What Are Economic Austerity Measures?

Economic austerity measures are tools used by governments to help keep finances manageable when economies are ailing. These fiscal policies are typically implemented as a means through which to cut back on government spending and drastically reduce public sector debt. But do economic austerity measures work, and what does their introduction mean in practical terms for everyday citizens? Learn how austerity measures are defined and whether they’re good for the economy.

How Is Economic Austerity Defined?

Economic austerity can be defined as a set of fiscal policy measures that are used to close and fill budget gaps when tax revenues fall short. They’re typically implemented by governments to aid an ailing economy, usually when it’s operating at full capacity and subject to inflationary pressures. From a layman’s standpoint, you might consider these policies to be the opposite of stimulus spending programs (which are aimed at ending a recessionary economy).

In other words: Economic austerity describes a set of economic and political policies designed to reduce government budget deficits. These policies accomplish the goal of addressing these deficits by introducing spending cuts, increasing taxes, or enacting a strategy that implements a combination of both tactics. Put simply, economic austerity measures are designed to help reduce budget deficits, and the general way they do so is by working to bring government revenues more closely in line with government expenditures.

When Are Economic Austerity Measures Used?

We’ve all heard about the myriad problems that can occur when an economy goes into recession. But when economies are operating at or near full capacity, it can also introduce complications as prices start to rise and businesses cannot find enough workers, yet consumer confidence remains strong. Left to its own devices under this scenario, the economy will roar along, inflation will set in and accelerate, and consumers will ultimately buy fewer goods and services as prices become affordable and then layoffs begin.

Noting this, governments tend to exercise policies of economic austerity when politicians decide that government spending needs to slow down, either for economic or political reasons. But they generally do not elect to make this decision lightly, as the effects of austerity on an economy are neither straightforward nor predictable.

What Tools Can Governments Use To Fix Economies?

Government bodies have two main tools that they can draw upon when seeking to tend to an unhealthy economy: Monetary and fiscal policy. In the U.S., monetary policy is set by the Federal Reserve, America’s central bank, while fiscal policy is set by the legislative and executive branches of the federal government. Economic austerity measures that our national leaders can implement if needed involve raising taxes and/or limiting government spending.

How Do Austerity Measures Work?

Economic austerity measures typically take the form of fiscal policies that are used to reduce the amount of money that is available in an economy. Just as a family faced with an economic shortfall might seek out ways to earn more or spend less, governments may find themselves coming up short on funding and need to adopt a similar strategy in practice.

However, it’s not always easy to implement such strategies. While it seems straightforward that governments should curb spending when tax revenues fall below annual projections, the results of doing so have the potential to cause more economic pain than they eliminate.

Higher Taxes To Fund Spending

For example: On the one hand, raising taxes takes money out of the economy and puts it in the hands of the government to fund its own spending. On the other, raising taxes is politically highly unpopular. Noting these concerns, governments frequently prefer utilizing other methods to reduce the amount of money available while addressing various concerns related to spending.

Raising Taxes While Cutting Spending

Another highly unpopular strategy from a political standpoint, this tactic reduces the amount of money in the economy overall both by raising taxes and limiting government spending. As you might imagine, it puts less money in circulation among businesses and citizens and generates less public goodwill than standard operating strategies.

Lower Taxes And Lower Government Spending

This is frequently the goal championed by trickle-down economics, the economic theory that fewer taxes spur businesses to invest more in their operations, which in turn fuels greater hiring and more spending down the line. But history has shown that such theories don’t always work in practice.

The Bottom Line: Austerity Slows A Roaring Economy

Economic austerity measures can slow an overheating economy. However, they only work as intended if timed correctly. Austerity policies implemented in the face of recessionary pressures can have unintended consequences and may actually prolong economic suffering.