Apparently, if you think Scott Morrison's refusal to use the budget to boost the economy is motivated by an obsession with showing up Labor by delivering a huge budget surplus, you’re quite wrong.
No, he’s sticking to the highest principles of macro-economic management (which principles Reserve Bank governor Dr Philip Lowe doesn’t seem to understand).
We now know this thanks to the first speech of the new secretary to the Treasury, Dr Steven Kennedy, made last week. He explained to Senate Estimates the long-established orthodoxy among macro-economists in the advanced economies that "short-term economic weakness or unsustainably strong growth is best responded to by monetary policy" (interest rates) not fiscal policy (government spending and taxation).
Although the budget’s "automatic stabilisers" shouldn’t be prevented from assisting monetary policy in keeping growth stable, fiscal policy’s medium-term objective was to "deliver sustainable patterns of taxation and government spending".
Temporary fiscal actions should be taken only in "periods of crisis", which would be uncommon.
Now, I have to tell you Kennedy isn’t making these rules up. They did become orthodoxy in advanced-economy treasuries in the 1980s. They’re the reason John Kerin’s budget of 1991, delivered in the depths of "the recession we [didn’t] have to have" contained zero stimulus, meaning the stimulus, when it came in February 1992, came too late.
And it was the lesson he learnt from this stuff-up that prompted former Treasury secretary Dr Ken Henry to urge Kevin Rudd to "go early" after the global financial crisis in 2008.
These rules will have a familiar ring to those of us who each year study the fine print in budget statement 3 on the fiscal strategy. Particularly in the reference to the role of the budget’s automatic stabilisers, you see the fingerprints of Treasury’s leading macro-economist in recent decades, Dr Martin Parkinson.
Which is all very lovely. Just one small problem: the circumstances of the advanced economies – including ours – have changed radically since those rules were establish in the 1980s. They made sense then; they make no sense now.
For a start, how can you say, leave it all to monetary policy, when the official interest rate is almost as low as it can go? Has no one in the Canberra bubble noticed? Or do they imagine a switch from conventional to unconventional monetary policy tools would be seamless and involve no loss of efficacy or adverse consequences?
And since when did the orthodox assignment of roles between fiscal and monetary policies involve monetary policy resorting to unconventional measures?
The diminished effectiveness of monetary policy is a big part of the reason the world’s leading macro-economists have for some time been moving away from the old view that monetary policy was superior to fiscal policy as the main instrument for stabilising demand.
All those reasons are spelt out by Harvard’s Professor Jason Furman – a former chairman of President Obama’s Council of Economic Advisers – in a much-noted paper (summarised by me here). It was written as long ago as 2016, but doesn’t seem yet to have reached the banks of the Molonglo.
If there’s one thing macro economists know it’s that, these days, the economies of the developed world – including ours – don’t work the way they used to in the 1980s, or even before the financial crisis.
Interest rates are at record lows around the developed world not only because inflation is negligible but also because the world neutral real interest rate has been falling for decades and is now lower than it’s ever been.
This is linked to the fact – often referred to by Lowe, but not mentioned by Kennedy - that the supply of loanable funds provided by the world’s savers greatly exceeds the demand to borrow those funds for real investment.
Around the developed world – and in Australia – consumption is weak, business investment is weak, productivity improvement is low and real wage growth is low, while employment growth is stronger than you’d expect in the circumstances. Countries keep revising down their estimates of the "non-accelerating-inflation rate of unemployment" (that is, full employment), but no one really knows just how low it now is.
To give him his due, Kennedy’s speech reveals him to be just as puzzled as the rest of us about why the economy is behaving so differently.
But one thing seems clear: the private sector isn’t generating sufficient demand to get us out of "secular stagnation," so it’s up to the public sector to fill the void. And, sorry, but with monetary policy down for the count, that means using fiscal policy. They're the new, 21st century rules.
