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This conclusion was immediately obvious to anyone in 2009 who had ever picked up a basic macroeconomics textbook. The funny thing to me is not how Germany continues to lead the charge for more austerity -- it's in their banks' best interests. Rather, it's funny how this 'new' argument of austerity-driven recovery seems to be taken as somehow valid or relevant for macroeconomic analysis in other countries.

For instance, the Debt Ceiling crisis of 2011 [1] is a perfect example of how these kind of psuedoscientific ideas can cause real harm to a country. Especially given how readily certain groups (coughrepublicanscough) are willing to accept these ideas with virtually zero backing or acceptance from established economists.

See also: Everything Paul Krugman has ever written.

[1] http://en.wikipedia.org/wiki/United_States_debt-ceiling_cris...

[2] http://krugman.blogs.nytimes.com/

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I think part of the problem is the popular perception that a nation's economy is just like a household economy: i.e. in a household if credit card debt is high, you gotta pay that off before you can spend more; or if you're earning $1000 per month but spending $2000, you gotta cut down on your cable bill and nights out.

That's a tantalizingly simple and intuitive comparison that everyone can understand and relate to. Unfortunately a nation's economy is so utterly unlike a household economy that the comparison is downright dangerous, because it leads to harmful false assumptions like "national debt is always a bad thing", "a nation must always 'earn' more than it spends at all times", and "an economy can never grow in a nation with debt".

I'm no economic wizard but it really surprised me that how everyone in Europe and many in the States are prescribing austerity, when basic history from this very century frequently demonstrates that austerity can lead to economic damage. Yes you can always find programs that can and should be cut back in any developed society, but considering debt to be the central and only problem in a situation where the debtor defines the very money it "owes" seems a little shortsighted to me.

Austerity in europe is essentially the only politically viable option at the moment. On one side you have Germany and a bunch of nations who refuse point blank to essentially write a blank check for the nations who need it, on the other you've got public opinion which is in no way ready to take the quantum leap of political integration necessary to make fiscal transfers meaningfully possible within the eurozone.

So the default action is austerity, the IMF signed off on it because they feared that the euro's breakup would be catastrophically worse than almost any amount of austerity in europe.

Politically viable, sure – but it’s also the wrong way to go. It’s not sustainable since it won’t lead to forward progress. It only delays the catastrophe, while at the same time options do exist (as outlined in your first paragraph) – but the European leadership cowardly refuses to fight for them.

Making something that is not politically viable is a politician’s job – and they refuse to do it.

>So the default action is austerity, the IMF signed off on it because they feared that the euro's breakup would be catastrophically worse than almost any amount of austerity in europe.

Additionally, a 3rd option worth consideration: letting individual countries default.

Does Greece really need anyone's permission to default? Iceland didn't. Defaulting on the national debt is almost an act of war, but there is historical precedent.

No, Greece could have defaulted completely on its bonds - which were held by the German banks.

Then Greece would be OK, and the German banks about to fall like dominoes. Then the Germans might have become more reasonable about a bailout.

After all, they would really be bailing out not the Greek people, but German banks that shouldn't have bought bonds from crooked Greek politicians and Goldman Sachs.

I don't see how any of that is the Greek people's fault, and in the mythical "free market" said German banks would have been allowed to go bust years ago.

I'm not sure where you're pulling those harmful false assumptions from, but surely a nation should at least occasionally earn more than it spends? Because the US has only managed that trick 8 times since 1931, of which only one time was since 1960.

http://whereistheoutrage.net/domestic-issues/budget/budget-d...

And sure, unlike households, nations have the option of printing more money to pay off their debts. Unfortunately that doesn't generally work too well (see also: Zimbabwe, Weimar Germany).

If you look, you'll notice that a recession followed nearly every reported government budget surplus.

This is not surprising: a surplus means that the government is removing more money from the economy than it's adding, something which is rarely warranted absent a large current account surplus and/or an economy operating at full capacity.

You need to understand the sector financial balances.

