As far as austerity for countries in a recession, I would have to hop behind Krugman on this. An economy is like a large complicated machine that needs investments to fuel it. Investors want to put their money into the machines that produce the most. To me, the idea of austerity is like saying lets voluntarily scale back our machine to prove to investors that in the future we will be able produce a lot again. In the near term you just end up producing less. In the current context, Euro countries that are relying on austerity aren't doing much at all to improve confidence that they'll be able to meet their long term obligations.
How can you be confident in Spain when unemployment is 25% and youth unemployment is 50%. Those are real people that aren't working and are not learning skills for future production.
- How can you be confident in Spain when unemployment is 25% and youth unemployment is 50%. Those are real people that aren't working and are not learning skills for future production.
IMO a large part of the push for austerity has to do with what the banks want now, rather than what the people need now, or later. Banks often take more than what is good for themselves, but worse, when they can play both sides like GS, they might not even care.
The alternative to austerity is financial easing though, right? So in this case the ECB is holding all the cards. Their mission though is to achieve price stability and financial integration of the Eurozone. Unlike the Federal Reserve's which is in pursuit of maximum employment, stable prices, and moderate long-term interest rates.
So at every turn the ECB is more reluctant to ease monetary policy and lower the debt burden than the US has been.
First, the ECB has fewer tools with which to manipulate the economy. I hate to say it, but I can't recall the mechanisms that the Fed has that the ECB doesn't, but I know that their tool box is somewhat restricted compared to the Fed's.
The second way that they are impaired, and probably the more important way is that they lack some of the credibility the Fed has. While personally I am not sure that the Fed deserves the credibility they have, the Fed has been around for a long time, and has a reputation for dealing with tough economic problems effectively. The ECB has no real track record at all. Paul Volcker's handling of stagflation in the early 80's, still to this day seems to impart a certain confidence in the Fed. If the Fed predicts inflation will lessen then inflation expectations lessen, which ultimately lessens real inflation. As an aside, personally I think all Volcker did was bring on the most savage recession between the great depression and today's, but plenty of people don't agree.
Another aside, and one that I really bugs me. The fed has a mandate to push the economy to maximum employment, but I never pursues it. If you make a habit of reading the Governors reports over time you will notice that anytime wages go up the Fed starts worrying about inflation. These inflation worries cause the Fed to slow down the economy. The economy slows and businesses hire less workers. Competition for workers and the incentive to work provided by higher wages is the mechanism that encourages people to join and compete in teh work force. As long as prices aren't climbing as fast as wages workers win. This worker victory probably comes at the expense of the owners of Capital, at least in the short term. I think it's probably a remnant of the stagflation fears from the 70's and early 80's, but I really can't see how we can hope for wage and job growth if the fed stomps on it every time.
As terrible as the US deficit is, it was in large part inevitable before any stimulus was spent, as long as the US was interested in a recovery. The recession killed revenue, and liquidity is how you get a country's economy back on its feet. Europe is taking the most painful route.
I think it's a shame that politicians so often speak of government spending in terms of a household or a business. That is ridiculous. Households and businesses can't write laws and print money. In many ways, that's why sovereign debt ratings are silly to begin with. A swift change in Central Bank policy or law can turn the ratings upside down.
- I don't quite understand why some investors believe that every S&P ratings change should have a wild effect on markets. Presumably the information that causes the cut is already priced in to the relevant securities.
This. If the reality is that a ratings downgrade can have such massively wild effects on the market, then that means that our capital investment model is fundamentally broken. Not that I subscribe to that thinking, -I just think that if you do, the implications should have you absolutely scared shitless much more than a particular rating downgrade in a org/country you may have an interest.