Our PM’s second essay – 1/10 (being generous)

The Australian Prime Minister released his second essay over the weekend, in which he outlines his vision for a modern Australia steered towards new levels of prosperity and equity by his government. Well my reading of the 6098 words is that far from presenting an acceptable vision for the future, they rather, outline how his Federal Government has chosen to continue the abandonment of full employment and impose huge costs from the cyclical downturn on the most disadvantaged workers and their families in our communities for years to come.

Two things really stand-out in the essay – the willingness to allow unemployment to rise and the incorrect conception of the role of the government vis-a-vis the non-government sector.

In terms of the latter, Rudd is seemingly oblivious to the connection between past fiscal policy positions and the rising private indebtedness that he now appears to be on a moral crusade to attack. It is a curious juxtaposition – he is clearly willing to claim that the move into deficit now has saved the Australian economy from following the global economy down the drain by injecting public spending to replace the collapse in private activity. But he cannot see that running surpluses may have been linked to the collapse in private spending and the private debt dynamics that he is now eschewing.

I noted the other day in the blog – The piper will call if surpluses are pursued – that Rudd’s essay just ignores any connection between public surpluses and private balances.

That is a very curious ignorance.

In the essay, he reiterates the balanced budget mantra:

Moreover, as the recovery unfolds, most economists believe we are likely to see interest rates moving up again from record lows. As the recovery strengthens, the Government will implement its plan to return the budget to surplus, which will mean tough decisions, unpopular decisions and budget cuts.

Just as it was necessary for the Government to borrow and to stimulate the economy while the private sector was in retreat, so too is it necessary for the budget to be brought back to surplus over time, once the economy recovers and the private sector expands. Responsible, conservative economic management is about both these things.

Based on these continuing fiscal disciplines, we must also begin to build for the decade ahead – building a sustainable growth strategy for Australia’s future.

All major parties echo this view about fiscal policy. In the draft 2009 ALP National Policy Platform, which will be finalised at the National Conference, you read Chapter 2, Item 14 that “Labor believes that public finances should be managed responsibly, and that the budget should be kept in balance on average over the course of the economic cycle.”

As I have pointed out in the past – this is also the current policy of The Australian Greens. The main opposition Liberal Party policy in this regard is only stated generally as “giving priority to sound economic fundamentals, including responsible fiscal management, low inflation, low interest rates, rising employment levels, low net debt and high real business investment”.

Rudd also adds in the essay that:

The Government has committed to holding growth in real government spending to 2 per cent a year when higher growth levels return, allowing the tax base to recover with the economic cycle. The Government has also committed to, on average, keeping tax as a share of the economy below the level we inherited. The IMF observed last month: “The Government’s commitment to return to surpluses and achieve a positive budget balance on average over the medium term is commendable. Few other advanced countries have adopted such a clear commitment.”

To ensure government spending is sustainable and to make room for priority areas such as pensions, the Government has delivered more than $55 billion in savings over the past two budgets. This prudent, responsible strategy is expected to halve the deficit by 2012-13 and return the budget to surplus by 2015-16. This strategy will involve tough choices and require Australians to accept difficult and unpopular budget cuts. It is also the fiscal framework within which the Government will consider other long-term reform imperatives including health. But it is essential to ensure Australia retains the strongest budget and balance sheet of all major advanced economies.

Rudd’s statements of-course mean that they don’t have the slightest clue about the dynamics of the macroeconomic balances over a typical business cycle. Given, Australia will continue to have current account deficits for the years to come (that is a normal outcome), then if the public balance (the budget) goes into surplus then the domestic private sector has to be in deficit. The sum of the balances – foreign, public and private domestic – must be zero as a matter of accounting. The more simple way of thinking is that the government balance = the opposite of the non-government balance ($-for-$).

I was challenged by this at the Greens National Conference on Sunday. Some person tried to tell me that this was just my opinion. I have lots of opinions but this isn’t one of them. It is a hard matter of national accounting fact driven by the way we measure and add up and subtract economic activity. I didn’t invent it. The accounting statement holds every hour of every day.

