I read an article in the Financial Times earlier this week (September 23, 2023) -…
Today has been a busy pre-Budget night day (the Treasurer delivers the 2012-13 Budget tomorrow night). I was invited to write an Op Ed for the ABC’s The Drum – a site which explores news and analysis in more detail than the usual 750 word newspaper column. The Drum column is reproduced below. I have also been wondering about the implications for Europe and beyond of the election outcomes in France and Greece. I suspect the latter will be more interesting given Hollande will be unlikely to rock the boat too much. But I need to read more of the French literature that has emerged in the last 24 hours to really get a feel for what is likely to happen there. I will have more to say about the Australian federal budget when it is actually unveiled tomorrow night but it looks like being the case that Australian government is about to deliver a 5000-odd word suicide note.
But first, there were two items of news that caught my attention and turned the flame on the blow torch up.
The IMF – confused but true to form
On May 3, 2012, the French newspaper, Les Echos carried the story – Les banques centrales ne doivent pas se borner à maîtriser l’inflation (Blanchard, FMI) – which means that “Central banks should not be limited to controlling inflation only”.
The story began to outline how IMF chief economist Olivier Blanchard thought that central banks should expand their ambit to maintain control over “financial risk” (“risques financiers”).
Bloomberg News picked up on the story and rebadged it as – U.S., Japan debt more worrying than euro zone – IMF.
In case, you were in doubt, the story confirms that both the IMF and Dr Blanchard clearly do not choose to make statements that accurately depict the underlying nature of the monetary systems that they comment on. Perhaps there is no volition in it at all – in which case we would have to conclude their knowledge is dangerously deficient.
Reading Blanchard’s Macroeconomics textbook would verify the latter speculation.
Apparently, in the lead up to France’s election at the weekend, Blanchard told Les Echos that (in terms of public debt):
The crisis has revealed that we go from 60 to 100 percent (of GDP) quickly. That’s true for the euro zone but not exclusively … The United States and Japan’s situation are in this respect as bad or even worse.
To which the informed student of Modern Monetary Theory (MMT) would ask “what does worse mean?”. Even if it meant rising, MMT teaches us that such a connotation is problematic for currency-issuing governments just as saying a budget outcome has deteriorated because the deficit has risen.
Neither construction is applicable to such a government, whereas for a member-state in the Eurozone, which is dependent on bond markets for funding any deficits (in lieu of an absence of ECB funding), public debt ratios certainly matter.
But even within the context of the EMU, they only matter because the ECB refuses to fully adopt the fiscal policy role and deal the bond markets out of the equation.
From which you learn another important point. The crisis has demonstrated nothing about public debt ratios in the US and Japan. Both nations have high bid-to-cover ratios in their bond tender systems (that is, they are always overwhelmed with bids at low yields – far in excess of the tender volume sought) and as a consequence yields are near zero.
Japan has been in this situation for more than two decades even though it has been running historically large deficits over that time and has the largest public debt ratio of them all. It also has a problem with deflation and enjoys near zero interest rates.
So what exactly is the problem that the crisis has taught us with respect to public debt? Only that nations that surrender their currency sovereignty and then embark on a crazy austerity program in the face of a private spending collapse will be considered a default risk by private bond markets.
The manufactured default on Greek debt proves that the perceptions of the bond markets in that context was accurate. It was a disgrace that the Troika conspired to undermine the investments of private institutions, who presumably, had loaned funds to the Greek government in good faith.
Blanchard then started raving about optimal public debt-to-GDP levels of 40 percent or less and said that:
… while countries should aim for a debt-to-GDP ratio of 40 percent in the long term, they should now focus on 60 percent. Ideally, countries should target cuts in long-term spending which spare demand in the short-term with measures such as gradual increases in the retirement age …
All of which comes from the IMF Bible and carries zero economic foundation.
Harvard professor excels
The second item came from Bloomberg news on May 1, 2012 – Ferguson’s fury: Harvard historian decries female welfare recipients – and reported on the outcomes of a panel at the recent Milken Global Conference in Los Angeles. The reporter characterised this panel as “another group of rich guys talking about income inequality in America”.
We learn that “Harvard historian Niall Ferguson took to the stage to decry single welfare moms as lazy drags on society”
He was apparently “responding to comments made by … [a] … billionaire real estate investor and Democrat” from Florida who:
… recalled a single mother with five children he met on the campaign trail. She was fat (“over 300 lbs”) and depended on a welfare check of just over $600 to put food on the table for her kids, once numbering five. But one kid died in a gang fight, another was locked up and two others were involved in gangs and the drug trade …
The failed Democrat candidate (in the 2010 Senate election) waxed lyrical about the failings of this woman. The report says that “Ferguson cut him short” and asked:
Why doesn’t she get up off her fat lazy butt and get a job?
The Report says that Ferguson says he ran away from “subsidy-heavy Europe” where they practice “(t)aking from the successful and giving from the unsuccessful”.
One attendee was quoted as saying:
I love that Niall Ferguson – what a great guy .., He really knows what he’s talking about.
