Tuesday, 12 February 2013

Austerity and Wages: The Real Data

From what we can see very few have actually bothered to see the effects of austerity measures in the lives of people. Thus, after some (very light) data mining I present you the effects that these austerity measures had on the Greek and Irish economies. Unfortunately, we do not have the opportunity to study other nations for the time being, as data only go as back as June 2012. Yet I will contrast the results for Greece with those of Germany during the 2006-2012 period.

Note: All results are inflation-adjusted (i.e. real) and account for gross wages (y-axis represents aggregate wages in the economy)

Real Wages in Greece
In the graph above, the two vertical lines represent the first two austerity packages the country passed, one in May 2010 and the other in February 2012. According to the data, the real value of the country's wages began to fall just before the 1st memorandum and is continuing its downwards slop up to day. In contrast, have a look at real wages in Germany:
Real Wages in Germany
Here, real wages only took a slight fall during the late 2008 crisis, but have resumed their upward trend in 2010, rising substantially over the past couple of years. If the Greek data are not enough let's have a look at the next graph:

Real Wages in Ireland
As anyone can see, wages in Ireland have also taken a tumble over the past 3 years. The straight line represents the 2009 budget which was aimed at salvaging the Irish banks and reduced government spending so that the debt burden assumed would be sustainable. The point of contrasting the aforementioned two countries with Germany is not to blame the latter. It is merely to point that Germany is here a case where policies have worked well while Greece and Ireland the cases where terrible policies did not have the results expected by policymakers. Worse of all, the result expected had no relationship with reality whatsoever. 

As economists, we expect that once the public's purchasing power is lowered then prices will fall as a result of less demand. This is actually what is being taught in Economics 101 in every university in the world. (see graph below)
Simplistic economics: Lower demand (Demand 2) means lower price (P2).
What economists in the IMF and the EU have failed to see is that prices do not change so fast. In fact, they may not change at all during the short-term (depending on how you measure short-term of course. Here, I assume is it as less than 2 years). In fact, an article in a Greek newspaper stated that prices in the economy just showed a declined. The date: February 6th, 2013. One could post data on inflation in Greece but these would be redundant. Real wages represent the current state of the economy much better and with greater insight on the public's purchasing power.

Since people do not behave as economists believe they do (and no economist has ever thought about changing the models or defining "rationality" in a different way) it is obvious that real-life effects will differ significantly from what is expected in theory. Greece and Ireland appear to have been nothing more than economic experiments; so that economists can learn that the world does not function the way they had thought. Unfortunately, it takes more than just one nation for economists to understand and admit mea culpa. The same situation is about to happen in Cyprus and has already happened in Portugal, Italy and Spain.

Did the authorities have an alternative? Yes: induce less rapid austerity measures, so that the reduction in government expenses would not cause such extreme responses, making a more gradual move from over-spending to under-spending. Now, let's assume that they did not know about this and they had to make a mistake to learn about it; now that they have learned, will they do anything fix this situation?


  1. What are the units of the Y-axis in the first two graphs?

    1. The Y-axis represents the total (aggregate) wages in the economy in euros. Updated the post about this.