So if you don’t like it then just go into denial. But the reality will remain. If you want the national government to be in surplus then you must be assuming the non-government sector will be in deficit (that is, not saving). Decomposing the non-government sector into foreign and domestic then means that with a foreign deficit (our current account deficit), the domestic private sector must be in deficit.

Given that the private domestic sector is revenue-constrained because it uses the currency issued under monopoly conditions by the national government, then if it is in deficit and continuing to reveal growth in spending then it must be becoming increasingly indebted. That state of affairs – and strategy for growth – cannot be sustainable.

The overwhelming historical reality is that the private domestic sector typically desires to net save. The recent debt-binge period is not typical. So if you have a macroeconomy where the non-government sector is trying to save while the government sector is trying to run surpluses – you get economic meltdown in the form of falling aggregate demand and output and rising joblessness.

The public balance is never really in the control of the government in this regard. These dynamics are so powerful that the declining tax revenue and rising welfare payments will drive the budget into deficit and continue increasing the deficit until the national income adjustments are such that the desired non-government surplus equals the endogenous government deficit. This is what I call a bad deficit situation.

A bad deficit arises from the operation of the automatic stabilisers rather than any creative discretionary policy action by the government. A bad deficit will reflect a recessed economy with reduced levels of economic activity and high levels of entrenched unemployment. The government ends up with a deficit that is consistent with the desired spending plans (and saving intentions) but has little to show for it.

Alternatively, if the government had have increased discretionary net spending to “finance” the non-government intentions to save, then you get an entirely different dynamic. The budget deficit still rises but the income adjustments are positive (higher aggregate demand supporting higher output and employment levels) and rising non-government saving – up to the desired ratios! This is what I call a good deficit situation.

A good deficit supports private saving without forcing negative income adjustments. For a government which aims to act in a fiscally responsible way, the size of the deficit is not something they can determine in advance. It will be dependent on what proportion of national income the private sector desires to save (and import propensities and tax rates). The net spending just has to increase until national income is sufficient to provide enough jobs for all those who desire work. The income adjustments will drive savings up as employment rises towards full employment.

Full employment GDP is determined by the capacity of the economy to produce, the current labour productivity levels and how many people want to work. The government can actually manipulate this somewhat – especially if the capital capacity is not sufficient at current productivity levels to provide enough jobs for those who want them. In this case, direct public job creation can use various labour intensities (and therefore varying labour productivity levels) to ensure there is enough work. That is a great advantage of public sector job creation over relying on stimulating the private market to generate enough jobs. You are never sure where the inflation constraint is when relying on purely market-driven outcomes.

So it should be clear to you that: (a) the Government doesn’t really control the budget balance – it is driven by the state of spending in the overall economy and therefore by the savings intentions of the non-government sector; (b) Trying to target a budget balance or shape a trajectory over the business cycle just reflects an ignorance of how the budget is determined. It will be counterproductive as a result; and (c) the only way this fiscal strategy could be successful would be if the non-government saving plans exactly mirrored the public budget plan – meaning that the non-government sector desired on average to save zero. The latter is not likely and such a mirroring would be impossible anyway.

The Government should just scrap this nonsensical fiscal policy statement and instead express responsible fiscal policy in terms of maintaining high levels of employment and very low levels of unemployment and zero underemployment.

I am working on a little simulation model to demonstrate all of these propositions graphically for your interest. Once done I will write about it.

The other point to note is that it is a nonsensical notion that a budget surplus = national saving. How can the sovereign government be conceived of “saving” in its own currency? Does the New York Metro system claim it is saving when it issues less cards than it takes through its machines on any day (a situation that would soon see travel on the facility dry up for lack of spending)?

The neo-liberals will then say that sovereign funds are “saving”. No, they are spending. They are in this case spending to speculate on financial assets rather than underpinning better public goods and jobs. The creation of the Futures Fund in Australia saw the federal government become a gambler in the financial markets at a time when labour underutilisation never went below 9 per cent and public goods and infrastructure was in long-term decay – see my blog – Budget surpluses are not national saving for further discussion.

