Today’s Canberra Times has a very pertinent article by John Pitchford on the benefits of the fiscal stimulus (no links).
He makes three points:
(1) Rudd’s anti-recession economic stimulus package has effectively prevented much lower output, profits and employment (200,000 Australians off the dole, according to Treasury’s most recent estimate in the Australian);
(2) Rudd’s attempt to boost activity may even have avoided an even larger debt level than otherwise, as the multiplier effects of lower activity spreads through the system; and
(3) it reduced the potential level of “hard core” unemployment (the unemployed who lose credibility and skills in the workforce)
This is what he calls “balancing the budget over the cycle” – the very thing Howard was sworn to.
Read it. It is standard economic theory but it’s good when it comes from the master himself.
I have placed the article online here.
Hopefully I haven’t breached any copyright laws by doing so!
Thanks Fred, Thanks Guido.
Great to see. A small quibble. Ratings agencies didn’t give sub-prime mortgages AAA ratings. They gave complicated derivative instruments AAA ratings. An important difference. The markets did know they were sub-prime mortgages. They didn’t understand that the quant modelling of the complex derivative instruments build from sub-primes was stupid in fairly elementary ways (at the same time as being quite clever!)
I really can’t understand the ideas being put around that we have a debt problem. Even with an appropriately big fiscal deficit now our projected debt as a fraction of GDP will be far lower than that of most developed countries. And tonight’s budget deficit will in fact be smaller than most of them are running at present.
Whatever happened to the old idea that governments should fund current consumption from current taxes, and investment (which permits future consumption) from future taxes? Both past and projected levels of public debt are lower than this rule would suggest.
I suspect that what we are seeing here in a lot of commentary is small-government ideology dressed up as concern about macroeconomic management. These commenters should have the honesty to state their concern is with government spending per se, not with how it is financed.
It’s not ideology, it’s mainly the opportunism of the Opposition (not that I’m suggesting it is reasonable to expect anything else) coupled with the echo-chamber of the press which will magnify the issues which are seen to be the set piece debates, rather than help steer discussion down less sterile, more enlightening paths.
“THese commenters should have the honesty to state their concern is with government spending per se, not with how it is financed”
.
I’ll state that. My main concern is that I can’t see how it will ever get paid back. For example, if it takes 6 years to get the budget back to zero, but a recession comes every 8-10 years, then when does it ever get paid back? or is the idea simply to inflate it all away?
I was going to say the same thing Jacques, though OS experience does show that the sky doesn’t fall in.
I think the deficit is responsible. I’d argue it should be bigger if we can get decent capital projects from it. But what other countries do is, as you say, up to them.
Jacques and Conrad,
If a recession does last that long (e.g. because it is the most intense we have ever had), who cares about the size of our interim debt? As I said in my commentary on John Pitchford, I would much prefer to end up with a situation of higher employment and output but with more debt?
Or, what is more likely, I would prefer to end up with higher employment and output with the same level of debt – which is what we are likely to face when the economy slumps even further in the “no action” scenario.
In fact, we all know that our economies are resilient and if it takes us a few more years to run a surplus and start reducing our public debt, so what is the problem? Like DD, I think there is nothing wrong with running a modest public debt which is mostly backed by infrastructure. It means we keep our net worth unchanged.
Maybe we are starting to get a sneak preview.
I agree that our present deficit doesn’t seem like the end of the world. I do think however that it is a terrible time to be introducing rigidity into the workplace, ironically in the name of ‘fairness’ of all things. I would expect that we would get a better return spending money on facilitating flexibility with training, relocation aid, etc (somewhat like the Danish example).
The greatest concern for me (and why I can understand Obama’s repugnant approach to Chrysler/GM even as I loathe it) is mitigating the effects of large ‘structural’ changes that risk adding large chunks of the workforce into the ‘long-term unemployed’ column. Unfortunately the broad Obama approach (preserve the status quo and don’t mention the war) seems to be the Rudd approach as well, simply writ smaller and (mercifully, thus far) without the worst excesses.
Maybe we are getting a sneak preview with Treasury auctions being less warmly received and China looking to diversify.
(I posted an earlier comment but maybe the machine didn’t like the links or me or I hallucinated or sth)
Jacques
Your description of the economic cycle makes it sound as if we have recurrent recessions punctuated by occasional periods of economic growth. (I’d put in a smiley if I knew how to.)
