Scottish-born economist - Angus Deaton - recently published his new book - An Immigrant Economist…
The United Nations Conference on Trade and Development (UNCTAD) released their annual Trade and Development Report, 2010 yesterday (September 14, 2010). The 204 page report which I have been wading through today is full of interesting analysis and will take several blogs over the coming weeks to fully cover. The message is very clear. Export-led growth strategies are deeply flawed and austerity programs will worsen growth and increase poverty. UNCTAD consider a fundamental rethink has to occur where policy is reoriented towards domestic demand and employment creation. They consider an expansion of fiscal policy to be essential in the current economic climate as the threat of a wide-spread double dip recession increases. The Report is essential reading.
I often say that unemployment is the largest waste of people that the capitalist system can conjure. I was wrong. Today, the United Nations Food and Agriculture Organisation and the World Food Program pre-released some findings – from their upcoming (October) publication – The State of Food Insecurity in the World (SOFI).
The pre-release coincided with the upcoming New York Summit hosted which aims to “speed progress towards achievement of the United Nations Millennium Development Goals (MDGs), the first of which is to end poverty and hunger.
The FAO say that there is:
… a child dying every six seconds because of undernourishment related problems …
The following graph is taken from the briefing document that the FAO/WFP provided and shows that over the period that the neo-liberal agenda was prominently being pushed by the IMF and other organisations the number of people who are not getting enough food has increased dramatically.
The FAO/WFP discussion conditioned the way I felt about economics today – and dare I say it – life in general.
During the crisis the IMF insisted on pro-cyclical fiscal policy stances in a majority of countries operating under “IMF arrangements”. That is, they forced the nations to run policies that made the recession worse.
Please read my blog – IMF agreements pro-cyclical in low income countries – for more discussion on this point.
The austerians are now forcing the same pro-cyclical policy strategy on the advanced nations which will entrench poverty in those countries via unemployment.
Unemployment is the largest source of poverty and starvation so that should always be our policy priority – virtually without regard in my view.
Anyway, the fiscal austerity camp got another warning today from UNCTAD.
The UNCTAD Report concludes that the pursuit of fiscal austerity is not a sound policy path to follow at present:
The global upturn from what is considered the worst economic and financial crisis since the 1930s remains fragile, and a premature exit from demand-stimulating macroeconomic policies aimed at fiscal consolidation could stall the recovery. A continuation of the expansionary fiscal stance is necessary to prevent a deflationary spiral and a further worsening of the employment situation.
Does anyone need it to be clearer than that?
So in the last week we have had UNCTAD, the ILO, and the right-wing bully twins – the IMF and the OECD – all converging on the same viewpoint, albeit with different emphasises and qualifications. The common theme is that the risk of a double-dip recession is great and that continuing fiscal support is required to fill the spending gap.
Please read my blog – Chill out time: better get used to budget deficits – for more discussion on the need for on-going budget deficits in most countries.
UNCTAD’s policy conclusion made me think of an article in the latest Bank of International Settlements Quarterly Review September 2010 – Debt reduction after crises which examined among other questions “the implications of declining debt for output growth?”
The authors contend that the process of private debt-reduction may not damage growth because:
… changes in the flow of credit (ie the second derivative of credit) are more relevant for output growth than changes in the stock (ie the first derivative)
The BIS article was the basis of an article in the Financial Times yesterday (September 14, 2010) by A Japanese lecture for bond investors – which asserted that “falling debt levels necessarily slow economic growth”. I wonder why the author thought there was a need to actually think anyone actually thought the opposite.
The English translation of the BIS conclusion about first and second derivatives (above) is that is is spending that ultimately matters for economic growth and employment. Spending is a flow not a stock. But we also know that to reduce a stock there has to be a net outflow.
They point out that when credit is contracting the stock of debt can still be rising which is just a reflection that the flow is getting smaller but still positive.
But the way the private domestic sector overall reduces the stock of outstanding debt is to spend less than they earn or can access via credit (or other means such as asset sales, or running down savings).
So the point is moot. A wholesale deleveraging of the private sector will leave a spending gap whether it is driven by a reduction in the flow of credit or other means.
However, I may return to this argument towards the end of the week because there are all sorts of interesting complexities.
The UNCTAD point is one I have consistently been making. There is no magic formula that maintains growth. There are three sectors that can influence it: the private domestic sector (via consumption and investment); the government sector (via net spending) and the external sector (via net exports). The first and the last sectors named comprise what Modern Monetary Theory (MMT) refers to as the non-government sector.
