Austerity just won't last

Of course, you can ignore some of my warnings about austerity for a simple reason: It won't last.

Recessionary austerity is a political nonstarter because it can lead only to more rioting, more protests and more government overthrows. In other words, people get so mad at austerity that it probably won't last long, even in a country as troubled as Greece.

I give it an additional six months before Athens gives it up, tells Berlin to back off, drops the euro and follows the example of Iceland by restoring its national currency (for Greece, the drachma) and devaluing it -- just as country after country in the 1930s abandoned the monetary straitjacket that was the gold standard.

Those that left first, including the United Kingdom and Sweden in the fall of 1931, suffered the least.

The way things are going, deeper budget cuts are coming, with predictable results. On current forecasts from the Organisation for Economic Co-operation and Development, Greece is on track to tighten its fiscal balance by an average of nearly 2% between now and 2013, Ireland by nearly 8%, Portugal by 2.3% and Spain by 2.1%.

According to the research by Ponticelli and Voth, budget cuts of 2% or more of gross domestic product increase the risk of chaos events by nearly two-thirds. A 3% cut doubles the risk. These countries are in the danger zone.

The U.S. economy faces something similar. According to Congressional Budget Office estimates, the U.S. budget deficit will tighten by more than 2% of GDP next year -- increasing the risk of unrest as the 2012 election approaches. Things get critical in 2013 if nothing is done as an automatic $1.2 trillion in budget cuts (triggered by the failure of the congressional supercommittee to trim the budget) combines with the possible expiration of the Bush tax cuts, the payroll tax cut and extended unemployment benefits. Together, this will create a harsh, European-style austerity program worth nearly 3% of GDP.

I'll say it again: You can't cut your way to prosperity.

As the euro falls

So, what now?

UBS economist Stephane Deo, who has spent a lot of time over the past few months exploring the fallout from a eurozone collapse, notes that unless German taxpayers acquiesce to a transfer of wealth to the Greeks, Portuguese, Italians, Spanish and Irish -- just as federal money here at home is reallocated from strong states to weaker ones -- the eurozone as it stands now is doomed.

And even if a country like Greece leaves, it will have a long, hard road to recovery. In a recent research report to clients, Deo wrote that "weaker countries exiting a monetary union have tended to move to more authoritarian forms of government, or on occasion moved towards civil war." Which sounds frighteningly like, well, chaos.

Next week, tune in for thoughts on how investors can navigate an increasingly chaotic environment in 2012. Here's a hint: Things are looking a lot like the 1960s and 1970s, according to Morgan Stanley researchers. Stay tuned.

Be sure to check out Anthony's new money management service, Mirhaydari Capital Management, and his investment newsletter, the Edge. A free, two-week trial subscription to the newsletter has been extended to MSN Money readers. Click here to sign up. Mirhaydari can be contacted at and followed on Twitter at @EdgeLetter. You can view his current stock picks here. Feel free to comment below.