Tuesday 8 November 2011

Strategies of economic policy – and why it matters who decides

If this is not a case for the European Parliament, then what is?

If a country (or let's say, a continent) is at the same time in an economic depression and a massive sovereign debt crisis, there are only two possible ways out. One of them consists in fighting the debt crisis by raising taxes and cutting expenses – in the hope that this public austerity will bring back market confidence and the economic crisis will resolve itself. The other consits in revitalising the economy by a publicly financed stimulus package – in the hope that the restored economic growth will also increase tax income, solving the sovereign debt crisis.

Which way for recovery: saving or spending money?
Both strategies are based on different economic theories. A neoclassic will doubt the effectiveness of stimulus packages and therefore prefer the austerity option. A Keynesian, by contrast, will argue that business confidence doesn't rise out of nothing just because the state spends less money, and therefore defend an expansionary policy in order to raise aggregate demand. At the same time, both strategies have their own characteristic risks: if austerity fails, the economy will sink even deeper into depression, enteprises will go bankrupt, unemployment will grow and due to lower tax revenue also the public debt itself. On the other hand, if the economic stimulus fails, the government has just increased its debts even further and possibly also fueled inflation by the additional spending.

However, the immediate sufferers in both risk scenarios are different. When there is an economic depression, it is mainly the employees and the unemployed who suffer from low wages and lack of work opportunities. By contrast, an inflation caused by public stimulus mainly hits savers and owners of cash assets. Of course, at a closer look these effects are only relative, as an economic crisis also harms stockholders and an inflation often means lower real wages. But the short-term effects sufficed in order to structure the political spectrum of nearly all Western countries: parties left of the centre are typically Keynesian and ready to contract new debts in order to solve the economic crisis. Parties right of the centre are typically austerity-oriented and accept more economic recession in order to stabilize their national budget.

Independently from what strategy you prefer: this contrast between the political camps is a stroke of luck, as it gives the population an alternative. In a situation in which no decision is obviously right and all options are connected with enormous dangers, it is necessary for the legitimacy of any political measure to count with the assent of the population. In an economic and debt crises of such a great extent, a wise government would therefore dissolve the parliament in order to enable an orientative decision by new elections. In this way, people can decide themselves which of the risks they want to take – which means that they will be more ready to accept also the costs of a possible failure for which they have to take part of the responsibility themselves.

And Europe?
And now to the current crisis in the euro zone. The starting point is just the same I described above – the economy is depressed and stagnating, whereas the national budget of many member states is deep in dept. It is also easy to see which strategy decision has been taken: it is the austerity way, where the countries widely ignore the economic development and instead try to stabilize their budgets by saving measures. Even the negative consequences of this strategy are easy to detect – the unemployment rate in Spain is over 20 percent, the Greek one will probably be there too until the end of 2011, and youth unemployment has reached over 40 percent in both countries. However, the responsible for this decision is not a parliament elected by the European citizens. The European Parliament has no competency in fiscal policy, and the mingy EU budget would be insufficient for any serious economic stimulus anyway. Rather, the main responsible is the German federal government, which, as the most important financial backer of the Euro safety net, has been able to impose its economic ideas as disbursement conditions. Undoubtfully, there are several reasons why it did not opt for an active economic recovery plan (and all the talk about a "Marshall Plan for Greece" remained empty words until now): in the first place, the German culture of economic policy has long had a tendency to reduce expenses during crises and to rely only on export growth. Secondly, it is a liberal-conservative government which also ideologically is more closer to the neoclassical paradigm than to Keynesianism. And thirdly, most of those who suffer from the European strategy dictated by Germany are not Germans, but Spaniards, Greeks or Irish. (At least until now – after all, it is not impossible that, in form of a new recession, the crisis will strike back against Germany too.)

Even if you think austerity is good: it is really unsurprising that in this way it will not find much approval among those affected. It would be desirable to have a political system in Europe in which the Greek people wouldn't have to shout anti-German slogans if they are unhappy with the economic strategy – but could just decide, without ruffle or excitement, to vote for another party in the next parliamentary elections. In the next elections for the European Parliament, of course: because it has long become obvious that the Greek parliament is de facto unable to decide in a sovereign way on its national budget.

Image: Joyous! [GFDL or CC-BY-SA-3.0], via Wikimedia Commons

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