After watching that Cyprus has also applied for a bailout from the EFSF/ESM fund (following Greece, Ireland, Spain and Italy) I decided to to watch a bit more carefully on how the situation will be handled this time. From what I can see in the news, the group of experts (or technocrats if you prefer) of the International Monetary Fund, the European Commission and the European Central Bank (the so-called troika) have reached the same conclusions as they had done before for the case of Greece, Ireland, Spain and Italy: Austerity Measures. Surprise, Surprise! As if any European citizen was expecting anything else.
News stories of what they intend to propose specify things like large cuts on government expenses, decreases in civil servant wages and benefits and increases in direct and indirect taxes. Although I am positive that the Cypriot state needs to perform some sort of rationalization over its expenses (the Southern European states have a much deserved reputation of not being very logical when it comes to government spending. An excellent example of such irrationalities is Greek government's allowance to the civil workers who arrived at work on time) this sort of thinking and acting will not ease the burden of a sovereign debt crisis. Judging however of the ease at which the troikans believe that austerity measures are a panacea I would propose that the next country that will need a bailout ship its accounting books to them and spare the EU some money on traveling!
As one may observe, austerity measures have not so far helped in easing the effects of the near-bankruptcy of Greece. In Spain, unemployment has reached 25% amongst the population and about one out of two youths under 25 is jobless. And yet, Mariano Rajoy's government announced huge cuts in the nation's budget which will only worsen the situation. Mario Monti's government of technocrats in Italy (in my opinion the best leader in the EU at the moment) has only taken 30bn euros worth of measures, and those in December 2011. In comparing the two states it would now seem that prospects seem slightly brighter for the Italians as per the spring 2012 European Commission forecasts. (for more details read the European Commission Economic Forecast. Be warned it is 190 pages long!)
As one may observe the Commission states that after 2012, a bright future awaits the Union.However I do not believe that such a comeback will be feasible so easily. In an already depressed economy the cost of slashing government spending is going to be more than the amount of money not spend.
As one may see from Google's public data Spain had negative growth only twice in the last 50 years while the more politically unstable Greece and Italy have had more ups and downs. On the other hand Cyprus's only year of negative growth since 1961 was 2009 (wouldn't it be nice if they could just keep it up? Damned bank exposure to Greece!). However, if you exclude the 1974 change in Greek authorities after the 1967 coup d'état, a year which was marked by a 6,44% Greece had not faced major economic downturns. The same holds for the Italians whose worst year was 1975 with a 2,09% drop.
According to the Debt-Deflation Theory of the Great Depression by Irving Fisher and the academics who have studied and written about it over the years (one of which in the Governor of the Bank of England Mervyn King) a large government sector has stabilizing consequences to an economy. In Hyman Minsky's Stabilizing an Unstable Economy (you can find it here) this idea is revisited and it is once again shown that a large government (up to a point obviously) is beneficial for the financial stability of a nation. (I am under the impression that the troika will not especially enjoy this paragraph) Thus the danger that may arise from an excess of austerity measures is to make the already fragile system more prone to future crises.
Following this ideas it is more essential to provide incentives for growth and then impose austerity measures. The logic behind the EFSF so far has been: we give you money if you promise to be frugal with them. Well gee EFSF thanks a lot! What would actually make sense would a be a policy of ''we give you money, spend them to boost the economy, and then impose some austerity measures". (If you are one of those who like to derive examples from economic history you may use the one of Theodore Roosevelt and the Great Depression) I once again state that I am not against the rationalization of government expenses. However, this should be done after the economy stabilizes and not before! If the economy does not grow how is the nation going to pay back it's lenders?
I guess that following the traditional German logic of keeping inflation low and finances tight at all costs led us to where we are now (a note on the solution of the Greek debt haircut on posts to come) and will keep us there until the Germans realize that the hyperinflation of the 1920's will not occur if the let the ECB act as regular central bank and print money. It would even make the value of the dollar fall which would help German exports!
(Mrs Merkel please listen to reason! Most Europeans are bored of the same meetings with the same conclusions!)