Is ‘Austerity’ intended to increase unemployment and suppress wages?

By Payguy

Osborne and Cameron are organising a slump to increase unemployment and supress wages – a price they consider worth paying – to increase profit margins for Tory donors and the interests of the super wealthy.

We should certainly take no lessons from the current Government who are badly misleading the public about the economy in a way that is certainly immoral and evil, and verges on treasonous.

Take a look at the following graphs –

The private sector is deleveraging. Households, private sector companies and banks are all reducing economic activity and hoarding cash (£650 billion of it). In this circumstance the state has no choice but to make good the difference. It is not a choice. It is an accounting law.  See the graph showing a perfect relationship between private sector surplus and public sector deficit (including trade deficits).

Until Osborne puts in place policies that make the economy grow, the deficit will continue. His fiscal policies of course will continue to cause depression, higher unemployment and lower living standards.

Public sector debt is private sector income (by definition) … and it matters not a jot.  As MMT proves – higher public sector debt DECREASES gilt interest rates.

The current government’s policies will fail by definition – look at the graphs – public sector debt = private sector surplus + balance of payments ALWAYS.

The sectorial balance graphs are a great way to compare Labour and Conservative records on public sector spending.  Look carefully and prior to 2008, you can clearly see Labour’s record is better. 2008 was a world wide crash which affected every nation in the world.

The Tories were pushing for further deregulation of banks in 2007!!-

The current government is dramatically reducing spending on useful activities such as education, health, transport. These are the deepest cuts since the 1930s and we are only an eighth into the planned program.

But what we can clearly see is exactly what Modern Monetary Theory would predict.  The deficit reduction program is failing, and will fail. It has to by definition (see the graphs again showing public sector deficit equal private sector surplus ALWAYS).

Osborne’s spending cuts  will always be replaced with higher spending on housing benefit, unemployment benefit and lower tax revenue.  All at the cost of lower growth and higher unemployment.

And how’s the Tory plan working out for people in practice? The government has tried to reduce itself in size. The economy has tanked. Living standards have fallen. Government debt has increased as every pound no longer spent on employing a teacher, nurse or mending a road is more than compensated for by the extra costs of unemployment benefit, housing benefit etc. government tax revenues are down despite higher vat and income tax due to the stagnating economy.

We are in a liquidity trap. I can’t say this often enough to austerians. Without QE the money supply has been contracting for three years.

Banks are deleveraging and lending less money into the economy. Households are poorer so are spending less money in the economy. Now the government is trying to spend less money in the economy. Government fiscal tightening in a liquidity trap leads to a depression and a slump.

The only thing saving us from falling into a free fall abyss is QE and automatic stabilisers such as unemployment benefit and housing benefit.

If we did as the Telegraph, and Cameron want, and further reduce the size of the state, companies won’t have any customers for their goods, as households will be poorer and more of them will be unemployed. There will be no aggregate demand for their products. Households are getting poorer, and due to the austerity, more people are unemployed.

Pretty soon we enter the world of asset price deflation. This is the tipping point when an insane right wing government has sucked out so much demand from an economy that prices drop. Then the real fun begins as people hoard cash and goods as cash is worth more (prices are now dropping) if not spent and goods are more valuable than cash. This throws the economy into a vertical nose dive with hyperinflation as in Weimar Germany and rapidly rising unemployment. Firms lay people off to try and reduce costs.

For a while now I have been focusing on the question of what economic policies would cure the Global Financial Crash. This is actually a trivial question with a straightforward answer. The real question I should have been asking is why hasn’t a solution been proposed and debated. The shocking answer I have come up with is that those with the power to get us out of this mess have decided it is not in their interest to fix the world economy.

Consider that under austerity the relative wealth of the world richest people has increased significantly. For example, the Times Rich List of the 1000 wealthiest people in the UK has shown that their combined wealth has increased by 5% in the last 12 months to a new record high of £414 billion-

[As an aside we might ask why these people are so desperate to earn their second and third billions. My own preconception is their greed is a product of the way they were potty trained, serous only child syndrome and sadistic bullying in certain English boarding schools. Certainly these people are dysfunctional enough that they are capable of inflicting limitless misery on everybody else in order to get exactly what they want.]

