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The $42billion Nation Building and Jobs Plan « Previous | |Next »
February 4, 2009

Will the $42 billion stimulus package---the Nation Building and Jobs Plan--- do its job? Will it give the desired boost to economic growth in a vulnerable economy, and help ease the rise in unemployment? Will this kind of timely support soften the pain? Can this question be explored whilst avoiding the toxic, partisan polemics of a Janet Albrechtsen about neo-socialism downunder?

Stephen Kirchner, a research fellow at the Centre for Independent Studies, suggests that it is possible to avoid polemics. His argument is that activist fiscal policy doesn’t work. He outlines it thus:

Historical experience with fiscal stimulus packages in Australia and abroad is far from encouraging. Japan, for example, rolled out one stimulus package after another for the better part of a decade during the 1990s, to little effect. Why is activist fiscal policy generally ineffective in stimulating economic growth? The failure of discretionary stimulus measures reflects a basic reality that governments cannot create economic activity, they can only redistribute the income and wealth created by the private sector.

Why so? Helping the unemployed to retrain is a good idea. So is money for public housing and helping people to make their houses more energy efficient given the climate change scenarios of increased temperatures. Who could argue against refurbishing school infrastructure, more money for maintenance and increased investment in new infrastructure (eg.,libraries for primary schools and laboratories for secondary schools). These measures were temporary as well as timely.

What then are the reasons for the failure of countercyclical discretionary fiscal policy? It's more than being the measures could have been better targeted, or the states tightening their budgets in a recession. Kirchner says:

The problem for all governments is that these unfunded fiscal stimulus measures ultimately have to be paid for out of future taxes. An unfunded fiscal stimulus package of $42billion is thus equivalent to announcing a $42billion future tax increase......The danger with activist fiscal policy is that governments relax the criteria for good policy for the sake of pushing money out the door. By throwing out the constraint that new policy measures should be fully funded, they abandon the fiscal discipline that would otherwise force the government to choose carefully between competing alternatives.

What then is the answer, given that Kirchner says that doing nothing is not an option and no mention is made of market failure?

Kirchner says that the correct focus for fiscal policy is the structural and supply-side measures that will deliver sustainable gains in future prosperity. His argument is that budget balance could be expected to swing into deficit as a result of the operation of the so-called "automatic stabilisers", those components of government spending and revenue most closely tied to the level of economic activity. The automatic stabilisers have the very desirable effect of cushioning the economy from the downturn.

This cyclical deterioration in the budget balance is ultimately self-correcting. When the economy recovers, the cyclical component of the budget balance can be expected to improve, without the Government having to make explicit policy decisions other than to allow the automatic stabilisers to do their work.

I presume that "supply side" measures refer to tax cuts but what does "structural" measures refer to? Reducing public spending to address the issue of big government (Leviathan?). Does that mean cutting back on the welfare state? Does it mean tcutting back on the middle class welfare of the Howard years? Does it also include tax reform? The basic CIS position is to empower individuals to meet their own needs and reduce their future dependence on government. Does that mean in the current situation encouraging increased savings?

Kirchner's argument is premised on his assumption that markets are self-correcting. Thus

in credit and other financial markets, the present crisis can be interpreted as a global re-pricing of risk following an extended period in which risk was incorrectly priced. Again, no government or regulatory intervention was required to set in train this market correction. We may not like the price signals generated by markets in the context of the credit crisis, but that does not mean the market is not working or the price signals are wrong.

That misses the main point. Government intervention was necessary to prevent the financial and credit markets from self-destructiing. The judgment was that Wall Street had to be saved to prevent the collapse of the financial system.

| Posted by Gary Sauer-Thompson at 6:02 AM | | Comments (26)
Comments

Comments

Albrechtson reckons that classical economic approaches of balancing budgets and containing expenditure is the proper response, and she is opposed to central planning and big government. She says:

Armed with a handy surplus, the present problems enable [Rudd] to indulge in orgiastic spending, fulfilling the social democrat’s long-held ideological dreams yet dressing them up as a prudent economic response to the times.

