Phil Romans // CC 2.0
We seem to be in the midst of something that’s been recurring every few months in this post-Global Financial Crisis world: financial markets and financial commentators around the world are sniffing the wind and asking themselves whether the sky is going to fall again. Last time it was around the Greek bailout; this one seems to be triggered by jitters in the US economy and the focussing of attention on Jackson Hole, Wyoming, where central bankers meet each year.
It will probably come to nothing — or at least nothing dramatic. But there does seem to be a slowly rising tide of anxiety, as the natural resilience of the market economy continues to fail to spring to life.
The economists I tend to read regularly — Paul Krugman, Joseph Stiglitz, Brad DeLong, Nouriel Roubini, Martin Wolf — are pessimistic, but then they always have been. That’s the ‘camp’ they (and, I guess, I) are in. Maybe they’re wrong: maybe the private sectors of the world will spontaneously recover, as more neoclassical writers seem to think, and the main threats are overly-indebted governments and suddenly-reemergent inflation (Krugman & co see deflation as a more evident threat).
We should hope the optimists are right, but we would be unwise to discount the pessimists. Events so far have done more to bear out their fears than their opponents’ hopes.
But amongst the pessimists (realists?), there are also two views — or rather, most of the pessimists feel that things could still go either of two ways. The first is a ‘double-dip recession’, where rather than recovering properly the economy sinks back into decline again, possibly worse than last time. That’s the more commonly discussed prospect, and the one that is haunting Jackson Hole this week.
The second is a ‘lost decade’ (or longer). The model here is Japan, which after decades as a ‘miracle economy’ suddenly ground to a halt in the early 1990s after a financial crisis, to be plagued by years of sluggish growth, and deflation or virtually-nil inflation, from which it has still not completely recovered. Krugman, in particular, has carefully studied the Japanese experience and the range of largely-unsuccessful efforts by the government there to lift their economy out of the mire.
To me, the ‘lost decade’ is in many ways the more worrying scenario. A ‘double-dip’ would be terrible, but it would also galvanise policy-makers and impel action. With a ‘lost decade’ we might be like the proverbial frog in the gradually-heating pot: adjusting our expectations to the changing environment and ‘defining prosperity down’ as Krugman puts it. We can already see indications of this both in US and New Zealand as higher levels of unemployment get accepted as normal by the government and media alike. (A kind of structural and social divide between the ‘kind of’ people who get hit by unemployment and the ‘kind of’ people who decide the news agenda helps with this.)
So what would this mean for New Zealand, and how would it affect the agenda for progressive politics? It is possible that, even if Europe and the US were afflicted by a ‘lost decade’, Australia and New Zealand might escape by hitching our wagon to China and other Asian economies. But this is a precarious hope, and, in any case, it is beginning to look as if China will not be as immune to the global doldrums as had earlier been thought.
For progressives in particular, the implications are dispiriting. The Key-English-Hide government has miraculously solved our Crown debt predicament (with enough left over for lashings of tax cuts for everybody, and an extra scoop for the very rich) through two feats of accounting wizardry. Firstly, they have taken a ‘holiday’ from saving for our future through the New Zealand Superannuation Fund. And secondly, they have assumed downwards the amount of money that future governments will spend in future Budgets — which means the projected growth-path for health, education and other public services over the next decade looks very meagre indeed.
In both cases, Key-English-Hide were robbing from our future in order to make our present look rosier. But the trick for the next progressive government will be to undo these shortsighted decisions — restore contributions to the Super Fund and restore real per capita growth in public services — without causing Crown debt to blow out in the process. That may not be too hard if economic growth exceeds Treasury’s current forecasts, but under a ‘lost decade’ scenario it might instead come in lower than Treasury thinks.
Of course, the first priority for a progressive government in that situation would be to do everything it can to strengthen our economic performance, while taking active steps to assist the unemployed. But if the whole world has gone the way of Japan, then there will be a limit to how much domestic economic policy can do.
We would probably need to look at options for boosting revenue, but we would need to move cautiously. The international tide would likely be in favour of public austerity, with most other countries facing much worse public debt situations than ours. (Thanks, Michael Cullen!) But that could foster a climate of antipathy towards new revenue and spending measures both amongst supposedly ‘informed’ people at home and amongst ratings agencies abroad — even when those measures balanced each other out fully.
