IMPERIAL WAR MUSEUM, LONDON/BRIDGEMAN IMAGES

Austerity for one, austerity for all: The Signing of Peace in the Hall of Mirrors, Versailles, 28th June 1919 by William Orpen (1919)
28 | NEW STATESMAN | 5-11 JUNE 2015

2015+23 amartya sen essay austerity.indd 28

02/06/2015 18:18:54

THE NS ESSAY

The economic
consequences of austerity
The judgements of our financial and political leaders
are breathtakingly narrow
By Amartya Sen

somewhere in the sentence. Actually, the

book that Keynes wrote attacking the treaty, The Economic Consequences of the Peace,
was very substantially about the economic
consequences of imposed austerity. Germany had lost the battle already, and the
treaty was about what the defeated enemy
would be required to do, including what it
should have to pay to the victors. The terms
of this Carthaginian peace, as Keynes saw
it (recollecting the Roman treatment of
the defeated Carthage following the Punic
wars), included the imposition of an unrealistically huge burden of reparation on Germany a task that Germany could not carry
out without ruining its economy. As the
terms also had the effect of fostering animosity between the victors and the vanquished
and, in addition, would economically do
no good to the rest of Europe, Keynes had
nothing but contempt for the decision of the
victorious four (Britain, France, Italy and
the United States) to demand something

from Germany that was hurtful for the vanquished and unhelpful for all.
The high-minded moral rhetoric in favour
of the harsh imposition of austerity on Germany that Keynes complained about came
particularly from Lord Cunliffe and Lord
Sumner, representing Britain on the Reparation Commission, whom Keynes liked
to call the Heavenly Twins. In his parting
letter to Lloyd George, Keynes added, I
leave the Twins to gloat over the devastation
of Europe. Grand rhetoric on the necessity
of imposing austerity, to remove economic
and moral impropriety in Greece and elsewhere, may come more frequently these
days from Berlin itself, with the changed
role of Germany in todays world. But the
unfavourable consequences that Keynes
feared would follow from severe and in
his judgement unreasoned imposition of
austerity remain relevant today (with an altered geography of the morally upright discipliner and the errant to be disciplined).

On 5 June 1919, John Maynard Keynes wrote

to the prime minister of Britain, David
Lloyd George, I ought to let you know that
on Saturday I am slipping away from this
scene of nightmare. I can do no more good
here. Thus ended Keyness role as the official representative of the British Treasury
at the Paris Peace Conference. It liberated
Keynes from complicity in the Treaty of
Versailles (to be signed later that month),
which he detested.
Why did Keynes dislike a treaty that ended the state of war between Germany and
the Allied Powers (surely a good thing)?
Keynes was not, of course, complaining
about the end of the world war, nor about
the need for a treaty to end it, but about the
terms of the treaty and in particular the suffering and the economic turmoil forced on
the defeated enemy, the Germans, through
imposed austerity. Austerity is a subject of
much contemporary interest in Europe I
would like to add the word unfortunately

5-11 JUNE 2015 | NEW STATESMAN | 29

2015+23 amartya sen essay austerity.indd 29

02/06/2015 18:18:54

Aside from Keyness fear of economic

ruin of a country, in this case Germany,
through the merciless scheduling of demanded payments, he also analysed the bad
consequences on other countries in Europe
of the economic collapse of one of their
partners. The thesis of economic interdependence, which Keynes would pursue
more fully later (including in his most famous book, The General Theory of Employment, Interest and Money, to be published
in 1936), makes an early appearance in this
book, in the context of his critique of the
Versailles Treaty.
An inefficient, unemployed, disorganised Europe faces us, says Keynes, torn by
internal strife and international hate, fighting, starving, pillaging, and lying. If some
of these problems are visible in Europe today (as I believe to some extent they are), we
have to ask: why is this so? After all, 2015 is
not really anything like 1919, and yet why
do the same words, taken quite out of context, look as if there is a fitting context for at
least a part of them right now?
If austerity is as counterproductive as
Keynes thought, how come it seems to deliver electoral victories, at least in Britain?
Indeed, what truth is there in the explanatory statement in the Financial Times, aired
shortly after the Conservative victory in the
general election, and coming from a leading historian, Niall Ferguson (who, I should
explain, is a close friend our friendship
seems to thrive on our persistent disagreement): Labour should blame Keynes for
their election defeat.
If the point of view that Ferguson airs is
basically right (and that reading is shared
by several other commentators as well), the
imposed austerity we are going through is
not a useless nightmare (as Keyness analysis would make us believe), but more like
a strenuous workout for a healthier future,
as the champions of austerity have always
claimed. And it is, in this view, a future that
is beginning to unfold already in our time,
at least in Britain, appreciated by grateful
voters. Is that the real story now? And more
generally, could the Heavenly Twins have
been right all along?