Well the interesting measure is the dept to GDP ratio, and as long as this ratio stays constant, the government is not really getting into financial trouble. Running the numbers, I find that the ratio stays constant for D'=g*D, where D' is the new dept, g the GDP growth and D the total dept. Additionally this just need to hold on average, that is a government should bring down the dept/GDP ratio in the boom ( when multipliers are low anyhow) so that it can spend during the bust ( when the multipliers are higher). But note that the government can run deficits all the time.

About your examples, the first sentence of the Wikipedia article for Zimbabwe is: [1]

"Hyperinflation in Zimbabwe began shortly after destruction of productive capacity in Zimbabwe's civil war and confiscation of private farms."

While in Weimar Germany the French occupation of the Ruhr valley, the at that time most important industrial region of Germany, directly preceded the hyperinflation. ( And arguably the Beer Hall Putsch [2], Hitlers first attempt to seize power, was the more important event in '23.)

[1]https://en.wikipedia.org/wiki/Hyperinflation_in_Zimbabwe

[2]https://en.wikipedia.org/wiki/Beer_Hall_Putsch

It sounds like you're suggesting that America should more often earn more than it spends. (Correct me if I'm wrong.) Again I'm not a student of economics, but the fact that America in the 80 years since has become the most powerful economy in the world's history, while only being in the black 8 times, suggests to me that earning more than you spend isn't really as important as many think. Rather, it's the flow of money in and out of the economy and other factors that really matter.

That's why my original comment is about: Assuming that a nation is like a household--i.e., that at some point it obviously should earn more than it spends, because that's how a household operates--leads to conclusions that aren't always supported by history.

Weimar Germany's situation partly mirrors the one today. To deal with hyperinflation and a collapsing economy, in '31 Chancellor Brüning cut spending by 30%. It eventually led to a budget surplus but at the cost of 30% unemployment. Those events helped set the stage for what followed in WW2. Obviously the comparison is tangential, but it's interesting to think about nonetheless.

See: http://www.guardian.co.uk/global/2011/nov/24/debt-crisis-ger... http://en.wikipedia.org/wiki/Hyperinflation_in_the_Weimar_Re...

I see you're point about America's economy being the most powerful, but isn't that perhaps a bit like a marathon runner who sprints full speed the first mile and says "Whoa! Look at how much I'm ahead of everyone else!".

You may be right, but it seems there is more than just our current situation to consider. There are long-term ramifications of that debt. At some point, we can't just keep borrowing. It might be working for us today, but like the sprinting marathon runner, eventually it will catch up to us.

No, I'm simply suggesting that once you're sufficiently indebted, there's a limit beyond which people stop lending to you. And if you're getting further and further into real debt (adjusted for inflation and growth), you'll hit that limit eventually.

And yes, America is currently the most powerful economy in the world's history, and that's why it has an AAA credit rating despite its fairly disastrous finances. But barring total implosion, China'll be the top dog within a decade or so, and what happens then?

The way I understand it, a nation's economic standing as a borrower is based basically on trust. A lender nation trusts that the borrower nation can eventually repay its debt. That trust isn't so much related to the raw number of the current debt, but rather how the lender believes the borrower will behave and evolve in the coming years. Today nobody has a reason to believe the US will do anything but continue to grow (in the long run).

If in a hypothetical alternate universe the US had a civil war tomorrow, it could have a massive budget surplus and yet it'd probably find that nobody would be willing to lend to it regardless, because the climate of repayment would be so uncertain.

In today's real world, the US has the power to print its own money. In very real terms it can define the very term "debt" as whatever it pleases. That, combined with its status as a massive buyer of foreign goods, history of entrepreneurship and growth, history of corrective action by the Fed, insanely powerful military, and so on, means that it could owe 100x times as much as it does today, and nations would probably still happily lend.

A nation is not a household. It doesn't reach some magic number "lending ceiling" where everyone else says, "you owe 100 trillion and 1 dollars, we're not gonna lend any more" like might happen to a regular person with a credit card. A "AAA" rating is just some label that some private company makes up.

So the issue isn't some dollar amount drawn out of an economist's hat, but rather the real trust inferred from a nation's geopolitical position.

Any real students of economics please do correct me, as I have no doubt my reasoning is flawed somewhere. But this is how I currently understand it.