It’s not a pretty picture, but nor is it an inescapable one. Leading progressive economists are convinced that determined action by governments and central banks can avoid a ‘lost decade’ — if the will is there. But that will not be decided in New Zealand. Our progressive movement will need to hope for the best, prepare for the worst, and send our best wishes and support to our counterparts in the leading economies.
Tags: double-dip recession, Jackson Hole, lost decade, Paul Krugman
“But if the whole world has gone the way of Japan, then there will be a limit to how much domestic economic policy can do.”
Can you explain this please?
Sure, Kereru – sorry if it was a bit unclear! By “gone the way of Japan”, I mean entering into a long period of sluggish growth, as described earlier in the column.
And what I was getting at by “a limit to how much domestic economic policy can do”, is that if our trading partners in the US and Europe (and maybe Asia and Australia too) are only growing slowly then our export earnings are likely to stagnate too. In a situation like that, even if our domestic economy is really well-managed, it’s unlikely that our overall economic growth will be very strong.
Thanks for the opportunity to clarify that!
I believe the so called pessimists, or Keynesians, are correct in their prognosis, but they don’t appear to have any solutions. The brief respite we have had for about the last year is the extent to which Keynesian style solutions are going to work.
The trouble is that no nation acting alone has the capacity to solve this problem. Nor even is international co-operation sufficient when it only involves agreeing to a simultaneous stimulation of domestic demand, or the bailing out of a small desperate neighbour.
Have you noticed that the developed economies seem to be taking this crisis worse than some of the developing economies?
Only when the developed and developing world come together will a way be found out of this quagmire.
Hmm, pessimists = Keynesians? Maybe, although I think there are quite a few Keynesians (probably those “New Keynesians”) who’d dissent from the perspective I was outlining.
I could try to contest your criticisms of the pessimists (Krugman’s put up a range of suggestions; the problem with the stimulus is that it was inadequate not ineffective; etc etc), but I think your general point is sound. Martin Wolf has a good analysis about the underlying problem being global imbalances between the trade surplus countries (China, Japan but also Germany) and the deficit countries (which includes the US, most of Europe, and NZ). Unless that nettle is grasped, we’re not going to get very far.
Have you got any links for Martin Wolf?
The imbalance of trade surpluses is the tip of the iceberg. There is a tendecy to focus on the export side of the picture. There is a massive imbalance in terms of imports between the developed and developing world. It is not caused by governments trying to ramp up a trade surplus, it is caused by the poverty of our fellow human beings.
For Wolf, have a look at:
http://www.ft.com/cms/s/0/39c67712-8eb1-11df-8a67-00144feab49a.html
http://www.ft.com/cms/s/0/3a4d4966-83af-11df-b6d5-00144feabdc0.html
http://www.ft.com/cms/s/2/cf597f3e-8d14-11df-bad7-00144feab49a.html
(You need to register – for free – to view.)
I’d be interested in hearing more about your on the imbalance of imports.
Thanks DC.
One man’s exports is another man’s imports – so if someone accuses their neighbour of exporting too much then what they are also saying is that they, themself, import too much.
If someone accuses their neighbour of importing too little, then what they are also saying is that they, themself, export too little.
In other words one poor soul is being forced to share a lot of what they produce, but there is a certain lack of reciprocation from their neighbour – and the neighbour which is consuming the most has the temerity to complain about it!
I must confess I do not have the latest statistics to hand, but the developing world is is something like 80% of global population, while only consuming about 20% of global output.
That is the trade imbalance that ultimately underlies this crisis, and until we have a true dialogue between the developed and developing world, we will indeed be living through a ‘lost decade’.
To put this in terms a professional economist might relate to-
The imbalance in trade surplus is due to the terms of trade, where people in developing countries essentially get paid a pittance for their commodities, but pay an arm and a leg for the commodities from the developed world they would like (need) to consume.
So actually the developing nations would love not to have to export virtually everything they have got including the kitchen sink in order to pay for the meagre basket of goods that the wealthier nations are willing to offer in return.
