Regular readers will know that I have spent quite a lot of time reading the…
The poet and the economist
Governments are starting to realise that the recovery is slowing and the previous estimates of growth are probably overly optimistic. The IMF and OECD have been pushing inflated forecasts throughout the crisis because they cannot face the fact that the policies they have advocated caused the crisis in the first place. So, in denial, they want to make it look as if things are better than they are so they can get back onto their mantra – cuts in deficits, etc. The austerity packages are being introduced into an environment where the probability of a global double dip recession is rising by the day. But worst, are the shameless sense of priorities being rehearsed by economists and policy makers as they carve into welfare and pension entitlements, privatise valuable public assets (handing them over the “markets”) and increase unemployment. But then the mantra comes back – the forced extra pain won’t be as bad as we expect. So the international agencies and mainstream economists inflate the good things and reduce the significance of the bad things as a way of covering their grubby tracks. And all the while, these estimates and prognostications are based on economic models that failed to explain the crisis or its remedy. It is back to ground zero – and the pain will mount for the most disadvantaged.
I overheard a conversation between a poet and his wife, a mainstream economist. The poet is interested in all things beautiful which means, among other things, he embraces the aesthetics of humanity. He writes sad verse when humans suffer and is inspired when there is love and connection.
The mainstream economist considers humanity in an inanimate way – as a factor of production, as a consumer, as an entrepreneur – always connected to the market in some way which means the relationships that are focused on always leave a trail of money or not as the case may be.
The two have intrinsically different views about the meaning of value and the purpose of action. I can tell you that this pair end up unhappy together but the economist, at the threat of losing poet’s love, undergoes a wholesale personal transformation and discovers the meaning of value and it has nothing to do with what transpires in the market.
Anyway, here is a snippet of the conversation that followed a news broadcast that the bond markets were demanding harsher austerity measures to be introduced by national governments …
“Who is calling for these measures?”, the Poet asked with a hint of disbelief. He had a vague notion that growth was good for employment.
“The bond markets”, she replied, in a dismissive way, as if everybody would know that.
“The bond markets … are they people?”, he said.
“Bond traders invest funds in public debt”, she noted, without looking up.
“You mean the characters who invest the funds that the workers have saved?”, he said.
“The same”, came the reply.
“And don’t they skim off huge profits, commissions and management fees in the process”, he said, recalling a story he had seen on TV.
“They demand a market return for their efforts”, she said.
“But when they fail they get government help, isn’t that is what just happened”, he said, “And then they demand the government sack workers who have saved the funds that the bond traders trade.”
“Yes, when the risk gets too high they stop buying”, she said not really getting where he was heading.
“But the bond traders make money using our wealth”, he said, sensing that he was finally getting to the nub of his quandary about all of this.
“The bond dealers are not the evil ones”, she said by rote, giving a sense that she didn’t even believe herself. “They are like the canaries in the mine.”
“But why does the government issue debt anyway?”, he said.
“Because they are like you and me, to buy things we cannot afford we have to borrow, and we have limits”, she said, rehearsing her memory of the her intermediate macroeconomics textbook.
“They are not like us, they are in charge of the money we use”, he concluded.
But it won’t be that bad …
And at that point, we consider the article in The Economist Magazine (June 10, 2010) – Budget cuts in the euro area – Nip and tuck – which argued that “Europe’s plans for fiscal austerity are not quite the threat to recovery they seem”.
The essence of the article was that the wholesale budget cutting that is being undertaken throughout the EMU nations has spooked the bond investors who “now to fear that crisis has spurred too much austerity”.
Judged by the claims of those who welcome the new fiscal austerity, as well as those who fear it, a gigantic fiscal blow is about to land. The true picture is not quite so dramatic.
Their argument is simple: The nations making the largest cuts in discretionary spending have the lowest weight in overall EMU GDP. So, as an example, Greece will cut the equivalent of 11 per cent of GDP over the next two years but accounts for only 2.6 per cent of Eurozone GDP. If you look at the graphic you can see that Ireland is cutting discretionary spending by 5 per cent of GDP over 2010 and 2011; Portugal 5.6 per cent; and Spain 5.4 per cent.
So for these nations, the austerity programs will have harsh impacts on their economies and their labour markets.
This is the graphic that the Economist provides to back up their argument. For the EMU as a whole the cuts are only 1.2 per cent of GDP spread over 2010 and 2011.
The Economist concludes that:
That is big but not excessive for a block that is forecast by the European Commission to have an average budget deficit of 6.6% of GDP in 2010.
