Go ahead. Implement Austerity at your own peril

Daniel Becker | August 16, 2011 12:39 pm

by Daniel Becker
(This is a long post. The time for sound bite debate to the demise of learned discussion is over for we are flirting with danger.)
Via a post at Financial Armageddon I learnt of a paper looking at the relationship of austerity implementation and social unrest. It is recent, dated August 2011.
Jacopo Ponticelli, Universitat Pompeu Fabra
Hans-Joachim Voth, UPF-ICREA, CREI and CEPR
Discussion Paper No. 8513
August 2011
Centre for Economic Policy Research
The Financial Armageddon article shows the first chart of the paper which presents: the relationship between fiscal adjustment episodes and the number of incidents indicating instability (CHAOS).
 
 
“CHAOS is the sum of demonstrations, riots, strikes, assassinations, and attempted revolutions in a
single year in each country. The first set of five bars show the frequencies conditional on the size of budget cuts. When expenditure is increasing, the average country-year unit of observation in our data registers less than 1.5 events. When expenditure cuts reach 1% or more of GDP, this grows to nearly 2 events, a relative increase by almost a third compared to the periods of budget expansion. As cuts intensify, the frequency of disturbances rises. Once austerity measures involve expenditure reductions by 5% or more, there are more than 3 events per year and country — twice as many as in times of expenditure increases.”
This is a rather disturbing chart. Certainly the recent events in England play into the subject of this paper. That WE are now setup for our version of austerity implementation, this paper should be put in the hands of all the staff members of congress and the president. If I had my own national news show I would have in the corner of the screen the above chart along with the google map of all the riot locations in London and in big letters: Cut SS, MC, Medicaid. Really? You want to go there?
There is more to this paper than just the apparent connection between austerity and upheaval. “Controlling for economic growth does not change our results. This suggests that we capture more than the general association between economic downturns and unrest.”
This is the most powerful statement of the paper. It implies that “Man” in all his glory is responsible for such social activity. It is not the “natural” course of economic activity that creates such volatile activity.  It is the economic policy implementedthat determines whether there will be unrest or not. Currently, the proposed austerity is based on an a priori of “we’re broke”. It is stated with the authority of natural cause. Mother Nature Economy did it’s thing and well…we’re broke. All we can do is rebuild after the storm. Yet, an economy is totally of human design. The republican who stated that the conservative movement was making reality was more correct than their fantasizing of control and power would allow them to realize. Thus I delve into this paper more after the jump.

 