When net exports are draining demand (that is, the current account is in deficit) and private domestic spending is flat (and credit growth slow), then the economy has to be nourished by sufficient net public spending (that is, budget deficits) to support utilisation of the productive capacity.
There are no free kicks.
Please read my blog – How do budget deficits finance saving? – for more discussion on this point.
Austerity proponents have somehow conjured up the argument that if the main spending crutch at present (public demand) is cut then two things are likely to happen. In part, the argument depends also on the cuts being, in part, driven by attacks on wages and employment conditions in the name of increased competitiveness.
They don’t think that it is better to increase a nations competitiveness by taking the high wage-high productivity route. Rather they are into the race to the bottom strategy – drive down employee morale and wages so that unit costs fall that way. It is the low productivity path and will never support significant increases in the real standards of living for the citizens.
The austerians make two points then. First, that the lower budget deficits will signal lower future tax rates for the taxpayers in the private domestic sector who will then immediately increase consumption and investment because they don’t have to save for the future to pay for the higher tax burdens had the deficits remained at their pre-austerity levels.
This is the Ricardian Equivalence argument. I provide a critique of it in this blog – Pushing the fantasy barrow. It is essentially a crackpot theory which has never received any empirical support anywhere.
Moreover, reductions in deficits historically arise from growth rather than tax hikes. The assumption that the government has to pay the deficit back is nonsensical in the extreme. Deficits are flows not stocks. You cannot pay them back. What you can do is reduce the outflows (government spending) and/or increase the inflows (tax receipts).
Courtesy of the automatic stabilisers, this happens in no insignificant way as the economy grows again. Tax revenue increases but not because tax rates are increased. The growing tax revenue arises because more people are employed and paying taxes and business profits are higher.
Second, even if domestic spending does not pick up, the austerians claims that the process of wage and price deflation brought on by the attacks on unions and public sector entitlements etc will increase the real competitiveness of the economy. This will allegedly spawn an export-led return to economic growth even as the government is bailing out.
I deal with the absurdity of that argument in this blog – Fiscal austerity – the newest fallacy of composition.
You might also like to read this blog – Pushing the fantasy barrow – for further analysis.
The UNCTAD Report also categorically rejects the export-led growth model for developing countries (and the logic extends to advanced nations). They say:
It is becoming clear that not all countries can rely on exports to boost growth and employment; more than ever they need to give greater attention to strengthening domestic demand … The shift in focus on domestic-demand-led growth is necessary both in developed and emerging-market economies with large current-account surpluses and underutilized production potential in order to prevent the recurrence of imbalances similar to those that contributed to the outbreak of the global financial crisis. But it is also important for many developing countries that have become heavily dependent on external demand for growth and for creating employment for their growing labour force.
Unemployment is the most pressing social and economic problem of our time, not least because, especially in developing countries, it is closely related to poverty.
Does anyone need it to be clearer than that?
When nothing is happening externally the only show left in town is the domestic economy. Fortunately, appropriately designed fiscal interventions can target domestic growth and, if desired, take pressure of the import sector at the same time.
That is, increasing budget deficits can be composed of policy mixes that increase aggregate demand but focus it on stimulating domestic (non-tradable) activity and reduce the normal growth in imports that would be associated with rising domestic incomes.
More generally, export-led growth strategies without a corresponding quality diversification in the mix of exports and due regard for the consumption needs of the domestic economy tends to generate inflation pressures for several reasons, including the necessity of importing raw materials and intermediate goods that have been rising in price.
Further, production of goods for export reduces the portion of output available for domestic consumption – generating incomes that raise demand but without satisfying this demand through increased supply available for consumption.
MMT does not object to an exclusive export focus purely on excess demand grounds, but rather because it would unduly direct domestic production to external consumers, rather than using domestic resources to produce for domestic consumption.
Further, competition in export markets often leads to domestic policy to keep wages and other costs low – both to fight the domestic inflation pressures (fuelled in part by the processes just outlined) but, more importantly, to compete with other low wage developing nations.
The typical outcome of these dynamics is that the domestic population does not share in the economic growth that is generated by exports of it occurs. Poverty and social unrest often worsens even as the economy grows.