Among others, I believe Lipietz wrote about this in ‘Mirages and Miracles’, following a similar crisis in the 70s, which led to the lost decade of the 1980s…
Thanks for the explanation, Achela. Incidentally, I was interested to note in Helen Clark’s recent Peter Fraser speech that she was seeing Africa looking in much better shape going into this decade and quite possible being ‘part of the solution’ in terms of the world coming out of the crisis.
ohhhhh that’s interesting! (link?)
I reference (and link to) the speech here:
http://www.policyprogress.org.nz/2010/08/recommended-reading-13-august-2010/
I suspect if the ‘lost decade’ prospect eventuates the 2010s will be a lot worse (for the developed world) than the 1980s were, tho.
ohhhhh that’s scary (no link required!)
Unpacking this would be interesting. I understand that, for medical products, the trade premium is an IP-related premium? I’d be interested to know what the other rent-seeking devices are since I suspect they’re not all the same?
yes it is ALL about rent seeking, and IP is the royal road to rentier’s heaven!
I would be interested in the same answers too. When someone says ‘rent seeking’ I immediately think of 2 people -
1. Roger Kerr (NZBRT)
2. Will Hutton (The State We’re In)
Hutton I read, Kerr I don’t. I’ve not feel the need to read anything Kerr’s said in a decade. The NZBR really have little new to say and have been eclipsed by the NZ Institute.
My knowledge of the Japanese economy is limited. However, I understood that a major cause of their economic problem/lost decade was their lending practice which was ill-disciplined and based on many non-financial considerations and did not adequately allow for defaults and failure. This led to more and more lending to prop-up unsustainable businesses exporting increasingly cheap products albeit in strong demand. Eventually, the export market could not grow fast enough to generate the kind of cash needed to sustain these arrangements and things fell apart.
If this is broadly the case, the risk of this occurring in NZ appears remote? NZ trade intensity is low and narrowly focused and, fortunately, demand for many of our commodities appears to be strong and growing. This should mean we can continue to grow and NZ prudential management, despite the latest failing, is more orthodox and transparent. Absent other considerations, this should enable us to avoid what happened to the Japanese (to the extent that I’ve (a) got it right and (b) that fate is limited to a specific set of arrangements).
This is indeed troubling and in stark contrast to the Australian situation. Over three successive Intergenerational Reports, federal treasury have strongly argue the need for increasing productivity to avoid significant structural fiscal imbalances. Australia’s workforce is in decline in relative and absolute terms putting pressure on governments to fund increased costs associated with an older population. This leads to a more urgent and targetted response focused on increasing labour participation and workforce productivity (yes, population is a factor but for the moment lets not talk about migration) including significantly increasing investment in education and training. As an aside, I was struct by the lack of effort and investment in post compulsory education and training in NZ – whereas Australia is boosting investment to ensure sufficient highly skilled workers to offset the forecast declines, NZ is doing less but hoping for more?
What happened to Key’s promise to catch up with Australia?
Paul’s understsanding of Japan is pretty much on the $ (or should that be ‘-Y-’?).
NZ has obvioulsy had a bubble economy but in the developed world we seem to have the ‘least imprudent’ out of the financial institutions. True we are seeing the Southland situation. We also have a high level of private debt which could have caused difficulties if the government hadn’t taken out the wholesale debt guarantee that allowed our banks to keep borrowing abroad and renew everyone’s mortgages.
So we do have some domestic problems which were beginning to unravel even before the world started having its crisis.
The real problem for us is that we are a trading economy and therefore our fortunes are tied to those of the rest of the world. Although the bad trade winds are tempered somewhat by our strong linkages to China both directly and indirectly via Australia.
As we saw in the early days of the crisis – NZ was badly affected by the global tsunami but thankfully we are standing back a bit from ground zero.
An afterthought – just as our isolation holds us back in the good times – perhaps it also helps us in the bad times?
