Europe's Austerity Revolt Forces Easing on Cuts

Protesters try to move crash barriers as police use pepper spray to stop them outside the European Central Bank in Frankfurt.
Boris Roessler | AFP | Getty Images
Protesters try to move crash barriers as police use pepper spray to stop them outside the European Central Bank in Frankfurt.

Faced with soaring unemployment, deepening recession, and a widening political backlash, European officials are easing up on two-year-old demands for painful budget cuts from its most debt-gorged members.

The scope of the economic pain was brought into sharper focus last week with the latest jobless data for the 17 euro-area member countries. Nearly 20 million Europeans—some 12.2 percent of the workforce—are without work.

In struggling southern periphery countries locked in a downward spiral of tax increases and spending cuts mandated by Brussels, the job outlook is especially grim. More than one in four Spaniards is out of a job; in Portugal 17.8 percent are unemployed. In February, the latest data available, the Greek unemployment rate had risen to 27 percent.

Younger workers are taking the brunt of the recession's impact. Roughly two-thirds of young Greeks, for example, are unable to find a job.

"These are appalling statistics," said Carl Weinberg, chief economist at High Frequency Economics.

More than two years after Europe's debt hangover reached crisis proportions, policy makers are making some progress rebuilding a battered banking system and bringing member states' bloated budgets closer into balance.

But Europe is growing weary of "austerity"—especially as higher taxes and government spending cuts plunge the continent deeper into recession, with sharp contractions in Greece and Spain. As economies shrink, they generate lower tax revenues, making spending gaps eve more painful to close.

Europe's central bankers have been providing extra funding to help banks weather the crisis, but they've pumped much less money into the system than the U.S. Federal Reserve. While the U.S. economy also faces headwinds from recently-imposed budget cuts known as the sequester, the impact has been softened by a torrent of money pumping by the Fed, which has injected more than $3 trillion into the U.S. banking system and economy since 2008.

This week, the European Union postponed some budget-balancing deadlines, giving six countries more time to bring government spending below the target of 3 percent of gross domestic product. Instead, France, Spain, Portugal, Netherlands, Slovenia and Poland were given instructions on how to overhaul labor market rules and make other reforms designed to spur growth.

It remains to be seen how popular or effective those measures will be.

In the meantime, hiring continues to be held back by a credit drought, as Europe's batered banks shun the small and medium sized businesses that make up about 80 percent of European companies, according to Steen Jakobsen, chief economist at Saxo Bank.

"There are 26 million small- and medium-sized businesses in Europe," he said. "Imagine if all of them hired just one person over the next three years. We could eradicate all of the youth unemployment. I think it's pretty easy, but the political inability to react is massive."

European officials softened their budget cutting mandates as the fear of a default by one or more countries has subsided. As that anxiety in the financial markets has eased, so have interest rates for debt issued by Europe's most troubled governments.

That will give Europe some breathing room as policy makers struggle to find longer-term solutions. But it may also make it tougher for them to impose the reforms needed to jump-start economic growth, according to Charlie Parker, investment editor at Citywire.

"The only thing you've got forcing these European countries to change is the European Commission," he said. "And frankly they're just not as scary as an angry bond market."

EC officials also face the widening political backlash from peripheral countries, including Italy, where thousands of protestors took the streets of Rome earlier this month to protest austerity measures

Italy is mired in its longest recession since quarterly records began in 1970, more than one in three young Italians are unemployed.

Germany, which accounts for roughly 30 percent of Europe's economy, has been the staunchest defender of mandated belt-tightening for its indebted neighbors. Many German voters have grown weary of watching their euros subsidize bailout packages for what many see as their less-disciplined, free-spending neighbors.

But the recession that has gripped the rest of Europe is now taking hold in Germany, a reality that may temper voters' resolve to export the country's zeal for strict fiscal discipline.

Though Germany still enjoys a robust job market—the latest figure show unemployment at 5.4 percent—the austerity that has swept much of Europe now clouds its own economic outlook.

"Hard times are coming to Germany," said Weinberg. "Employment is flat or down, real wages are not going up, credit is tight and five years of austerity are biting. Euroland's hard times are reflecting back on Germany."

_By CNBC's John W. Schoen. Follow John Schoen on Twitter.