The Problem With Austerity

When the House and Senate budget talks got underway a few weeks ago, Paul Ryan, the GOP’s lead running dog on economic policy, reiterated the party line: The current situation is unsustainable. Negative consequences will fall hardest on the poor and the elderly. Therefore, sacrifices must be made…by the poor and the elderly. The solution is reining in the profligate spending of the federal government. By austerity, our future will be secured.

“Ten thousand baby boomers are retiring every day. Health care costs are rising. Medicare and Social Security are going broke,” Ryan asserted. “The Congressional Budget Office says if we don’t act, we’ll have a debt crisis. And if that happens, the most vulnerable will suffer first and worst. This debt weighs down our economy even today. … We can’t kick the can down the road anymore. We’ve got to get a handle on our debt — now.”

Sound familiar? Europe has witnessed a similar trend. With inflation in the Eurozone currently beneath 1% and persistent double digit unemployment, the response of the people running the show in Frankfurt has been collective thumb twiddling. The attempts by ECB President Mario Draghi to address this situation, amounting to shaving a few basis points off interest rates already pushing up against the zero lower bound, while making vague suggestions about a policy of quantitative easing at some point in the future, resulted in a shower of contempt from Germany’s financial sector.

Andreas Dombret, a member of the executive board of the Bundesbank accused Draghi of risking Europe’s financial stability, ostensibly for undertaking one of the few actions open to him to fend off the increasingly likely zonewide deflation. The German tabloid press was, as usual, less measured in its criticism, with papers like the Bild and its ilk propounding a thinly disguised narrative of lazy southern Europeans (in the person of Draghi) siphoning off the hard earned savings of stolid, thrifty northerners (i.e. Germans.)

Austerity has become the watchword of a transatlantic movement of modern class politics. In both North America and the Eurozone the need return order to the public balance sheet the most commonly cited and fundamental challenge facing modern industrialized mass polities. This need is inflected in differing ways on either side of the Atlantic. In the United States, the common reference points are the stability that (it is often claimed) existed under the regime of the gold standard. Underlying this view are more or less overt references to the Protestant work ethic, the penny-saved-is-a-penny-earned worldview that supposedly characterized American culture from the time of the pilgrims until the disintegration of the world of Ward and June Cleaver at the end of the postwar boom.

In Europe, where Germany has managed to establish by peaceful means the political and financial hegemony that eluded it in the wars of the 20th century, the story is one of the dangers of inflation. The period of hyperinflation in 1923, peaking in November of that year at over 29,000%, has formed the political backdrop for the anti-inflationist approach of the Bundesbank since it was founded in 1957. Rather than acting as a lender of last resort, the common role of the central bank in industrialized states since the end of the depression of the 1920s and 1930s, the Bundesbank concerns itself almost exclusively with the maintenance of price stability. This approach has been translated into the institutional framework of the European Central Bank which, like the Bundesbank, eschews the promotion of economic growth in favor of enforcing demands for monetary restraint.

In both cases, arguments on behalf of austerity are based on combinations of historical misrepresentation and failures of memory on the one hand, and unacknowledged political commitments on the other. In the case of Germany, it is certainly true that the period of hyperinflation had profound psychological consequences, as well as some important social ones. As Alexander Jung noted in Der Spiegel in 2009, “The hyperinflation left behind a national trauma that can be felt to this day. The experiences of 1923 have etched themselves into the German psyche. Fear of inflation is widespread, and German economists feel more duty-bound than others to vouchsafe economic stability.”

Yet, as Gerald Feldman showed in his exhaustive study of the period, the connections between this period and the rise of Hitler has been much overstated. After the Mark was restored to its accustomed value in 1924, there followed a long period of relative prosperity in which the fortunes of many who had suffered in the hyperinflation were restored in during which Hitler and his colleagues on the radical right reverted to political insignificance. It was only with the rise to power of Brüning’s minority government in 1930, whose policies in the face of the deepening depression after 1929 resulted in catastrophic deflation, that the political fringes of German politics once again began to spread toward the center.

In the United States, the ideology of the Protestant work ethic has much deeper roots, in the spartan lifestyles of the early colonists and in the Presbyterianism of the Scots-Irish who formed such a large part of this group. In practice, of course, this is an idea most often recommended by those at the upper end of the income distribution to those further down. If you wish to get where we are, you have only to work hard and save your pennies, Horatio Alger-like, in order to succeed. This, at least, is it more benign version.

In other renditions, influenced by Friedrich Hayek and Joseph Schumpeter at the more moderate end and at the extreme by Ayn Rand, a more Darwinian logic is in play. For those operating in the intellectual heritage of Austrian economics, the operative narrative is on of profligate consumers and the counterproductive efforts of governments either to abet their actions or to soften the consequences.

