Lying awake in bed last night thinking about our predicament, a frightening insight came to me: the only way out of a recession is to spend your way out. It sounds wrong-headed, but it’s not. It’s just, as economists say, “counter-intuitive”.
Who must do all this spending? In the first instance, the government. And let me tell you, if Scott Morrison lacks the courage to spend as much as is needed – as it seems he may – he’s likely to be kicked out at the next election because we’ll still be languishing in a recession that’s deeper and longer than it needed to be.
The reason spending your way out of trouble strikes us as foolhardy is that we’re used to thinking as individuals. If I and my family tried that solution, we’d soon get ourselves into even deeper trouble. True. But what’s true for the individual isn’t necessarily true for all of us acting together via the government – which we elected to do things on our behalf and to our benefit.
It shouldn’t really surprise us that governments can get away with doing things you and I can’t. That’s partly because the federal government represents 25 million individuals. It’s also because national governments have powers you and I don’t possess: the power to cover the money they spend by imposing taxes on us, and even the power simply to print the money they spend.
This, of course, is what worries Morrison and his ministers about spending big. When governments spend too much they go into deficit and debt, and then they have to raises taxes to cover the deficit and eventually pay off the debt.
But that’s the wrong way to think about it. The right way is the way Morrison has already said we’ll cope with the debt: we’ll grow our way out of it. The trick, however, is that you don’t get the economy back to growing unless you spend enough to get it growing.
Let’s get back to basics. Economic activity is about getting and spending – producing and consuming. We earn incomes by producing goods or services (or, more likely, by helping our employer produce goods or services), then spend most of that income on the goods and services we need to live our lives.
Recessions occur when, for some reason, we stop spending enough to buy all the goods and services being produced. (In the present case, the reason is that, in order to stop the virus spreading, the government ordered non-essential businesses to close their doors, and you and me to stay in our homes and not go out buying things.)
When people stop spending enough to buy all that businesses are producing, those businesses cut back their production. This often involves sacking workers or putting them on short hours. Obviously, people who lose their jobs cut their spending.
Even people who’ve kept their jobs tighten their belts for fear they’ll be next. Optimism evaporates as everyone gets fearful about the future. Rather than spending, people save as much as they can.
The private sector – businesses and households – contracts. To be crude, it starts disappearing up its own fundament. Until someone breaks this vicious circle, the private sector keeps getting smaller and unemployment keeps rising.
Obviously, what’s needed to reverse the cycle is a huge burst of spending. But there’s only one source that spending can come from: the government. The smaller public sector has to rescue the much bigger private sector and get it going again.
This creates a dilemma for people who’ve convinced themselves that government spending is, at best, a necessary evil to be kept to an absolute minimum because, just as dancing leads to sex, government spending leads to me paying higher taxes.
Turns out that government spending does much good and we shouldn’t be so stingy and resentful about the taxes we pay. (If some government spending is wasteful then eliminating waste is what we should be focusing on.)
In any case, provided you spend enough to get the economy growing again, that growth means rising incomes from which to pay tax. As well, once the economy is growing faster than the debt is, it declines relative to the size of the economy; the problem shrinks. We ended World War II with debt hugely higher than today. How did we get it down? That’s how.
You and I are in a hurry to pay down our debt partly because we’re mortal. We need to get it paid before we retire, let alone before we die. Governments, however, need be in no such hurry because they go on forever.
The other reason you and I are in a hurry to repay, of course, is the interest we must keep paying until we do. The higher the rate of interest, the more hurry we should be in. In evidence to a Senate committee last week, Treasury secretary Dr Steven Kennedy advised that the interest rate the government is paying on the 10-year bonds it’s issuing is 1 per cent – less than inflation. Still worried?