Also the creative destruction idea underlying the view you were quoting seems to me to overlook the fact that lots of people are employed in perfectly sensible and worthwhile activities but lose their jobs in recessions when people no longer go to the tourist resorts they work in and then the local shopkeepers lose their business and so on. That is, recessions involve destructive destruction as well. This is what we want to try to avoid.
Conrad, I think it is clear that both major political parties and most commentators now agree that low government debt and surpluses in good times appear to have been a major contributing factor to Australia’s so far relatively mild experiences of the downturn. We have reduced government debt to zero more than once before and I don’t see why we can’t do it again, but it will take time. But remember there are two main reasons for running surpluses – so that you can spend money in times when you need to (now!) and so you can prepare for population ageing.
The deficit is b$50. If the aim is to reduce unemployment by 200,000 then that (I was also unable tom comment last nighe) is k$250 per job. Let me check that againyep k$250 per. I know there are multipliers and I am assuming the job would have been lost for one year. But is sure seems like a lot.
OK. So most of the b$50 is for infrastructure you say – I cannot put the whole b$50 on the numerator. So stop justifying the whoel b$50 as job creation. By the time the infrastructure spending starts to build momentum the economy will probably be recovering anyway. We may even be facing capacity constraints. So it seems to me most of this spending is not justified by the GFC at all. It is old fashioned government expenditure on infrastructure.
I have nothing against infrastructure but not if it just means every kid has a laptop and web access that allows faster pornography downloads. I would settle for a secure water supply and enough trains so that I do not have to compete for a hand grip.
And now is not the greatest tine to be committing ourselves to this kind of investment. It should have been done 3 years ago.
Agreed, probably the first signs of inflation too, (but early days) give it time to get cooking.
Nice to know every dollar in the stimulus creates more benefit than the detriment of the additional future taxes I have to pay. I can’t quite understand it, but I guess if must be true.
Jacques: I think it all comes down to suitable definitions of “correct allocation”, in a free market the participants will allocate resources by their own (distributed) idea of correctness, but a central authority has particular political objectives and outcomes — very likely quite different to the allocation if the participants were left to themselves.
Central planning has proven effective in wartime situations, and disaster/survival situations where a simple and easy to understand task needs to be administered on a large scale (often with unwilling or semi-willing participants). Achieving state objectives, what.
Also, you might want to read Stuart Kauffman regarding the relative merits of optimisation strategies based on decentralised and centralised control, I’ll reference “At Home in the Universe” chapter 11. Kauffman used NK Networks (search it out) for a model of a “rugged” fitness landscape which I suspect is far more severely nonlinear than a real economy (but when you throw corruption and criminality into the mix, maybe the “rugged” landscape is reasonable). This was published in 1995 and most of economics and political science has been very resilient to any impact.
Search google books for “Managing without leadership, By Gabriele Lakomski”, go to the table of contents and jump to section 7.5 — explains Kauffman’s optimisation experiments over a few pages, for those who don’t like dead trees. Kauffman himself explains it better.
‘Like most of economics theres no way to really settle it.’
Between who? Rational mainstream economists and Panglossian ‘Austrians’? Perhaps not. That would require a shared committment to reasoned argument and respect for evidence.
But you could at least progress the discussion by postulating, in a little more detail, which particular resources needed to be revalued and reallocated, how the GFC achieves this, and why a five percent reduction in global growth is a necessary condition for thge reallocation.
Surely that is circular! If Jacques, or anyone else, could answer that question at any relevant level of detail he would be conceding the utility of a central planner to achieve the revaluation and re-allocation he had calculated. Much as he has already said at #15.
Tel
“MICHAEL FOOT, the former leader of Britain’s Labour Party, was once asked to name the nearest earthly approximation of the socialist dream. Foot replied, “Wartime Britain.'”
Isn’t the contraction the consequence of the reallocation process and not a necessary condition. The GFC is a consequence of the misallocation of capital in loan markets, and not just the US housing market, and I dare say it has brought to a head other misallocations of resources, like in the car industry.