It's important to note that many of the holders of US debt are US-based, i.e. it is not all external debt like it would be in a household.

As a pure logical matter, just because hyper inflation is possible does not mean it's the inevitable result of an inflationary monetary policy. Zimbabwe and Wiemar Germany are extreme examples. Both had their infrastructure devastated by war, and Wiemar Germany was subject to crushing, externally-imposed war indemnities.

Zimbabwe's war ended in the 70's. Horrific mismanagement by Mugabe and his cronies is the biggest culprit of the hyper-inflation now affecting the country.

I think the real pseudoscientific idea is that debt-financed stimulus is the cure all for any economic ill. The argument that Greece needs to get further into debt to solve it's debt crisis seems insane to me. At this point how much good could a stimulus really do (even if they could find someone to lend them the money to do it). I know the standard Krugman/Keynsian style argument here but it doesn't seem to make much sense in Greece. As another poster said it seems the only real cure for Greece is going to be inflation, probably and unfortunately similar to what happened in Argentina.

I don't think that's what Krugman et al are saying. You can make arguments for and against stimulus being the correct answer for a particular country's recession. There are valid points in both camps. However, cutting spending during a recession is another matter entirely -- this fix goes against some of the core things we've come to believe about aggregate demand.

I don't think Keynes' model is perfect. I'm excited to see what new kinds of models emerge after this depression -- we have a lot more data to play with. However, at this stage, it makes a lot more sense to stick with models that have kind of worked sometimes rather than to just operate off of pure, baseless speculation.

The problem isn't Keynes model. It predicts that when governments stop deficit spending, the economy slows. It says that if governments don't replenish those deficits in good times they'll build unsustainable economies.

The problem is ignoring the reality that at some point the government cannot issue more debt. The US government has been in structural deficit for all but a few of the past 40 years. If we look at the funny money of state and local pension assumptions there's even more stimulus. OF COURSE when that's withdrawn the economy slows.

It doesn't matter if the fiscal multiplier is 0.5 or 1.5 when the government simply can't issue more debt. Multipliers matter when a government has decisions to make, when it can't issue more debt there are no decisions to be made.

In theory, you have a good point. However, I think even at our ridiculous levels (> 100% of debt-to-gdp), there's still quite a ways to go before our major creditors stop buying US bonds entirely. If we can somehow pursue policies that could return us to constant positive growth in the next 2-5 years, then the benefits of getting there faster will give us a much greater ability to reduce our long-term liabilities.

The primary dealer banks will always be a ready funding agent for the US government--why wouldn't they be? Treasuries offer a risk free place for excess reserves to earn interest. It's literally free money.

It's instructive to remember that we match our deficit spending with debt issuance by legal fiat and not for any real operational reason. We could just as well deficit spend freely with no debt issuance (and no, it would not be more inflationary.

Of course, treasuries are a risk free savings vehicle for the private sector and world at large, and they play an important role in managing the payments system (though not one that couldn't be replace), so I'm not suggesting that we stop issuing debt. But it's important to understand how the system works so we can stop with the silly notion that we are just scraping by on the good graces of Treasury buyers.

What's the mechanism for this spending through legal fiat? It seems to me that any spending that doesn't come from taxes or debt would probably have some adverse affects on the economy. I'm still a student of institutional economics, so I'm eager to learn more about this whole process.

Go read zerohedge.com. There is a fair chunk of tinfoil hat baloney and traders talking their book, but they have some serious analysis on the government debt / banking / monetary system.

It sounds great. But when fiscal stimulus plays such a large and persistent role, and you're clearly nearing the end of the road for more borrowing / more stimulus, the expectation of stimulus withdrawal starts to play an ever larger role in forecast expectations. E.g. at some point businesses stop thinking about additional demand today and the demand shrinkage in the future. They start develering and stop taking chances. And the more the government counters with short-term stimulus, the more expectations anticipates the end of stimulus in the mid-term.

