The government, that drag on the economy.

In the previous post, on why economic recovery was being compromised by excessive and useless government spending I quickly illustrated my point with a table showcasing government expenditure in percentage of GDP and also average tax burden on percentage of GDP. I did not analyze the data from the table though, it deserved its own post. So let us have a look at how much money the governments need in some countries:

2011 data from The Heritage Foundation , The Wall Street Journal via Wikipedia

The highest percentages on government spending are found scattered across developed countries, specially in Europe. On Baltic countries (Denmark, Finland, Iceland, Norway and Sweden) we can see the percentage even goes over 50% of GDP . No surprises here, blame it on their splendid welfare systems everybody loves... The real problem is not welfare systems themselves, but the progression of the government spending in the latest years. People would agree with me than welfare systems and social measures have not increased during the last 5 years, in any case they have been reduced, but government expenditure on the other side has kept growing, as plotted in the following chart for the biggest economies in Europe.

Credit: Eurostat

The corrections on the growing trend seen in the 2010 data, as you may expect, are related to the austerity packages endorsed by the European Union to fight the financial and debt crisis. But these corrections have been too soft to correct the situation. Economists and traders everywhere (The Economist devoted an issue to this matter) see the situation as unbearable, which explains the rising concerns on sovereign solvency that has plagued the markets and has already blasted through Greece, Ireland and Portugal.

But if this has been this way for a long time, what can possibly have changed to make the situation so worrying for developed countries?

Losing ballast for a faster recovery: Slashing the government

Almost every developed country worldwide is nowadays fully immersed on its own fight for economic recovery. But this fight is made tougher by high unemployment rates, sovereign solvency doubts, inflation and financial speculation. The resultant situation is hard to tackle for governments: they need their economies to grow but they must ensure they are solvent and responsible, thus being a stable soil for said recovery to grow on. 

I am not going to discuss the measures for economic growth here, but the ones used to keep the state under control. These measures to try to lower government spending range from budget cuts, the end of some subsidies, establishment of debt ceilings, social services restrictions... to issuing (more) debt to be able to keep public spending at actual levels. Some of these moves are smart, some of them are insane, specially the debt issuing one... But all of them are late, very late.

2011 data from The Heritage Foundation , The Wall Street Journal via Wikipedia 

 

In the last decades we have grown accustomed to bigger and bigger states, with a never-ending growth in civil servants, entities, organizations, committees... Just have a look at the table above on the column for Government expenditure in percentage of GDP and you will see some unbearably high numbers (I will come back to analyze this table in a future post). This growth in size and cost was associated with the growing complexity of running a state in modern times, the never-ending appearance of new social measures and so on. Everybody let the parasite grow deep inside us, and when the ride was smooth nobody seemed to care about the extra weight that was being placed on the shoulders of the economy. But what now that we are on one of the bumpiest sections of this one-way road that is history? No matter how much horsepower your car has, if you start putting rocks in the trunk its performance will fall to the ground.

Stopping the government growth and its crazy spending is not enough, we must shrink its size and cost to reasonable levels. But how do you shrink a government without stopping its functions?

And now Portugal... But hunters already looking for their next prey

Here comes the latest member (it is almost there) to join the euro-bailout club: Portugal. This is not breaking news, as everybody was expecting this to happen sooner or later. It is not frightening either, as Portuguese contribution to the whole European GDP is relatively low; it is lower than that of the Irish and clearly the eurozone did not break because of Ireland's (or Greece's) bailout. Belgium is mentioned too, but that would not pose a much bigger problem than Portugalm, but what IS frightening economists worldwide is the possibility of Spain or Italy being next.

Portugal 10-year Bond. Credit: Bloomberg

The pattern on European bailouts is becoming worryingly clear. One country's economy begins showing signs of slowing down and continues with its excessive debt issuing. Rating agencies notice (thus making the yields go up), international investors notice (and ask for bigger yields on said sovereign bond) and last but not least speculators notice and try to take advantage of the situation. The death spiral has begun and everybody knows the results... The same moment this happens, the whole financial world locks in to their next target; the most suitable candidates being now Spain and Italy. The first expression that comes to mind when mixing the word 'bailout' and the name of Spain is 'too big too fail'. The expression is already familiar for American people but European people have not suffered it yet. The falls of Greece and Ireland were manageable for the European rescue fund, but a crash in Spain, or Italy, would pose an enormous problem to the whole eurozone. But disregarding what the hunters (speculators) want, is really Spain in need of a bailout? 

Economic policy new year resolutions

Each and every new year people make bold statements about changes (for the better) they are decided to apply to their lives from the very beginning of said year. Now replace the word 'people' with 'government' and 'lives' with 'countries'. Does this sound familiar? Yes, every government promises to change the country for better, but as it happens with people, most of them end up doing the same thing, committing the same errors over and over again.

This year should different though, numerous countries are in a situation where, if they keep doing the same, they will not stay the same, but they will go deep down. When the global outlook was (artificially) good, governments' mistakes were easily eclipsed by the housing boom, low unemployment rates, easy money and a ridiculously big government spending. Not anymore.