“The boom, not the slump is the right time for austerity by the Treasury” John Maynard Keynes
When it comes to economic thinking I am Keynesian by nature, believing that well-structured economies create aggregate growth and the Government needs to invest in areas to build that growth that cannot be done better or will not be done by the private sector.
Austerity is the idea that governments should balance their books and not spend more than they earn; that they should reduce their debts and live stably and prudently within their means. The counter argument is that a prudent government inspires economic confidence and helps generate a stable macroeconomy and a dynamic private investment environment. To discern what is best for us, we should look at our economic history.
With little doubt, the last ten years have seen for Barbados one of the most astonishing reversals of fortunes a country has ever experienced. For about twelve years beginning in mid-1995, Barbados seemed almost unable to do anything wrong. The country, led by Prime Minister and economist Owen Arthur, was growing at enviable rates. Despite two years of contraction post 911, it was reaching almost six per cent real GDP growth by 2006 – a performance surpassed by only a handful of countries across the world. Note that a three per cent sustained annualized growth rate after 12 years would equal 36 per cent total expansion. That is 36 per cent more energy, water, jobs, taxes and so forth. This is huge. The chart on the left shows the real GDP growth and the chart on the right shows that with this economic boom we also see an attendant increase in the current account deficit, suggesting that the growth was fuelled by spending, not austerity.
By the year 2000, it had achieved an impressive convergence programme, bringing down its inﬂation rates and budget deﬁcits from the double-digit ﬁgures of the 1990’s when the Erskine Sandiford administration was forced to impose the strict limits of the IMF rules.
In the process, Barbados seemed to have dealt successfully with a number of historical challenges: the huge shock of the public sector contraction and ten per cent salary reduction that was now reversed and banished by constitutional reform; it rather seamlessly absorbed a migration inflow of Guyanese and East Caribbean skilled labourers in agriculture and construction, representing an estimated five per cent of its population; it successfully fought off the OECD challenge to its tax base while navigating financial market liberalization and economic modernization, with the help of the George Bush US administration; it successfully implemented a number of deregulation/liberalization policies including central bank independence and the privatization of public companies and the banking sector.
In the dawn of the new millennium, Barbados, seemed to have transformed itself in numerous respects. For the ﬁrst time in its history, it had sustained impressive foreign investments in the banking sector, in telecommunications, energy and increasingly in a wider range of activities. Political instability and contestation had given way to “good governance” and concerted social dialogue under a unique Social Partnership and the ideology of the ‘politics of inclusion’, where the best and brightest or most influential were embraced by the leadership of the country in an amazing post-colonial political climate that showed no malice and no fear of the competition.
International Transport, with a remodelled sea and airport and ICT infrastructure with the e-government creation had also been upgraded immensely. A shift to green energy and modern technologies was slowly taking place and Bridgetown, which was being physically transformed and honoured as a United Nations World Development site, was on the cusp of further transformation into a truly cosmopolitan capital under a bold, expansive and innovative Public/Private sector Partnership (p3) project with the country’s largest conglomerate and land owner.
Unemployment rates were declining and a dynamic business class was developing, while levels of consumption and wealth accumulation were unprecedented.
These developments were given their symbolic culmination in July 2004, with a Moody’s credit rating of AA-. It is noteworthy that only under the Arthur administration did Barbados ever achieve an A rating. The greatest highlight during this period had to be in 2007 when the country successfully hosted the ICC World Cup Cricket finals.
By 2007, Barbados was unquestionably a success story: in socio-economic terms, the country had all but converged to the development levels of the UN Human Development Index; in political-economic terms, it had reinstated itself firmly on the map of the Caribbean and the international financial business market.
How all this changed so dramatically in the space of just a few months – from January 2008, when David Thompson’s DLP took office and announced there was a substantial divergence from its budget deﬁcit target, to March 2009, when the then Government openly admitted that it had to reﬁnance its debt through market borrowing – must be a stupefying puzzle to any outside observer. Thus, began a mix of push and pull economic decisions with free bus fares for students and increased utilities and tax measures, steadily growing into more and more austere measures.
This push and pull mix continues with the change of the Government and the austerity has been exacerbated and defended by stating a national debt of 157 per cent of GDP is actually 170 per cent of GDP, when outstanding operational expenses are added. Opex is not debt and should not be treated as such.
Corporation tax which was at one billion Barbados dollars in 1994, and mushroomed under the boon years of 2000-2007 has now contracted to $285 million Barbados dollars, despite the economy being almost 40 per cent larger than 1994. Sustained corporate tax increases have shown no real appreciation of tax revenue. Yet, it was again increased by an additional five per cent by a new administration.
People say governments should ‘live within their means’ just as people should. But when discussing a macroeconomy, any comparisons with an individual person are analogous at best, and the limits of analogies as pedagogical devices should always be remembered. A country is not a person and the economics of a country are very different to the economics of a person. The Owen Arthur administration borrowed extensively, sold off assets and invested in infrastructure. Our country was the better for it. In fact, when Government actively cuts spending, public contractions lead to economic contractions, which then reduce the tax base and lead to further public contractions. This is called the ‘paradox of thrift’.
The problem is when Governments borrow excessively to finance current consumption rather than capital investment, which is the unfortunate position the Stuart administration found itself in. When borrowing or printing of cash is for the sole purpose of supporting civil service salaries and operational expenses, it does little for increasing future income, but benefits only those employees who enjoy this income today. So, rather than cutting public expenditure, a forward-thinking approach is to restructure it towards investment spending rather than current consumption.
Another problem with austerity is that it hits the poor disproportionately. The wealthy can afford, though many with great pain – private health care, UWI tuition fees, food increases, tax increases, petrol increases, private pensions and so on. Poorer people rely more on public expenditure to have access to healthcare, education, community centres, and so on. When people are better provided for, they are more productive, happier and healthier. Communities are more cohesive and integrated and society is more stable. All of these things contribute to dynamism and growth.
Of course, there are those that think it wrong that the middle and upper classes should be taxed to pay for these things for poor people, and that the poor should pull themselves up by their bootstraps or whatever, but that is an ideological position. And this is where we really get down to what austerity is about: ideology.
Those bullish on austerity fail to understand that governments are growth agents that can spend and regulate in ways that drive growth and innovation, and see them purely as having a redistributive function. All of this is not to say that governments should just borrow wildly and not care about how much debt they have. That is another extreme and could cause instability, crowd out private borrowing, and lower investor confidence. A sensible approach is somewhere between the extremes of austerity and profligacy, as shown by the Owen Arthur-led administration.
Our historical evidence suggests that not only does austerity lead to lower growth but it also failed to fully balance the books, and therefore fails even on its own criteria. The austerity drive was initially based on research suggesting that when public debt exceeds certain levels, growth is adversely affected – research which has now been utterly and embarrassingly discredited. Under intense pressure, even the IMF has backed away from its usually austere position allowing states to craft their own narrative. Austerity is rightly yesterday’s doctrine.
To summarize, austerity has been discredited, has failed on its own terms, is based on dubious and short-sighted economic logic, disproportionately hits the poor and benefits no one, is ideological, and even if its virtues are somewhat valid, was implemented excessively and at the wrong time, and is a policy doctrine of low growth and increasing inequality – what we have been seeing a lot of since it was implemented.
So, no, austerity does not work.
George Connolly is CEO of Business Technology Solutions Firm and a former candidate of the Democratic Labour Party.