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Something is Rotten in Europe

By       Message Seymour Patterson     Permalink
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opednews.com Headlined to H3 6/24/15

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Europe and Greece are in a mutual bind: Europe wants Greece to cut pensions, but Greece might have to leave the EU (European Union), if the Greek government cannot resolve its debt obligations with lenders. The exit would be onerous for the union. Without more loans or an extension of the existing bailout arrangement, Greece could slip into a depression. On June 30th, the bailout program for Greece expires and the government will have come up with a $1.8 billion repayment to the IMF (International Monetary Fund). Prime Minister Alexis Tsipras does not have the money. The previous Greek government brought the debt down through higher taxes and mammoth spending cuts. Greece and Kansas have one thing in common: massive spending cuts amid of large deficits. However, Kansas cut taxes as well, while Greece increased taxes to reduce its deficit under the stewardship of ex-Prime Minister George Papandreus. (See The Huffington Post)

MP Tsipras rejects lenders' demand for pension cuts in the face of the current state of the Greek economy--the country has fallen into a mild recession. Like Kansas, it is incomprehensible that cuts in government spending are seen as right for an economy floundering financially. And as an aside, Brits are demonstrating in the streets against the British government's austerity plans.

Lenders want more Greek government spending cuts for an extension of the bailout program. Such cuts would come at the expense of pensioners--perhaps including a seriously vulnerable group: senior citizens. This begs the question: how does the act of cutting pensions help fix the deficit (and by extension the Greek economy)? Think about the typical pensioner buying proclivities. Suppose there is a cut in her pension. She will have to cut back on spending on goods--food, clothing, and shelter, and on services such as personal health services. She reduces her spending on these necessities at the grocery store, clothing store, and might even have to find a cheaper apartment. The suppliers of these goods and services experience a decrease in demand, slower inventory turnover, lower prices and reduced profits (or greater losses). If the pensioner pays taxes on her income, the businessperson on profits, then the physician, the hairstylist (or the barber) will see a drop in the demand for their services, causing the profits to swivel up, too. The businessperson, the physician, and the hairstylist will pay less in taxes to the government on their reduced income from lower demand. So, collectively the Greek government's tax revenue will fall. They trimmed the deficit, but also hurt pensioners and the Greek economy as happened under MP Papandreus.

This isn't a road MP Tsipras wants to travel. He understands what lies at the end of it. A preferred strategy would be one that promotes economic growth, which would raise employment in Greece, raise income and generate more taxes that would reduce the deficit with which EU (and the IMF) seems overly concerned. What the EU advocates for Greece is tantamount to a dog chasing its own tail.

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In Kansas, to avert the looming economic apocalypse, the governor plans to increase sales taxes to balance the budget. A sales tax is regressive: it punishes low-income recipients disproportionately more than top-income ones. Heavy reliance on sales taxes is misguided: "The governor's budget, which relied heavily on the tobacco tax increase and an increase in liquor taxes, wouldn't balance if enacted now. Estimates issued in April revised downward the amount of revenue Kansas expects to take in the next fiscal year." (See The Topeka Capital Journal) This has not been an effective strategy to balance the budget by "raising taxes." One redeeming feature is there will be exceptions for food for some low-income Kansans. It also appears that the ultimate goal of the governor is the elimination of income tax to be replaced with a consumption tax. This tax too is regressive with respect to income and in at least two ways, it will hurt low-income people who spend a larger share of their income on necessities such as food, but there will be an exception for food. In any event, the poor will pay more of the consumption (and sales) taxes where they apply. Second, low-income people reputedly have a higher marginal propensity to consume (than high-income recipients), and any tax whether income or consumption reduces the consumer's "disposable" income. Hence, the imposition of the consumption tax will reduce consumption of normal by more than the reduction in disposable income. These two effects--spending a large share of income on consumption and higher marginal propensity to consume--hurt poor consumers and make them bear the real burden of government revenues. Next, the higher marginal propensity to consume causes consumers to consume disproportionally more than the consumption-tax induced reduction in "disposable" income. Which is better: the income or the consumption tax? Using regressivity as a measure of outcome, the progressive income tax is better than the regressive consumption tax. Kansas might want to reconsider how it wishes to change its taxes. Taxes penalize the activities they're attached to: a consumption tax will discourage consumption and an income tax will discourage earning income.

What is happening in Kansas is self-imposed "austerity." The Greek experience is largely imposed on the country by external lenders. Yet, in both instances the overarching vector is the deficit, which allegedly needs to be brought under control at all costs, including running the economy into the ground with spending cuts and higher taxes. If Kansas goes kaput, it is just one of 50 states; the Union will not unravel. The governor of Kansas Sam Brownback threatens to disband the judiciary if he does not get want he wants. A departure of Greece from the EU might have far-reaching ramifications for the remaining countries. There is a certain abstinence from the Kansas governor: the IMF and the ECB (European Central Bank), namely, that the central problem facing both is the deficit. Fix the deficit and all your economic problems go away. How improbable that inference!

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Seymour Patterson received a Ph.D. in economics from the University of Oklahoma in 1980. He has taught courses and done research in international economics and economic development. He has been the recipient of two Fulbright awards--the first in (more...)
 

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