IAN McAULEY. Why do we trust our economy to this mob?

The Australian economy is in recession. Rather than heeding sound advice from the Reserve Bank the Coalition’s response is to sacrifice responsible economic management for an opportunity to embarrass Labor and to bully the Senate.

Four charts summarise the economic situation facing Australia.

The first shows economic growth over the last twenty years. As in 2008, when the country was confronted by the global financial crisis, the Australian economy is once again in recession, having been through two consecutive quarters of per-capita economic contraction. Finance Minister Cormann may claim otherwise, citing the fact that total GDP growth is still positive (just as Treasurer Swan did in 2008), but GDP per-capita is the basic indicator of an economy’s capacity to sustain living standards. Australian households are hurting, as are Australian businesses.

The second chart captures the Reserve Bank’s response to the recession: it has pushed official interest rates down to an all-time low. It’s not that the RBA expects low interest rates to breathe much life into a flagging economy; rather it’s that it has only one tool to rely on – the official interest rate. Low interest rates are supposed to stimulate economic activity by making it easier for firms to borrow to invest, to make housing finance more affordable, and to encourage households to spend by dipping into their savings or by borrowing a bit more.

The trouble with that conventional textbook approach is that businesses already have plenty of access to cash – so much that public companies are handing most of their profits back to shareholders because they don’t see enough investment opportunities in an economy that has been structurally weakened by six years of economic mismanagement. (Not that the Business Council of Australia or finance writers in The Australian express it that way.)

If some form of tax cuts get through Parliament, will households go out and spend the proceeds as the Government hopes? Or will they use them to reduce credit-card or mortgage debt, in which case they would provide no stimulus?

If, as is likely, some of the cuts are in the form of a lump-sum, people are likely to make more considered decisions than they would if they were in the form of a small increase in two-weekly take-home pay. Those considered decisions may be in favour of paying off debt, particularly if people feel nervous about the future. (That’s why government ministers and their backers in the financial press don’t mention the “R” word.)

We can consider what happened in 2008 when the Rudd Government financed a stimulus in part by a $900 cash handout. One result was a sudden jump in the household saving ratio.

There is no reason to think the same wouldn’t happen again. Over the last year there has been a five per cent fall in house prices, similar to that which occurred in 2008. Logically, housing values should not affect people’s consumption habits, but rising market prices have a psychological “wealth” effect – an effect promoted by the real-estate industry and by Coalition governments who have sought to create an illusion that they are responsible for people’s rising wealth. The illusion having been created, there is a degree of political retribution, in that it works with the same irrational force when prices fall.

A reason that households may be even more cautious than they were in 2008 is that household debt, having been kept in check during the time of the Rudd-Gillard Government, has resumed its upward path. Six years of stagnant wages and low inflation have seen the debt burden grow, and the Coalition’s permissive attitude to housing speculation has seen housing debt as the main component of that growth. Interest rate cuts notwithstanding, financial institutions are now much more conscious of the problem of high household debt, and have tightened their lending standards. And it is possible that some naïve investors (“aspirationals” in Coalitionspeak) are finally learning that housing balloons deflate or burst.

What an economically responsible government would do

As the Reserve Bank Governor is pointing out, interest rate cuts will probably be ineffective.  There has to be a fiscal response.

A fiscal response can take the form of a tax cut – the Coalition’s preference – or a spending boost.

As pointed out above, tax cuts are unlikely to have much of a stimulatory effect, particularly not the tax cuts proposed by the Coalition, for two additional reasons.

First, the Coalition’s tax cuts are designed around three stages, only one of which takes place in this financial year (2018-19); the second and third stages are proposed for 2022-23 and 2024-25. When they were announced in the budget there was no mention of the need for a counter-recession fiscal stimulus: the budget papers prepared by a politicised Treasury a month before the election forecasted sustained growth in GDP and real wages. The tax cuts are purely political – a token promise for the election, and an attempt to wedge Labor into going into the following election having to campaign against tax cuts or to be constrained to being unable to fund government services.  As with so much of the Dutton-Morrison agenda, economic management is sacrificed to political strategy.

And second, the Coalition’s tax cuts are disproportionally loaded toward those with high incomes, who are more likely to save rather than to spend. (See Mike Keating’s analysis of the Coalition’s cuts.)  If such saving were directed to new businesses, such Reaganite “supply-side” economics (AKA “trickle-down” economics) may make some sense, but forty years of such policies pursued in most English-speaking countries have proven unsuccessful. All they have done is to contribute to ever-widening wealth disparities, and asset-price inflation, particularly real-estate in Australia’s case.

A fiscal response in the form of government spending, as urged by the Reserve Bank and most responsible economists, would have several advantages over tax cuts. One is that it can be scaled back as the economy recovers, in contrast to tax cuts which become permanent.