here are many odd features of

the experience of the world since
the crisis of 2008, beginning in
the United States. One of them is
that what began as a clear failure
of the market economy (particularly fed by
misbehaving financial institutions) soon
looked like a problem of the overstretched
role of the state. The crisis, when it came,
was seen rightly, I believe as a failure
of the operation of the private financial institutions, and led to a huge demand for

reinstating some of the state regulations,

particularly of the financial markets, that
had been gradually eliminated in the US
economy through piecemeal eradication
(beginning in the Reagan presidency but
continuing through Democratic administrations). However, after the massive decline
in 2008 of financial markets and of business
confidence had been halted and to some
extent reversed through the intervention
of the state, especially through stimulating
the economy, often paid for by heavy public
borrowing, the state had large debts to deal

Leaders competed to
frighten people with the
burden of public debt
with. The demand for a smaller government
which had begun earlier, led by those who
were sceptical of extensive public services
and state provision, now became a loud
chorus, with political leaders competing
with each other in frightening people with
the idea that the economy could not but collapse under the burden of public debt.
Similarly, at the international level, the
global free fall following the 2008 crisis
was largely halted by the move, under the
visionary leadership of Gordon Brown, for
a meeting of the governments of the newly
formed G20 in April 2009 in London, each
promising to do its best not to feed the
downward spiral by domestic complicity.
This turned a page in the history of the crisis successfully, but soon the story changed,
with the governments being asked to get
out of the way before they ruined healthy
business activities.
Turning to the management of debts,
suddenly the idea of austerity as a way out
for the depressed and heavily indebted
economies became the dominant priority
of the financial leaders of Europe. Those
with an interest in history could easily see
in this a reminder of the days of the Great
Depression of the 1930s when cutting
public expenditure seemed like a solution,
rather than a problem. This is, of course,
where Keynes made his definitive contribution in his classic book, the General
Theory, in 1936. Keynes ushered in the basic
understanding that demand is important
as a determinant of economic activity, and
that expanding rather than cutting public
expenditure may do a much better job of
expanding employment and activity in an
economy with unused capacity and idle
labour. Austerity could do little, since a reduction of public expenditure adds to the
inadequacy of private incomes and market
demands, thereby tending to put even more