Dr Ferguson is currently in Darwin, Australia as a guest of the Australian Company Directors Conference.
And we know what lives there? Perhaps this bloke could get off his butt and do us a favour?
Op Ed for ABCs The Drum
The Federal Treasurer will unveil his Budget tonight and announce that the Government aims to achieve a small surplus in 2012-13. He will claim an “economic imperative” for this strategy and provide optimistic forecasts for economic growth and unemployment. He will reinforce earlier claims that “you can’t be a Keynesian on the way down, but not on the way back up” and will say that the economy is close to full employment with a huge “investment pipeline” that poses an inflation risk.
The problem is that the Government’s surplus obsession is anti-Keynesian and the Australian economy is slowing and unemployment is rising. The Budget will constitute in the words of Fairfax journalist Tim Colebatch a 5000-word suicide note. The Government risks driving the economy into recession and forcing thousands more into unemployment. It will also lose office in the process.
There is no economic imperative to pursue a surplus. The Government has an inferiority complex when it comes to fiscal matters and wrongly thinks that surpluses constitute the hallmark of responsible fiscal management. They should never have made the promise in the first place. But now, in the light of a slowing economy, it would be reckless to undermine spending further.
The Government withdrew the fiscal stimulus too early which stifled the promising recovery. In turn, the slowing economy is undermining its tax revenue. Instead of acknowledging that as a sign that stimulus is required, the Government’s inane response is that they will cut harder. Further austerity will make matters worse and further reduce tax revenue. The Government will most likely fail to achieve a surplus but will damage our prosperity in the pursuit.
The scale of retreat is unprecedented
The planned fiscal retreat is unprecedented in our history. In one fiscal year, the Government is planning a budgetary shift of at least $A38.5 billion. In last December’s In the Mid-Year Economic and Fiscal Outlook, Treasury revised their budget deficit estimate for 2011-12 upwards from $A22.6 billion (1.5 per cent of GDP) to $A37.1 billion (2.5 per cent of GDP), in light of collapsing revenue. The MYEFO also revised the surplus projection for 2012-13 down to $A1.5 billion (0.1 per cent of GDP). A retrenchment of net public spending of $A38.5 billion in one year is equivalent to 2.6 per cent GDP (currently). That is a massive contraction, especially considering the current state of private demand.
The Government appears to be in denial as to the negative impacts of this contraction on private spending.
Forecast errors have led to poorly conceived monetary and fiscal policies
Inasmuch as there was any economic case for a surplus it was based on now flawed Treasury growth forecasts. Both the Treasury and the Reserve Bank (RBA) forecasts have been overly optimistic. In the MYEFO, Treasury forecasted real GDP growth would be 3.25 per cent for 2011-12. It is already around 2.4 per cent (as at December 2011 quarter) and falling. It will be lucky to be above 2 to 2.5 per cent by the time this fiscal year is out.
The May 2011 Budget forecast employment growth at 1.75 per cent and this was revised down to 1 per cent in the December review. However, employment growth in 2011 was zero and the trend has not improved.
The RBA has also downgraded its forecasts for 2012-13 and its decision last week to cut interest rates by 50 basis points (a large cut by recent historical standards) was an admission that they had not seen the slowdown coming.
Importantly, the revised forecasts remain overly optimistic. It is unlikely that the Australian economy will grow at 3.25 per cent in 2012-13 (the current Treasury forecast) if fiscal austerity is imposed.
Surplus mania has not given RBA room to cut interest rates – it has necessitated them
The Treasurer’s claims that the government’s surplus promise has allowed the RBA to cut rates is pure cant. The Government’s strategy (combined with our excessively high interest rates) has been to deliberately create unemployment in the non-mining regions so that the idle resources could then service the mining boom. Not only will the required migration patterns fail to occur but non-government spending is not strong enough to support trend growth. Many large employing sectors are declining due to a combination of an appreciated currency (exacerbated by high interest rates) and the withdrawal of the fiscal stimulus.
The RBA is aware that its growth forecasts were wrong and is now trying to backfill the damage that the resulting high interest rates, combined with the Treasurer’s policy stance, are causing. That is a far cry from the way the Treasurer constructs the events.
Where did the surplus obsession come from?
In his 2011 Fabian essay – Keynesians in the recovery – the Treasurer tried to make an intellectual case for the surpluses. He wrote “If we are going to be Keynesians in the downturn, we have to be Keynesians on the way up again. That means a speedy return to surplus …”
It is clear that the Government’s fiscal stimulus in late 2008/early 2009 was a sound strategy, although it was, in part, poorly designed and subject to rorting from the private sector. It was also not large enough nor targetted enough on jobs to prevent labour underutilisation from rising. But the deficit spending flow allowed us to avoid the prolonged recession that is still plagueing the advanced world.
Keynes would say that the government should only withdraw fiscal support to “let the private sector grow” if the economy was running up against the full employment barrier. Fiscal contraction would be an essential anti-inflationary strategy in those circumstances.
