Three conditions for austerity

Objective: An austerity crisis of the kind that Greece and other European countries experienced after the Great Recession, has serious negative social, economic and political effects. In Greece, the most notorious example, GDP was reduced by one quarter during the first five years of austerity. Entitlement programs were cut severely, in one instance by more than 90 percent. Other countries have had similar, though not quite as destructive experiences with austerity. However, given its socio-economic repercussions, it is desirable that political leaders learn to avoid austerity in the future. A first step toward doing so is the development of methods to detect macroeconomic and fiscal-policy patterns predictive of conditions that can lead to austerity.

Method: Using as case studies the fiscal crises and policy responses in Greece and Spain in 2008-2012, and in Sweden in 1991-1995, this paper suggests three conditions that, taken together, could help determine whether or not an economy is vulnerable to austerity. The paper does not seek to establish the three conditions as a definitive evaluation method, but rather to extract common character traits as part of the development of such a method. A working evaluation method could raise “red flags” for economies in danger of an austerity crisis. The data come from the UN National Accounts Database, Eurostat, U.S. Bureau of Economic Analysis, the Organization for Economic Co-Operation and Development (OECD), and the national statistics agencies of Sweden and Denmark.

Expected results: After explaining how these conditions apply to the Greek, Spanish and Swedish examples, the paper applies them to the U.S. economy. The hypothesis is that these conditions can determine whether or not the United States is ripe for an austerity crisis.