Floor Statement of U.S. Senator Chuck Grassley
Europe’s Troubles, Fiscal Responsibility
Monday, June 25, 2012
Since the victory of the Socialist candidate for President of France, opponents of fiscal responsibility have found a renewed vigor for their pro-spending ideology. The new French President talks about choosing growth over austerity. Many liberal pundits and politicians on this side of the Atlantic have now begun to echo this call. When you put it that way, it barely sounds like a choice at all. The term austerity sounds so severe but almost everyone agrees that economic growth is good. Just what is austerity anyway? In Europe, austerity is often used to describe an attempt to reduce budget deficits by reining in unsustainable spending. In this country, we more often talk about fiscal responsibility. For Europeans who have grown accustomed to generous social benefits, even modest reforms to government programs are apparently cause to take to the streets. But, for the millions of Americans who still believe in limited government and who do not feel entitled to programs or benefits paid for by the earnings of others, there’s nothing “austere” about government spending within its means.
So what about growth? The implication of the supposed choice between growth and austerity is that we must accept irresponsible levels of spending in order to have economic growth. This absurd but politically convenient economic theory was summed up by Margaret Thatcher as, “The more you spend, the richer you get.” It was the rationale behind President Obama’s massive $800 billion stimulus bill. The bill looked suspiciously like a grab bag of pent up Democrat spending priorities, but we were told that all of this spending was necessary to keep unemployment below 8 percent. Of course, as we all know, unemployment soon soared well above 8 percent and has never dipped below 8 percent more than three years later. I would say to all those in Europe calling for new stimulus spending, we tried it and it didn’t work. Not only didn’t it work, but it made things worse. All that government spending crowded out private sector activity that would have helped the recovery and saddled our economy and our grandchildren with even more debt. Conversely, reining in government spending will unleash the power of free enterprise to create wealth and grow our economy in ways that no government central planner can.
Despite the clear results of the most recent American experience with stimulus spending, liberal pundits are now blaming Europe’s current economic troubles on efforts to reduce government spending. They say that savage cuts by pro-austerity governments in countries like Britain, France, and Spain have actually damaged their economies. So just how deep did these countries cut? Spain increased spending after the recession started, then implemented some modest cuts, but is still spending more than it did before the recession. Britain and France have continued to increase spending. So much for savage spending cuts. I know that in this town, a smaller increase in spending than previously planned can qualify as a cut. However, to most Americans, cutting spending actually means spending less than you were before.
The fact that there have been no serious spending cuts in these supposedly pro-austerity countries is enough to dismiss the accusation that spending cuts are the cause of Europe’s current troubles. But there’s another part of the story that is too often ignored. Governments that talk about the need to reduce deficits but are too timid to enact the necessary spending cuts invariably turn to tax increases. For instance, since the recession started, Britain has raised the top marginal income tax rate as well as increased the capital gains tax, national insurance tax, and value-added tax. Spain has enacted hikes in personal income tax and property taxes and is planning more. This year, the Spanish Government is looking to address its deficit with a $19.2 billion package of spending reductions paired with another $16 billion worth of tax increases. That sounds a lot like what Democrats have been calling a balanced approach. And so it is… just like giving a patient an equal dose of medicine and poison would be a balanced approach. However, across Europe, there has been a lot more emphasis on the poison of tax increases than the medicine of spending cuts. In fact, while government spending across the entire European Union fell by just 2.6 billion Euros between 2010 and 2011, taxes rose by a staggering 235.5 billion Euros. So, while critics of austerity are flat out wrong to blame the largely mythical spending cuts for Europe’s economic troubles, they may have stumbled on something. To the extent that austerity really means big tax increases rather than serious spending cuts, we’ve identified a big part of Europe’s problem.
These facts notwithstanding, if I couldn’t point to any example where economic growth resulted from spending restraint, my argument would ring hollow. I would sound like those radical intellectuals who still refuse to accept that Marxism has been totally discredited both morally and economically by claiming that it has never truly been tried. However, what I’m talking about has been tried. There are plenty of examples where bold leadership to dramatically rein in government spending has resulted in economic growth.