Although many political commentators, either from a partisan perspective or ignorance of economics, criticise Labor’s proposed amendments, those amendments – to bring forward the 2022-23 cuts and to abandon the 2024-25 cuts – make good economic sense, because the stimulus would come when it is needed. And there is no point in setting nominal tax brackets three and five years out when no-one has clue about the trajectory of inflation or incomes. Treasury’s economic forecasts in the Pre-election Economic and Fiscal Outlook are simply a cut-and-paste of the politically fabricated figures prepared in the budget, and even these don’t go beyond 2022-23.

The other benefit of an infrastructure stimulus is that the government can make sure that it is spent rather than hoarded, particularly if there are “shovel-ready” projects waiting to be started. The Dutton-Morrison Government went into the election with a great deal of talk about “congestion busting infrastructure”, but these were not backed by any appropriations or even firm schedules. They were akin to the old Soviet “ten-year plans”, with about the same level of credibility – and the same mechanism of government by hollow propaganda.

What the Government will probably do

Although Labor is offering a realistic plan to bring forward a timely fiscal stimulus, every indication from the Government is that they will dig in, refusing to modify their three-stage package.

Their strategy has nothing to do with economic responsibility, and everything to do with embarrassing Labor and forcing the Centre Alliance senators to yield to their bullying. Even though the tax cuts, particularly the first tranche, would provide little fiscal stimulus, if the Senate blocks the package the Coalition would blame the worsening economic conditions not on its six years of economic mismanagement, but on Labor and the Centre Alliance.

That would give the Coalition an excuse to ignore the RBA’s good advice about a spending boost, because the Coalition’s ideology is based on a premise that in the economic sphere government should be as small as possible (an ideology quite at odds with its support for the intrusive surveillance state). In the Liberal Party’s platform, this contempt for government is clearly spelled out: “We believe that businesses and individuals – not government – are the true creators of wealth and employment.”

To Dutton, Morrison and the mob in office, all government spending is a waste. Reluctantly they have to spend something on schools, hospitals, public broadcasting, roads and other services, not because they have any value in themselves (they are all wasteful fripperies crowding out virtuous private sector activity), but because if they were cut too far the voters would throw them out and put the dreaded socialists in office.

Sustaining this absurd strategy, destructive of wealth and opportunity, is a public belief, supported by partisan and economically naïve journalists, that the Coalition has some innate capacity to provide sound economic management.

Unless we shake off that belief we are destined for a miserable economic future.

 

Ian McAuley  is a retired lecturer in public sector finance at the University of Canberra.

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3 Responses to IAN McAULEY. Why do we trust our economy to this mob?

  1. James O'Neill says:

    George Bush Snr once described the belief that one could cut taxes and raise services as “voodoo economics.” He was right then and nothing has happened since to discredit his maxim. We now have the bizarre picture of a Treasurer who says we can cut taxes, improve services and still have a budget surplus. Australia’s very own voodoo economist. And the public voters fell for it. The coming dose of reality will be all the more worse because of this blindness to how the world really functions.

  2. John Doyle says:

    Yes. incompetence it is. For certain. Politicians are rarely educated in whatever portfolio they are handed, but they should be advised by a civil service that is not politicised so they can stand up to scrutiny. But we don’t do that in any constructive way today. Putting the civil service on contract was a terrible Keating move, but it obviously suits the Neo-liberal agenda of reduced government. But it was never thought through by its supporters.So its a bit like the blind leading the blind. [Woe is us!]

    Coming to economics, the Neo-liberal doctrine ascendent over the last 40+ years is breaking down, with assailants on all fronts berating its inability to forecast anything and its complicity in policies that have widened the gap between the haves and the have nots entrenching poverty and debt while the top cohort enjoy a boom, ongoing. For these rising property prices boosts their wealth, and that is not the case with buyers now.
    The way the economy has been promoted since at least 1975 is very dysfunctional.

    Outright lies about the economy abound, all for political gain. It helps the government agenda if money is taught to be a finite amount a zero sum equation. So they get accepted when saying they must cut welfare etc while also cutting taxes on the top tier wealthy, that the economy is like a household. Money comes from borrowing and taxes. A budget surplus is the desirable outcome to aim for. None of these are true, at all. But that the structure behind what the government will tell us.

    For setting the record straight they need to at least ask the governor of the reserve bank what is the trthe truth.Bernanke told sixty minutes the federal government does not use Taxes for revenue. Marks up reserve accounts in the RBA with the requisite numbers out of thin air. It should be amazing that that hasn’t gotten the narrative altered but it just shows how the bad not to say evil message is ignored. Not only is the Federal government not a household it cannot go broke [eccept deliberately] so money is infinite [with caution]. Then a budget surplus actually drains savings from the private sector. It is necessary to add to zero as with all budgets. so if they do it this budget then a recession is inevitable. So absolutely Stupid!!!
    Here is a recent blog on this topic;

    https://theconversation.com/neoliberalism-has-tricked-us-into-believing-a-fairytale-about-where-money-comes-from-113783#comment_1954130

  3. Evan Hadkins says:

    To answer the headline.

    Probably because both share the same neo-liberal delusion.

    And pollies and the MSM tell us that any suggestions for an alternative are trashing the international order as we know it (regarded as a bad thing), believing fairytales etc, very much ad nauseum.

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