They also try to argue that the multipliers attached to these cutbacks are closer to zero than unity because consumers may save less and firms may invest more because they realise the fiscal situation is being fixed.
They cite economic research (the article they refer to is Alesina and Perotti, 1996 – Fiscal Adjustments in OECD Countries – Composition and Macroeconomic Effects, IMF Working Paper 96/70 – which you can only get in hard copy) that claims that:
… budget adjustments that rely on cuts in welfare payments or the government’s wage bill are more likely to produce lasting benefits – lower public debt and faster GDP growth – than those based on tax increases or cuts in public investment. The least harmful taxes were on firms’ profits or on consumer spending.
If you have read this paper you will understand how qualified the results produced are. The models they work with are pre-disposed to considering that welfare benefits and taxes undermine growth. These results are assertions and fail to stack up in sound empirical research. As a result, the empirical work they do perform is already biased by the incredulous theoretical models and so their conclusions are highly dubious. One can easily conclude that their results are basically meaningless. But it is an often cited article because it delivers the sorts of results that suit the neo-liberal agenda.
The Economist also concedes that:
Examples of such “expansionary fiscal contractions” are much harder to replicate now. Countries that managed to grow strongly in the past while cutting budget deficits were often aided by a falling exchange rate or were rewarded by a big drop in borrowing costs. Most rich countries today already enjoy low bond yields. And not everyone can devalue their currencies.
In fact, the examples of successful austerity programs which have delivered an early return to robust growth without leaving a trail of havoc behind are difficult to find. Of the countries cited (for example, Denmark in the 1990s) other factors not connected to the austerity measures were responsible for the return to growth.
The Economist supports the “certain kinds of austerity … [which] … are less harmful to growth” and include cuts to wages and entitlements (particularly public servants); cuts to welfare and unemployment benefits; cuts to pension entitlements; and job cuts in the public sector.
The conclusion that “Europe’s austerity drive could have been a lot worse”. So no mention of the massive job losses and the fact that long-term unemployment and poverty will rise. No mention of the fact that the demographic cohorts that have already borne the brunt of the crisis will get further hammered as governments cut back welfare and pension entitlements.
No, it just could have been worse!
So what is the agenda?
This article in the Sunday’s UK The Observer (June 13, 2010) – The Conservatives call it ‘pain with a purpose’. What purpose, exactly? – started to ask the correct questions.
The journalist William Keegan (former Financial Times economics correspondent) asked:
Is a crisis brought about by deregulation just what the Tory doctor ordered to put “welfare recipients” in their place? I would like to think not. But I wonder
Keegan muses that while the mainstream are arguing for austerity to repair the ailing economies overburdened with public debt – exemplified by the new Tory PM’s slogan – “Purpose behind the Pain” – this sort plea has been “the rationalisation of sadistic masters throughout the ages”.
He gets a little lost when he concludes that the period during which the previous Labour government was frugal (when Gordon Brown was the chancellor) – “the long period of rectitude” … “meant that Britain was still better placed than many other industrial countries on the eve of the crisis – by the criterion, for instance, of net debt as a proportion of GDP”.
Britain is a sovereign nation that issues its own currency. It past “rectitude” gave the government no more or less capacity to defend the economy via expansionary fiscal policy when the crisis came. Past budget positions and debt ratios are irrelevant.
There might be a case made that is is easier politically to expand fiscal policy when the public debt ratio is low but that is not based on any intrinsic financial constraints. And one would have to wonder how Japan gets away with it year after year anyway.
Despite that misgiving, Keegan promotes the line that the deficit terrorists are dangerous:
Only last week, amid the chorus of deficit hysteria, Darling pointed out that, without economic growth, neither the borrowing nor the debt would come down, and “there is absolutely no sign that this government grasps that”.
On the contrary, we have a coalition of Thatcherite Conservatives – thinly disguised by a carapace of “care” – and Manchester Liberals. It is misleading and injudicious for Osborne to compare the UK’s position to that of Greece. Greece had to “roll over” its debt within months. The British government’s debt is longer term, with what is known as a healthier “maturity distribution” than the vast majority of industrial countries. Moreover, much of the debt is owed not to foreigners but to ourselves.
First, the message is that the austerity will be harsh.
Second, Keegan’s criteria for differentiating the UK from Greece are not the differentia specifica which sets the two nations apart. Greece is a non-sovereign nation that cannot set its own interest rate, issue its own currency or float its exchange rate. The UK is fully sovereign in that respect.
So the question then is if the austerity (“atmosphere of fiscal masochism”) is going to be damaging is there some broader purpose to it?
