The Eurozone
in Economy ·
The top brass in the EU just realized they were dead wrong
I suppose hundreds of millions of people across Europe—including many folks right here in America—have been tightening their belts for absolutely nothing. For about two weeks now, the higher-ups in the EU have been reeling from a scandal that basically proves their "holy grail" theory was built on sand. They’ve been operating under this idea that countries have to slash spending whenever public debt hits 90 percent of GDP, supposedly because such high debt kills economic growth. Well, it turns out that logic was pretty shaky, which might be why the head of the European Commission, José Manuel Barroso, and his partner Olli Rehn suddenly changed their tune overnight, telling the world that Europe might actually ease up on those austerity measures.
It seems Olli Rehn took the biggest hit here. Just back in February, this Commission commissioner was busy lecturing finance ministers, claiming there was a "widely held view, backed by serious academic research," that letting debt climb above 90 percent would essentially tank economic momentum for years. But fast forward two months, and that "widely held view"—which was famously shaped back in 2010 by Harvard University economists Reinhart and Rogoff—has completely fallen apart.
The whole mess came to light this April when some American economists pulled back the curtain. It turns out Reinhart and Rogoff made a massive calculation error. On top of that, critics from the Keynesian camp argue they were being selective, cherry-picking data that fit their narrative while ignoring everything that didn't. Some experts are even suggesting the whole theory should be flipped on its head: maybe it isn't rising debt that causes an economic slump, but rather the economic slump itself that forces debt to rise.
A similar theory from economists Alesina and Ardagna also hit a wall. Back in 2010, they urged EU finance ministers to implement "large, convincing, and decisive" cuts to fix deficits, arguing that such moves would actually jumpstart recovery. That "discovery," paired with the work from Reinhart-Rogoff, became the dominant economic playbook for the EU. Recently, however, even IMF experts have debunked it, warning that cutting spending during a crisis is more likely to drag an economy straight into a deeper recession.
It makes you wonder, though—how could professors from a place as prestigious as Harvard make such a devastating blunder? And how could leaders across Europe, especially within Angela Merkel's administration, push policies for three years that clearly cause so much harm? They promised that slashing budgets would lower debt and strengthen economies, yet we see places like Italy, Greece, and Portugal struggling, their debts climbing anyway, and unemployment hitting levels we haven't seen since World War II.
I don't think we should pin all of this on the economists, though. At the end of the day, politicians always have a choice. They are surrounded by a mountain of different economic theories; it just comes down to which ones they choose to listen to. It's telling that for years, they seem to favor advisors who prioritize the interests of big banks and the financial sector over the needs of regular people. And what has that gotten us? Since early 2011, nearly half of the governments in the EU have collapsed before their terms were even up. Unemployment has become terrifyingly high, and in Spain, it's creeping toward 28 percent—a level reminiscent of what Germany saw in December 1932, just a month before Hitler rose to power.