people out of work. There is, of course,

more to Keyness full theory than that, but
the common-sense summary just presented is gist enough.
However, the financial leaders of Europe
had a different reading from Keynes and
from a great many mainstream economists
of what was needed, and they were not
going to budge from their understanding.
As it is quite common these days to blame
economists for failing to see the real world,
I take this opportunity to note that very
few professionally trained economists were
persuaded by the direction in which those
in charge of European finances decided to
take Europe. The European debacle demonstrated, in effect, that you do not need economists to generate a holy mess: the financial
sector can generate its own gory calamity with the greatest of elegance and ease.
Further, if the policy of austerity deepened
Europes economic problems, it did not help
in the aimed objective of reducing the ratio
of debt to GDP to any significant extent in
fact, sometimes quite the contrary. If things
have started changing, over the past few
years, even if quite slowly, it is mainly because Europe has now started to pursue a
hybrid policy of somewhat weakened fiscal
austerity with monetary expansion. If that
is a half-hearted gesture towards Keynes,
the results are half-hearted, too.
There is, in fact, plenty of evidence in the
history of the world that indicates that the
most effective way of cutting deficits is
to resist recession and to combine deficit
reduction with rapid economic growth.
The huge deficits after the Second World
War were easily tamed with fast economic
growth in the postwar years (I will come
back to this issue later). Something similar
happened during the eight years of Bill Clintons presidency of the United States, when
Clinton began with a huge deficit and ended
with none, thanks largely to rapid economic
growth. Again, the much-praised reduction of the Swedish budget deficit during
1994-98 occurred in a period of fairly fast
growth of GDP. Despite political deadlocks
and a largely non-functional Congress, the
United States has been much smarter than
Europe, on this occasion, in making use
of this central understanding. The ratio of
deficit to GDP has fallen in the US thanks
to economic growth, which rather than
austerity is of course the well-tried way of
achieving the desired result.
Had the policy leaders of Europe (adherents of a peculiarly narrow view of financial
priority) allowed more public discussion,
rather than taking unilateral decisions in
secluded financial corridors encouraging
no public discussion it is possible that the
policy errors could have been prevented,

30 | NEW STATESMAN | 5-11 JUNE 2015

2015+23 amartya sen essay austerity.indd 30

02/06/2015 18:18:54

GORDON ANTHONY/GETTY IMAGES

ow was it possible, it has to

be asked, for the basic Keynesian insights and analyses to be
so badly lost in the making of
European economic policies
that imposed austerity? Some of the dominant figures in the financial world have had
a long-standing scepticism of the economic
relations on which Keynes focused which
is being emended only now, with reality
checks being made in observations of the
penalty of the neglect of Keynesian relations. The bold plan by the new president of
the European Central Bank, Mario Draghi,
which we have every reason to welcome, to
deliver a trillion euros of quantitative easing (not unlike expanding the money supply) with decisive expansionary effect is
a result of that belated recognition which
is slowly changing the European Central
Bank: that expansion rather than contraction is what the economy needs.
If failing to understand some basic Keynesian relations is a part of the explanation of
what happened, there was also another, and
more subtle, story behind the confounded
economics of austerity. There was an odd
confusion in policy thinking between the
real need for institutional reform in Europe
and the imagined need for austerity two
quite different things. There can be little
doubt that Europe has needed, for quite
some time, many serious institutional reforms from the avoidance of tax evasion
and the fixing of more reasonable retiring
ages to sensible working hours and the elimination of institutional rigidities, including
those in the labour markets. But the real (and
strong) case for institutional reform has to

Dynamic insight: John Maynard Keynes, c.1938

be distinguished from an imagined case for

indiscriminate austerity, which does not do
anything to change a system while hugely
inflicting pain. Through the bundling of
the two together as a kind of chemical compound, it became very difficult to advocate
reform without simultaneously cutting
public expenditure all around. And this did
not serve the cause of reform at all.
This is a simple enough point, and it is
surprising how difficult it has proved to be
to get this across. I have to confess to humbling failure in making an impact on the
policymakers through my efforts on this
by addressing the European Commission,
the IMF, the Bank for International Settlements, and joint meetings of the World
Bank and the OECD, starting in the summer of 2009.
An analogy can help to make the point
clearer: it is as if a person had asked for an
antibiotic for his fever, and been given a
mixed tablet with antibiotic and rat poison. You cannot have the antibiotic without also having the rat poison. We were in
effect being told that if you want economic

It showed that you do

not need economists to
generate a holy mess
reform then you must also have, along with
it, economic austerity, although there is absolutely no reason whatsoever why the two
must be put together as a chemical compound. For example, having sensible retiring ages, which many European countries
do not (a much-needed institutional reform), is not similar to cutting severely the
pensions on which the lives of the working
poor may depend (a favourite of austeritarians). The compounding of the two not
least in the demands made on Greece has
made it much harder to pursue institutional

