, unlike some countries, countries are willing to loan the United States money at the present time.

On the other hand, austerity proponents are concerned about the growing deficit.  They believe that by reducing the deficit, consumer confidence will grow and in turn consumer spending will increase.  These individuals believe that higher deficits cause the general public to feel more risk adverse and more insecure in general. They argue that these consumers will be afraid of tax increases, inflation, loan defaults and general economic problems that can result from an over-inflated deficit.  They also state that the United States’ national debt is one of the top concerns of Americans.  Thus, if the American government worsens the public debt, both consumers and businesses will feel uncertain – and generate an uncertain American public in turn.  Further, many individuals believe that a stimulus will not even help the US economy as well.

That said, still others believe that the arguments for and against austerity are oversimplified ones.  The argument against austerity does not take into account the fact that there are many companies across the United States that are currently hoarding their money – instead of investing it.  These businesses are not investing money due more to fiscal and regulatory reasons than due to poor consumer demand.  The austerity supporters argue that if the US government addressed these businesses’ concerns, then these organizations would be more likely to invest this money.

Further, many other people state that the arguments for austerity are oversimplified as well.  For instance, austerity supporters use examples of how various countries such as Canada cut their deficits in the 1990s and had excellent economic results – while both their currencies and interest rates weakened which in turn affected anyone who is a forex trader.  Today, this option is not available as interest rates are low already and all currencies from wealthier nations cannot depreciate all at once.  As another example, Ireland imposed austerity and experienced growth in the 1980s, but this growth was dependant on a drastic change from a trade deficit to a trade surplus – and not all countries can implement this strategy at the same time.  Thus, some people say that the pro-austerity argument is based more on speculation than actual data.

With respect to how austerity is actually working for countries, Ireland is one such country that has recently implemented austerity measures.  As of right now, the country is in a severe economic slump.  Estonia and Latvia also implemented deficit cutting measures and those countries are in severe economic shape as well.  In addition, Greece was forced to implement austerity measures this year – and thousands of people protested on the streets of that country.  In turn, this social unrest has a negative impact on both the country’s bond markets and the Euro – and directly affects traders as well.  On the other hand, some countries’ citizens are more willing to accept austerity measures and their markets have reflected this situation.  For instance, since Brits are more accepting of a government announcement that the country will decrease spending by two percent of its GDP in 2011, both its bond markets and its currency strengthened.  That said, despite the current government support for austerity in Europe for instance, there is still worry over whether the austerity cuts will go too far and/or if the governments will have the political will to continue implementing economic reforms.

Overall then, while austerity appears to be gaining momentum in the United States and internationally, austerity remains a controversial subject among economists at the present time.

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