Back to the point though, which is to compare the effect of austerity on the super rich and the other 99.999% of the population.

The effects of the austerity policies propagated by the Tory led coalition have been severe and immediate on nearly all of us but the ultra wealthy. 
Average incomes, for example, have dropped by over 6% in the last year in the UK (according to ONS earnings figures). Indeed austerity is likely (with only 10% of the Tories cuts actually implemented so far) to intensify and carry on for at least a decade. For example, presenting its analysis of 2011 autumn statement, the Institute for Fiscal Studies (IFS) predicted real median household incomes would be no higher in 2015-16 than they were in 2002-3. In other words, more than a decade will have passed without any increase in living standards for those on average incomes. The same analysis estimates 1 in 4 children will also end up in poverty by 2015.

So the implications are clear. Osborne’s current policies lead to rising incomes for the ultra rich but grinding poverty for everybody else.

But what would reverse this balance and result in policies that increased living standards for the 60 million UK citizens and constrain the skyrocketing growth in inequality caused by the massive  income gains of the ultra wealthy?

To my mind the reason the entire right wing press, the Institute of Directors, CBI, economic think tanks, Tory donors and so forth are behind the austerity drive of the Tories  is the role of wage equalisation in international trade.

It has been known for a long while ( ) that when two countries enter a free trade agreement, wages for identical jobs in both countries tend to approach each other. After the North American Free Trade Agreement (NAFTA) was signed, for instance, unskilled labor wages gradually fell in the United States, at the same time as they gradually rose in Mexico. The same force has applied more recently to the various countries of the European Union.

The implication of this is that globalisation has begun to open up the huge workforces of China and India who are currently paid much lower wages than their US and European counterparts.

Given that we know, through Factor Price Equalisation, as long as we continue free trade, that the wages of these workers are going to equalise over the next 20 years. There are, of course, two ways that wages could equalise.

In the first scenario governments in Europe and the US deliberately pursue their current austerity program’s and suppress workers wages. The Chinese and Indian wages gradually rise to meet EU and US levels and the converged wage for workers in a decade or two’s time is modest.

This scenario of course supplies much larger profit margins to the ultra wealthy owners and managers of multinational corporations as their wage bill is low. Bankers are happy as austerity allows greater indebtedness of households to them and inflation isn’t allowed to eat into the real interest paid by households on the debts owed to those that have lent the money. As a side benefit, privatising the profitable parts of the state (tuition fees, the NHS, NATs etc) under the excuses of austerity allows further tax payer backed profit opportunities for multinationals.

The other scenario for wage equalisation is sovereign debt monetization, tax reform , financial transaction taxes, Keynsian stimulus etc. These policy responses are not to be welcomed by the global elite. Although citizens would likely welcome these economic policies as they would result in rising living standards, higher employment and economic growth they would circumvent the Austerity for the hundreds of millions of citizens in the US and Europe and result in wage equalisation of EU/US workers at a higher level with workers in China and India. This is an unacceptable outcome for the worlds global elite who will lose profit margin from the higher wage bills they will need to pay their workers.

This is the reason we see the forces of business, Tories, all right wing economists and so forth lobbying so hard for austerity and the continuation of misery.

Monetization of government debts is perfectly safe in a liquidity trap. It would solve the need for austerity and allow governments to repair their economies. Unfortunately the global elite want depressions as unemployment lowers wage demands, increases the time debtors owe money to creditors and increases interest rates and their yields.

It works thus-

There are two parts to QE. The first part is where the Bank of England uses its privileges as a central bank to magic some money from thin air, buy a truck load of outstanding government debt from banks and credit their reserves with the money it has created.

This is the part that should be and is designed to be inflationary. Money is created and the banks should, in theory, be able to leverage the reserve crediting up and stimulate demand in the wider economy with it.

In the last couple of years the Bank of England has created £325 billion this way. So what has been the effect on the money supply?

“Figures released by the Bank of England on Wednesday showed that the UK’s broad money supply, M4, shrank by 5pc in the past year to a new record low.”

