This we should know by now: markets on their own are not stable. Not only do they repeatedly generate destabilizing asset bubbles, but, when demand weakens, forces that exacerbate the downturn come into play.
Unemployment, and fear that it will spread, drives down wages, incomes, and consumption — and thus total demand.
Decreased rates of household formation — young Americans, for example, are increasingly moving back in with their parents — depress housing prices, leading to still more foreclosures. States with balanced-budget frameworks are forced to cut spending as tax revenues fall — an automatic destabilizer that Europe seems mindlessly bent on adopting.
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Debt forgiveness may be one of the better options, but negotiations between the troika and Greece have been stickiest on this point. The fact that austerity is still employed despite being viewed by seminal thinkers as counterproductive may be the product of false assumptions. That paper centered on two countries: Denmark and Ireland. John Maynard Keynes famously prescribed fiscal stimulus during periods of economic depressions, which would be funded by government borrowing and used on infrastructure and other projects to create jobs and spur demand.
In contrast, the ordo-liberal view holds that persistent and severe cuts to public spending will lower future taxes and therefore boost the confidence of consumers and businesses.
Indeed, both countries cut spending and raised taxes early that decade only to experience expansion a few years later. But there are important differences between the austerity practiced by Denmark and Ireland and the austerity employed in the wake of the debt crisis. In the s, for example, austerity measures were accompanied by complementary monetary policies.
With interest rates currently near zero and eurozone countries using a shared currency, neither of those scenarios was available to Spain or Portugal — or to Greece, for that matter. Alesina and Silvia Ardagna. As for fiscal adjustments, those based upon spending cuts and no tax increases are more likely to reduce deficits and debt-over-GDP ratios than those based upon tax increases. Please enter your email address and click on the reset-password button.
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