The Political Costs of Austerity

Speaker: Ricardo Duque Gabriel, Co-Authors: Ana Sofia Pessoa, Mathias Klein Abstract: Using a novel regional dataset on election outcomes for several European countries, this paper provides new empirical evidence on the political costs of austerity. To identify exogenous reductions in regional public spending, we use a Bartik-type instrument that combines regional sensitivities to changes in national government expenditures with narrative national consolidation episodes. We find that fiscal consolidations lead to a significant increase in vote shares for extreme parties and raise political fragmentation. We highlight the close relationship between economic developments and voters’ support for extreme parties by showing that austerity induces severe economic costs through lowering GDP, employment, private investment, and wages. Fiscal consolidations account for a significant share in voters’ support for extreme parties and are associated with stronger negative political consequences than normal business cycle recessions.