Evaluate the Use of Austerity Measures to Solve the Sovereign Debt Crisis

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A sovereign debt crisis is generally defined as economic and financial problems caused by the inability of a country to pay its public debt. This usually happens when a country reaches critical high debt levels and suffers from low economic growth. Austerity is a term used to describe debt-reduction policies. Austerity measures must be implemented in all struggling EU nations in order to allow the markets to recover and a more stable economy to develop. It is clear that some nations in the EU, namely Greece, Portugal and Spain have been living beyond their means for years, running deficits that are far too high, as well as neglecting their duties to not involve other nations in their debt issues. The big danger in fiscal consolidation is that it creates a downward, where falling demand and employment trigger declining tax revenues and budget deficits actually get worse instead of better. Further spending cuts or tax increases only worsen the downward spiral. A reduction in government spending and increase in taxes are withdrawals from the circular flow of income. This reduction in AD causes mass unemployment which could bring about deflation and interest rates will need to rise to control this. As more people are unemployed, tax revenues fall so much that budget deficits actually go up. A benefit of a decrease in government spending is that the government may be able to reduce taxes. This would allow for higher after-taxes profits for business owners as well as an increase in money that employees will have in their pockets after taxes. Reducing government spending would also help to reduce the deficit. Even keeping the current tax rate would allow the government to close the deficit as it would be spending less than its revenue. Austerity can increase economic growth. The commitment to fiscal austerity will increase investor confidence in the government and thus
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