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Austerity Measures: Yes or No?

The usage of word “austerity” is on the rise these days in all kinds of media, thanks to the global recession. You read any economy related news and chances are you will come across the word austerity. That explains how the word made to the top 50 list of words searched by NY Times users in its dictionary feature to understand the meaning (it’s ranked No. 4 in the list). So let’s see what it means. According to Oxford Dictionary of Difficult words, Austerity means

noun– sternness or severity of manner or attitude

  • extreme plainness and simplicity of style or appearance
  • conditions characterized by severity, sternness, or asceticism
  • difficult economic conditions created by government measures to reduce a budget deficit, esp. by reducing public expenditure

In the current grim economic scenario, the word austerity relates to stern economic steps taken by governments in form of increased taxes and reduced benefits to overcome budget deficit. Economic crisis has hit all the countries badly including US and Euro zone and there has been debate going on whether austerity is the way to go. European economies have already started taking austerity measures and in US debate is going on.  The countries which are taking austerity measures include Greece, Spain, Italy, Hungary, UK and even France and Germany as a pre-emptive measure and also to be a role model to other less regulated European economies. So how countries are doing it? Salary freezes, wage reductions, reduced reitirement benefits, reduced pensions, increased taxes, higher retirement ages  are few of the measures taken by these governments to reduce the deficit, which ofcourse has met with serious opposition from their citizens (picture above shows protest in Greece). Greece is being bailed out by IMF and other European countries, so these austerity measures were imposed as conditons of bailout and they are supposed to reduce their deficit from 13.6% of GDP to close to 2.6% by 2014.You can read in detail about what measures other countries are taking in this CNN article.

I don’t know anything about economics and seeing economies of countries falling one after the other like a deck of cards, I doubt if any of these governments understood the dynamics of economics clearly. Whenever I try to understand what’s going on in the fiscal world, I turn to Nobel Laureate Dr Paul Krugman’s blog to get some basic understanding. In his recent posts he has discussed that he does not support this austerity-mania in Europe and more thoughts need to be put into it. He also suggests that US should avoid falling into this austerity frenzy.

Let me start with the budget arithmetic, borrowing an approach from Brad DeLong. Consider the long-run budget implications for the United States of spending $1 trillion on stimulus at a time when the economy is suffering from severe unemployment.

That sounds like a lot of money. But the US Treasury can currently issue long-term inflation-protected securities at an interest rate of 1.75% . So the long-term cost of servicing an extra trillion dollars of borrowing is $17.5 billion, or around 0.13 percent of GDP.

And bear in mind that additional stimulus would lead to at least a somewhat stronger economy, and hence higher revenues. Almost surely, the true budget cost of $1 trillion in stimulus would be less than one-tenth of one percent of GDP – not much cost to pay for generating jobs when they’re badly needed and avoiding disastrous cuts in government services. [Paul Krugman]

It makes sense to me now why stimulus is needed for strengthening the economy in the long run  rather than mindlessly reducing spending, especially for economies like US, UK and Germany where the investors have confidence and offer securities at low interest rate. While for countries like Greece, Spain, Ireland where investors have lost confidence austerity might be the way to go, even that is debatable. The whole idea of world economy is based on belief and confidence in each other and if a country spends for bolstering the confidence and strengthening of the economy, it should be ok, although carefully planned and regulated spending is the need of the hour. Mindless spending needs to be stopped, case in point being the spending by Greece govt on it’s employees; they were given 14 months salary and 75% of their money was spent on supporting Govt staff!!

So that was the word of the day- Austerity!

Picture: Caption-Greeks on streets again; demonstrating against IMF austerity measures— by Flickr user apostolosp . Used under Creative Commons License.

Leave a Comment June 16, 2010

BP Spill Update: The BlameGame Starts

I am reposting the above BP spill animation from my previous post. The animation is courtesy of and shows the oil spill using actual overflight information and projections are based upon NOAA models. The Senate hearing to discuss the BP spill and future offshore drilling started yesterday where executives of three companies in question testified- BP, Transocean and Halliburton. And no points for guessing, the blame game has already started and each company is blaming the other for the disaster. BP owns the well while Transocean is a subcontractor which was given permission to drill the well for BP. And Halliburton is another subcontractor which injected cement and other fluids into the hole before the explosion. BP blames Transocean, Transocean blames Halliburton and Halliburton blames BP.

Three executives from the three principal companies working on the well all blamed each other.

BP , which owns the well and subcontracted the other companies to work on it, said it was Transocean’s job to ensure that the blowout preventer was functioning. Transocean was the owner of the drilling rig that sunk, the Deepwater Horizon, and also owned the blowout preventer.

Transocean said the blowout preventer worked just fine in tests, and that it may have gotten jammed with concrete or other well fluids that were injected by a third contractor, causing the well to explode. Either way, argued Transocean’s president, it was the faulty well, not the rig or the blowout preventer, that ultimately caused the leak.

Halliburton was the third contractor; it injected cement and other well fluids into the hole before the explosion. But a Halliburton exec said it was only following the orders of BP, which wanted a heavier fluid, known as mud, removed from the well before the well was capped with a concrete plug.[CNN]

CNN also reports that BP was aware of the problems hours before the disaster happened on April 20th, as the well failed a critical pressure test. Only these companies know and can tell as to why the operation continued even after identification of pressure failure. BP being the owner of the well, is supposed to pay (and even has been pledged by BP ) for the cleanup under Federal law which can run into billions dollars.

Leave a Comment May 12, 2010

Greek Crisis Explained

Here is a nice animation explaining the Greek Crisis. It’s funny and probably this two-minute animation explains much better what the heck is wrong with Greece than all those lengthy and wordy analysis. Will be eagerly waiting for the next episode in the series: Will the EU make it? Infact the whole world awaits for the answer…

Nice job Nomint!

