Some thoughts about the fiscal stimulus – and a flashback

From today’s AFR column.

Go early, go hard, go households.

This slogan, coined by Treasury Secretary Ken Henry in discussions on the fiscal stimulus takes me back. To another time long, long ago. Flashbacks are better suited to the silver screen than newspaper columns, but imagine if you will your paper clouding into soft focus and slowly spinning. As the hypnotic sounds recede, and the colours turn to sepia everythings changed.

Its December 1991.

I report to my new boss, John Dawkins, the new Treasurer in Paul Keatings new Government. Official forecasts indicate a strong rebound from the recession weve just had so officials are wary of additional fiscal stimulus. And after some hefty surpluses the budget has plunged back into deficit and financial markets are fretting about our external deficit.

Official optimism makes a fiscal stimulus pretty unnecessary and the markets pessimism make it risky. So the Governments attention turns towards longer term fiscal measures. Infrastructure projects will take a while to crank up.

And Dr Hewsons Fightback! package gives the Government the kind of political opportunity that doesnt come along every day. His personal tax cuts are predominantly funded from fiscal drag the increasing tax take as peoples incomes rise into new tax brackets. So Keatings crafts a fiscal package that delivers something like Dr Hewsons income tax cuts without Dr Hewsons GST. But thats in two years time.

Were pinning a lot on those forecasts that the economy will recover on its own. But with the evidence mounting that the forecasts are over-optimistic all staffers are recalled one Sunday before the package must be finalised to give it more immediate oomph.

Someone suggests an additional Family Allowance payment though some senior officials regarded it as a frivolous way to stimulate an economy. Wheres the nation building in tossing cash at Australias families? Its the most clear eyed piece of economic policy in the package and feeds directly through to consumption a few weeks later.

But its painfully small at 0.15 percent of GDP. And it leaves Keating a hostage to fortune with delays in cranking up the infrastructure and those L-A-W tax cuts in the out-years looking less and less A-F-F-O-R-D-A-B-L-E.

And now as your paper spins you back blinking into the bright colour of the present you can appreciate Ken Henrys fiscal war cry. Rudds package unloads one percent of GDP, most of it next month. Were going much earlier, faster and harder than last time. And were unapologetic about one off giveaways to families wholl spend most of it quickly.

Having been impressed with this Governments resolution and fleetness of foot, my remaining anxiety is that it will balk at going into deficit. Lets hope its not necessary. But if it is, even if we hadnt racked up seventy odd billion dollars in surpluses in the last decade, we should have no qualms about deficit financing further stimulus.

The US is in a fine mess, with a deficit heading above a trillion dollars! Of course they shouldnt have trashed their budget tuning hefty surpluses in the late 1990s into deficits in the 2000s. Yet, as newly ennobled economist Paul Krugman put it last Thursday The responsible thing, right now, is to give the economy the help it needs. Now is not the time to worry about the deficit.

But back in Australia wouldnt the Opposition give the government hell if it took the Coalitions string of surpluses and started running deficits? Too right it would, just as the ALP would with roles reversed. But, if another fiscal stimulus proves necessary the government will have to decide. Politically theyll need to choose between a faltering economy, rising business failures and unemployment or giving their opponents some ammunition that theyll use. Economically, one way spells misery, the other hope and a better chance of success.

Ill bet some of the Governments political advisers counselled against the bold approach the Government took last week. Couldnt we keep more of the surplus?; Have two bob each way? Now theyre eating their words. Using the economic textbook to manage the economy decisively is a political winner.

Im only an economist. But if I were a Government politician I know which path Id choose. If the economy falters Id fight recession. Id take some nasty hits from the Opposition rather than die the death of a thousand cuts while I waited for recovery to come in its own good time.

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Ken Lovell
Ken Lovell
13 years ago

The hits from the opposition will of course carry more weight – and deservedly so – because of Rudd’s idiotic promise to keep a surplus of at least 1% of GDP for his first term in office.

derrida derider
derrida derider
13 years ago

Yep, that’s the weakness of this government’s style – great tactics (“resolute and fleet-footed” as you say) but no strategy. They don’t try and create a climate of opinion to prepare for a sharp change, in the way that Howard was so good at (I thought on a number of occasions Howard gave the impression of reluctantly falling into line with the chatterati when in fact the line had originated with him).

But its not too late for them to dig themselves out of this particular hole. A recession is a convincing reason to say “all bets are off”, so the unwise election commitment shouldn’t be much problem. Extreme fiscal rectitude was only ever the conventional wisdom of the policy elites anyway, who are precisely the groups who can be persuaded of the need for a U-turn. And I can’t see the average punter looking much past the bribes that a big deficit enables.

Don Arthur
Don Arthur
13 years ago

The bit that disturbs me is the increase in the first home owner grant.

The PM is telling me that it’s a good time to buy a home and that I should get onto the ladder.

But to be honest, I’m worried that once I climb the ladder and slip the mortgage noose around my neck a trap door will spring open and house prices will collapse.