There is no surplus. That's long gone. The dream is central planning and big government. Wasn't the Howard /Costello Government an example of big conservative government?

Albrechtson adds that the state premiers are using the crisis to eye off Rudd’s billion-dollar deficit kitty to fund their own failings in education and housing, pay off their union supporters with pork dressed up as jobs protection, or spend money on marginal seat infrastructure disguised as nation-building, or justify a return to central planning and big government.

Her position beneath the polemics appears to be is that it is a "myth that heavy doses of government intervention “saved capitalism from itself”. Japan is used to back up the claim.

Big government and central planning? Rudd's social democratic concept is clear:

a system of open markets, unambiguously regulated by an activist state, and one in which the state intervenes to reduce the greater inequalities that competitive markets will inevitably generate.

That's not socialism. It's the third way.

If the boom was a gift to Howard and Costello, this bust is a gift to Rudd. Doing nothing is not an option, and anything he does looks good.

The opposition can't argue with it without looking like party poopers, it's fixed Rudd's do-nothing image, given him a crisis of 9/11 proportions to politicise and annoyed the free marketeers.

With the states in the mess they're in, this particular big government and its central planning are looking pretty good.

Albrechtson and a bunch of other media dimwits (and their blogging disciples) are still locked in the mentality of the Howard years, where their boys are a branch office of the Republicans and everything that happens here can be interpreted using exactly the same arguments that apply to US politics. Half her column reads like a copy/paste from 'National Review Online'.

God forbid these dunces should ever have to treat Australia as an independent nation that needs to be considered according to its own unique circumstances. They'll be totally lost for anything to write.

Ken,
The Wall Street Journal as well as National Review Online

Gary,
The free marketeers (neo-liberals) argue that one-off stimulatory measures do not work because people save rather than spend the extra cash. Tax cuts are favoured because they are permanent and so more effective in term of encouraging people to spend.

They also argue that there is widespread agreement in the economics profession that countercyclical discretionary fiscal policy is neither desirable nor politically feasible,” because deliberate ‘countercyclical’ discretionary policy has not contributed to economic stability and may have actually been destabilizing in the past.John Taylor says:

In the current recession, the economy has been pulled down
by the housing slump, the financial crisis, and the lagged effects of high energy prices.
Expectations of future income and employment growth are low because the effects of the financial crisis are expected to last for years into the future. Unless these effects are addressed, a short-term fiscal stimulus has little chance of causing a sustained recovery. The theory that a short-run stimulus will jump start the economy is based on older “Keynesian” theories which do not adequately include, in my view, the complex dynamic or general equilibrium effects of a modern international economy. Nor do they usually include endogenous (or rational) expectations of the future.

The point of a financial service provider to provide financial services. The model used to set the prices of these services must take into account all of the different stakeholders in a transaction. In this respect, the free market model has failed catastrophically.

Kirchner says that "the present crisis can be interpreted as a global re-pricing of risk following an extended period in which risk was incorrectly priced". That the market caused the risk to be incorrectly price for an extended period clearly reflects a failure in the model, because it did not serve the interests of the suppliers. The market has made an adjustment, but it did not adjust in time to prevent the collapse those companies who used the market to price their services. This benefits no-one. A model is not working if it plunges the world into crisis!

By Kirchner's apparent reasoning, as long as the markets eventually corrected themselves, all is well. But what is an adequate time period for a correction? One year? Ten years? 150 years?

I do not dispute that the market worked the way that markets are supposed to work. What I dispute is that the market worked to solve the problem that they were intended to solve. Surely, those suppliers who are working in their own best interests would not have wanted the outcomes that the market gave them. That the market mispriced the services for such a long time cannot be defended.

Free markets are a tool used to set the exchange rate for transactions. There are other tools, including regulated markets, that will do the same job more effectively.

