Public Spending Cuts in a Great Recession

In an economic slump, it is misguided to cut public expenditure on services such as libraries, education, health care, and so on, as well as to remove welfare protections for the most vulnerable. In a modern monetary system – one in which government issues the currency and preferably permits the exchange-rate to float – financial affordability is not an issue. A currency-issuing government is not like a household.

The only sense in which affordability can be of concern to a sovereign currency issuer is in terms of real resources. In particular, if the available labor force became stretched to the limit, it might be hard to attract or retain sufficient staff to keep public libraries, schools, hospitals, and other publicly funded or subsidized social institutions operating at normal levels without the measures being inflationary. At that point, the community would need to make a choice between cutting government expenditure, perhaps on these services, or raising taxes to free up resources currently utilized in the private sector. But if, instead, overall demand is weak, and unemployment is high, there is no need for generalized government spending cuts or tax hikes, and to implement either – as many governments are now attempting to do – is counterproductive.

Weak demand in the private sector makes public services more – not less – affordable in terms of real resources, which, for a sovereign currency issuer, is the only kind of affordability that matters. The inflationary risk associated with maintaining public sector employment under such conditions is much less – not greater – than in a booming economy. There are more available workers, not less, and there is more excess capacity, not less. Austerity only exacerbates the general weakness in demand, which has further effects on output and employment in the economy as a whole.

The Great Recession meant less production of goods and services in the private sector, not because there was a shortage of workers or lack of productive capacity but because of weak demand. When this is followed by cutbacks in public spending, demand for goods and services and private-sector employment are further depressed. This is a double whammy. The cutbacks result in less public services (such as shorter library opening hours or less funding of education) while at the same time subtracting from income that could be spent on goods and services produced by the private sector. If the cutbacks in library or educational services were enabling more people to eat or be clothed or housed, it would be one thing. But the policy approach is depriving the community of public services while at the same time, through the negative impacts on employment, making it harder for many people to obtain adequate food, clothing and shelter.

This is a policy approach pursued either out of ignorance or malice. Either way, it needs to be stopped. We, the people, by applying democratic pressure, are the only ones who can compel governments to bring austerity to an end, by demanding a better way.