reforms. And the shrinking of the Greek

economy under the influence mainly of
austerity has created the most unfavourable
circumstances possible for bold institutional reforms.
Another counterproductive consequence
of the policy of imposed austerity and the
resulting joblessness, for Keynesian reasons, has been the loss of productive power
and over time the loss of skill as well resulting from continued unemployment of
the young. The rate of youth unemployment is astonishingly high in many European countries today; more than half the
young people in Greece have never experienced having a job. The very process of the
formation of human capability, on which
Adam Smith put emphasis as the real engine of economic success and human progress, has been quite badly mishandled
through the tying together of uncalled-for
austerity (which no country really needed)
with necessary reform (which many European countries did need).
More than 200 years ago, Adam Smith
specified with much clarity in The Wealth
of Nations how to judge the good functioning of a well-run economy. Good political
economy, Smith argued, has to have two
distinct objects: first, to provide a plentiful revenue or subsistence for the people,
or more properly to enable them to provide
such a revenue or subsistence for themselves; and secondly, to supply the state or
commonwealth with a revenue sufficient
for the publick services.
The father of modern economics, and the
pioneering champion of the market system,
did not have any doubt why the role of the
state fits integrally into the demands of a
good society. Public reasoning over generations has increasingly vindicated and supported Adam Smiths broad vision. There
are good reasons to think that it would
have done the same today had open and informed public dialogue been given a proper
chance, rather than being ruled out by the
alleged superiority of the judgements of
financial leaders, with their breathtakingly
narrow view of human society and a basic
lack of interest in the demands of a deliberative democracy.

t is certainly true that the policy of

austerity has been advertised as the
reason behind the comparative success of the British economy. This
comparison is, however, with Europe, which has been in a bigger hole than
Britain, with a more vigorous imposition
of austerity, particularly in some countries
(Greece is of course the extreme example of
that with the big shrinking of its economy,
rather than having economic growth).

through the standard procedures of deliberation, scrutiny and critique. It is remarkable that this has not happened in the continent that gave the world the basic ideas of
institutional democracy. The big epistemic
failure in missing the lessons of the past
on revival, deficit reduction and economic
growth is not only a matter of wrong turns
taken by the financial leaders, including
the European Central Bank, but also of the
democratic deficit in Europe today. It is no
consolation that most of the governments
in the eurozone that deployed the strategy
of austerity lost office in public elections
that followed. Democracy should be about
preventing mistakes through participatory
deliberations, rather than about making
heads roll after mistakes have been made.
This is one of the reasons why John Stuart
Mill saw democracy as government by
discussion (a phrase coined, along Millian
lines, by Walter Bagehot), and this demands
discussion preceding public decisions, rather than following them.

5-11 JUNE 2015 | NEW STATESMAN | 31

2015+23 amartya sen essay austerity.indd 31

02/06/2015 18:18:55

The relatively positive growth in recent

years does not make Britains overall experience of growth over the period of austerity
particularly impressive, if we look beyond
Europe. Not only is the price-adjusted GDP
per capita in Britain today still lower than
what it was before the crisis in 2008, but
also, in the period of recovery from the low
of 2009, GDP per capita has risen far more
slowly in the UK than in the US and Japan
(not to mention some of the faster-growing
Asian economies).
Could the British voters, then, have
missed the real story? That is possible, and
I shall come to that possibility presently,
but the voting figures do not quite bring
out a groundswell of approval in favour of
austerity. There is no question that Labour
had a severely bad election, and has lost
ground, not just in Scotland, and must rethink its priorities as well as strategies quite
radically. But the parties forming the coalition government the Conservatives and
Liberal Democrats had support from more
than 59 per cent of the total vote in the election before last in 2010 (that is, before they
sprang the surprise of austerity on the British public); yet the coalition parties together
have managed to get only around 45 per
cent in this election after the experience of
austerity. Not quite a heady success for the
vote-getting ability of austerity. The Tories
did get a clear majority of seats on their own
(and have good reason to celebrate that outcome), but this achievement came with only
37 per cent of the votes. The success here is
just like that of the Hindutva-oriented BJP
in India in the elections last year, when it
got 31 per cent of the ballots cast but a substantial majority of parliamentary seats.
Before we start getting our economic theories from the reading of election results, we
have to scrutinise a bit more the message
that comes through from the votes and the
seats in the constituency-based electoral
systems that the UK and, following it, India
happen to have.
What is not in doubt, however, is that the
general public in the UK, following the crisis of 2008, has become increasingly nervous about the size of the public debt and also
about the ratio of public debt to GDP. What
is overlooked here is that while a national
debt may have many costs (and it is not paranoiac to keep tracking it), it is not quite like
an individual persons debt, which is owed
to someone else (someone quite different).
An internal national debt is mainly owed
to another person in the same economy.
Figures of seemingly large public debt may
be handy enough to frighten a population
with imagined stories of ruining the future
generations, but the analysis of public debt
demands more critical thinking than that,