Keegan says that:
Is Pain for a Purpose what the right wing of the Tory party is traditionally suspected by the left of wanting? Is a crisis brought about by deregulated bankers just what the rightwing doctor ordered to put “welfare recipients” in their place?
So the neo-liberal attack on welfare and unions and the public sector over the last three decades (variously) was damaging but not emphatic. Public sectors survived and welfare states resisted widespread retrenchment. Now we have the situation that a major economic crisis brought about by the near-collapse of the financial system is being used to finish the agenda off.
If you think about it for any more than a nano second you will wonder why we are all being duped.
You have a period of vigorous promotion of the self-regulating capacities of the “market” and intense lobbying of governments to relax long-standing rules that protected the financial system from excess and meltdown. The lobbying was universally successful and the regulations tumbled.
Then the excesses started appearing and a few economists (including the Modern Monetary Theory (MMT) camp) started to ring the warning bells (like, back in the late-1990s!). But the lobbying continued and the bell-tollers were vilified in various ways by the arrogance of the mainstream economists.
They even coined terms to describe how the business cycle was dead – please read The Great Moderation myth – for further information.
The strutting arrogance of my profession was something to behold as the underlying conditions for the crisis were being created by their policies.
Then it crashed and the hands of those who had been the most vociferous opponents of government fiscal initiatives were quickly held out to receive their bailouts. Many of the large banks that are once again highly profitable would have gone under had not the governments provided the fiscal support.
A much deeper crisis that the one the world is already enduring was prevented by fiscal intervention – the type hated by the neo-liberals. Once the financial interests and their support clubs (Peter Peterson Foundation etc) realised they were safe they unleashed a massive and on-going campaign of deficit terrorism.
Virtually nothing has been done to reform the banking sector. We are still essentially operating with the regulative environment that brought us unstuck. There is a massive resistance in all nations to any changes which would stop the free-wheeling bankers from getting as much of the real output as they can.
This article in Sunday’s UK The Observer (June 13, 2010) – Banks are carrying on while the rest of us pay the price – picks up this theme that nothing has been done
The writer Ruth Sunderland says:
… the banks are quietly going back to business as usual, while customers and taxpayers suffer. Despite their disgrace, the banks’ well-oiled propaganda machines continue to spin their lines that the finance sector services the productive economy, is the major contributor of tax revenues to the Treasury, and that it is a significant engine of job creation.
She reports research from the University of Manchester that showed that only a small proportion of overall bank credit was extended to productive uses (manufacturing etc). Most credit extended went to speculative and housing.
Further, the research shows that “even in a finance-led boom the sector created no net new jobs. Direct employment in finance hovered around the 1 million mark, less than half that in a weakened manufacturing sector – and most of the jobs it does produce are concentrated in London and the south-east”.
Finally, “the finance sector … contributed just 6.8% of tax revenues between 2002 and 2008, just over half the amount paid by manufacturers”.
She notes that “banks are meant to serve a socially useful function by channelling savings into productive businesses but they lost sight of that. Radical restructuring is needed to separate their genuine utility functions need from their gambling activities”.
So it is no surprise that they are pushing austerity campaigns hard which will see real wages fall and more of the real output available for profits. The temporary dip in real GDP growth will be seen as tolerable because once growth resumes the new distributional shares will be entrenched and channel an increasing volume of real GDP to the financial sector for their (excess) consumption.
Keegan notes that the famous Lord Robbins who led the charge in the 1930s promoting what was then called the Treasury View (and which Keynes attacked in his General Theory and other writings) subsequently concluded that:
internal deflation was the only way to cope with a fall in demand” – but later regarded this as a “fundamental misconception”.
But it just got worse …
But it is getting worse. It is no surprise that the outlook for the UK is worse than expected. This report in the Sunday UK The Observer (June 13, 2010) – Office for Budget Responsibility likely to sound note of gloom – says that the Treasury estimates for growth in 2011 will be revised downwards.
The media has represented this story only in terms of “making reducing the deficit tougher”. In the stories I read about this I didn’t see one reference to rising unemployment; larger numbers moving into long-term unemployment or lost incomes arising from stagnant growth.
One representative commentator (bank economist) said that:
The OBR could forecast that borrowing by 2015 will be up to £20bn higher. This would clearly raise the pressure on the government to take some fairly drastic action in next week’s budget …
So the logic goes like this.
First, the budget deficit has risen because growth has been negative and worse than any period for years. The automatic stabilisers built in to fiscal policy have worked to attenuate the collapse in aggregate demand and save millions of jobs.
