Joseph Stiglitz and a lot of celebrities in economics say that reducing European States spending will kill the burgeoning economic growth they are experiencing right now (where exactly, I don’t know…).

They are wrong.

Read why in French and in English (the experience of 1945-47 is that a spending cut far deeper than we could dream of today — from $84 billion to $30 billion! — led to an economic boom).

As Gary Becker puts it,

Relatively rapid economic growth will cure many budgetary imbalances since the challenge is not the size of government debt per se, but its size relative to GDP. A faster growing economy can tolerate sizable growth in government spending as long as the growth rate of its debt is no faster than the rate of growth of GDP.

Unfortunately, large government spending and rigid economies, the European approach, tend to both increase the growth rate of government debt, and at the same time lower the growth rate of GDP. As a result, the prospects for rapid growth in most European economies, and for getting government debt under control, are dim unless major reforms are introduced into their welfare state, labor markets, regulatory framework, and other government policies.

As Richard Posner puts it, there are 3 ways to solve the Eurozone crisis:

One way would be by a default, perhaps accompanied by a bailout of banks whose solvency is endangered by the default. Another way would be by Greece’s abandoning the euro in favor of its own currency. And a third way would be by fiscal measures (“austerity”) that would restore the government’s solvency.

As I explained in an earlier post, none of these solutions is likely to be implemented for now. Further risk collectivization at a European level is instead taking place as we speak.

The major cause of Europe’s long-run economic problems is political, though the political is in turn shaped by cultural factors, including historical memory; maybe the best way to describe the major cause of the problems is Europe’s “political culture.” Government has greater prestige in Europe than in the United States and (a related point) socialism retains substantial support in Europe; individualism, with related notions such as self-reliance, freedom to fail, entrepreneurship, the “self-made” man, and the Horatio Alger story do not grip the public imagination of many Europeans. Government in Europe employs a higher percentage of the working population and engages in more redistribution of income, resulting in high taxes to fund retirement at earlier ages than in the United States, generous pensions and family leave, unemployment benefits generous enough to discourage work, and medical care. Lavish redistribution of wealth in turn entails barriers to immigration, lest the social safety net become an immigration magnet. Unions are strong in Europe, and they push up wages and (worse) encourage featherbedding, short hours, and other inefficient practices. Unions of government workers are especially pernicious, as they reinforce the natural tendency of government to overpay its employees because they are voters as well as employees.

2 thoughts on “Slashing State Spending is a Good Thing for Growth

  1. Pingback: "La rigueur cassera la croissance", encore un contre exemple remarquable – Portail LHC

  2. Australia demostraded the same thing during the 30’s.

    in 1931 the premiers’ plan, a cut of 20% in government spending, generate a big decrease of unemployment rate (and probably GDP).

    In 1932 unemployment rate in USA was 23.6% and 23% in Australia.
    And in 1938 unemployment rate in USA was 19% and 8.9% in Australia.

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