Later in the Essay, Rudd quotes Lawrence Summers (Obama’s Director of the National Economic Council and former World Bank chief economist) – one of few people he mentions by name in the essay. Rudd claims the US is working to “rebalance global growth and deliver a more sustainable global economy”. Apparently Summers is developing policies to render this aim possible. Not likely but then he has form.

As an aside, I dug out the internal memo from Summers when he was at the World Bank (sent December 12, 1991). In case you haven’t seen it, this is the man that our PM chooses to quote with authority about the future of the world and creating more sustainable global conditions.

DATE: December 12, 1991
TO: Distribution
FR: Lawrence H. Summers
Subject: GEP

“‘Dirty’ Industries: Just between you and me, shouldn’t the World Bank be encouraging MORE migration of the dirty industries to the LDCs [Less Developed Countries]? I can think of three reasons:

1) The measurements of the costs of health impairing pollution depends on the foregone earnings from increased morbidity and mortality. From this point of view a given amount of health impairing pollution should be done in the country with the lowest cost, which will be the country with the lowest wages. I think the economic logic behind dumping a load of toxic waste in the lowest wage country is impeccable and we should face up to that.

2) The costs of pollution are likely to be non-linear as the initial increments of pollution probably have very low cost. I’ve always though that under-populated countries in Africa are vastly UNDER-polluted, their air quality is probably vastly inefficiently low compared to Los Angeles or Mexico City. Only the lamentable facts that so much pollution is generated by non-tradable industries (transport, electrical generation) and that the unit transport costs of solid waste are so high prevent world welfare enhancing trade in air pollution and waste.

3) The demand for a clean environment for aesthetic and health reasons is likely to have very high income elasticity. The concern over an agent that causes a one in a million change in the odds of prostrate cancer is obviously going to be much higher in a country where people survive to get prostrate cancer than in a country where under 5 mortality is is 200 per thousand. Also, much of the concern over industrial atmosphere discharge is about visibility impairing particulates. These discharges may have very little direct health impact. Clearly trade in goods that embody aesthetic pollution concerns could be welfare enhancing. While production is mobile the consumption of pretty air is a non-tradable.”

“The problem with the arguments against all of these proposals for more pollution in LDCs (intrinsic rights to certain goods, moral reasons, social concerns, lack of adequate markets, etc.) could be turned around and used more or less effectively against every Bank proposal for liberalization.”

Summers then went on to be a senior advisor in President Clinton’s administration – and presumably had his hands all over the budget surpluses that pushed the private debt cycle off in the first place and ultimately led to the recession in the US in the early 2000s. But by then the private debt was burgeoning and the financial engineers around the globe were creating the mess that has unwound in the recent period.

By the way, during Summers’ time at the World Bank there was an escalation of dangerous shipments to LDCs – products banned in first-world countries sold in increasing quantities to the poor countries to fast-track exports which were then expropriated by the wealthy countries. There has been very little economic progress in the poor countries during the entire neo-liberal period.

So I think the PM should stop looking to the likes of Summers and his cronies for blueprints about the future direction of the world.

The Summer’s memo, by the way, is another reason why I dislike my own profession so much. It is a mean-spirited inhumane approach to nature! The poor have low wages so it is cheaper to dump our toxic waste there – the impeccable logic of an economist! Well a mainstream economist anyway. I was asked by Bob Brown (Greens leader) on Sunday “what does a koala cost?” Not a question that a mainstream economist will even consider!

Rising unemployment

The Essay was also written presumably as a document to prepare us for the next election in 2010. Rudd is keen to tell us that:

Economic crises contain a paradox of recovery. As growth returns, the economic conditions facing many families will deteriorate.

For some time after the worst period of the crisis, Australians will feel continuing financial pressures and, in some areas, increased economic pain. Not least because employment is a lagging economic indicator, not a leading one. … Unemployment will continue to rise even after growth returns. On average in recent economic crises, unemployment has peaked 13 months after growth turns positive. The budget forecasts unemployment to reach 8.5 per cent by June 2011. It will not be until after a substantial period of growth that businesses feel confident to hire workers in sufficient numbers to make a dent in unemployment.