Second, given the governments are coerced by faux notions of fiscal discipline that the neo-liberals have promoted once the Bretton Woods system collapsed in 1981, they have developed elaborate institutions to handle public debt. So they issue debt $-for-$ to match their net spending (deficits) despite the fact that most governments are never revenue constrained because they issue their own currencies.
Third, the rising public debt ratios then become the focus of the deficit terrorists. A full-scale assault then ensues which creates the political environment where governments get elected if they promise to implement harsh austerity packages which turn fiscal policy into a weapon against all the economic parameters that we associate with improvement – growth in output, incomes and employment; reductions in unemployment and poverty.
Fourth, then it turns out that the fiscal contractions lead to worse real GDP growth outlooks that were initially expected (surprise surpise).
Fifth, the result? Even harsher public net spending cutbacks are demanded.
Meanwhile, none of the terrorists are arguing that the bankers should be held to account and new protections introducted to curtail the excesses of the banking sector.
And we briefly return to the conversation:
“But the government cuts will cause more workers to lose their jobs”, he said, trying to relate the issue back to his value of humanity, “and then they are calling to cut the protections that we give the unemployed”.
“It is necessary to realign the budget parameters”, she said.
“Will the bond traders lose their jobs and lose their protection”, he said, and added “I read that the bankers are now making record profits”.
“No-one likes anyone losing their jobs”, she replied, “but what do you mean by “their protection?”
“Well didn’t you say the bonds that the government issues give the bond traders a risk-free asset?”, he said, “that is protection”.
And, continuing, he said, “And the government provided plenty of spending to save the jobs of the bankers”.
She replied, showing signs of being a bit disoriented by the lateral thinking that wasn’t in the textbooks, “The government has to issue debt”.
“No they don’t, they issue the currency”, he said (having just read a MMT blog), “So the bond traders will continue making record profits, using the funds that the workers saved, but want the workers who saved the funds in the first place to be unemployed and their unemployment benefits cut”.
“The governments have run out of money”, she retorted, now thoroughly disoriented.
“No they haven’t, they control the money”, he said.
“They would just cause inflation”, she said.
“But the financial news said that we have problem of deflation. Isn’t that the opposite of inflation”, he said.
“The bond markets are just the canaries”, she said.
“Then they should be kept in cages”, he said, trying to be empathetic to the values his wife was displaying. Never for one moment would the poet want a free bird caged. He cared.
The agenda ahead is clear. The conservatives are pushing austerity for all they are worth because they see it as an effective vehicle to finish of their “program”.
For three decades, the neo-liberals have been trying to undermine the welfare state and reduce the size of the public sector. They have had considerable success in this “program”. But they were not fully successful and important social protections still remain.
Now they have the opportunity to exploit this major economic crisis which their market-oriented policies created in the first place to complete their demolition of their agenda.
We have to encourage more poetry!
That is enough for today!
This Post Has 17 Comments
The conclusion is that economic theory, like MMT, is beautiful fiction. To suggest that the crisis has presented the opportunity for neo-liberals to exploit the ‘major economic crisis’ with ‘their market-oriented policies’ seems quite curious, considering it could as accurately be stated that governments like the US have generally ‘exploited’ the crisis to implement anti-market policies. The entire response to the crisis has been one anti-market policy after the next.
I see your point, but I think the poet and the economist are perfect for each other. After all, don’t opposites attract?
You could add this as the post script to Naomi Klein’s The Shock Doctrine. I wouldn’t give the neo-con group credit for masterminding anything, but as her book illustrates they are capable of knowing an agenda and exploiting every situation to reach that goal.
The class war is alive and well, always has been, problem is most of the population are oblivious to it, and worse still, have internalised capital’s logic and practice it as if it represented their own ‘cllective’ best interests. You only need to look at the blogs in the Age of SMH with regard to the mining rent tax to see how deranged peoples thinking has become.
The UK under Cameron & Clegg is a benighted country. Much darkness is being shed, to use Joan Robinson’s terms. So more poetry please. We need a six-dragon sun to light the place up.
Of course, no “real” lion would ever be caught dead attacking a gazelle with a broken leg. It’s just so, you know, un-lion-ly.
Did I just see a libertarian go by?
“At the beginning of the Clinton administration in the early 1990s, adviser James Carville was stunned at the power the bond market had over the government. If he came back, Carville said: I used to think if there was reincarnation, I wanted to come back as the president or the pope or a .400 baseball hitter. But now I want to come back as the bond market. You can intimidate everybody.”
Hoover vs. the Bond Vigilantes:
If Herbert Hoover of all people could defy the bond markets and win, what does it say about our current crop of Politicians who won’t even try?
