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The Pros And Cons Of Retrenchment

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Introduce cuts in government spending is known as retrenchment. Retrenchment often refers to bring down the size of government spending as a percentage of GDP. The governments introduce spending cuts when budget deficits are too high and need to be reduced. If the government lowers its expenditure it would have to be less concerned with the debts it owes to institutions it has borrowed from. Lower debt levels will encourage the private sector to invest. Cutting budget deficits will give investors greater confidence about the long term performance of the economy. If budget deficits are not cut, it will lead to higher bond yields (e.g. as in case of Spain, Greece & Ireland). Higher deficit also increases the cost of financing the deficit which implies that the future generations will be paying interest on the current levels of debt. Further, it has also been observed that government spending as a percentage of GDP has grown too high thereby crowding out (the more efficient) private sector. Many claim that governments with lower share of GDP tend to be more successful, though global evidence is very mixed. Examples of countries that have pursued austerity and later showed strong economic growth: Canada in 1993-96, cut fiscal deficit but maintained strong growth. In contrast, more recently, supporters of austerity argue that the rebound in economic growth in Latvia and Estonia show that countries who pursue fiscal austerity can overcome their problems (Latvia showed fastest

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