So it couldn’t be clearer than that. The private sector is responsible for mopping up the unemployed once they feel confident again.

The public sector’s role is to “manage” the unemployed within the unemployment industry that the neo-liberals created – I prefer to call it the unemployment gulag. It is populated by private providers intent on making as much money (profit) out of the contracts that the government out-sources to them to provide “services” to the unemployed.

These services involve the providers churning the most disadvantaged citizens around and around in the “private training system” and at various times reporting breaches of work tests to the government which then imposes benefit losses on the unemployed. The mentally ill, the sick, and the rest of them are managed in this system.

We might even start calling the training slots “green jobs” because that will bring the Dickensian system into 2009. But you can be sure there won’t be many jobs created other than among those that manage the gulag and take the spoils.

The green jobs is in reference to a statement made by the PM at the launch of the ALP national conference in Sydney. He announced that the government would create “50,000 green jobs or training opportunities, at a cost of $100 million.” Out with the calculator: that is $2000 per job or training opportunity. Are they kidding or something? A full-time federal minimum wage job would be paid $27,189 per annum. Add supervision, equipment and capital costs and net out the savings (tax revenue, unemployment payments etc) and you won’t end up with $2000. Further, most of the so-called jobs have already been announced so this is nothing particularly new.

Further, more than a million jobs are now needed! The Government’s strategy is just a continuation of the supply-side full employability agenda that has driven labour market policy for years now. To little end and much grief and anxiety among the unemployed.

The question Rudd avoids is – what is preventing the government from providing enough jobs for the unemployed to avoide them wallowing in increasing poverty while we for years as the private sector recovers? It will also be clear that the private sector will never employ enough workers anyway to fully employ the available labour supply.

I wish the mainstream media and the progressive politicians would ask that sort of question. I told Bob Brown on Sunday at The Greens National Conference that I would write some questions for him designed to expose the neo-liberal credentials of the government and embarrass the senior politicians into revealing their ignorance of economic matters. I am working on them.

For example, if the government isn’t revenue constrained why are you issuing debt? – and many more to come.

Them and us

Finally, the PM’s opening speech today at the ALP National Conference, which builds on the Essay, also reveals interesting things about the way he or the spin doctors want us to think about the dimensions of the public debate at present. Accordingly, he thinks:

Conservative economic management which expands the role of government when the private economy is in retreat – and gradually reduces it as the private economy recovers.

Conservative economic management which will return the Budget as the economy recover and increase Australia’s international competitiveness.

It is the right strategy for the economy; it is the right strategy for working families; and it is the right strategy for nation-building for the future – the skills and the infrastructure that we will need to lift our global competitiveness once we are through the crisis.

It is also a strategy which only an Australian Labor Government can deliver because we believe unapologetically in the role of government.

Our opponents do not. They believe instead in the magic of the marketplace.

They believe that markets are self-correcting.

They refuse to accept the reality of comprehensive market failure.

As others have written, could it be that the reason that it is called the invisible hand is because it is often not there?

So you get the impression that the pro-government strategy is being represented by the current Government’s recognition of “market failure” and their willingness to run deficits in defence of all families when the market is in retreat. The alternative are those who want no government intervention.

But there are critics like me who want more government intervention. And my position is that the current government can talk about being pro-intervention as much at likes, but its fiscal policy aspirations are not very much different from the conservatives.

Conclusion

So why did I give the PM’s second essay 1/10 and why is that mark generous? First, there is a sort of rule in academic life that says that if a student puts his/her name, correctly spelt, on the front of a piece of assessment you can give them 1 mark.

The generosity is that we cannot be sure he wrote it!

But whatever, the essay is a sad reflection of the state of governance in 2009 and the way it understands its fiscal options and defines its social responsibilities.

Update: Friday, July 31, 2009

The 50,000 jobs announced at the National Conference are … well … not jobs after all … now we have a government that is redefining what a job is. A job is now not a job.

Cringe when you watch the following interview with the Employment Minister after the announcement. It is clear they know this is a sham.