Debating Austerity and Massive Budget Cuts

Is "austerity the new black"?

"Austerity is the new black," finance blogger Edward Harrison declares at Credit Writedowns. New British Prime Minister David Cameron is prophesying frugality for Brits as he attacks the deficit, Germany's Angela Merkel is tending the fiscal torch on the Continent, and Obama is telling federal agencies to tighten their belts.

Worries about ballooning debt are nothing new, and the crisis in Greece has added fresh urgency to many politicians' deficit concerns. At the same time, though, Keynesian economists--Paul Krugman is often counted in this group--believe a struggling economy needs more spending, not less. The "deficit hawks," Krugman rails, have it all wrong:

slashing spending while the economy is still deeply depressed is both an extremely costly and quite ineffective way to reduce future debt. Costly, because it depresses the economy further; ineffective, because by depressing the economy, fiscal contraction now reduces tax receipts.

In that case, why are we looking to cut spending? Here are the thoughts of other commentators on the matter.

• Streamlining and Stimulating Not Mutually Exclusive, protests liberal Matt Yglesias. "The case for cutting or eliminating ineffective programs is always strong," and it is "logically independent from the case for reduced overall spending, which is weak in the short term." In other words: "I don't like to see the objective of trimming or eliminating ineffective programs run together with with discussions of fiscal policy as a macroeconomic matter."

• You Don't Have to Be a Recession Cassandra to Worry About Cuts  Finance blogger Barry Ritholtz isn't quite as worked up as Paul Krugman: he doesn't think a double-dip recession is likely, and isn't quite as upset about conservative deficit hawks. That said, he makes his position very clear: "The time for balanced budgets and fiscal prudence is during the expansion phases of the economy--and not the post recession period where after an initial spurt, growth is beginning to slow."

• Watch the UK to Predict U.S. Path, says Reuters's Felix Salmon, calling the UK "fiscal situation ... an interesting dress rehearsal for the fiscal politics which will surely come to the fore in the US over the next few years." Germany is no model, as "the two countries are too far apart, politically."

• European Austerity Hysteria Misplaced  "What will instill confidence is not claiming governments can meet austerity targets," argues popular finance blogger Yves Smith, "particularly when violence in Greece suggests that one can't assume that the populace in all countries will accept the mission." She suggests "eas[ing] up on the timetable ... A credible plan to have a plan ... and a show of greater cohesion would do more for confidence than continued affirmation of commitment to austerity."

• Questions for Both Keynesians and Deficit Hawks  Henry Blodget at Business Insider has questions for both the Krugman camp of stimulus fans and the Niall Ferguson-Tea Party alliance, which favors budget cuts. To the first: "How are we going to work our way out of our long-term debt-and-deficit problem?" To the second: "If we cut spending now, what is going to happen to the economy and unemployment in the short term? Is Paul Krugman right that this will actually EXACERBATE the debt-and-deficit problem (by reducing tax receipts?)"

• What the U.S. Needs to Consider  The European moves towards austerity are largely based on worries that the "markets are worried about European debt levels." The markets are worried, says The Economist's Ryan Avent, but "it's not clear whether it's the debt that bothers markets or the fact that the debt has been accumulated in slow-growth states in a fragile currency union with an inflation-hawk central banks." In other words, "it might merely be a European problem."Here's his take:

The distinction is important. If markets are scared about debt generally, then perhaps America and Britain should be embracing immediate austerity. If markets are simply spooked about Europe, then America and Britain should be doing the opposite—boosting demand to make up for the hole in the economy created by European fiscal adjustment.