Government Social Spending and Government Debt: The Troubles of Europe

Paul Krugman, once again, throws cold water on the right-wing claim that  Europe’s troubles are the consequence of excess government spending on social support programs. It’s necessary to do this every once in a while: the facts are beyond the grasp of most Republicans and their media flacks:

It’s Not About Welfare States, by Paul Krugman, op-ed, New York Times, November 10, 2011: . . . just to say what should be obvious, the countries in trouble are not in any way marked out by having especially generous welfare states. . . .

Sweden, with the largest social expenditure, is doing just fine. So is Denmark. And Germany, which is the up side of the pulling-apart euro, has a bigger welfare state than the GIPS.

Krugman prints an OECD chart of public and private social spending. It’s effective but not easily readable. So, I thought I’d try correlating public spending with 10 year T-bond rates, a ready indicator of fiscal trouble (Figure 1). That would pose the question directly: are the countries in trouble, the “peripherals,” also the countries with generous public social spending?

Government social spending and Government bond rates (incl. peripherals)

Figure 1

Clearly not. Greece is off the chart with a bond rate over 30% and, except for Italy, none of the peripherals are in the same public-spending league as Germany, Denmark, and Sweden. Notice how these three generous social spenders enjoy even lower bond rates than the U.S., which happens to be the lowest spender on social programs (not an achievement to be proud of).

The trend line on Figure 1 points to a small correlation between lower public spending and higher bond rates—rather than the opposite—but the prudent judgment would be that there is no correlation either way. It seems the latest OECD social spending figures are from 2007 and may be stale. The number of nations plotted is too small. I excluded Asian members of the OECD (Australia, Japan, New Zealand), and smaller states in the eurozone are missing (see Geographical Note, below). Also, if we remove the peripherals from the chart, leaving only the healthier nations, the trend tilts the other way (Figure 2):

Government social spending and government bond rates (excl. peripherals)

Figure 2

Belgium in 2009 was the subject of an OECD report treating concerns about its fiscal sustainability in the context of an aging population. But, today, its bond rate is nowhere near the painful level of Italy or Ireland. In addition, France and Austria, probably because of the sizable exposure of their banks to Greek bonds, are paying 10-year rates over 3%, but so was the U.S. back in April and May of this year—these are not crisis rates. So, it still does not appear that social spending is the cause of Europe’s current fiscal troubles, as witnessed most clearly by the generous three (Denmark, Germany, Sweden) plus Finland. Again, the prudent judgment is that there is no correlation either way.

Georaphic Note: all the countries in Figure 1 belong to the eurozone, except for Canada, Denmark, Sweden, Switzerland, the U.K. and the U.S. These last six are members of the OECD, the Organization for Economic Cooperation and Development (a legacy of the post-WW2 Marshall Plan). Eurozone members missing from Figure 1 are: Cyprus, Estonia, Luxembourg, Slovakia and Slovenia (because they are also missing from the Financial Times listing of bond rates and spreads).


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