QE obviously isn’t working in the way it is intended. The credits given to banks are not finding their way into the real economy. QE is simply not stimulating growth in the money supply in the way it is intended to.

So what has gone wrong?  In short – bankers greed.  Banks demand a 15% return on equity to enable them to support their “business model”  of spending over half their turnover on pay packets that average £350,000 . This level of return is so high and greedy that banks have no interest at all in lending for mortgages or to small businesses – the returns are too small.

As credit creation in banks is the only way the UK economy can widen its money supply and credit creation in banks is responsible for 97% of the money supply growth. If banks won’t lend then the money supply doesn’t grow and our economy shrinks. The money supply must widen by at least 5% pa for any growth (money supply growth averaged 10% pa in the decade before the 2007 crash). That isn’t happening so we are in recession.

The other source of growth is government spending, but since Osborne is taking many multiples of £150 billion out from public sector spending this virtually guarantees we enter a depression.

Is there a silver lining though? Yes – the Bank of England has successfully bought up a third of the government debt that Cameron and Osborne are withering on about without sparking an inflationary spike in the money supply.

Given that everybody was expecting QE to feed through into growth in the UK money supply, there was always planned to be a second part to it.

The second part of QE is the insane bit. Sitting in the wholly publicly owned Asset Purchase Facility is £325 billion of outstanding government debt. The same debt Cameron says it is critical we eradicate. His plan for it is that in a few years time, the Asset Purchase Facility should sell it back out to the banks we bought it off and then rip up the money the banks give us for it.

Given the original reserve crediting didn’t cause the money supply to widen this is just treasonous and insane. The resale obviously can’t be inflationary – the money creation bit from part one happens over 5 years before the reissue of gilts.  Reissue will obviously be deflationary as banks will allocate liquidity to buy the gilts instead of using the money for something else. But it cannot be inflationary as there is no money creation at that point. The second part of QE should be abandoned. A sensible government would announce that the money supply is shrinking, that the £325 billion in the Asset Purchase Facility can be safely monetized and that public sector cuts are cancelled and a £175 billion stimulus package can safely be afforded.

How likely is this? Given how corrupt, incompetent and misleading is the current government to mis-explain how the economy works, in order to justify selling off the public sector to their friends and funders? The Tories and their backers want high unemployment and household debts to rise as this lowers wage demands and increases corporate profits. They are deliberately engineering a slump in order that the banks who provide 50% of their funding and the donors who can afford the £250,000 dinners with Cameron can slightly increase their profits.

Business is sitting on £700 billion of retained profits, banks are rich enough to pay an average of £350,000 to their staff. So what does Cameron do? He abolishes the bankers bonus tax, drops the 50p highest tax rate, lowers corporation tax and exempt overseas subsidiaries of multinationals from paying tax. The rest of us get a 5% hike in VAT, trebling of university tuition fees, youth unemployment raised to 20% and once again (as with Thatcher) unemployment knocking on 3 million people.

This is the real reason the economy went from growing at nearly 4% pa in Alastair Darlings last 12 months to contracting in the last 12 months. Cameron and Osborne have sucked all demand out of the economy and with his fiscal tightening has allowed the UK money supply to contract. Businesses and banks have plenty of money. It’s their customers that don’t.  Tory policies that hurt families and help the rich will continue to intensify the recession as they suck demand out of the economy. Until we get a left wing government we will remain in a prolonged slump.

This government is corrupt and evil. It is pure out and out class warfare  It must be stopped.

Don’t fall for the idea that future tax revenue are required to pay-off government debt.  In fact, it is a myth that taxes “pay” for any government spending.

When an economy is at ‘full capacity’, (i.e. very low unemployment and all resources in the economy being used productively), a government may wish to spend say £20Bn on something everyone agrees is needed – it could be repaying govt debt, defending the country, building hospitals, whatever.

When it spends this money it inevitably causes inflation – this is because you have more spending chasing the same amount of goods and services. The amount of goods and services does not change because the economy is already at full capacity.

To enable the government to spend without causing an inflationary spiral, the government taxes by an equal amount to prevent the private sector spending by the same amount – so overall the spending (public and private) remains roughly constant, so there is no inflationary spiral.

