Don’t fall for the false choice of growth vs. austerity

| May 4 2012
Christopher Cook

Recently, we’ve all been treated to a spate of articles and news stories about how Spain’s economic woes are the result of its austerity programs, and that more spending is needed. Paul Krugman, call your office . . .

This is a nonsense argument, put forward by people permanently haunted by the ghost of John Maynard Keynes. The current concept of “austerity” usually involves cuts to benefits and tax INCREASES. That might reduce the government’s debt burden slightly, but it will not produce growth. But the Keynesians are saying that the failure of that style of austerity proves that what they are calling the only other option—namely, more spending—is what is needed for growth.

But there are more than just two choices here.

Growth or austerity? That’s the choice facing Europe these days—or so the Keynesian consensus keeps saying. According to this view, which has dominated world economic councils since the 2008 crisis began, “growth” is mainly a function of government spending.

Spend more and you’re for growth, even if a country raises taxes to pay for the spending. But dare to cut spending as the Germans suggest, and you’re for austerity and thus opposed to growth.

This is a nonsense debate that misconstrues the real sources of economic prosperity and helps explain Europe’s current mess. The real debate ought to be over which policies best produce growth.

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In the 1980s, the world learned (or so we thought) that the way out of the malaise of the 1970s were reforms that encourage private investment and risk-taking, labor mobility and flexibility, an end to price controls, tax rates that encouraged capital formation, and what the World Bank now broadly calls “the ease of doing business.” Amid this crisis, Europe has tried everything except these policies.
If Reagan or Margaret Thatcher are too déclassé for Europeans to invoke, how about Germany? Throughout the 1990s and the first years of the last decade, Germany was Europe’s hobbled giant, with consistently subpar growth rates and unemployment that in 2005 hit 11.3%, nearly at the top of the OECD chart.

Then-Chancellor Gerhard Schröder, a Social Democrat, surprised the world, to say nothing of his own voters, by pushing through the labor-market reforms that paved the way for the current relative prosperity. The changes cut welfare benefits and gave employers more flexibility in reaching agreement with their employees on working time and pay.

 

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