Lyn,
good scenario.It suggests that Rudd + Co's political survival depends on the success of their pump priming the economy. They could be a one term government if they fail.

Oh dear. On the same day that figures come out showing the last stimulus package had a positive impact, and people are figuring out how they're going to spend their shiny new bonuses, the opposition decides to knock the whole thing on the head.

Is Malcolm Turnbull suicidal?

Lyn,
I agree the Liberals are not playing the politics of financial and economic crisis well. It is not a good look to be seen rejecting the quick fix in an emergency. Remember Beazley rejecting tax cuts in 2005? These are interesting times.

The best position is to say that the legislation needs to be reviewed, we will get the Senate to sit next week, and we will assess it in terms of Treasury's guidelines--timely, temporary and targeted. They have room to move on the targeted criteria, ie., more bang for the buck through better targeting.

It's pretty much what Bob Brown is saying. He is playing the politics better.

Lyn,
the jump in retail sales figures are only for one month--December. The surge may not have carried through to January.If it didn't ----and the current $42 billion package suggests it didn't-- then it was only a spike.

And that package may just cause a short term boost to consumption. What then?

Peter, a lot of people are comparing this with the Beazley episode, but 2005 wasn't a scary year and the ALP had been travelling reasonably well in the polls. The coalition are already struggling to stay relevant and, for Malcolm personally, Costello has just decided to resurface.

Bob Brown is definitely playing it better. If it gets through he and the ALP both gain at the coalition's expense.

Lyn,
Rudd and his ministers are creating a lot of fear in justifying their second stimulus package. We're all going to hell in a basket etc. Doesn't that fear about how bad things will get encourage people not to spend?

Anon, that's true according to the Harvey Norman measure, and an obvious point. I'm thinking of the politics rather than the economics.

Nan,
It seems reasonable that fear would discourage spending, but it didn't stop the spending of the December surge. It's impossible to anticipate what people will do. Pay off credit cards? Try to drink the fear away? Have one last splurge before they lose their jobs? Stock up on canned foods? Try to double it at a casino? Who really knows?

Lyn
from this news item

In the fortnight from December 8, $8.7 billion in payments were made to groups including pensioners and low income earners as part of the Federal Government's first economic stimulus package.Last week Woolworths chief executive Michael Luscombe said that he had seen a spike in sales at stores in areas with many low and medium income families.He said sales of a particular brand of packaged underwear at Big W stores had leapt to 68,000 in December, up 40,000 on a year earlier, which he attributed to the stimulus package.

More underwear then?

An underwear-led recovery? Chinese manufacturers will be pleased.

Rudd's package is a disgrace. It reminds me of Howard's $10 billion plan to save the Murray; both appear to have been roughed out on the back of an envelope. It's a collection of disparate programs, many of which appear extremely dubious, combined with a one-off tax rebate that is poorly targeted if the intention is to encourage immediate consumer spending.

And still this supposedly Labor government has done SFA for the truly disadvantaged in the community, apart from its Christmas bonus to pensioners. People on disability and unemployment payments continue to be treated like an inferior underclass.

I hope the Greens and the independents in the Senate ensure that Australians understand what a shoddy exercise this so-called stimulus package really is. I doubt it though. The media and most of the blogosphere are too busy discussing the party-political implications to bother examining the substance.

None of the measures seem to increase the confidence of job-security over the 18 month timeframe, so what will people do with the money? They won't spend, they'll squirrel.

As far as I can see, the only way of guaranteeing jobs is getting the public service back up to scratch (at roughly 10,000 jobs per billion dollars), with a flowon of job security for another 50% (very roughly).

Dave,
Robert Schiller on Lateline (transcript not up yet) said that what was needed was to ge--encourage--- people back to doing the ordinary things they do in terms of spending and investing.

He talked about the psychology of the economic actors---the irrational exuberance of the boom and the shift to a more lockdown mentality created by fear. The stimulus packages are designed to have this effect---shift the panic psychology. Infrastructure investment could do this as people see signs of activity in building things and this would shift their panic mode. It gives them confidence.

