The events of the last few days have been dramatic – one reason for the absence of writing.
The global economy remains fragile as ever. Stock markets in Japan and Australia have rattled. All eyes are on European economies as there are fears that the Greece crisis will spread like a contagion to other heavily indebted Euro countries. The Greek crisis has unfolded various elements. But most importantly, it has stirred the debate on the enormous level of debt in the developed world and the time to tackle it.
Budget Deficit : A Debate
The developed world is facing an epic level of debt with enough potential to derail the growth and bring the economy to bankruptcy. Greece is one example. The level of debt in the developed countries has sparked debate on two grounds;
1. What level of debt is sustainable?
2. Under the current scenario, should the budget deficit be tackled?
The answer to the first question is difficult for there is diversity in economical, social, structural and institutional characteristics. Therefore, sustainable levels of deficits will be different for each country.
The answer to the second question is highly contentious. The financial crisis of the late 2008-2009 has deeply scarred the global economy. At a time, when the economies are recovering, it is argued that policy of reducing the debt especially reducing government spending is not worth the risk. This is because pulling the reins of government spending could push the economies into deeper recession. According to Stiglitz, exiting early from the deficit spending risks could lead to results like that of Japan in the late 1990s. At such a fragile recovery stage, the route to reducing government spending should be avoided.
Stiglitz contends that the focus should not be on today’s deficit, rather, should be on long-term national debt. Spending on technology, education and infrastructure will lead to a lower deficit in the long-term. Faster growth and returns on public investments will lead to higher tax revenues and returns will be more than enough to offset temporary increases in the national debt. From one perspective, Stiglitz is correct in pointing out that now the focus is on today’s deficit which could lead to policies having undesirable effects on the economy. And undesirable effects is not something the world or rather the people want.
However, the enormous debt level of the developed world accumulated for other reasons than spending on education and infrastructure. Firstly, the war with Iraq has been a major player in swelling the debt. The effects of Iraq war will remain for a long time to come. Secondly, the financial meltdown has been the worst crisis and another major drain on the economy as it was bailed out before it collapsed. The crisis exacerbated the debt.
Then, the developed world also supports the developing countries in various forms of aid. It cannot be denied that aid acts as a leakage from the economy. So the burden of aid is also there partly for the genuine reasons and partly for the interests in various fields.
However, a critical point is that the developed countries have a higher proportion of ageing population. With stagnant birth rates, the countries are facing a tough time as there are few young people to take over the economic activities of a country. The ageing population is a major factor in government spending and the governments have to decide the sustainability of their spending with such a trend.
The Icelandic volcano eruption poses an additional pressure on Europe as various countries’ tourism and airline industry has been hit by the ash cloud, leading to a loss of billions of revenue per day.
It will take a long time to reduce the level of debt to a sustainable level. The timing of curtailing the debt is extremely important as the probability of derailing economic growth is getting higher with an unsustainable debt level.
The Fate of European Economy
The fate of European economy hangs in a balance. The next few days and months are crucial for the European economy in various ways.
All eyes are now on Britain and Britain’s new Prime Minister David Cameron. David Cameron has formed a new coalition government with the Liberal Democrats. Mr Cameron has already stated in his speech that ‘Britain faces difficult time ahead’ as his government has the issue of Britain budget deficit standing at $272 billion. In addition to this, both the Conservatives and the Liberal Democrats view the economic problems differently. There is skepticism with regards to the survival of this coalition. The upcoming months are decisive for Britain not only economic policies wise but also politically. The economic policies will give an insight of the government’s perspective and how the economy reacts.
In Germany, Ms Merkel has already suffered a defeat in key regional elections, primarily due to the handling of the Greece crisis. Time will tell whether Ms Merkel will be supported by the opposition parties or will there be a new government altogether in Germany. The direction of German economy will play a decisive role for the European bloc.
On the other end, Spain and Portugal have announced measures to tackle their budget deficits which is also out of the Euro limits. Despite the announcement, the fear exists that heavily indebted euro nations will turn to IMF for bailout. Belgium has already witnessed the collapse of its government due to the level of debt to GDP and Belgian stock markets have been jittery. In all, the situation is bleak for Europe.
Clytemnestra murdered Agamemnon and it became the Greek tragedy. Hopefully, that will not be the fate of Europe.
Joseph Stiglitz (2010) ‘Reducing Government Spending is a Risk not Worth Taking’