Greg Mankiw on assessing the US stimulus:
“The stimulus bill Congress passed a few months ago apparently requires the Council of Economic Advisers to report quarterly on the employment effects of the act. That job is, essentially, impossible. Because we have only one economy, there is no way to know for sure what would have happened without the stimulus bill. It is like asking a doctor, “How much sicker would this particular patient have been if you had not given him treatment up to now?” You can get, as an answer, the doctor’s subjective professional judgment, but you cannot expect objective measurement.”
thanks for posting this Fred. It is a useful addition to what is often an arid debate. What most of the commentary on deficts misses is that it is not the budget balance that matters so much as the quality of the spending and savings that underpin it. Spending or revenue measures at the wrong time on the wrong things is bad – eg fringe benefit tax concessions introduced in the height of a boom; or conversely, short term propping up of unsuccessful industries in a downturn which merely wastes money while delaying restructuring. However, investing in national infrastructure at a time of downturn is good for recovery and also boosts long term productivity (as compared with investing in infrastructure at a time when the private sector is already investing in the most useful projects – which leaves government investing in dogs of projects like the Alice Springs to Darwin to nowhere railway). unfortunately in the vacuum of ideas that passes for economic analysis on most of the electronic media in Australia, the composition of spending and revenue tends to be forgotten.
Jacques, you ask a reasonable question: since no one can predict outcomes, why gamble with borrowed money? My anwer is simple.
Apart from the fact that people (corporations and individuals) borrow extensively at normal times but are at present reducing the flow of borrowings, you should realise that
1) this economic cycle is largely a product of the decline in revenue of the commodity boom it leaves the Government effectively $210 billion short of revenue; and
(2) if you took a count of economists, you would find that about 90% of them agree with the proposition that in such circumstances, governments need to run big deficits (Greg Mankiw).
So either way governments take a bit of a gamble but the odds are much better in one case than the other.
If governments do nothing (refuse to run a deficit, discretionary or otherwise) they run a big 90% risk that it will create falling output, profits and employment. If they do intervene, they run a small risk of failure – but at least 90% of economists say that, in such circumstances, governments would be able to “cushion” or reduce the output effect.
It is not hugely reassuring that other nations are in worse shape than us, we started out in great shape (hat tip to the Reserve) and in Europe the labour markets are so inflexible that the impact of their sagging economic performance on unemployment is delayed which will only make things worse later on. The elephants in the room are the emmission reduction program which has yet to bite, as bit it will, and the re-regulation of the labour market. I am prepared to bet a dollar that the Austrian approach will be vindicated:) But I don’t have the energy to debate the 90% of economists on the issue because I am packing up to move house.
Maybe we can learn something by comparison with NZ if they have persisted with the early tendency to hold back on stimulatory spending. If everyone does much the same thing it is hard to make comparisons by way of natural experiments.
Are you sure you want comparisons with NZ, Rafe?
N.Z has experienced absolute declines in Gross Domestic Product over the last four quarters (of increasing quantity). And its seasonally adjusted total retail sales volume fell a record 2.9% – double the previous quarter’s fall. This compares with Australia’s improved retail values.
If you really want to look at what governments are doing with high external commodity revenue booms (Chile and Norway), you would note that they increased their surpluses substantially in recent years – e.g Norway had an 18.8% surplus, at several times greater than Australia’s 2 to 3% per annum. These countries have now decided to spend their money which they had previously tucked away, with modest or stable positive economic growth next year.
Norway seems to make a tough comparison. Norway’s oil revenues are worth about USD14,700 per capita, or about the equivalent of USD310bn for Australia. IIRC that is a fair bit more than our entire budget here in Australia even on average exchange rates.
A case can be made for parts of the tax/royalty revenue from a commodity boom to be saved by a government and the previous government did salt away large sums. But running huge surpluses would have been a drag on growth at the time so such a practice would not be an unalloyed good thing. There was a group arguing for bigger surpluses to check inflationary tendancies, but I doubt many people wanted 18% or so. Our recession is not because of the previous tax and spend regime but other factors.