And, "constant growth" depends on a structurally sound economy. Well, if the economy has been shaped to meet demand from a necessarily contracting customer -- the government -- its structure gets distorted. Add in the distortions from crazy federal credit policy (Fannie / Freddie). Now we have an economy that must reallocate productive resources to meet real demand -- but no one has a clue where that demand actually will be because we're so distant from the environment supporting it.

tldr; 40 years of government stimulus, in various dimensions, has fundamentally detoriated the economy's ability to deliver "constant positive growth." We've gone past the point where we can outgrow the debt growth needed to fuel this government stimulus growth model.

You're arguing against a straw man. The only one size fits all ills argument actually being widely pursued is tax cuts.

The only thing that would probably help Greece is massive debt foregiveness (bankruptcy if applied to individuals or companies) which isn't a "stimulus" so much as a gift. Again if it worked like a regular bankruptcy they'd agree to pay off part of their debt on a plan, but be forgiven a bunch of it, and their credit would suck for many years to follow.

You're arguing against a straw man.

Really? Than tell me what other non-austerity policy is being proposed. We're not talking about what is being pursued. The discussion is about the merits of the alternatives to austerity. Massive debt forgiveness is one although at this point it's a complete fantasy. What else have you got?

My understanding is that Greece is different because they don't have their own currency. The real cure for unemployment and low production in Greece is a decrease in real wages, which happens very slowly without higher inflation or a fall in the currency (these are basically equivalent, but that's not especially obvious so I'll be redundant). Since they use the Euro, Greece can't choose either policy, hence a long and deep slump.

Intl macro isn't really my field, so there may be errors in that description.

> As another poster said it seems the only real cure for Greece is going to be inflation

i.e. stimulus, in Keynesian terms.

(Thinking about economics in terms of common sense and morality is generally unhelpful.)

The standard Krugman/Keynsian style argument is, that Greece should use inflation (but can not, since they do not have control over their money). And note, the more a country is indebted, the harder it becomes to get the deficit under control using austerity. The reason is, that you need to cut expenses in such a way, that GDP is not stronger affected by the cuts. For example, a country which has a dept/GDP ratio of 50% needs to cut its expenses such that the GDP is not reduced by more than twice the cuts in order to reduce its dept/GDP ratio. ( The multiplier for the austerity program needs to be smaller than two.) On the other hand, if it manages to have a stimulus program with a multiplier larger than two, then it can reduce its dept/GDP ratio using this stimulus program. For 100% the critical multiplier is 1 and in general it is 1/R, where R is the dept to GDP ratio.)

So you need less and less effective stimuli programs, the higher the dept to GDP ratio is. ( And I do not know if anyone does claim that dept-financed stimulus is the cure for any economic ill. But if not enough money is the problem, one can simply print that stuff.)

The thing is: Greece is NEVER going to repay its debts. NEVER. The sooner this reality is acknowledged and dealt with, the sooner the Greek people will be able to get on with their lives.

Who is proposing massive stimulus for Greece? Obviously they can't do it themselves because their credit rating is shot and they don't have the resources to do it without borrowing hugely. That doesn't mean their economy could not have been helped by stimulus, just that it wasn't feasible. It also certainly doesn't mean that austerity was the answer.

You're correct about inflation but unfortunately their in the Euro so they either have to leave it or suffer a very long and painful internal deflation.

Greece needs to start throwing millionaires in dingy prisons to make any headway with its problems. The Greek crisis, more than anything, is the result of massive tax evasion.

> The Greek crisis, more than anything, is the result of massive tax evasion.

[Greek/US dual citizen here]

Having lived in Greece for upwards of a decade, during the particularly transitional time from ~1988-2004, this is not in line with my experience. Hear me out before writing me off as an apologist :)

Greece has a large problem with collecting the taxes they claim citizens owe but not a large problem with collecting a large fraction of GDP. According to the World Bank, they are right in line with Sweden and France (http://data.worldbank.org/indicator/GC.TAX.TOTL.GD.ZS). These numbers are corroborated by the OECD (PDF warning http://www.oecd.org/newsroom/41498733.pdf). [Edit: I wrote Sweden and France when I meant to write Spain and France; I apologize for the error but I have left it lest someone think I am trying to whitewash :-)]

Greece has collected plenty of money; we overspent, and we spent stupidly i.e. in ways that obtained either votes or kickbacks, and not in ways that improved the economy or the life of the common person. As just one example, look at the paltry investment of the Greek government in its only competitive advantage, the tourism business. The cast and crew of "Mamma Mia" did a better job promoting tourism in Greece than any Ministry of Tourism effort. Spain, Italy, and Turkey are eating our lunch.