As an aside-- The whole edifice of economics is premised on psychology and economists have paid little attention to it. They just assume that we are rational actors, not economic agents caught up in irrational exuberance, panic and fear.

Ken,
I was under the impression that more was to come for pensioners, people on a disability and the unemployed in the budget. Am I mistaken in that impression? It is a disgrace that the unemployed continue to be treated as the undeserving poor, and that the ALP has flagged little by way of intention of changing the discrimination of worthy/unworthy welfare recipients.

The RBA talks in terms of cushioning the effects of the recession in Australia. 'Cushioning' is not insulating. Worse is to come as this is no ordinary recession. Unemployment is expected to head to 7% from 4.5% and it could well be more.


Lyn,
I think that a core argument is that there is no conclusive evidence that an active fiscal policy aimed at changing the course of the short-term business has ever worked to the longer term benefit of an economy. The judgment is that the stimulus 2 package will provide a short term boost to consumption. Then what? Will that infrastructure investment encourage small and medium businesses to start increasing their activity.

The second concern is the debt one. A large part of the v budget deficit will have to be financed through issuing government bonds. The fear is that companies will be crowded out as investors prefer the relative safety of government backed debt. So business cannot raise money to fund operations by borrowing money from investors.

The package has its good and bad bits. Public housing counts as something being done for the unworthy. Propping up retail as well.

Nobody got a permanent benefit of the kind that you'd be talking about with increased unemployment benefits or pensions. My understanding is that sort of thing would come with the tax review.

Insulation was a bit of a weird choice. Why not other energy saving measures?

As with anything to do with education, there's no discrimination between schools with better facilities than Buckingham Palace and those more like cardboard boxes than buildings. That bit's about the building industry, not education.

The cash payments will be a one off spike, but the rest will be staggered spending over time.

On small and medium business, the building trades will get the most out of it over time, but it won't be enough to stop job losses unless the banks free up credit. At the moment the building industry is grinding to a halt.

Gary your points about a panic mentality affecting crowd behaviour are very pertinent. And it's hard to imagine a more obvious incitement to panic than this program of Rudd's.

The government's rhetoric simply doesn't add up. We're being told by Treasury we face unemployment of 7%, which is hardly a national emergency (the USA is already up to 8% and it's increasing by the hour) yet Rudd uses the language of crisis to justify unprecedented measures. Either he is not telling the truth about future prospects or there is no need for the mad panic with which he is trying to spend $42 billion of our money.

It is after all quite a lot of money ... enough to build a lot of new hospitals, for example, or new public transport systems. We've always been told we can't afford such things. Now apparently we can afford to squander a huge amount and have bugger-all to show for it in a few years' time. Well he may have a case, but he certainly won't persuade me if the biggest bogey he can wave is 7% unemployment. I'd much prefer to forego my $950 and see it used in direct assistance to the jobless.

If you read the newspaper headlines it is a spiral of despair that has us in its grip. We are all going to hell in a handbasket.

Ken,
I read somewhere that the government rhetoric includes a scenario of pensioners and children going hungry. That's way over the top.

Before the committee inquiring into the stimulus package meets on Monday, you can send in a submission to fpa.sen@aph.gov.au.

See the Main inquiry page for details.

Given the readership of this blog, some of you certainly can make a contribution to the debate, and get your opinions on the official public record so if it DOES turn out that you are right and Rudd/Swan are wrong, we can all point and say "told ya so! You WERE warned!"

yeah, I should be more on the ball.

Some of Ken's concerns appear to be taken up by The Greens and Family First--that not enough is being done for the jobless. The Rudd Government's response appears to be a series of labor market training reforms pitched at school levers after they leave skill and face bleak employment prospects.

The Greens are not pushing that hard on greening the package:insulation and solar hot water for public housing; and spending on cycle ways