Thursday, July 28, 2011

All Roads Lead To Austerity

Yesterday, Bloomberg contributor Scott Minerd wrote an editorial suggesting that the Euros need to get their act together. It was a pretty standard summary of conventional wisdom and included this bit:
Austerity Doesn’t Work

In short, the data are proving that without currency devaluation, austerity simply doesn’t work. Crisis in Europe has not been averted; it has only been modestly postponed. Yet policy makers remain committed to the path of waiting and hoping for the best, seemingly oblivious to the need for significant structural reform.
To me, this doesn't make any sense at all. Austerity isn't a solution to a problem, it's a consequence of our actions. The math is simple.

If, up to now, you've lived like this:
Spending1 = Earning + Borrowing
and now your creditors won't lend you any more money, you have to live like this:
Spending2 = Earning.
This is simplified, but it's close enough. From these equations, it's naturally obvious that
Spending1 > Spending2.
That is, what you will be able to spend tomorrow will be less than it is today. That is the very definition of austerity. Someone in the economy is going to have less to spend, whether that be the rich, the middle class, the banks, the government or some other group who can be saddled with the spending cuts*. What Scott and the others who claim "austerity doesn't work" are actually claiming is that the State should have primacy.

"Austerity" as discussed in the press is always in terms of the State. If the State has to cut its spending, everyone wrings their hands and cries out, "Austerity!" Imagine, instead, that the State is given the top spot in the carving up of the economy and is allowed to get the money it wants to spend from wherever it can. If it takes from the rich, then the rich won't be using that money to do what they do now - hire people and invest. Their money doesn't just sit there, it works. Whoever were the recipients of their spending and investments will have less. Austerity!

This is not an accurate representation of what the rich do with their money.

Now let's assume the banks are forced to forgive government debts. If that happens, the banks will have fewer reserves and will have to either cut off new lending or call in existing loans for payment or both in order to maintain proper reserve-lending ratios. Whoever was going to borrow that money and whoever has to pay their loans on demand is going to have less to spend. Austerity!

What the folks who oppose "austerity" are saying is that the State shouldn't reduce spending. The State should be given the first cut off the economy. You should be allowed to keep private property, but only so long as the State is given what it wants before you get to use yours.

There's a name for that.

* - If you decide, as most of the world has tried, to have your central bank simply print money and hand it out so no one has to cut numerical spending, you debase the currency and everyone has less real money to spend. Austerity!

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