What Is Austerity?
Austerity is the act of a government cutting spending in order to reduce its deficit. It is usually done in response to a financial crisis.
Austerity measures are typically unpopular with the public, as they involve cuts to government services and benefits.
However, supporters of austerity argue that it is necessary in order to get government spending under control – a type of short-term pain to ensure long-term financial sustainability.
Opponents of austerity argue that it can be counterproductive, as it can lead to slower economic growth and increased unemployment. They also argue that austerity disproportionately affects the most vulnerable members of society.
Austerity – Key Takeaways
- Austerity is a period of reduced spending in order to pay down debt.
- Austerity can be painful as it involves reducing spending, which can lead to job losses and lower incomes.
- Austerity is not always required to fix a debt problem. Sometimes money can be printed to service the debt, which can cause inflation and devalue the currency.
- Additionally, sometimes debt restructurings and write-downs are possible in addition to wealth transfers such as taxing money from those who don’t have it to distribute to those who have less.
Austerity measures include:
- Benefit cuts
- Tax increases
- Public sector job losses
- Reduced government spending on services
- Raising the retirement age
Ways of Getting Out of Debt Crises
Austerity is one of the four ways of getting out of debt crises:
- Austerity (spending less)
- Debt defaults and restructurings
- Wealth transfers of money and credit from the “haves” to the “have-nots” (e.g., raising taxes)
- Printing money (devaluing it)
These are also generally listed in order of what’s least popular politically (austerity) and the easiest to do politically (print/devalue money).
Austerity is deflationary. So it usually doesn’t last long because it’s too painful.
This is especially true when the debts are denominated in a country’s own currency.
When this is true, it makes it easier to change the rates on it, change the maturities, and change whose balance sheets they’re on.
2) Debt defaults and restructurings
Debt defaults and restructurings are also deflationary like austerity.
They are painful because the debts are either reduced or wiped out.
This is because one person’s debts are another person’s assets.
Accordingly, defaults and restructurings are painful for both the debtor who is going broke and has their assets taken away and for the creditor who has to write down the debt and accept a loss of wealth.
3) Wealth transfers of money and credit
Transfers of money and credit from those who have more than they need – the so-called “haves” or the “upper class” – to those who have less than what they need.
The most common way to do this is by raising taxes to redistribute wealth.
This is not politically easy but it is more tolerable than the first two ways mentioned above. And it is typically part of the resolution to bad economic outcomes.
4) Print/devalue money
In comparison to the others, printing money is the fastest and most common big way of restructuring debts, but also the least understood.
The money printing seems good rather than bad to most as the new money helps to relieve the debt problems.
Moreover, it’s hard to identify who was harmed by the policy because nobody got any money taken away from them to provide this new wealth. (The losers are the holders of money and debt assets because these were devalued).
And, in most cases, when enough new money and credit enters the system, it causes assets (e.g., most stocks, homes, commodities) to go up in the depreciating currency that people are using to measure their wealth.
So that it appears that people are getting richer even though the value of their money (how much buying power it provides) is going down.
And a lot of the time the inflationary effect from the money printing is simply offsetting the deflationary forces (less spending and credit contraction), helping balance everything out. Asset prices often climb to higher multiples of earnings – i.e., the prices go up faster than the rate at which they’re producing earnings/cash flow.
Chain of Reasoning – Impact of Fiscal Austerity
When Austerity is More Likely to Occur
When money can’t be printed to service the debt – e.g., because the debt is denominated in a foreign currency – austerity and debt problems are more likely to occur.
But when the money can be printed to service the debt, more than enough money will be printed in order to service the debt and the value of the money will fall.
As mentioned, this money printing is also a type of hidden tax in that it’s a way of getting money such that nobody complains, which makes it easier for politicians to do. In fact, it’s even celebrated because handing out money and credit is popular.
Even in the places in which the money is “hard” they will print money by abandoning the hard money (such as a gold standard) by either changing the conversion factor (e.g., more money to buy the same amountof gold or commodity) or unpegging from the commodity altogether.
Austerity – FAQs
What does austerity mean in economics?
Austerity is a period of reduced spending in order to pay down debt.
Why is austerity painful?
Austerity is painful because it involves reducing spending, which can lead to fewer services, job losses, and lower incomes.
What are some examples of austerity?
Some examples of austerity include raising taxes, cutting government spending, and defaulting on or restructuring debt.
Is austerity always required to fix a debt problem?
No, austerity is not always required to fix a debt problem.
Sometimes money can be printed to service the debt, which can cause inflation and devalue the currency. However, this is not a sustainable solution in the long term. Ultimately, productivity is what matters most.
Additionally, sometimes debt restructurings and write-downs are possible in addition to wealth transfers such as taxing money from those who don’t have it to distribute to those who have less.
What are some alternatives to austerity?
Some alternatives to austerity include debt write-downs and restructurings, raising taxes and transferring wealth, and printing money.
What is an example of austerity?
An example of austerity is when a country cuts government spending in order to pay down debt. This can be painful as it can lead to job cuts and lower incomes.
Conclusion – Austerity
Austerity is a period of reduced spending in order to pay down debt.
It is typically associated with periods of economic downturn, when tax revenue falls and government spending must be cut back in order to meet budgetary targets.
Austerity measures are often controversial, as they can lead to reductions in vital public services and increases in taxes.
Proponents of austerity argue that it is necessary in order to get the economy back on track, while opponents argue that it simply punishes the most vulnerable members of society.
It is clear that austerity is a complex issue with no easy answers. In times of economic difficulty, governments must balance the need to reduce spending with the need to protect those who rely on the services that come out of this spending.
Other alternatives to austerity include debt write-downs and restructurings, raising taxes and transferring wealth, and printing money.
The best approach will vary from case to case, and there is no one-size-fits-all solution.