Consumers Crash and Austerity Bites

These two topics are not directly related, but in the interests of brevity let me combine them into one comment.

First consumer confidence:

If you haven’t already seen today’s news, don’t look it’s awful. Consumer confidence, as measured by the Conference Board dropped sharply in June, all the way down to 52.9 from May’s revised [downwardly] 62.7. That’s a very nasty decline even for an index as volatile as this one. The standard explanation making the rounds is that people as still fearful over the employment outlook. That makes sense in the context of stubbornly high long term unemployment and the total unwillingness of Congress to do anything about it. The odd and ironic thing is that today’s news is seen as a very bad omen for the Democrats in the upcoming elections, even though they are the ones advocating action. I fear that the inability of voters to parse out their anger from their desire for sound government, will condemn them to hand Congress over to the GOP, a party bereft of any intent to deal with the problem.

Democracy is both a wondrous and foolish exercise sometimes.

Second, Austerity Bites:

I am in awe of the shallowness of our media. I read in today’s New York Times an article examining the plight of Ireland. It is not a pretty picture. Let me give you some background. The Irish economy went through a prolonged boom during the past two decades. This boom was based in large part on the cost advantage Ireland had when compared with its more established Euro zone partners. There was a steady inflow of capital – and hefty Euro subsidies – and employment, housing, and the general economy rushed along at a hectic pace. Ireland became the poster child for steady government, pro-business policy making. Except that it failed to control its banking sector and fell horribly foul of the worldwide inflation in real estate prices. The subsequent collapse destroyed the Irish economy, as the government was forced to bail out the Irish banks. The resulting budget deficit yawned so wide that the credit markets began to view Ireland as a basket case. In response the Irish instituted stringent austerity measures designed to re-assure markets and protect the economy from total melt down.

Today’s article picks up the story two years later with the general tone that despite these austerity measures the economy is still mired in a downturn, and that the outlook is now more, not less, grim.

Well duh.

I am amazed at the naivete of the writer.

Of course the Irish continue to plunge into the abyss. Austerity policies do that to you.

Let’s keep this simple: when you strip demand from the economy by cutting spending – government or private – you automatically reduce the number of jobs needed to supply the now reduced level of demand. You thus increase unemployment. And as I have pointed out endlessly: when you reduce the number of jobs, you automatically reduce the amount of spending potential within the economy. In other words you strip out demand. And so it goes around.

In short, any austerity policy is a deliberate attempt to make the economy smaller. This is a simple and incontrovertible fact. This means that, at least in the short term, that those policies create slack – resources that are no longer needed because the demand isn’t there for the goods or services those resources produce. Part of that slack is reflected in higher unemployment.

This is no news to anyone who has paid attention to Depression era economic theory. This entire narrative is the essential cause of the Keynesian riposte: in the face of slack the government should create demand, not reduce it. That demand will be artificial and should go away once the crisis is averted, but it is vital during the crisis itself.

So. It is no surprise at all that the Irish are struggling. It is absolutely no shock that their economy is still shrinking. That they are slipping deeper into crisis is a deliberate and foolish result of their policies. The expression of shock and dismay in the article that the strong ‘medicine’ has not resulted in a healthy and vibrant recovery can only result from a failure of basic understanding: it wasn’t ‘medicine’, it was poison.

Or perhaps it was a modern economic version of the old medical procedures where all diseases were presumed curable by administering diabolical purges to drive out their foul causes.

Now I think of it, modern austerity policies are simply latter day purgatives. They are medicines designed to heal through obliteration and devastation. They are a variant of a scorched earth defense.

And they don’t work.

Nor, apparently, do they ameliorate the credit markets.

If the objective of the Irish austerity was to make peace with the credit markets, then it has been a spectacular failure. Irish debt is just as expensive as before. The markets have not been quietened at all.

Why I wonder?

Because the austerity policies have driven the Irish economy deeper into recession. That makes it a worse, not better, investment.

Double duh.

Really: is this difficult to figure out?

And, for the record, those amongst us who are arguing that the US also has to adopt austerity policies in order to appease its creditors, should pay attention to the Irish example. Plus they should pay attention to long term interest rates. Were the markets baying for austerity policies they would be bidding up the cost of US bonds. Do we see a crisis in the US bond market? Do we see bond rates surging?

Ummm. No. In fact rates have back off somewhat, even though the economy is in questionable condition.

Austerity bites. Especially when it’s not needed. The only folks who get hurt are the poor, and the unemployed. The bond traders can look after themselves.

So why does anyone advocate austerity?

Ideology.

Which brings me back to my comment about the upcoming election.

It is intuitive, but wrong, to cut spending in a crisis. Ideologues who press for austerity are not trying to ‘cure’ the crisis, they are trying to exploit the public’s natural difficulty with the counter-intuitive nature of sound economics. Their objective, as it is always, is the dismantling of the entitlement programs that protect the poor and disadvantaged. So don’t be persuaded by their rhetoric.

Remember:

Austerity just bites.