Of course John Edwards assures me that “By the middle of 2007 there was no Australian housing boom to puncture” but I’m not willing to bet everything I own on Edwards being right. I’m inclined to wait and see.

Every time I see an advertisement for a property investment seminar or hear someone say that property prices double every 10 years I get nervous. The market seems to be crawling with speculators (sorry … that’s impolite, I meant to say ‘investors’) who are using equity in their family home to buy second and third properties.

With so much debt backed by house values, what happens if unemployment rises and property values start to fall?

Sinclair Davidson
Sinclair Davidson
13 years ago

This was a very interesting article. I was most intrigued by these sentences.

Were going much earlier, faster and harder than last time. And were unapologetic about one off giveaways to families wholl spend most of it quickly.

Who are ‘we’?

Paul Frijters
Paul Frijters(@paul-frijters)
13 years ago

hmmm. Internationally, we’ve talking about emergency loans to banks in the order of 10% of GDP (Uk/Europe). We’ve been talking about guarantees of bank deposits worth close to 100% of GDP (M3 is about the same size as GDP). And now there is a fiscal stimulus package worth a whole 1% of GDP and this is equivalent to ‘going hard’? In case of a recession, the automatic stabilizers of taxation and welfare alone would involve more than that. You shouldnt believe everything you read.

What I find most interesting is that the merest hint of the nation being only just as rich next year as this year (no growth) creates a national crisis atmosphere paling the climate debate. Our attachment to material wealth is truly astounding.

NPOV
NPOV
13 years ago

“…the merest hint of the nation being only just as rich next year as this year (no growth) creates a national crisis atmosphere…”

Except that “no growth” almost always means “more unemployment”. And while “no growth” might not sound so bad to those of us already living comfortable existences, there are still a lot of a people in Australia who have good reason to desire better living standards, and many of them are the ones most likely end up unemployed if economic growth stalls. Given that we’ve yet to figure how to translate “no/low growth” into “everyone maintaining decent living standards” then the “crisis atmosphere” is not completely unjustified, even though I agree it should have no bearing on the urgency of addressing long-term environmental concerns.

Paul Frijters
Paul Frijters(@paul-frijters)
13 years ago

our greed always finds a reason to want more. In stead of more unemployment, you could have said more leisure or you could have said ‘taking some more time off’. It is our societal attitudes towards work and more wealth that makes people think of themselves as worthless when they are not part of the rat-race, not the absence of growth itself. Learning to be comfortable with the idea that we are rich enough also includes figuring out how to spend lots of time outside of work.

NPOV
NPOV
13 years ago

“you could have said more leisure or you could have said taking some more time off.”

And if this was what was likely to happen, it mightn’t be an issue. But realistically it’s not – employers by and large like having full-time workers, and will keep the ones they can most readily determine are still helping their companies remain profitably, and fire the others. Perhaps this something that can influenced by government policy, but of course the French have recently been effectively forced to do the opposite, and raise the length of the working week. Still, it might be possible with tax incentives to encourage employers to keep more employees with fewer working hours rather than keep fewer full-time employees.

Further, I would think as long as so many households have so much household debt, no-growth is problematic as the necessity to pay back those debts with interest actually equates to a gradual drop in living standards. In this case, there’s almost certainly room for government policy on taxes and fees to discourage “lifestyle borrowing”, but it’s going to take a brave government to do it (the electorate won’t like it, and they’ll inevitably be accused of nanny-statism).

derrida derider
derrida derider
13 years ago

NPOV, I agree the welfare losses of widespread underemployment are much less than the welfare losses of widespread unemployment. I think that this is one of the better arguments for having a flexible labour market, because flexibility reduces the fixed costs of employing someone and so encourages employers to spread both the pleasure of a boom and the pain of a bust.

The rise in unemployment from a given reduction in GDP is now less than it was in 1983 or 1991, and the increasing prevalence of part time work is one of the reasons (along with slower labour force growth).

NPOV
NPOV
13 years ago

d.d. – I’d certainly agree that there should be minimal government-imposed fixed costs of employing people, but there will be always be large fixed costs anyway, so I’m not sure that a somewhat more flexible labour market than we have today would make a huge difference here.
From an income tax POV: employing two 19 hr/wk workers that are able to take home ~$33K net annual income each means paying them both $40K. Employing one 38/wk worker able to take home $66K net annual income means paying him/her $90K. So there’s already a $10K benefit there, but perhaps there’s an argument for increasing it via a more progressive income tax structure.

NPOV
NPOV
13 years ago

But Jacques borrowing for property investment is *generally* sound – though I certainly agree that negative gearing needs revisiting, and potentially dumping completely. It’s borrowing to purchase items that depreciate in value that the’s problem. Seeing as almost all credit card purchases are like this, I’d be keen to see much high government fees or taxes on credit cards, especially the “buy now, pay no interest for 48 months” type (currently the fee is only about $2/month – I’d be pushing for $20).

Niall
Niall
13 years ago

Indeed, we’re all Keynesians now!

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