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The contagion of austerity

Gavin Hewitt | 16:26 UK time, Tuesday, 25 May 2010

Street market in Ventimiglia, ItalyAusterity is the new contagion, spreading across Europe. Today it enveloped Italy, with the government there telling the people to expect "heavy sacrifices".

Italians thought they had escaped the crises elsewhere, but today one of their papers told them "the fairy tale is over". The Italian government is expected to announce 24bn euros (£21bn; $30bn) of spending cuts between now and 2012.

Some of these measures are now familiar. A pay freeze for most public sector workers.Government ministries will have to reduce expenses and ministers' salaries will be cut by 10%. Some higher earners will face higher taxes. Yet again there will be an attempt to squeeze out tax evasion. There may even be trims in the much-treasured health sector.

All of this follows similar hair-shirted moves first by Ireland, but then by Greece, Spain and Portugal.

Spain only got serious after a phone call from President Obama. Public sector wages there are to be cut by 7%. Ministers are taking a 15% pay cut. Pensions will be frozen, with cost of living increases eliminated.

Germany will announce $3.75bn of cuts and there are strong hints that even unemployment benefits will be reduced. France is raising the retirement age and planning to reform its pensions.

All of this cutting, slashing, trimming is aimed at persuading the financial markets that Europe can reduce its debts and so avoid the near-bankruptcy of Greece.

What is being forced on Europe is a cultural revolution. It marks an end to an ever-expanding welfare state that some defined as the European way of life. Few European leaders accept - at least openly - that they were on the wrong track. Some officials, however, are starting to say that such generous benefits are no longer sustainable. The President of the European Council, Herman Van Rompuy, said that people would have to work harder and longer.

But in all the talk of "pain" and "sacrifice" a number of questions arise. Will all these measures be implemented thoroughly? We shall see.

What will all these packages do to growth? Growth is expected to be 0.2% this year and to climb slightly next, but will these cuts reduce demand and so make cutting deficits even harder? There is a risk here.

Will the unions and the public sector workers accept these changes? In the weeks ahead there will be tests on the streets of Lisbon and Madrid.

And will France accept its way of life needs to change? After recent elections there the successful Socialist leader Martine Aubry expressed a yearning for the old social model. "We want," she said, "to be reunited with a society that is caring, fair, and where people can live together".

In the short term Europe is being forced to demonstrate to investors it can manage its deficits. But longer-term it will have to show a political will to increase productivity. That will mean tearing up some of the labour laws that make hiring and firing difficult.

More than any discussion about EU rules and institutional change Europe has to get its economies growing again. That is the real challenge.

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