Catch 22 for Western Democracies

By: Mario_Innecco

The Catch-22 , not only for the P.I.I.G.S.,  but for the whole of the Western democracies is the size of government and the need to cut the size of government. The equation for calculating G.D.P. is G.D.P. = C + I + G + (X-M) which stands for Private Consumption + Gross Investment + Government Spending + (Exports - Imports).

So as one can see government spending is a contributor to the calculation and that in of itself presents a huge problem in the present day scenario where annual government budget deficits and government debt levels have ballooned to unsustainable levels after years of welfare, warfare and bank bailout spending. Governments do not create wealth as there is no profit motive in the public sector and inefficiency and corruption is a fact of public sector life. Gordon Brown, former Labor Chancellor, might have called government expenditure "investment" but we know that was only "doublespeak".

So in the day of 100%+ public debt to G.D.P. and 5%+ annual budget deficits cutting the size of government presents a massive problem for the Keynesian equation that calculates G.D.P. mainly because government expenditure as a percentage of G.D.P. is so high for not only the P.I.I.G.S. but also for all of the Western democracies. As of 2011 http://en.wikipedia.org/wiki/Government_spending these were the numbers for government expenditure as a percentage of G.D.P.: Portugal 46.1%, Italy 48.8%, Ireland 42%, Greece 46.8% and Spain 41.1%. As can be seen government is a huge contributor to G.D.P. in the P.I.I.G.S. countries so a program of austerity and the reigning in the size of government will result in a drop in the G part of the G.D.P. equation and moreover it will a negative spill-over effect into the other components of G.D.P. as G is such a big proportion o f the G.D.P. equation!

 One might think it is only the P.I.I.G.S. that have bloated governments or public sectors but one could not be more mistaken. France's government spending, for example, represents 52.8% of G.D.P., Austria's 49%, the U.K.'s 47.3%, Germany's 43.7% and the United States' 38.9%. It seems that the hope of our leaders and central bankers is that somehow the C, I and (X-M) parts of the equation will be able to lift their respective countries out of G.D.P. contraction and help decrease annual government budget deficits and help make their public debt sustainable. I would like to think they are right and that such a scenario will develop but when one looks at what is actually happening it is very difficult to see how that might be possible in the short to medium term. As we have seen earlier G or government expenditure is very close to contributing to half of G.D.P. in most of the Western democracies and with the present policy of austerity or reigning in of government spending we can see how that will have a negative impact on G.D.P. The other parts of the G.D.P. equation will not only be affected by lower government expenditure but also by other factors like the precarious state of banks' and private individuals' balance sheets. At present banks and private individuals are trying to improve the state of their balance sheets and as a result we are seeing a drop in private investment as banks are rationing credit to entrepreneurs who would like to invest in new ventures and private individuals or households are reigning in private consumption in order to pay down debt. On the trade side of the equation one can see how one country trying to export more could end up being a zerosome game as that would mean another country exporting less.

It seems to me that we are at a critical juncture for the Keynesian/Welfare State paradigm and there is only one bullet left in the arsenal of the Western Democracies: QE to infinity! If central banks stop printing money to finance government balance sheets and keep banks solvent I would expect the resulting economic depression to at least equal the severity of the last Great Depression of the 1930's. Unfortunately we also know what happens when central banks have to print money to finance governments or monetize debt. There is no easy way out.

By Mario Innecco
ForSoundMoney.com

At ForSoundMoney we stand for a hard currency. We believe in a monetary system based on commodity money and a free-market banking system where central banks are non-existant.

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