Further, by keeping wages low, such policy prevents development of strong domestic markets to absorb output, forcing the nation to continue to export its output. This means the nation’s fate continues to be largely in the hands of external markets, and in competition with newly developing nations.
UNCTAD are more than explicit about the desired emphasis of the fiscal policy:
… it is important that the macroeconomic policy framework be strengthened to promote sustainable growth and employment creation in both developed and developing countries. Past experience and theoretical considerations suggest that a sustainable growth strategy requires a greater reliance on domestic demand than has been the case in many countries over the past 30 years. In such a strategy, job creation for absorbing surplus labour would result from a virtuous circle of high investment in fixed capital leading to faster productivity growth with corresponding wage increases that enable a steady expansion of domestic demand. Especially for developing countries, this may call for a rethinking of the paradigm of export-led development based on keeping labour costs low.
So countries that think they can undermine the wages and conditions of their most valuable asset – their workforces – and ship low cost-low productivity items to other countries and, in doing so, deprive their own citizens of the use of those resources and products – and still prosper – should think again.
They are unlikely to prosper and resolve their chronic unemployment problems.
MMT tells us that a sovereign government can always provide enough work to absorb the domestic labour supply that is not engaged by the non-government sector. It can do this using a combination of career-oriented public sector employment supplemented with a Job Guarantee, where anyone can get a decent minimum wage job on demand within the public sector.
That should be the policy priority now. It is a job-rich fiscal strategy.
Whatever the state of the external balance, a sovereign government can ensure that domestic demand is sufficient to fully employ the available workforce across a combination of these employment strategies.
There is never an excuse based on the external accounts for not implementing a Job Guarantee.
Under flexible exchange rates, balance of payments considerations should not be allowed to get in the way of deficit spending to achieve full-employment. A current account deficit merely indicates that foreigners desire to accumulate financial assets denominated in the domestic currency and are willing to ship more real goods and services (in aggregate) than they receive in return to accomplish this desire.
While the desires of the foreign sector may change over time, a fiat-issuing sovereign government under flexible exchange rates should not determine its net spending decisions (aimed at maintaining full employment) with reference to any particular foreign balance.
Further, there are ethical issues we pose with the argument that macroeconomic stability should be maintained by targeting the capacity of the poor to spend so as to address some external balance objective.
Should a nation attempt to maintain macroeconomic stability by keeping a portion of its population sufficiently poor that it cannot afford to consume?
Some argue in this context that by running expansionary fiscal policy, the external situation will lead to a depreciated exchange rate of some magnitude and this will make imports more expensive and reduce the standard of living of the nation. Here distributional issues are paramount in my view.
The unemployed, by definition, typically consume much lower volumes of imports. If we are saying that by providing jobs for all we make overseas ski trips and luxury imported cars a bit more expensive (marginally so) for the rich then that would seem to be an excellent trade-off.
More generally, I don’t consider unemployment and poverty to be acceptable policy tools to be used to maintain currency stability? Policy makers should accept some currency depreciation (if that is inevitable) in order to eliminate unemployment and poverty?
There are strong ethical arguments against using poverty and unemployment as the primary policy tools to achieve price and exchange rate stability. And even if currency stability is highly desired, it is doubtful that a case can be made for its status as a human right.
There is so much in the UNCTAD Report that I will finish this blog by noting their endorsement of public employment policies along the lines of the Job Guarantee.
They say that an effective way of dealing with large reserves of surplus labour (that is, unemployment):
… is to implement public employment schemes, such as those introduced in Argentina and India … which establish an effective floor to the level of earnings and working conditions by ensuring the availability of “on demand” jobs that offer the minimum employment terms. These terms should be improved over time at a rate that appropriately reflects the average growth of productivity in the entire economy and the increase in tax revenues in a growing economy. There are a number of benefits to such a scheme.
The benefits listed are several. First, the public employment scheme sets a standard of living floor because any worker can earn a socially-acceptable minimum wage. As such “it would ensure that employment outside the scheme would be on terms that are better than the minimum standards set by the scheme”.
This is a very important point. It means that the scheme fosters dynamic efficiency (productivity improvements over time) because it raises the bar for private sector job creation. Many low-skill private sector jobs which produce at high cost despite the low wages on offer would disappear and employers would have to restructure their work to allow them to pay higher wages in order to bid the workers away from the Job Guarantee when generalised aggregate demand was strong enough.
