Will We Ever Learn?
Lessons from the Global Financial Crisis
The G20 meeting in Toronto in June was remarkable in only one respect. The familiar protests, the police in the streets, the hob-nobbing of the leaders were all on show. But, what was extraordinary, if not unexpected, was the speed with which most of the world’s most powerful leaders headed back to familiar territory – not to say, political prejudices – and not only embraced again the very nostrums that had brought about the global financial crisis in the first place, but used the crisis as an excuse to press for a smaller state and a decimated public sector, even though that threatens a renewed dip into recession.
This perverse reaction to the manifest failure of the model that had been so enthusiastically constructed over a 30-year period was a feature of not only the G20 meeting. It has characterised the responses of many individual governments around the world, and has certainly reared its head in New Zealand. Contrary to the expectations of many of us that the global financial crisis would be seen as a conclusive judgment on the failures of neo-liberal doctrine, it is the right that seems to have emerged, for the time being at least, unscathed and emboldened by the failure of their policies.
It is worth reminding ourselves of the precise lessons that the global financial crisis should, and briefly appeared to, have taught us.
- 1. Markets are not self-correcting. This simple and obvious proposition, so strongly confirmed by the failure of many of the world’s financial institutions, had been conveniently overlooked and even flatly denied by neo-liberal theorists. They chose to believe that operators in a market are perfectly informed and enjoy a parity of bargaining power and that market outcomes are therefore the best available and should not be second-guessed. We now know that this is self-serving nonsense, and that the natural tendency of the unregulated market is to lead to excess, irresponsibility, inefficiency and eventually collapse.
- 2. Financial markets are especially prone to excess. The huge power wielded by the manipulators of international capital and the unprecedented wealth gained by operators in financial markets, resting largely on their ability to create new forms of financial assets out of nothing, led many to believe that they were the lords of the universe and could do no wrong. But, as Keynes pointed out, financial markets are the most likely to fail, depending as they do so much on hunch and guesswork and on assets whose value depends on subjective assessment and uncertain futures rather than on objective criteria.
- 3. Risk cannot be quantified according to reliable mathematical formulae. A great deal of modern economics has been driven by esoteric work aimed at providing an apparently reliable basis on which risk can be quantified. It was on this basis that much of what are now recognised as having been worthless assets were happily traded from one interest to another, each trader taking a profit as the asset appeared to grow in value as it passed from hand to hand. The huge superstructure of debt and valueless assets, built initially on the sub-prime mortgage market, eventually came crashing down.
- 4. Decisions taken by business leaders alone are a poor guide to a successful economy and society. Business leaders have been so eulogised over recent decades that many people were persuaded that more and more decisions affecting our lives should be handed over to them, and that they could be more trusted in many cases than our elected leaders. We now know that business decisions are invariably taken for reasons of self-interest and take little account of wider or longer-term interests. Those countries – like the US and the UK – that most enthusiastically accepted that societies should be run in the business interest are those which have, on the whole, suffered the most severe consequences of business failures, with the greatest damage to the social fabric and environmental sustainability.
- 5. Increasing the wealth of the rich so that inequality widens does not produce a better economy or a stronger society. The “trickle-down” theory was often used to support the proposition that, if the rich got proportionately richer, the rest of us would benefit in absolute even if not comparative terms from the lift in economic activity that the increased wealth of the rich would produce through increased investment and employment. This theory has been discredited in the absence of any credible evidence to support it, and in the face of evidence to the contrary that shows that in countries where inequality has widened the most, the living standards of the poor have actually declined.
- 6. Government matters. Contrary to the constantly repeated mantra that the best thing that government can do is to “get off our backs”, the global crisis shows that in the end it is only governments that have the resources, will and legitimacy to underpin a failed banking system and therefore the currency and the economy more generally. Without decisive government intervention, the recession would undoubtedly have become a depression. In a recession, governments have a duty to act against market logic in a way that individuals, either people or corporations, cannot.
- 7. The market cannot perform effectively without government help. The great benefits of the market can be optimised only if government, too, plays its part. The government must do those things in economic terms, like investing in fundamental infrastructure, that the market cannot do. It must protect wider and longer-term interests that the market treats only as potential (and preferably “externalisable”) costs – interests such as those of people who are left behind by the market, or the value of a whole, healthy and integrated society, or the importance of maintaining scarce resources and a clean and sustainable environment. It must correct mistakes made by the market and regulate the market to avoid excess and failure.
