Recovery Programs

Does austerity work?

On its face, it should. When you overspend your household budget, you need to cut back for a while to get out from under your bills. That’s what the IMF thought would work with Greece, when they first proposed a package of spending cuts and tax increases—after a short time, things would get better.

Only they didn’t. Greece went into an economic tailspin that hasn’t ended. The IMF has admitted it erred. Unemployment has grown from 9% to 27%. Industrial production has fallen 20%. Wages have fallen 10%. Clearly, a nation is not a family—and their economies are different. When you can’t pay a thousand dollar loan, you have a problem. When you can’t pay a million dollar loan, the bank has a problem.

Illinois is finding this out, too. Two years ago they increased their income tax and cut spending, but now their economic recovery seems to have stalled out. Unemployment is stuck at 9% while neighboring states are much lower—even Michigan. Their credit rating has been cut, as lawmakers have yet to address a $100 billion funding gap in the state retirement system, which is constitutionally senior to bondholders.

When austerity doesn’t work, restructuring is the next step. It worked for Greece. Hopefully, it won’t be needed in Illinois.

Douglas R. Tengdin, CFA

Chief Investment Officer

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