We also got used to almost five decades of "free" foreign money through the Marshall plan, post-communist hysteria leading to US military aid and military bases, EEC/EU growth funds, and having our debt priced as if it were of German quality.

In my opinion, the tax evasion is a serious social justice problem, but it is not a serious budgetary problem. The bulk of Greece's public budget is supplied by ordinary people making ordinary incomes, and it is a travesty that the wealthiest manage to dodge contributing proportionately. But that does not mean the government does not have enough money to do a good job.

I would love to believe that the government has failed due to being starved of resources; at least then a solution like taking on more debt would be plausible. With the situation as it stands, I can only respond with our poet laureate Seferis' exasperated lament, "Everywhere I go, Greece wounds me".

"but not a large problem with collecting a large fraction of GDP. <links>"

Part of my problem with the statistics you link is that the measure is limited because it's known that US revenues are in the 16-19% range but they are listed here at 9%. Loathe as I am to cite the Heritage Foundation they are the most complete figures on wikipedia and show Greece heavily lagging France and Spain.

http://en.wikipedia.org/wiki/List_of_countries_by_tax_revenu...

Next, the black market in Greece is estimated at 25% of GDP which inflates official collection percentages even more.

http://en.wikipedia.org/wiki/Tax_evasion_and_corruption_in_G...

Finally, it really doesn't matter that they collect some nebulous "large share of gdp". What matters is that the scale of evasion is far greater than Greece's immediate problems.

But Nikos Lekkas, the head of the Greek tax inspectorate, the SDOE ... insisted that Greece could easily pay off its debts if taxes due for payment were paid into the Greek state's coffers.

”Tax evasion in Greece has reached 12 to 15 per cent of the gross national product... That is €40 to €45bn per year. If we could recover even half of that, Greece would have solved the problem.

http://www.telegraph.co.uk/finance/financialcrisis/9319799/G...

> Part of my problem with the statistics you link ...

You raise an interesting question, to which I don't have a conclusive immediate response. I'll have to dig deeper to really know. The numbers on the US do seem out of line with well-known facts. However, here's another ~30% estimate from Eurostat (http://epp.eurostat.ec.europa.eu/statistics_explained/index....). Given the conflicting reports, I can only say that it's theoretically possible that Heritage is right and OECD/Worldbank/Eurostat are jointly wrong. If I had to weigh Heritage's ideology and their likely expertise on European economic statistics, as compared to lined-up answers from OECD/WorldBank/Eurostat I know where I'd bet. Still, the 9% reported for the US does seem troubling. I have a research project for the evening.

As for the scale of tax evasion and whether it could plug the hole: it's really, really hard to have an objective opinion here. My inner Greek is saying of course SDOE claims that tax evasion is the main problem. I can't prove that they're wrong, and I don't want to pollute the discussion with personal anecdotes. I'll only add that the SDOE claims don't link to any examinable research.

Thank you for an interesting counterpoint :)

[Edit: the Eurostat data shows Greece parallel to Spain but way behind France... so at this point I'm going to tentatively retract the comparison to France pending further research, but I think I am still persuaded that Greece has a tax base that commands a significant-enough fraction of GDP for them to manage responsibly]

That's a hypothesis, but it seems unlikely since there are four other European economies facing identical problems - Spain, Italy, Portugal, and Ireland. Spain in particular was a very reasonably managed economy before the crash, running surpluses and growing. So, your hypothesis would require that you attribute the problem in each of these economies to separate causes, which is probably wrong.

This is not to say that there wasn't gross economic mismanagement on the part of the Greek government, but focusing on that distracts from the real solution.

