European Austerity Is a Myth

By Leonid Bershidsky, a Bloomberg View contributor.

"Just as France's and Italy's poor economic results prompt the leaders of the euro area's second and third biggest economies to step up their fight against fiscal austerity, it might be appropriate to ask whether they even know what that is. Government spending in the European Union, and in the euro zone in particular, is now significantly higher than before the 2008 financial crisis.

Here's the "graph of the week" on the European Commission's economics and finance website, though it might be more appropriately called the "graph of the decade":

Among the 28 EU members, public spending reached 49 percent of gross domestic product in 2013, 3.5 percentage points more than in 2007. It wasn't a linear increase: The spending-to-GDP-ratio first ballooned by 2009, exceeding 50 percent for the EU as a whole, and then shrank a little:

Source: Eurostat

That, however, was not the result of government's austerity efforts: Rather, the spending didn't go down as much as the economies collapsed, and then didn't grow in line with the modest rebound. In Italy, for example, the government spent 47.6 percent of GDP in 2007 and 50.6 percent of GDP in 2013, when economic output was 2.6 percent lower than in 2007. The country's economy dipped into recessions, surfaced, struggled -- but the government spent more or less as much money as before.

Prime Minister Matteo Renzi, seen as a dynamic reformer mainly on the strength of his age and the magnitude of his promises, rails against "high priests and prophets of austerity." Meanwhile, former IMF official Carlo Cottarelli, appointed by Renzi's predecessor Enrico Letta to conduct a thorough spending review, is complaining in his blog that Renzi's government is using his work to make new spending pledges based on proposed cuts that may never happen. "It is a paradoxical situation that a review of future spending is being used to facilitate the introduction of new spending," Cottarelli wrote, pointing out that if the practice continues, the savings he proposes will not be used to cut the tax burden on labor and boost employment.

Even when spending cuts are made -- and hotly contested -- in Italy, the whole public spending system's glaring inadequacy is not affected. The Economist recently served up an egregious example: The ushers at the Italian Parliament, whose job is to carry messages in their imposing gold-braided uniforms, made $181,590 a year by the time they retired, but will only make as much as $140,000 after Renzi's courageous cut. If you wonder what on earth could be wrong with getting rid of them altogether and just using e-mail, you just don't get European public expenditure. It's about preserving old inefficiencies as venerable traditions.

Johns Hopkins University professor Steve Hanke argued recently that there was plenty of room for cuts in European bureaucracies. Italy was an outlier, paying senior government officials 12 times the national average salary, and will remain one now that Renzi has capped civil servants' salaries at $321,000, about 10 times the national average. That doesn't mean the above-four ratios in France, Portugal and Belgium aren't too high.

There is no rational justification for European governments to insist on higher spending levels than in 2007. The post-crisis years have shown that in Italy, and in the EU was a whole, increased reliance on government spending drives up sovereign debt but doesn't result in commensurate growth. The idea of a fiscal multiplier of more than one -- every euro spent by the government coming back as a euro plus change in growth -- obviously has not worked. In fact, increased government interference in the economy, in the form of higher borrowing and spending as well as increased regulation, have led to the shrinking of private credit. According to the European Central Bank, the euro area banks' outstanding loans have been going down since the second quarter of last year.

Unreformed government spending is a hindrance, not a catalyst for growth. The huge private sector failure that was the crisis of 2008 allowed governments to conveniently forget or dispute it, but they cannot hang on indefinitely to the pretense that they are helping to speed up recovery when there is none in evidence."