Now I am confused:
If the bond yields are just determined by expected future FF movements, then blaming the bond market is pointless — your blame should be directed at the CB. But the central banks have not been raising rates, and ostensibly follow a Taylor rule. So which is it — are the bond markets running the show or are yields determined by FF?
On the other hand, the “mainstream” economists like to talk about real yields — whatever that means. In this case, the bond markets run the show in real terms, but the CB controls nominal rates. In this way, they believe that the CB controls inflation. But again, here there is no cause to blame the bond markets, as there are no inflation pressures and CB rates are low.
Finally, you have reality, in which bond yields are low, not high. Inflation is low. No “signals” are actually being sent from the markets that favor austerity. If anything, the capital markets are worried about cutting deficits and cheer when stimulus plans are announced. Just as they cheer when the CB lowers FF.
I think we can at least demand a consistent narrative. And hopefully that narrative will match reality. The current narrative fails on both counts.
Neoclassical/Neokeynesian models erroneously stipulate that MP controls the ST “real” rate when they only control the nominal rate as you say and I say. Actually the inflation adjustment which has to be forward reflects inflationary expectations whose anchoring period (best case scenario, if that, is 2-3 years) does not reflect the ST period of the MP rate. So, there is an inconsistency regarding the “real'” rate.
The rest you mention regarding capital markets, in an older post I commented that capital markets are averse to austerity measures because they fear a rising expected shortfall from the feedback effect of austerity upon growth, the deficit and the debt ratio. However, the point that Bill makes is that mainstream economists, the media, the credit rating agencies, speculators and the politicians favor austerity for ideological, distributional effects and short term profits they can make from it. Look at the gains speculators made attacking the public debt of Greece, forcing upon holders of this debt considerable losses with spreads that have no rationality in terms of probability of default.
I agree that (some) economists favor austerity out of ideological reasons. But this post would have you believe that the bond markets favor this. I was pointing out an inconsistency. You cannot both blame bond markets for driving policy and at the same time believe that policy drives yields.
Uh-oh, the minimum wage/deficit terrorists are on a high again:
“As Sachs points out, “[President Obama] and his advisers ignored one of the key insights of modern macroeconomics: that the result of fiscal policy depends not only on current taxes and spending but also on their expected trajectories in the future”
Having spent a bit of time in the bond markets myself, I can’t help thinking that there are a plenty of commentators who like to say “this is what the bond market wants” when in fact this is a cover for what they want themselves. Most people in the bond markets spend their time trying to anticipate whether particular bonds will go up in value (in which case they’ll buy more) or down in value (in which case they’ll buy less). Needless to say, if enough are thinking the same way, it becomes a self-fulfilling prophecy. Furthermore, people in the bond markets are not uniquely gifted at foretelling the future: they can and do get it wrong. When people say to me that the bond markets are “demanding” austerity measures, I ask them why yields are so low in the US. If they point to Europe, I explain why there the high yields are because the bond markets are on to something: as Bill has pointed out on many occasions, the lack of currency sovereignty faced by members of the euro currency union means that the risk of default is real there.
Sean Camody: “Having spent a bit of time in the bond markets myself, I can’t help thinking that there are a plenty of commentators who like to say “this is what the bond market wants” when in fact this is a cover for what they want themselves.”
They also use claims about what the market wants to spread fear.
George Soros has an interesting piece related to “what markets want.” It’s a short summary of what he has been saying for some time about reflexivity.
We Are Just Entering “Act 2” Of The Crisis, And We’re Totally Screwed
Stirling Newberry puts it in a geopolitical/historical perspective here.
Sean, I think that there is an implicit distinction made between traders and global wealth. For sure, traders are looking for the short moves that they can leverage highly. But “the bond market” is a symbol of the global wealth that controls trends/shifts in asset composition and international location. Newberry addresses this dynamic, for example.
The neoliberals are only interested in money – in accumulating social power – yet you hope to fight them with the power of government to create money. Is this not illogical?
To kill the neoliberal agenda, you only have to kill money.
Charly2u: To kill the neoliberal agenda, you only have to kill money.
Taxes withdraw nongovernment net financial assets, i.e., “kill money.” That’s what progressive taxation is all about!
Another step is no bonds and letting the overnight rate fall toward zero (hence no interests payments).
Another way to kill “bad” money is through sound banking. Financial crises arise from imprudent (and predatory) lending.
But the optimal way to kill “bad” money is to eliminate rent-seeking and turn it to productive investment by changing incentives.