UPDATE: I'm in complete agreement with everyone pointing out that the problems aren't identical. Perhaps the question is whether, if you were to summarize the causes Euro crisis in broad terms, you ought to mention Greece's economic mismanagement first or the overall crash of the financial markets as the more important factor. My assertion is the latter, mostly echoing Stglitz's analysis here:

[1] http://www.youtube.com/watch?v=GdP-Fab8JX8

[2] http://www.youtube.com/watch?v=4Ezn8Sgzxd8

The problems aren't identical. They may appear so because some of the symptoms are the same, but the root causes in Ireland, for instance, are far different than in Greece.

Spain is closer to Ireland in terms of housing market effects on economic downturn, but ultimately each economy functions on a different system, so it's not entirely wrong to attribute economic problems to separate causes. There is some overlap, of course, but it's definitely not identical.

I agree the situations aren't identical, but what theory do you think best explains all the observations?

Just to be clear, my answer is: Each country's problems are rooted in the collapse of the US housing market and the resulting financial crunch. The country-to-country variations are there and they're significant, but secondary.

I don't think the four are all the same, although there are obviously some common elements. Chief among them the easy money from the center during the boom years. But I think Greece's inefficiencies and mismanagement made a bad problem worse.

Fair enough. A policy of stricter enforcement of tax laws sounds like a better plan than stimulus to me. Maybe they should start there instead.

Completely agree. If Paul Krugman isn't enough to sway people, Joseph Stiglitz, another Nobel laureate, has echoed his analysis. So has Dean Baker, who is the first economist to my knowledge to predict the housing bubble and the resulting crisis. Basically, this was easy to see and well-known to economists that aren't neo-liberal demagogs.

About the entire Austrian economics school predicted the housing bubble. Peter Schiff is famous for getting blasted on TV about it. Krugman, on the other hand, was calling for another bubble like the housing bubble: http://www.nytimes.com/2002/08/02/opinion/dubya-s-double-dip...

I find it funny when Keynesians talk about bubbles. What do you think happens when you set interest rates absurdly low? You could make the argument it stimulates the economy, sure, but at what cost?

No doubt that Austrian's avoided some of the neoclassical blind spots that caused many economists to miss the crisis, but then again Austrian's are always predicting crises and they certainly offer no crystal ball--see Peter Schiff's hilarious prediction of soaring inflation every year since 2009.

Schiff's misfire is especially relevant to this discussion, because it demonstrates the Austrian school's grossly flawed understanding of public finance and our monetary system (despite having valuable things to say at times).

Schiff also predicted a hyperinflation that never came, actually he just repeated what Rothbard said in some books. He was wrong when he wrote that and still remains wrong, maybe sometime in the eternity he will be right.

Actually for me from the point of view of Mises and his praxeology everyone who uses his methodology to advise a policy is just guessing and expecting that his views are coherent with reality.[1]

Austrian school is very deep, and not a monolithic bloc like mises.org loves to say, there were Austrian economists who were not Mises and disagreed with his methodology, including Machlup and Wieser who were Mises student and teacher respectively.

[1]: More of that in here: http://mises.org/mofase/ch4.asp It's just my interpretation of his view.

I don't think I follow. Isn't the idea that you weigh the cost of doing so with the cost of a prolonged recession? I have a general ignorance of exactly what Keynesian economics actually means, but from what I gather, it's not one thing.

I dont think Krugman's analyses are foregone conclusions, as Greg Mankiw very reasonably proves here:

http://gregmankiw.blogspot.com/2012/12/a-krugman-puzzler.htm...

Just to clarify - are you saying everything Paul Krugman has written is true, or everything Paul Krugman has written is false?

I mean, not everything Krugman has written is true, but I think that he makes the best case for returning to sane macroeconomic policy that has, for all of its faults, at least some historical backing.

I'm definitely pro-Krugman.

If you're interested, there are some particular blog posts about the history of the austerity movement and why it's ridiculous:

http://www.nytimes.com/2010/07/02/opinion/02krugman.html -- is a good place to start.

Oh, no, I have never agreed with anything he has written and I have read (clearly I have not read everything he has written).

But I'm not in the mood to argue about it, so have a pleasant day.

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