The Austerity Measures, Essay Example

What is the effect “austerity measures” (budget cuts/deficit reduction) on a depressed (high unemployment, deflationary, low demand) economy?

In scripture there is a story of a remarkable man called Joseph in the bible, Koran, and the Torah. He’s rise to fame came from is from the fact that he was an excellent dream interpreter. The pharaoh had a strange dream that really disturbed him. He dreamt of seven fat cows coming out of the river Nile. As they grazed amongst the reeds seven thin cows came out of the Nile.  The seven thin cows devoured the seven fat cows. The pharaoh as the story goes looked for an interpretation. Joseph told the pharaoh that the seven cows were seven years their fatness was prosperity. The thin cows devouring the fat is seven years of drought.

Verily from 2001 till 2008 the world has experienced seven years of abundance and prosperity. The bubble of opulence, greed and luxury has now burst. We are now in experiencing the seven thin cows devouring the seven fat ones. Joseph recommended prudence in the part of the Egyptians to save in the good times and practice what is all over the news today in the hard time austerity.

Austerity is supposed to be a monetary and fiscal policy of cutting government spending and budget deficits. Its purpose is to avoid causing a default in its international debt liabilities. This would cause the international banks to either refuse to roll over the liabilities or dramatically increase interest rates. A default would mean certain bankruptcy causing the government to literally shut down.

In democratic systems of government this would mean political death for the entire government. Though something needs to be done about the current state of the economies of the world austerity is being challenged as an appropriate fiscal response. One of the reasons they are groups challenging the austerity measure begins with the origins as to why austerity is being proposed in the first place.

The banking fraternity in America created highly complex financial instruments that had nothing to do with the real economy called derivatives, collateralized debt obligations, collateralized mortgage obligations and collateralized loan obligations just to name a few. A derivative as these classes of instruments are called is a financial instrument with a price based on an underlying asset. Companies that rate securities and even countries rated them. AAA for very good all the way down the higher the rating the more sort after the security became. These financial instruments in there varying names were leveraged. Leveraging or gearing is any method that allows one to multiply gains and losses without actually having the financial muscle to back it up.

The zenith of this crisis began when the housing market collapsed in the United States. This was important because it was an underling asset. Once the serviceability of the mortgages and the value of the houses were brought into question. It had the effect of looking at these derivatives. The banks found the financial instruments were a mixed bag of good loans and bad loans yet they got triple A ratings from reputable rating agencies like Fitch, standards and Poor’s and Moody’s. The most important thing to a bank is trust and confidence.

That said the value and the ratings of these instruments were put into doubt. Once that occurred the banks simply stopped dealing these instruments. It caused banks around the world that dealt in these dubious financial instruments to stop lending to each other and the whole system basically froze. The famous Lehman brother’s bank collapse is when most people see the crisis really picking up speed. Once one bank began then it spiraled to all the rest a consequence of globalizations.

The global wheels of capitalism almost came to a complete halt. In order to bring back liquidity to the banking industry, that there debt and assets would be protected. This is fundamentally meant that private debt accrued by elite of society was transferred to the public sector. This is neither unusual nor unprecedented however the size of the debt from the derivatives market meant that large deficits had to be taken by governments. This got the liquidity back into the market.

They achieved this by quantitative easing. A fancy word for printing money and by a central bank then giving it to the private banks. This was unprecedented especially when some of this money was given to the employees as bonuses for a job well done at the end of the year. The problem arises when most people think that central banks can just print money in the United States the Federal Reserve is a private bank. Private institutions create money in most countries. The government will eventually have to pay for it.

In doing so the large deficits eventually caught up with them. The president of the United Kingdom called it the, ‘age of austerity.’ In order for the International Monetary Fund (IMF) acts as a lender of last resort it will demand austerity measure. However what is effect of Austerity? They are sociological, environmental, political and economical.

A government decision to institute austerity measure using Greece as an example began with cut backs in government spending. This was in every aspect of government expenditure. Wages were mercilessly cut and the high inflation rate and higher interest rates do not help matters either. Massive privatization of key government parastatal is done to raise government income to pay debt. The government also has to raise income tax, value added tax, and property tax. With falling incomes and increased inflation makes life hard.

Government projects are either suspended or scrapped all together. Government staff is retrenched to a skeleton minimum. Due to the financial crisis it is harder to get bank loans and with higher interest rates. It is harder to service mortgages and loans. Demand by consumers’ drops due to the tough economic times. The rise in unemployment can only continue for so long. The people soon rise up in protest they did this in 1974. In 2011 the third round of austerity measure the United Nations called them a violation of Human Rights due to all the services that were cut that are enshrined in the declaration of human rights.

The environmental impact of austerity is well documented. Once austerity measures are instituted the government will be less stringent on environmental protection. With smaller staff numbers in such agencies within government it will be easier to get away with polluting the environment. In order to attract foreign investment the environmental measures as well rules will not be adhered to.

The political costs are very high especially in democratic societies. In dictatorial societies there is very little the population can do. However in Democracies such as Greece, the president and the government have had serious opposition. There are the labor unions, which with their clout will try hard to prevent any retrenchment or sacking of their members. This makes it difficult to implement some of the IMF and European Union (EU) measures. The government offices are highly bureaucratic and getting a decision made is difficult further making the process very difficult.

Economically there is scholastic opposition to the economics of austerity from the Keynesian school of thought. This school states that fiscal retrenchment during an economic recession deepens the downturn. Reducing deficits should be suspended until a recovery occurs. However the nature of this crisis is unlike previous ones due to the fact that the interest on the debt is larger than the principle. There for the Greeks can’t use this option default would be inevitable. There has been an interesting suggestion made to actually take the money of the rich and pay for the debt.

Historical precedent in Japan supports the Keynesian view. Austerity measure resulted in a lot decade in terms of economic growth. This gives credence to the argument that the financial sector should be fixed first and restore credit lines to the rest of the economy then they can begin to pay their bills. Fiscal consolidation is widely seen as being counterproductive.

Ideological stakes are high because neo-liberal economic is now standing on its head. Rejected and almost completely discredited. Austerity is a political attempt to restore confidence to the international market about the stability of the economy especially the euro-zone. The austerity measures are an attempt to create policies that will create sustainable economic recovery. The costs of these measures are considered unfair because they are punishing the poor for the mistakes of the rich who will be affected very little in terms of lifestyle.