I think you’re probably right about the unique features of the Japanese situation, Paul (and Achela). But the ‘lost decade’ prospect isn’t necessarily dependent on getting into trouble in exactly the same way. See for example:
http://www.guardian.co.uk/business/2009/jun/14/economics-globalrecession
http://www.nytimes.com/2010/05/21/opinion/21krugman.html
In any case, as Achela says: “The real problem for us is that we are a trading economy and therefore our fortunes are tied to those of the rest of the world.” I wasn’t positing that NZ’s domestic circumstances would place us in a “lost decade” situation on our own, but that it would be a global problem that we would in effect ‘import’. Maybe China will become an alternative pole of economic dynamism, and that will save us (and Australia) from that fate, but I’m not confident, and if it did happen, there would eventually be a protectionist backlash from the US.
Interesting points about the Intergenerational Reports and the contrasting approach to tertiary ed in Australia — it looks like Australia is better-positioned than us to face a “lost decade” if it occurs. Hope those advantages can survive a term of Abbot!
Very interesting article. A lost decade is certainly looking like a possibility at this stage. If we want to scare policymakers into action to avert that, it might be worse reminding them that a ‘lost decade’ will probably be met at its conclusion by a demographic crisis in Western states. This will probably require a massive influx of immigration.
The social implications of this are mammoth if you consider conservatives usually look to immigrant populations as scapegoats during times of economic downturn. Dealing with this situation would be hard enough after a decade of growth – after a decade of stagnation who knows how it will play out (populists declaring the need to return to autarky instead of accepting the need for an immigration influx?).
You raise a really important point, Reuben. The proportion of the population aged 65+ (and thus entitled to NZ Super) rises steeply every year between this year (which is 65 years after 1945 when the baby boom began) and 2020. There really isn’t a decade in which it would be MORE important (from a govt finances perspective) to have decent rates of economic growth!
Just on that point David, I’ll go and get the exact numbers and email them to you, but I’ve just had updated projections from Stats NZ for Christchurch produced and analysed.
Setting aside the very interesting things happening with household make-up etc, at the high level we’re looking at about a 10% growth in all age group below 65, but over 100% increases in the brackets above, in the years 2009-2041.
Very startling.
Yes, I’d be interested in that!
And I concede this, the specific trajectories of individual economies are unique even if they appear similar at a macro-level. Thanks for this link too, I’d not seen this and appreciate the views of two writers/economists I admire.
Hutton paraphrases Krugman saying:
I guess we could compare the NZ economy to this set of factors but I think your point (Achela’s too) is that a trading economy is tethered to the world economy and I agree NZ mightn’t be able to avoid a prolonged recession if there’s a global downturn. Can domestic economic policies offset this? Probably not in the short-term, but surely in the long-term?
You started by noting the current government accounting tricks obscures a more realistic future, one where demogaphics represents an unavoidable economic challenge. Since Ruben and James have amplified this. The Australian federal treasury have put some very specific numbers to this same scenario for Australia and assessed that, without an increase in working age population, labour market participation and workforce productivity, there will be a “fiscal gap” (government expenditure exceeding revenue) from around 2030 that grows to almost three percent by 2050.
Although I thought federal Labor had lost its way, or at least federal Labor apparatchiks had, overall their policy approach was the best possible and I’ve no idea if Abbott will, should he get the chance, follow a similar pathway. Certainly, most of federal treasury staff will have to go given his strident criticism of them.
Thanks, Paul. I really should get my head around some of these issues in the Australia context at some stage . . .
bugger the html-code fail again… preview function would be nice?
Hmm, will look into that. (Have fixed the formatting tho.)
The Australian situation is interesting as a point of comparison; clearly Australian federal governments have more resources than NZ does.
It aint the hand you’re dealt but the way you play ‘em that matters
I don’t disagree, but still, one of Dave’s original points was about NZ’s economic trajectory; I still think in the short-term, it’s the global economy that’ll matter and it will be hard to avoid being caught up in whatever happens. What troubles me is that, in the longer-term, I see nothing from this government to suggest they have any kind of plan.
The plan is that I have no plan – I am Key. I am the market. I am hungry for the short term margin. I react to developments as they unfold, one day to the next, watching it all move before me in real time. I am mesmerised. I make my calls, I take up my positions, I liquidate them when Mammon, turns her claws against me…It’s just like the good ol days, I am back in the pit, plying my way on The St.
Interesting take. My own is that they do have an overall idea of where they want to head, but are moving there on a fairly opportunistic basis as openings arise . . .
that seems about right
F**k!
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