JOHN HEWSON. She won’t be right: the economic storm our leaders ignore. (SMH 18.1.2019)Jan 23, 2019
It’s the economy, stupid” – a slogan and a focus that largely won the US presidency for Bill Clinton in 1992. He then went on to reap the benefits of Bush senior’s economic management, not yet evident at the time of the election.
The issue of economic management is usually a significant issue at our federal elections, with polling consistently suggesting the LNP has an edge as “better economic managers”.
Perceptions matter in politics, but realities are ultimately determinant. Even though both our major parties have warned recently of global storm clouds ahead for our economy this year, neither is actually prepared to spell out the full significance of the risks, particularly systemic risks, and neither is the Reserve Bank of Australia or Treasury.
We are told the election campaign has begun. How do we know? Both sides are already flat out spending what will prove to be an ephemeral surplus, and ignoring the longer-term structural policy challenges.
It has been the pattern of economic management in Australia to wait for, and then seek to react to, a crisis, rather than to prepare adequately for it. It has always been much more about exploiting the short-term politics than genuine economic management. This results in “policy drift”, which usually means that the ultimate responses are more electorally difficult, take longer to deliver, and cost more.
Not unexpectedly, our politicians want to take every opportunity to push a positive economic narrative. Otherwise, their opponents soon claim they are “talking down the economy”. This almost guarantees a drift into an ultimate crisis
I vividly recall returning in the mid-1970s from the International Monetary Fund, where I had worked extensively on the need to restructure the global financial system. Postwar stability had been shattered by the collapse of the Bretton Woods system of fixed exchange rates and OPEC’s decision to quadruple oil prices in 1973. I had been involved in the early efforts towards global economic forecasting, and the governor of the RBA asked me to assess its forecasts.
My assessment was quite scathing. Although it had recognised these and other global systemic challenges, the forecasts seemed to have been developed in a vacuum. Summarising, they assessed the slowdown in growth, and the pick-up in inflation and unemployment of the early 70s, as mere temporary “blips”, soon to be returned to the postwar trends.
Its models ignored the structural significance of what was a global shift to floating exchange rates, and stagflation – the coincidence of high inflation and high unemployment – as well as downplaying the profligacy of the Whitlam budgets and wage blowouts (some 28 per cent in one year). I predicted that the macro policies of our governments would struggle against these challenges for decades – as they did.
I suggest today’s policy challenges are at least as significant as those that flowed from the crises of the early 70s. Moreover, I fear that economists, governments and policy authorities have even less understanding of them, and even less capacity to deal effectively with them.
The economics profession is still unable to provide a complete explanation of just why inflation hasn’t exploded, given the massive global liquidity injections that created, and were then a response to, the global financial crisis. Or why wages are still flat-lining. Or to fully understand the significance of negative interest rates. Or why there hasn’t yet been a debt crisis, given the blowout in global debt since the GFC, and especially in major counties such as China and the US.
Central banks have limited capacity to respond to another GFC. For example, the balance sheets of the G7 central banks are still more than three times their pre-GFC size, with interest rates still at, or near, historic lows. The fiscal capacity of many governments is also similarly constrained.
Moreover, it is very hard to imagine how governments or authorities can hope to again muddle through with bubbles now bursting in stock, bond, property and currency markets. And all of this compounded by Donald Trump’s economic nationalism and unfunded spending, threats of trade wars, the Fed raising US interest rates, and a host of very real geopolitical tensions, as the slowdown in global growth is accelerating, perhaps to a US recession in 2020.
Each of these is a significant risk in itself, but many carry even more significant systemic consequences. It is one thing to identify these risks; it is quite another to be adequately prepared for their eventuality, especially when your policy capacity to respond is quite limited.
Our growth is already slowing. House prices are threatening historically large falls. Wages are still flat, so households have been running down their savings, and increasing their debts, just to meet the rising costs of living. Household debt is nearly the highest in the world, and banks have been restricting credit.
The RBA is powerless to respond, having left the system (especially asset prices and household debt) to drift, still deluded in its belief that it controlled inflation. It may recognise the systemic risks, but it is not prepared to spell them out in detail, and is stuck with its unrealistic forecasts.
Politically, the contest is on to buy the next election, with spending and tax cuts, irresponsibly ignoring the budgetary challenges already locked in for the 2020s in terms of education, health, the NDIS, defence, and infrastructure. Realistically, the tax burden will need to increase to meet them.
We have all the elements, globally and domestically, for a major economic and political crisis. Not if, but when. She’ll be right? No she won’t.
John Hewson is a professor at the Crawford School of Public Policy, ANU, and a former Liberal opposition leader.