Here, one is reminded of a famous (and oft quoted exchange) in Cambridge in 1931 between Hayek, up from the LSE to deliver a lecture to the Marshall Society, and Richard Kahn, one of John Maynard Keynes’s most trusted lieutenants. After listening to Hayek presentation, Kahn asked, “So is it your view that if I were to go out tomorrow and buy a new overcoat, that would increase unemployment?” Hayek replied that it would, although he would need a long mathematical explanation to clarify why this was the case. The underlying message: in a downturn consumption has negative consequences and must be contained.

Austerity, as a solution to economic problems, has widespread appeal that does not map as directly onto income distribution as one might expect. This is, to a great degree, a result of the success of those at the top of the distribution pyramid enmeshing it in narratives that either disguise the degree to which it runs counter to the interests of those lower down, or makes it seem like the best of unpalatable options, highlighting the need to make “tough decisions.”

The narratives themselves play a specific political role: to buttress the ideological superstructure camouflaging the role of leveraged private debt in the current downturn.

In United States, once the industrial engine of advanced capitalism, 40% of profits are now financial in nature. Contrary to Marx’s prediction that finance capitalism would be subsumed into the industrial, productive elements of the economic formation, just the reverse has happened. While the popular belief in banks as aggregators of credit for the facilitation of industrial processes persists in the wider public sphere, since the 1980s, processes of financialization have been shifting ever greater proportions of the supply of capital out of the productive economy and into speculation.

Over the last decade, this has been coupled with a series of exogenous events that have inflated the federal balance sheet. The wars in Iraq and Afghanistan, the Bush tax cuts, and the bailouts following the 2007 financial crisis have seen the debt to GDP ratio climb from about 35% in 2000 to over 90% now. Although Dick Cheney famously averred that “deficits don’t matter,” the unspoken codicil to this was the he was talking about during Republican administrations.

With corporate profits an all-time highs, the rhetoric of the Tea Party movement to the effect that the country is broke has an incongruous ring. Rather, the country is awash in a sea of leveraged debt, the service payments for which are throttling the productive economy. That the United States has not suffered worse consequences from this is down to the fact that its debts are mostly to its own citizens and almost entirely denominated in its own fiat currency.

The situation is rather different in Europe. There, the performance of economies has been sluggish in most of the places where it hasn’t been catastrophic. Conversely, the narrative has been one of profligacy on the fringes. Here, the hard decisions, imposed from Greece to Ireland and from Italy to Latvia, has been to slash government and social spending. Predictably, the result in every place where this has been tried has been GDP contraction.

While leveraged debt is problematic in the U.S., in the Eurozone it has reached apocalyptic proportions. Three French banks (Société Générale, Crédit Agricole, and BNP Paribas) have a combined asset footprint equaling more than three times the GDP of France itself, at rates of operating leverage over 30 to 1. The proportion of assets that would have to turn bad in order for these banks to become insolvent is startlingly small. The French state is in no position to do so, having given up its capacity to manipulate its own currency when it joined the Euro.

The situation in France is one that is common to many European states, even those in the north of the zone that are not in immediate distress. In Germany, where the zonal policy is effectively set, the anti-inflation narrative contends with the need to keep states like Greece afloat. Greece is, in fact, one of the few actual cases of profligacy in terms of government spending. But, like co-dependence, bad loans take two partners. In order for the Greek government to sell billions in shaky bonds, there had to be someone willing to buy them. In this case it was commercial banks (and bank-like entities) in Germany and France, who are currently estimated to be holding something like $37 billion in Greek debt (to say nothing of the paper that they are holding from other peripheral crisis states.)

The response of Germans to the Greek crisis has been shaped by competing fears: of inflation on the one hand, and that Greece will either default or leave the Eurozone, or both, which would almost certainly cause a cascade of bank failures. Their approach to keeping the patient on life support has been to demand that the Greek government slash expenditures to the bone. This has in turn caused the Greek economy, which is unable to produce high technology, and low elasticity goods as the German export economy does, to contract to a degree greater than that seen during the German invasion during the Second World War. All this, of course, in support of fending off the most catastrophic consequences of the pattern of moral hazard transactions undertaken by northern European banks in the first half of the aughties.

Austerity is an attractive narrative. It creates a morality play in which profligate actions have consequences, via an easily comprehended narrative of the household economy. But the turn to austerity has a more complex, superstructural function: that of fending off the prospect that capital will leak out of the circuits of speculation into the productive economy. With the decoupling of the financial and productive sectors, the latter has been left with federal, state, and municipal governments to pick through the scraps. This is a tale not fit for public consumption. Thus, the narratives of waste and wonton spending are propounded throughout the public sphere by agents of precisely those interests that have created the situation in the first place.

Photographs courtesy of Popicinio, Dean Thorpe and the Workers Party of Ireland. Published under a Creative Commons license.