rather than drawing on a misleading analogy with private indebtedness.

There are two distinct issues here. First,
even if we want to reduce public debt quickly, austerity is not a particularly effective
way of achieving this (which the European
and British experiences confirm). For that,
we need economic growth; and austerity,
as Keynes noted, is essentially anti-growth.
Second, what is also important to note is
that while panic may be easy to generate,

Could the British voters

have missed the real
story? That is possible
the existence of panic does not show that
there is reason for panic. No less importantly, the public has not always been scared
stiff by the size of the public debt. The public debt-to-GDP ratio was very considerably larger in Britain in every year for two
decades, from the mid-1940s to the mid1960s, than it has been at any time since the
crisis of 2008. And yet there was no panic
then (when Britain was confidently establishing the welfare state), in contrast to the
confused anxiety, not to mention the orchestrated fear, that seems to run down the
spine of the terrorised British today, making
austerity look like a fitting response.
When Britain went for pioneering the
welfare state and established the National
Health Service, among other ways of expanding the public services, with Aneurin Bevan inaugurating the Park Hospital
in Manchester on 5 July 1948, the ratio of
debt to GDP was larger than 200 per cent,
much more than twice what it has been at
any point in recent years. Had the British
public been as successfully frightened about
the debt ratio in those days, the NHS would
never have been born, and the great experiment of having a welfare state in Europe
(from which the whole world from China,
Korea and Singapore to Brazil and Mexico
would learn) would not have found a foothold. A decade later, when Harold Macmillan, as a buoyant new prime minister, told
the British people in July 1957 that they had
never had it so good, the size of government debt was more than 120 per cent of
GDP immensely higher than the ratio of
roughly 70 per cent in 2010 when Gordon
Brown was accused of mortgaging Britains
future by profligacy.
The scare was not there from the late
1940s through the 1960s, with Labour as
well as Conservative governments in office, perhaps because the scarers were more
scarce then. And armed with good public
services and a flourishing market economy,

Britain steadily reduced its debt-to-GDP ratio through economic growth, while establishing the welfare state and a huge array of
new public services.
Public knowledge and understanding are
indeed central to the ability of a democratic
government to make good policies. The
Economic Consequences of the Peace ends
by pointing to the connection between
epistemology and politics, and arguing that
we can make a difference to the world only
by (in Keyness words) setting in motion
those forces of instruction and imagination
which change opinion. The last sentence
in the book affirmed his hope: To the formation of the general opinion of the future
I dedicate this book. In that dedication,
there is enlightenment as well as optimism,
both of which we strongly need today. l
This is a edited version of a lecture delivered
by Amartya Sen at the Charleston Festival
in Firle, East Sussex, on 23 May
Amartya Sen is professor of economics
and philosophy at Harvard and won the
1998 Nobel Prize for economics. He is the
inaugural winner of the Charleston-EFG
John Maynard Keynes Prize and the author
of many books, including The Idea of
Justice (Penguin)

5-11 JUNE 2015 | NEW STATESMAN | 33

2015+23 amartya sen essay austerity.indd 33

02/06/2015 18:11:32

Copyright of New Statesman is the property of New Statesman Ltd. and its content may not
be copied or emailed to multiple sites or posted to a listserv without the copyright holder's
express written permission. However, users may print, download, or email articles for
individual use.