UNCTAD extend this as their sixth benefit:
.. by eroding the ability of firms to compete based on low wages and poor working conditions, it would help increase the share of formal sector employment in total employment, reduce the differential between the formal and informal sectors with respect to terms of employment, and improve the average terms of employment in the system as a whole.
So increase the overall productivity and real wage trajectories for all workers. That is a dynamically efficient path to international competitiveness rather than the doleful and flawed race-to-the-bottom approach that the austerians and neo-liberals in general advocate.
Second, “the demand for goods and services generated directly and indirectly – through a multiplier effect – by the scheme would help expand markets and drive output growth, so that the restraining effect of productivity increases on employment are neutralized by an enhanced pace of demand growth.”
This may or may not be a very strong effect depending on the gap between the support rate that is applicable to the unemployed and the chosen minimum wage. Where the gap is larger, the demand stimulus coming from the employment will be greater.
This point also allows us to understand that the true cost of the program is not the nominal outlays that the national government makes in setting it up and running it over time. Those numbers are not costs.
The costs are the extra real resources that are consumed by the now employed workers who are able to enjoy a higher standard of living. The other real costs are the capital equipment that might be used.
But in a period where there are huge volumes of idle productive resources (labour and capital) the opportunity costs involved are likely to be low given their alternative use is total waste.
Third, “the scheme itself would tend to be self-selecting, since only those unable to obtain this minimum level of wages and working conditions would demand and be provided with such employment”.
We can think of this as the limits of the fiscal policy in this regard. What would be the outlay necessary to ensure everyone who is idle and wants to work has a job (in the JG)?
Answer: the last person who walks through the Job Guarantee door sets the scale of the scheme. If these programs are truly self selecting, that is, are demand-driven rather than supply-driven, then they become automatic stabilisers. The expand and contract in a strict counter-cyclical fashion which is one of the features that an effective fiscal policy should possess.
UNCTAD list this as their fifth benefit:
… the scheme would act as an automatic stabilizer of consumption demand in periods of recession or downswing, and therefore serve to moderate the economic cycle, which is extremely important given that such stabilizers are relatively few in most developing economies.
The other important feature of creating such capacity in a nation is that it provides employment opportunities for the most disadvantaged persons. These persons have been excluded and alienated by the current neo-liberal policy paradigm which emphasises supply-side responses to unemployment (that is, deregulation, welfare cuts, etc).
Fourth, where there was a net gain in aggregate demand (directly and through the multiplier) the Job Guarantee would “ideally, reduce workers’ demand for such employment over time, so that there would be endogenous limits on the budgetary outlays needed to implement this policy”.
As if the budget outlays matter for anything other than political reasons. There is no financial constraint on a sovereign government running such a scheme. It can “afford” to buy all labour that is currently sitting idle at zero bid (that is, no other employer is bidding for the latent services).
I would caution people in thinking that the introduction of a Job Guarantee inevitably increases aggregate demand. This is a common misconception that even progressive economists make. It may or it may not. The point is that increasing aggregate demand is not the priority of the program.
In a paper with my colleague Randy Wray which was subsequently published in 2005 in the Journal of Economic Issues we considered this question. You can download a working paper version for free here – In Defense of Employer of Last Resort: a response to Malcolm Sawyer. As it happened that paper created quite a kerfuffle among progressives!
Finally, UNCTAD say that:
Public sector employment schemes can be successfully implemented even in very low income countries. In Sierra Leone, one of the poorest countries in the world, a World Bank supported public works programme after the disastrous civil war prevented thousands from suffering starvation. In 2008-2009 the government extended this programme as a measure to counter the international recession that reduced demand for export crops. The success of this programme demonstrates that emergency and countercyclical public employment schemes can play an important role even when administrative capacity is limited.
There is much more I can write about this. I have first-hand experience as a consultant working with such programs in South Africa and appreciate the difficulties in the design and implementation of them.
But when it comes to creating inclusive work which materially reduces poverty and imparts dynamically efficient forces into the wider economy there is no other option.
The implementation of a Job Guarantee should be the first policy that any sovereign government announces.
You may like to read or review the blogs that this Job Guarantee search string lists for further information. These blogs contain very detailed information about how the program would work and its optimal design characteristics.
I will provide further thoughts and analysis of this excellent Report over the coming week or so. For now I have run out of time.
Remember – 1 child dying from a lack of food every six seconds.
That is enough for today!