As the world-wide recession seems to
be bottoming out, one question is being asked with increasing frequency and urgency. Have we learnt the
lessons so that it will not happen again?
The answer – at least in the US and the UK – is not a reassuring one. As the hard-pressed
taxpayer, already burdened with the threat to homes and livelihoods, is left to pick up the bill for market failure –
a bill in the billions which will not be paid for years, not to say decades – those whose recklessness and greed caused
the crisis have already returned to the bad old ways.
We see the same outrageous bonuses, the same disregard for prudence, the same confidence that the price of failure
will always be paid by someone else. It is almost as though the publicly financed bail-out has provided
the fat cats with a renewed belief in their own infallibility, by convincing them that they will always be protected because
they are too big and too important to be allowed to fail.
In New Zealand, where the financial sector is too small to exhibit these attitudes, we have nevertheless
seen our own somewhat paradoxical response to market failure. It might have been thought that, in an economy
where public finances had been unusually well and prudently managed over recent years, the public sector would be the last
place that would be required to bear the brunt of recessionary retraction.
In other countries (notably Australia), and in line with the revival around the world of Keynesian
insights into how to respond to recession, the public sector has been seen – not as the problem – but as an important
part of the solution. We, however, seem to have become obsessed with the size of the government deficit,
which is still relatively low in historical and international terms, with the result that the salami slicer has been applied
with very little discrimination across the whole range of public spending.
No one can cavil at an increased drive to ensure value for money in public spending. The
suspicion must remain, however, that the recession has been a not unwelcome excuse to rein back the public sector on ideological
rather than economic grounds.
is, however, a more significant respect in which we seem to have decided not to apply the lessons we should have learned.
We should not forget that we have been in recession since the end of 2007 – long before the financial crisis
broke. That home-grown downturn was the direct consequence of the policy directions we had been following
for 25 years having finally run into the buffers.
Inflation then was still enough of a worry to lead the Governor of the Reserve Bank to keep interest rates at an
internationally very high level. That in turn, through pushing up the exchange rate, had destroyed the
competitiveness of our industries, created a current account in serious imbalance, increased our need to borrow to finance
the gap between what we earned and what we spent, pushed up the exchange rate and stoked inflation still further as “hot”
money flowed in to take advantage of the high interest rates, and so on round an increasingly vicious circle.
As we contemplate the post-recession scenario,
those fundamental problems are no nearer solution. Indeed, some are a good deal worse; the overvalued dollar
is destroying our productive economy with every day that passes. Our only response to these pressing problems
seems to be that “there is nothing we can do.”
But there are things we can do. We could acknowledge that the strategy of defining
macro-economic policy in exclusively monetary terms, and of directing the whole force of that policy to the single goal of
controlling inflation, using a single instrument in the hands of a single unelected official, has failed – both as an
effective way of controlling inflation, and in terms of its disastrous impact on our overall economic performance.
If we want to do better, and in particular, if
we want to raise our poor productivity levels, we have to do things differently. If we go on with the same
policy prescriptions as we have applied for the last 25 years, we will get the same disappointing results as we have endured
over the last 25 years.
needed is a fundamental shift in perspective. It would mean, in line with the revival of Keynesian thinking,
re-defining macro-economic policy so as to include the whole range of fiscal as well as monetary measures. It
would mean setting the goals of macro policy (including interest and exchange rates) in terms, not of inflation, but of competitiveness,
as the Singaporeans do. It would mean, rather than clobbering the whole economy with a poorly focused counter-inflation
strategy, continuing the battle against inflation with specific micro measures directed at defined inflationary pressures,
such as excessive bank lending and the favourable tax treatment of housing, and encouraging saving by strengthening the incentives
It probably won’t
happen. It is amazing that an orthodoxy that has been so thoroughly discredited by experience still has
such a hold on official thinking. The government might be encouraged, however, to undertake an “agonising
re-appraisal” by the thought that a change of tack might produce a better outcome, not least for their own pet preoccupation.
Nothing, after all, would do more to get the government deficit down in a hurry than a newly buoyant economy.
26 September 2009
This article was published in the New Zealnd Herald on 1 October.