Leave a Comment May 12, 2010

Eyjafjallajökull: Fire in the Ice

Here is a live footage of recent volcanic activity in Eyjafjallajökull glacier in Iceland. This is the second time this particular volcano has erupted this year, first time on March 20th and then second time on April 14th, the second one being much stronger and causing major air traffic shutdown in most of Europe. Last time the volcano was active was around 200 years ago in 1821-1823, the event lasted for about 13 months!! Iceland is one of the most active regions for volcanic activities along with Alaska and Pacific Ring of Fire. Iceland’s location makes it more prone to volcanic activities: Earth’s magma or lava is closest to earth’s surface in this region and combined with continental plate rift-zone makes Iceland prone to numerous and frequent volcanic activities. This particular volcano has caused ripples all around the world due to it’s impact on air traffic leading to closure of major airports in European countries including UK, Germany, Poland, Russia and Netherlands. Travelers all around the world are stranded leading to cancel or postponement of many events and activities.Plume of ash as high as 5.3 mile can bee seen coming out of this volcano which is filling up the European airspace. It might take sometime while the airspace clears up and change in wind direction will be needed to expedite the process. Click here to see some amazing pictures of Eyjafjallajökull.

Volcano eruptions can lead to Global Cooling in subsequent years which is attributed to release of sulfur di oxide gas from the volcanoes. Huge amounts of SO2 released from these volcanoes when reach stratosphere, gets converted to sulfate aerosols which reflects back the sunlight and prevents them from reaching the earth’s surface. Such major Global cooling was observed in 1991 due to eruption of Mount Pinatubo in Philippines. Eyjafjallajökull activity might continue for some time, maybe months , not sure; scientists have already reached the site and started collecting data and air samples to do further analysis. With all the air traffic chaos the volcano has caused, it’s also resulting in some very spectacular sunsets as a result of scattering of the sunlight by these very fine ash particles in the air (Picture by Danny Mekic’- used under Creative Commons License).

Iceland is already going through major economic crisis which started back in 2008, let’s hope this recent volcanic activity is not going to affect it’s tourism industry and further worsen the economic crisis. In another Iceland related news, today IMF approved release of $160 million loan package from a 2.1 billion package which was approved in 2008. But due to Iceland’s ongoing disputes with UK and Netherlands regarding settlement of money for UK and Netherlands citizens who lost their money in Iceland banks, IMF did not release the loan earlier and had to review the situation. “The crisis has taken a heavy toll on Iceland and its citizens, but I am confident that the policies and financing now in place will ease the burden of adjustment and help Iceland’s economy stage a recovery in the second half of 2010,” IMF Managing Director Dominique Strauss-Kahn and Chair, said.

(The picture shows the image of major bankers being used in one of the restaurant urinals in Reykjavík, Iceland capital. Photo credit:Olivier Morin/Agence France-Presse —Getty Images)

2 Comments April 17, 2010

Understanding National Debts

Shown here is the US public debt in nominal dollars as well as percantage of GDP since 1940s. The debt reached it’s peak in 40s owing to participation in WWII and many other social programs implemented by President Rossevelt and Truman. Gross debt is expected to reach 100% of GDP by 2012. It’s interesting to understand the economics of the world where one country crumbles under such huge debts while the other survives. What deteremines the success or failure of economies? Here’s another interesting graph of UK debt over the years and it can be seen that debt has crossed 100% GDP mark way beyond several times (mostly during wars), still it sruvived. Why one country with debt as high as 150% of GDP survives while the other with same level of debt has to be liquidated?

Prof Krugman (Economics Nobel Prize winner in 2008) from Princeton points out in his blog, The Conscience of a Liberal, that the answer lies in the confidence of the investors and confidence in the political will of the country. If the investors believe in the country’s resileince and political will they will continue to provide lower interest rates(currently 10-year term interest rate in US is ~1.4%). All the country needs is to serve this interest rate in order to stabilize the debt-to-GDP ratio, which can be a very low % of GDP and manageable, given the interest rates are very low and a better growth rate of the economy can help even more. The problem arises when the investors lose the confidence and ask for higher interest rates which can ultimately lead to collapse of the whole system. In Proff Krugman’s words “The actual level of debt has some influence — but it’s not as if there’s a red line. Instead, it has a lot to do with the perceived responsibility of the political elite. If you’re worried about the US fiscal position, you should not be focused on this year’s deficit, let alone the 0.07% of GDP in unemployment benefits Bunning tried to stop. You should, instead, worry about when investors will lose confidence in a country where one party insists both that raising taxes is anathema and that trying to rein in Medicare spending means creating death panels.”

Leave a Comment March 11, 2010

Goldman Sachs strike again- this time in Europe

Well, here they are back again, this time linked with the economic crisis in Europe. Last month certain reports surfaced which indicated that  Goldman Sachs helped Greece govt in hiding their billions of dollars in debts and deficit enabling Greece to enter the Euro system. Goldman Sachs devised some sort of financial derivatives where the borrowings were treated as currency swaps instead of loans and thus Greece was able to show their deficit as 3.7% while the actual deficit was more than 12% of their gross domestic product. This revelation has led the whole Greece economy to tumble and affecting the Euro as well.  Well, for all this dubious work Goldman Sach got paid around a billion dollar as fee… Well done Goldman, well done Greece. Dont know how many other countries have scandal written all over inside their financial books.

Watch Martin Wolf of Financial Times discuss Goldman Sach’s role in Greece crisis

Leave a Comment March 4, 2010


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