So the extra tax is to prevent an inflationary spiral when the economy is at full capacity – it is not required to “finance” government spending. This is why government economics is nothing like household economics.

However, when an economy is in the position ours is in, with excess capacity, spending by government is permissible without taxation because it doesn’t cause inflation.

Given that our economy has not been at full capacity for over 30 years (hence the high unemployment), the government does not need to increase taxes or cut spending elsewhere to “pay” the interest on government debt or to “pay” for anything.

The big question is why does the government issue bonds at all and pay interest to private investors? Why doesn’t the government just create the money at the mint or Bank of England – this won’t be inflationary as there is spare capacity.

An answer often given is that when governments issue bonds, someone has to surrender money to the government. If it wasn’t for the bond that money would probably have gone into the banking system instead. This is called a ‘reserve drain’ and was clearly necessary when we had the Gold Standard/Bretton Woods or some other type of Fixed Exchange Mechanism.

The argument given now is that debt is a better way to stimulate the economy. Supposedly there is a problem with a liquidity trap in the banking system. By issuing bonds the government can take money away from the banking system and make sure that it is being spent.

However, it’s pretty obvious that for countries with their own floating currency, deleveraging banks and with economies working at way, way below spare capacity that you can use QE to clear government debt at will without any inflationary effects.

This is obviously in the UK since there is £325 billion sitting in the Asset Purchase Facility. This money was bought using reserve crediting in 2009-12 and the result of the purchases was deflationary – M4 last year after £200 billion of QE had hit stall speed with growth at only 2% (more than 5% growth is needed to prevent the economy contracting).

So we are left with a ridiculous situation where the Tories are moaning about the huge and “unaffordable” government credit card bills. At the same time over a third of the debt they are moaning about is stuck in the government owned Bank of England with no hope of it ever being anything other than cancelled and retired.

To add to the hilarity, the Treasury, through a wholly government owned agency called the Debt Management Office pays interest on the £325 billion in the APF to the wholly government owned APF. This money is just building up and will eventually (as all profits for the Bank are) be returned to the taxpayer. You couldn’t make this up.

So clearly in economic circumstances such as now you can print money directly, buy outstanding government debt and retire it with no inflationary consequences.

Nevertheless Governments are continuing to use an explanation built up at a time of Bretton Woods with full employment, fixed exchange rates and no deleveraging to explain why they don’t use the QE to clear down debts.’

Related post:

Barclays and banker greed.

9 thoughts on “Is ‘Austerity’ intended to increase unemployment and suppress wages?

  1. Very good and I mostly agree but I question this bit: “When an economy is at ‘full capacity’, (i.e. very low unemployment and all resources in the economy being used productively), a government may wish to spend say £20Bn on something everyone agrees is needed – it could be repaying govt debt, defending the country, building hospitals, whatever. When it spends this money it inevitably causes inflation – this is because you have more spending chasing the same amount of goods and services. The amount of goods and services does not change because the economy is already at full capacity.”

    If you create and spend money to create wealth, like hospitals as in the above example, you’re increasing the services available. You don’t have more money chasing the same services because you’ve used the money created to increase the available services. Create money and send everyone out for a drink (dropping it from helicopters to them if you want to be traditionalist about it :-)) and you’ve got inflation. Create money to build a pub and you’ve increased the money in circulation, you’ve put money to spend in people’s pockets, and you’ve increased the wealth of the nation too. You could argue that technically there’s transient inflation because there’s a lag between the money creation and the actual completion of the building of the pub. However, fiat money being a belief system, if your country/state/area has a good record of money creation followed by prompt proportionate wealth creation then there’d be no reason for people to doubt the currency. That’s the great thing about money, if you need more of it you can just make it up. But it has to be used to create proportionate wealth, that’s the trick.


  2. Yah – that’s the important difference – whether the economy is at full capacity (zero unemployment etc). At full employment to avoid inflation you need to ensure that all investment leads to productivity gains to avoid inflation. That is very difficult to do and the risks are crowding out. This is where employers have to compete for labour. The competition pushes wages up which in turn pushes up prices. We haven’t been anywhere near this level for 40 years though!!


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