I would not call inflation a “small risk”, I would say it is a virtual certainty with big spending budgets (but after some delay before it is evident). How bad that is depends greatly on circumstance and on how big the inflation gets. In Australia’s case, we could withstand 5% inflation no problems. We could withstand 10% inflation and it would hurt a bit. More than that and it would start to hurt a lot (OK, I admit, these are my guess numbers). Think about what Australian dollars are useful for — Asians who want a bit of fun being speculative buy them, and anyone who wants to fill a boat with wheat, iron, zinc, gas, etc buys them. For the Asian speculators inflation is a bit annoying but that’s all part of the rough and tumble of speculation. For the wheat shovelers, they were never intending to hold the Aussie dollar after the boat leaves the dock so inflation means nothing to them. Oh yeah, and for the Australian people who have no other choice but to hold dollars, high inflation will push up interest rates and start the treadmill of pay rises and price rises (exhibit A, the last few years of Fraser, and early Hawke before the P&I Accords).
The case for the US dollar is very different. Huge positions are held in US dollars (not the least being China’s US treasury bonds) thanks the the “world reserve currency” perception. These positions are massively vulnerable to US inflation and devaluation of the US dollar, thus the US treasury is in a dangerous position where they must either find a way to maintain the value of US dollar or face a crashing feedback loop (essentially panic selling driving more panic selling) until those big positions unwind and the US dollar is no longer the world reserve currency. A caviler attitude to inflation is something the Australian government can afford, the the US government cannot — strangely the Aus government is behaving far more cautiously.
… and figure out the relative chance of long-term oil devaluation, as compared with iron, copper, zinc etc. Plus I believe that in Norway the government gets a guaranteed slice of the oil revenue (not sure about the details) so they can take out biggish loans without seriously worrying about how to pay it back in the future.
In the tech sphere I’m seeing quite a lot of job ads coming from NZ, e.g.:
http://www.actionstep.com/company
http://www.phitek.com/default,254,history.sm
http://www.tracient.com/about_us.html
http://www.woosh.com/ContentClient/WhyWoosh/WhyWooshCompany.aspx
http://www.decipher.co.nz/profile.htm
None of these companies are more than 10 years old and they are advertising for staff to fuel their recessionary growth spurt. Much though it hurts to say it, in amongst a lot of sheep there are some smart bastards in NZ, But I’m also seeing stirrings in Australia. No reason for the technical community to panic just yet.
Yea, a guaranteed share as in they own 66% of StatoilHydro. That pretty much guarantees them a share of the revenues.
In addition, they purchased about 1/3 of their oil from the State, and if all that wasn’t enough, they pay 28% income tax to Norway plus a 50% petroleum surtax.
Yep they are pretty comfy.
Just to get back to the original problem of debt. There is a flaw in the Keynsian approach when the world markets are tightly correlated (i.e. when a downturn hits many countries simultaneously). This is double bad when all those countries attempt to apply Keynsian tactics at the same time — thus taking the credit-crunch out of private hands and building an even bigger credit-crunch in government hands as they all look for ways to finance their government debt.
http://www.telegraph.co.uk/finance/financetopics/financialcrisis/5379733/US-bonds-sale-faces-market-resistance.html
I guess the government that gets their stimulus package into action fastest will be the winner, as they siphon the last juice from the bond market. The government that turns up late to the party finds the punch bowl empty.
“There isn’t enough capital in the world to buy the new soverign issuance required to finance the giant fiscal deficits that countries are so intent on running”
Sorry, I don’t understand. There is crrently much less combined private and public capital raising in the market place than there ever been. The credit markets are lush with funds and they are looking for opportunities to invest. The only reason there is some reservation about public capital is the concern that bonds may cop a credit downgrade – all comming from the same people who declared the sub-prime risks warranted a rating of AAA.
Fred, you may turn out to be right (that is, governments may manage to finance these deficits) but I certainly don’t think there are any grounds for complacency.
Credit growth has indeed fallen quite dramatically (in the US for example, in the 4th quarter 2008 it was down about 30% from 4th quarter 2007). The sectoral changes, however, were far more dramatic; private non-financial credit growth was negative in the 4th quarter while the Federal Government accounted for fully 74% of the lot.
In any case, some perspective is necessary. Credit growth only ever exceeded the latest level (much reduced as it is from the peak) in the few boom years from 2004-2007. I’m not sure this is a particularly good benchmark to draw comfort from. The animal spirits that drove this historic credit boom are (at the very least) much chastened, and may be closer to defunct. They’ll of course return one day, but it may not be anytime soon.
Finally, yes, the rating agencies acted like first class idiots through most of the noughties, but they’re far from the only ones expressing concern. They are in any case lagging indicators and really only matter because substantial investment flows are (in part) subject to their classifications.