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Prof. Stiglitz warns against inappropriate spending cuts by nations
Professor Joseph E. Stiglitz lambasts the financial sector and warns world governments wishing to reduce their deficits not to do so indiscriminately.
In a very interesting article published on the Project Syndicate website dated 8 July 2010 (link below), Professor Stiglitz finds that Keynes’ theory has been proven right insofar the financial sector has “brought the world to the brink of ruin”. The lack of regulation of the sector inherent in free market economies has shown its inadequacy.
Experts advised that EU member states, after the revelation of Greece’s deficit and catastrophic situation, focus on eliminating deficits by reducing expenditure. That this would lead to raising confidence, which would lead to restoring investment, therefore growth, has been proven to be a mistaken assumption, as history has shown. The application of this expenditure reduction has transformed the 1929 US stock-market crash into the Great Depression.
Keynes’ suggested stimulating the economy through the combination of two approaches: a reduction in interest rates and government investment in infrastructure. Investment by government injects income, which results in more spending in the general economy, which in turn stimulates more production and investment involving still more income and spending and so forth. The initial stimulation starts a cascade of events, whose total increase in economic activity is a multiple of the original investment.
More precisely, Professor Stiglitz advises to stop spending for unproductive projects, such as wars in Afghanistan or Iraq, or bailing out banks which do not increase lending. Governments should further encourage spending by, for example, raising taxes on companies that do not reinvest and lowering them for companies that do. Governments could further help banks which lend to SMEs which are the main sources of new job creation, or establish financial institutions to do so.
http://www.project-syndicate.org/commentary/stiglitz127/English
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