The Treasurer asserts that we are close to full employment. That is a lie. The ABS estimates broad labour wastage (unemployment and underemployment) to be around 12.5 per cent at present. Further, the last time the Australian economy failed to produce any net gain in employment (as in 2011) was in 1992 when we were enduring our worst recession in 60 years. The burst of employment growth driven by the fiscal stimulus has now ended.
Digging deeper reveals some shocking facts that the Treasurer ignores. Since the downturn began in February 2008, the economy has added some 693 thousand jobs in net terms (up to March 2012). Over the same period, 15-19 year olds have lost 81 thousand jobs overall, the vast majority being full-time.
The supply impacts (that is, the reduced participation rate) are also devastating. The teenage participation rate in January 2008 was 61.4 per cent. By March 2012 it was 55.3 per cent with no significant change in educational participation. The participation plunge occurred because teenagers became discouraged in their job search as their employment opportunities vanished. A staggering 91 thousand teenagers have dropped out of the labour force.
Economists refer to these workers as hidden unemployed. They would take a job immediately if offered but are classified by the ABS as being not in the labour force because they have given up searching.
In March 2012, the official ABS teenage unemployment rate was 16.5 per cent.If we counted the 91 thousand hidden unemployed teenagers as unemployed then the teenage unemployment rate would rise to 24.8 per cent. Further, the ABS underemployment rate for this cohort is around 13.5 per cent (the ABS only publish this for 15-24 year olds). Taken together, the broad labour force underutilisation rate in March 2012 for teenagers is around 38.3 per cent, which is up there with the worst nations.
The Treasurer also wrote that “once growth and prosperity have been restored, they have an equal responsibility to restrain public expenditure, budget for surpluses and reduce debt …”.
Keynes never argued that deficits should be cut back in the hope that private spending growth would be strong enough in the future. He readily understood how pro-cyclical policy would undermine private confidence. With private spending still weak, notwithstanding some evidence that private investment might strengthen over the next few years, Keynes would worry about the negative consequences of a further weakening of aggregate demand and national income generation arising from a harsh fiscal contraction.
Further, restraining public spending growth and budgeting for surpluses are not equivalent. A budget balance is always the net outcome of government spending and revenue policies interacting with non-government spending and saving decisions. In fact, the government cannot realistically ensure a budget outcome because changes in private spending can thwart any efforts made by the government to achieve that target. Many governments have recently pursued fiscal austerity with the intended purpose of reducing the budget deficits, only to find their deficits rising (or not falling as quickly as planned) because private spending has also fallen and with it, the government’s tax take.
What is missed in the public debate is that there is nothing sacrosanct about a budget surplus in isolation from what is happening in the rest of the economy. At present, Australia has a current account deficit which means that the external sector, even with a mining boom, is draining spending from the economy. Further, the private domestic sector has returned to previous savings patterns in order to reduce the massive debt overhang that emerged during the credit-binge leading up to the crisis.
In those circumstances, growth will require continuous support from budget deficits and attempting to run budget surpluses is a recipe for disaster and the exemplar of fiscal irresponsibility.
The Treasurer reminds us of the “pipeline of investment”, which he claims will swamp the economy with spending in the coming years and pose an inflation risk.The mining boom has spawned a strong investment response but there are now signs that firms are becoming more cautious about building productive capacity. It is highly likely that a significant amount of the investment plans will stay in the pipeline (that is, not materialise) as the economy slows.
The aim of fiscal policy should be to generate full employment and ensure that nominal spending growth stays within the real capacity of the economy to absorb it without inflation. Within this ambit, continuous budget deficits will be required in Australia.
The Australian government is currently pursuing a pro-cyclical fiscal strategy – that is, they are cutting their net discretionary spending at the same time that the economy is slowing. This is the anathema of sound fiscal policy conduct.
The surplus obsession is being driven purely by politics. The Opposition (who claims they would run even larger surpluses) have cornered the Government and they both think the electorate will judge them on the size of the surplus. However, it is more likely that the electorate will conclude the current Government has failed if our growth rate continues to decline and unemployment continues to rise.
The goal of fiscal policy is to ensure there is full employment. A particular budget outcome should never be the goal of policy. The problem is that in elevating the budget outcome to the centre stage and setting artificial rules, governments are very likely to damage prosperity.
Tim Colebatch portrayed the pursuit of the surplus as a “seriously reckless” act. The scale of contraction being planned will almost certainly push the economy towards recession. The electorate will then, almost certainly give the Government its marching orders.
The legacy – a recession, a deficit budget and Labor demolished – with the new government even more fiscally illiterate than its predecessor.
END OF OP ED
Tomorrow night the Treasurer will deliver that 5000-word suicide note. If there was an election the following day they would be decimated by the electorate. No electorate like austerity when unemployment and the associated hardship is rising.
Unfortunately, for us, the conservative alternative is as bleak. There is no joy in the anticipation of the next federal election in Australia – it is all bad whichever way the ballot swings.
That is enough for today!