There is actually a prime example right in Europe and in the Euro area - Estonia. In response to the 2008 economic crisis, Estonia’s free enterprise-oriented government focused on real spending cuts, including major structural reforms. They cut public sector wages, raised the pension age, and reformed health benefits. When it comes to taxes, Estonia already had a low flat tax and didn’t raise rates. While there was an increase in value added tax, the overwhelming emphasis was on spending cuts. As a result, the Estonian economy grew at 7.6 percent last year. Estonia is the only country in the Eurozone with an actual budget surplus and the country has a national debt that is only six percent of GDP. Can you imagine that? Moreover, Estonia had an especially deep hole to climb out of. The Estonian economy was devastated by the global financial crisis. It contracted by 18 percent, which is more than Greece. Nevertheless, Estonia’s economy is well on its way back to pre-recession levels. I should add that in response to the spending cuts, Estonians didn’t riot in the streets. Instead, they re-elected their government. Also, while Estonia is the most impressive example, a similar story also holds true for Latvia and Lithuania. Perhaps their unhappy experience of Soviet domination has made them extra skeptical of big government solutions to problems.
It’s possible that the unique history of the Baltic countries makes it easier for them to break the spending addiction, but that doesn’t mean it can’t be done here. In fact, I’ll give you an example that is much closer to home- Canada. In the 1990s, Canada was facing the same problem the United States is now. It suffered a recession and had a looming debt crisis. The Canadian government’s response was to dramatically cut spending. Again, I’m not talking about slowing the rate of growth, but actual spending cuts. In just two years starting in 1995, total noninterest spending fell by 10 percent. Canadian federal spending as a share of GDP dropped from 22 percent in 1995 to 15 percent by 2006. Canada’s federal debt was at 68 percent of GDP in 1995 and is down to just 34 percent today. Compare than to our national debt, which is more than 70 percent of GDP. Like Estonia, the overwhelming emphasis in Canada was on spending cuts rather than tax increases. Moreover, these cuts included structural reforms. Canada’s government fixed its version of Social Security, which is the third rail in American politics. Unlike Social Security, the Canada Pension Plan is solvent for the foreseeable future. What’s interesting is that these reforms were not implemented by some right-wing ideologues. These reforms were all implemented by the Canadian Liberal Party, which is a center-left party like America’s Democrats. However, when President Bush suggested fixing Social Security, the issue was relentlessly demagogued by the Democrats. More recently, when Paul Ryan unveiled a plan to save Medicare, rather than present alternative ideas, liberal groups depicted him in political advertisements pushing a grandmother off a cliff. If our Democrats had shown the same leadership that Canada’s Liberals did, we would be in a lot better economic shape right now. Instead, what we get from the other side of the aisle is demands for more stimulus spending and a head-in-the-sand denial about the impending bankruptcy of Medicare and Social Security.
There are plenty of other examples where low taxes and spending restraint have led to an economic recovery after a downturn. In fact, a 2009 paper by two Harvard economists, Alberto Alesina and Silvia Ardagna, reviewed 107 examples of fiscal adjustments in industrialized countries between 1970 and 2007. They found that, statistically, tax cuts are more likely to increase growth than spending. They also found that spending cuts without tax increases are more likely to reduce deficits and debt than tax increases.
The historical record is clear. We know what path leads to economic growth and prosperity. However, it isn’t an easy one. Unlike the have-your-cake-and-eat-it-too philosophy that says more government spending will somehow make us all richer, the real road to recovery will require real leadership.
Earlier I mentioned Margaret Thatcher’s contempt for the Stimulus Ideology. When she took office, Britain was deep in debt and known as “The Sick Man of Europe.” In fact, Britain had been forced to go to the IMF for a bailout and was regularly rocked by massive strikes. In many ways, it was the Greece of the 1970s. When Thatcher began making the difficult decisions necessary to rescue the British economy, many people, including some in her own party, pleaded for her to return to the big spending policies of previous governments. Her response is as applicable to the United States today as it was to Britain back then:
“If spending money like water was the answer to our country's problems, we would have no problems now. If ever a nation has spent, spent, spent and spent again, ours has. Today that dream is over. All of that money has got us nowhere but it still has to come from somewhere. Those who urge us to relax the squeeze, to spend yet more money indiscriminately in the belief that it will help the unemployed and the small businessman are not being kind, or compassionate, or caring. They are not the friends of the unemployed or the small business. They are asking us to do again the very thing that caused the problems in the first place.”