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Experts warn Europe’s ‘austerity zeal’ could dampen anaemic recovery

Monday, May 31st 2010 - 04:04 UTC
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Nobel Prize economist Joseph Stiglitz Nobel Prize economist Joseph Stiglitz

Experts are warning that European governments rush to cut budget deficits with draconian austerity measures could mean a blow for Europe's tentative economic recovery.

They argue that spending cuts and tax increases at a time when many businesses and consumers are still suffering the effects of the global economic crisis could dampen consumption, hampering output across Europe.

The warnings are beginning to gain ground investors in recent days voicing worries about the combined effect of withdrawing fiscal stimulus and belt-tightening in Europe.

Leading the criticism is Nobel Prize economist Joseph Stiglitz, a former chief economist at the World Bank who now advises several governments and has warned against what he terms the “deficit fetishism” of the cost-cutters.

In an interview with French newspaper Le Monde this month, Stiglitz said that Europe “is facing disaster if it continues along this path”. He advocates instead the establishment of a “solidarity fund for stability” that would aid European countries that find themselves in financial trouble.

“Europe needs solidarity, empathy. Not an austerity that is going to push up unemployment and lead to a depression” he said, adding that Europe should be more like the United States where individual states help each other.

Even the International Monetary Fund has been warning against going overboard with spending cuts. IMF chief economist, Olivier Blanchard, has said there is “a risk... of austerity zeal in some countries under pressure from the markets.”

After Greece's technical bankruptcy threatened world financial markets earlier this year, other European economies have rushed to put forward often controversial plans for getting their public finances in order.

Governments from left to right have announced draconian austerity action from top to bottom, varying from ministerial pay to unemployment benefits.

Italy, Portugal and Spain have been the main countries to have followed suit and the French government has announced it is planning to elevate the official retirement age, a move that sparked major public protests this week.

“The austerity plans are so tough that if they are implemented simultaneously across Europe, the impact on growth not only in Europe but also in the rest of the world could be a major brake on the recovery,” said Laurence Boone, an analyst from British bank Barclays Capital.

But governments are beginning to take notice ff the warnings. On Friday, trade and finance ministers from the Organisation for Economic Cooperation and Development, a grouping of 35 developed-world countries, said they were committed to cutting their deficits without hurting growth.

“It is important to develop credible and transparent medium-term fiscal consolidation plans,” the OECD ministers said after a meeting in Paris. “We will implement them in ways that do not jeopardise growth,” they said.

Elie Cohen, an economic expert at France's Centre for National Scientific Research in France, warned that an even greater danger was for the credibility of governments if they failed to implement the measures they had announced.

“It would be better to have gradual measures that are realistic and achievable instead of outrageous promises that will not be held and will therefore aggravate the crisis,” Cohen said.

He also said that countries such as Austria, Germany and the Netherlands “have no reason to enact austerity measures” and should not be pushed. The risk he said is that the credibility of Europe as a whole could be “stained” by some countries failing to abide by their promises.

But some top experts insist that austerity is the way to go.

“It is a complete fallacy to say that fiscal soundness dampens growth. It is exactly the contrary. It is the absence of fiscal credibility which dampens growth,” European Central Bank president Jean-Claude Trichet said this month.

“Medium term sound and credible fiscal policies are a major prerequisite for confidence. And confidence of the households, confidence of the entrepreneurs and confidence of the investors is what is indispensable for the recovery”.

Categories: Economy, Politics, International.

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