There are two points that need to be understood if we are to apply the lessons of this social economic paper. Point 1:
“However, countries with very high levels of constraints on the executive show a weaker degree of association…Table 10 demonstrates that in countries with better institutions, the responsiveness of unrest to budget cuts is generally lower. Where constraints on the executive are minimal, the coefficient on expenditure changes is strongly negative – more spending buys a lot of social peace.”
So, some kind of governance that includes self determination is a mechanism for minimizing upheaval/unrest. I believe the American Revolution would be an example of upheaval in the face of “minimal executive” constraint. Finding that constraint of the executive is determinative does not mean such rights are exercised by the people to their benefit:
“The political economy literature on austerity suggests a paradox. There is no significant punishment at the polls for governments pursuing cut-backs (Alesina, Perotti, and Tavares 1998; Alesina, Carloni, and Lecce 2010), and no evidence of gains in response to budget expansion (Brender and A. Drazen
2008).”
I don’t know what to make of such findings. Certainly there must be more in the details of the studies sited. If such lack of response by the electorate is true, then we are in deeper trouble than realized.  
Based on this conclusion, the authors ask: 
“Why, then, is fiscal consolidation often delayed, or only implemented half-heartedly?” 
They suggest fear of unrest may be the reason and footnote the following: 
14 Alesina, Carloni and Lecce (2010) also suggest that implementation of budget measures may be harder if the burden falls disproportionately on some groups.
I would hate to think that austerity measures are not implemented simply because of fear of a reprisal that appears to be short lived with no political loss to those implementing the policy instead of not implementing austerity because research and experience prove it to be actually harmful in it’s results and even contradictory to the desired outcome of greater prosperity with reduced risk of living. If the politico is acting based on the former, it show’s no conviction of ideology and philosophy. If they fail to acted based on the latter, it shows a lack of character of inquiry and enlightenment. In either case, Naomi Kline’s work notes that austerity is always implemented with some form of force. In our country the force appears to be consolidation and control of the media combined with massive amounts of spending thus control of the debate and knowledge of the subject matter. Though the police state is in place thanks to Bush/Cheney and the expansion under Obama. 
Point 2:
“Further, we examine if the spread of mass media changes the probability of unrest. This is not the case. If anything, higher levels of media availability and a more developed telecommunications infrastructure reduce the strength of the mapping from budget cuts to instability.”
In their conclusion they flatly state: Contrary to what might be expected, we also find no evidence that the spread of mass media facilitates the rise of mass protests.
This suggests that cutting communications as some have done recently in an attempt to curb the upheaval is not a procedure that works in the long term. The focus of the complaint, materialized via upheaval will have to be addressed. It is not the ease of rallying the masses, the pep squad going viral that solely explains the materialization or degree of unrest. Though it may explain the reduction in strength of austerity implementation and resulting upheaval. I think the authors have stumbled upon the modern version of the printing press coming into existence and the effects it had.
The authors review current literature on the subject and find there is some confliction as to the effects of budget cutting. I’ll let you read it, but my take home is that it depends on what stage of national development the country is in as to the extent austerity will produce unrest, if the unrest is sustained post implementation and whether it promotes growth. They even site:
Giavazzi and Pagano (1990) and Alesina et al. (2002) find that cuts can be expansionary. Amongst the reasons suggested for this finding are a reduction in uncertainty about the course future spending (Blanchard 1990a), and a positive wealth shock as a result of lower taxes in the future (Bertola and Drazen 1993).3
I guess we know where the current meme comes from. Unfortunately the authors also note:
IMF interventions, on the other hand, often led to more frequent disturbances (Morrison, Lafay, and Dessus 1994).
Similarly, Haggard, Lafay and Morrison (1995) find that IMF interventions and monetary contractions in developing countries led to greater instability.
Recently, work by the IMF has suggested that austerity measures may be less expansionary than previously thought; they may well have the standard negative Keynesian effects as a result of lower demand (IMF 2010; Pescatori, Leigh, and Guajardo 2011).
Oh no! What is the IMF going to do now? I’m still praying for you Greece.
The author’s sum up the literature review with:
Remarkably, to the best of our knowledge, there exists no systematic analysis of how budget cuts affect the level of social instability and unrest in a broad cross-section of developed countries, over a long period.
Wouldn’t you think that such research would be considered key to one’s knowledge base before we start implementing policy that to date has been mostly tried and studied in 3rd world situations?  Wouldn’t you think that the advising 
the proof of effectiveness from these advising economist? Even medicine has acknowledged there is a difference between men and women other than genital development. The review of literature is clear. Start cutting and you will piss people off such that they express it ultimately in violent means though if you can ride it out the violence abates and prosperity looms until it doesn’t because people just plain have no money. The word for today is: Demand. Use it in a sentence as it relates to this discussion.
We can think that there are other issues involved when people protest, but the authors make it clear, austerity brings out the greatest number of people. For those considering how to handle the masses when the austerity gets implemented:
“The simple correlations suggest that these co-movements do not extend to all indicators of unrest equally – riots, revolutions, and demonstrations decline as expenditure rises, but assassinations and strikes seem – at a first pass – uncorrelated. Similarly, output growth seems to correlate negatively with assassinations, riots, revolutions, and demonstrations, but not with strikes.” 
And: “This suggests that unrest reacts particularly strongly to budget cuts and growth when unrest levels are already high.”
Go ahead, implement at your own imperil. In case you think this connection of unrest/upheaval is related to how they measure it, the authors checked that variable: “We conclude that the way in which we measure unrest does not matter for our main finding.”
Looking at the relationship of austerity policy involving taxes: 
Higher taxes and lower expenditure are associated with more unrest, but the relationship is not significant. Tax increases have a positive sign, but the effect is not significant at standard levels of rejection (column 2). It is also small – a one standard deviation rise in the tax/GDP ratio increases unrest by less than 0.01 events. Overall, we find that improvements in the budget balance raise the level of unrest (column 3). As the results in columns (1) and (2) make clear, this reflects the impact of expenditure cuts, and not of tax increases.
And:
We find the same results as before – expenditure cuts wreak havoc, tax increases do so only to a small extent and insignificantly. Overall, the budget balance matters for predicting unrest.
Just to make sure no one gets this wrong: A change in budget balance predicts unrest if the balance is reduced via cuts. Kind of makes it difficult to accept that the masses want something for nothing. In fact, I would suggest “entitlement” as it has come to mean something for nothing is the wrong word to apply to government programs of which people pay for willingly via taxes and don’t get riotous if they are asked to pay more.
If we wanted to avoid the upheaval of austerity implementation we should consider: 
In all specifications, the effect of GDP growth on unrest is negative. In contrast to the results for expenditure changes, the effect is not tightly estimated, except in the case of demonstrations, when it is also large – every 1% increase in GDP cuts the number of demonstrations by close to 0.4 events.
See, do something that actually improves the economy and people don’t protest! Wow, who’d a thunk it? Of course improving the economy such that people do not protest would mean having implemented something which produces an actually experienced improvement in the peoples lives. Something like real rising wages paralleling productivity rise and thus rising wealth. Unlike say, debt driven consumption only to have financing go away and then told to suck it up.
They look further at the connection of spending cuts vs economic growth and find:
In contrast, if expenditure changes are negative, they matter a great deal for unrest, driving up CHAOS by 0.19 incidents for each standard deviation of expenditure cuts. Next, we repeat the exercise for output changes. Increases in output do much to cut unrest (col. 3), with a one standard deviation increase in output (3.77%) reducing CHAOS by 0.2 incidents on average. In contrast, declines do not set off major disruptions to the same degree. Overall, the results in table 12 confirm that the relevant identifying variation for expenditure changes comes from cuts; for output changes, it comes from positive growth, not recessions.
This paper kind of makes you think about our current governance of Wall Street/Corp influence and apparent dominance of policy choices to the exclusion of polls showing people want no cuts in programs referred to as entitlements and instead have the budget balanced via tax revenue enhancement. Wonder what happens when virtual people known as corporations do not experience austerity yet have persuading influence over We the people’s choices via money into the election process.? I guess we are going to find out. As I have heard in the past: tort is the free market response to lax governance of the market. Is upheaval the same free market response to unresponsive policy toward the people?
My concern is that the initial response by those supporting and promoting austerity will be the furthering of the police state we have been developing since 9/11. Only it will also be fired up (pun intended) domestically. It is the response we have experienced in the past with the civil rights motion and even back to the labor movement. It appears that a police response is always the first response to protest as protest is interpreted as potentially criminal regardless of what the Constitution reads. Yet here we have a paper suggesting that all of it can be avoided. Combining this paper with the 2005 World Bank report on what creates wealth in a developed economy it appears to me that we have  in our hands the answer to what appropriate economic policy should look like for our current situation. 
I asked September 2008 if we could please broaden our discussion regarding the crisis. That has not happened. The discussion is still disjointed, segmented and narrow. Now I’m imploring that we broaden the discussion. Pleading!
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