- 8. If the market cannot be challenged, the whole point of democracy is lost. The most significant aspect of the global economy that has developed over the past three decades has been the extent to which governments have been sidelined by the power of international investors to move capital around the world, and to hold governments to ransom by withholding investment if their requirements are not meant. The role of democratic government is, after all, to bring the power and legitimacy of the people’s will to bear so as to offset what would otherwise be the overwhelming economic power of capital. If the market is held to be infallible, and government must not intervene, we not only produce bad economic and social outcomes; we lose the point and effectiveness of democracy itself.
None of these conclusions is revolutionary or even particularly radical. Each is evidence-based and arrived at through the merest common sense based on our own recent experience. This makes it all the more remarkable that these lessons are increasingly discounted by world leaders as they move into what we might all have hoped would be a post-crisis environment.
New Zealand is not, of course, a member of the G20. We would be mistaken to think, however, that we had not been infected by, and contributed to, the emerging consensus as to the best response to make to the crisis. And, in our case, we can add the lessons from our own less than glittering performance to those that can be drawn from the global experience.
Lessons from New Zealand’s Experience
For New Zealand, the global financial crisis came on top of our own home-grown recession. By the time Lehman Brothers collapsed, we were completing our third quarter of decline in a recession that for us had begun at the end of 2007, and that was the latest episode in a tale of economic under-performance that had extended for 25 years or more.
Paradoxically, our early experience of our own recession may have led us to understate the significance of the global recession. When it struck, around September 2008, we felt that we had already weathered much of the storm, particularly when our own, Australian-owned, banking system seemed relatively immune from the global collapse.
The truth is, of course, that while we have been sheltered from the worst of the global recession by the buoyancy of our main markets in China and Australia, and the relative stability of our banking system, the deleterious consequences of the recession are still working their way through our economy and are proving very difficult to dislodge. The lessons from the crisis are just as applicable to us as they are elsewhere – and just as likely, it seems, to be ignored.
Indeed, our enthusiasm to apply the free-market agenda further and faster than anyone else has given us particular reason to pause and reflect. It is only our small size and inability to develop a large-scale financial sector that has protected us from the worst ravages of the global crisis. But, our commitment to neo-liberal policies has meant that, in addition to the lessons to be learnt from the global outfall, we have our own lessons to learn and apply, by virtue of the fact that we have committed a series of mistakes over a long period that are all of our own making.
If we are to bring the recession to an end, instead of just bumping along on the bottom, and if we are to usher in an era of improved economic performance, it is essential in other words that we learn not only the more widely applicable lessons but also those that should hit us in the eye when we review our own recent experience.
- 1. Free trade is not always the best option. It has long been accepted as an article of faith in New Zealand, ever since the end of managed trade brought about by the UK’s accession to the Common Market, that we can do nothing but benefit from the widest possible extension of free trade. The issue has rarely been ventilated or debated; it is simply accepted as axiomatic that free trade is beneficial in practice and correct in principle.
That conviction continues to drive policy. There has been a veritable explosion in free trade agreements over recent years, culminating most importantly with a free trade agreement in 2008 with China and now the prospect of an extension of the earlier P4 agreement with Chile, Singapore and Brunei to include – most importantly – the United States.
We continue to be assured that free trade will best serve our interests. The argument is typically conducted by paying great attention to any increase in exports that could be attributed to free trade and ignoring other less convenient factors. The sharp increase in our exports to China, for example, is said to be a direct consequence of the free trade agreement; but the agreement has been in force for only a year, so most of the increase precedes and is not attributable to the agreement, is largely a function of the fact that China – almost uniquely – has continued to grow through the recession, and has occurred at the expense of an even greater increase in Chinese exports to New Zealand (and consequent loss of jobs and domestic manufacturing) over the same period.
We might have expected that this dogged pursuit of free trade would have demonstrated its benefits to our exports and growth rate over the period. But, on the contrary, both have languished and are well behind comparable levels for other countries, and particularly for Australia. The experience of other countries also shows that free trade is not invariably the right option, but its appropriateness depends on the stage of development by comparison with trade partners and competitors. Developing countries, for example, have usually found some form of protection to be helpful until they build up their economic strength and both Japan and China have trodden that path. The Chinese are still sceptical of the benefits of free trade and it is no accident that they have so far chosen only New Zealand as a free trade partner.
We, however, seem convinced that we can prosper in the face of direct competition from some of the most powerful and efficient economies in the world. We might do better to regard ourselves as a developing economy and to behave accordingly.
- 2. Foreign investment is not beneficial if the effect is to sell off existing capacity rather than develop new capacity. New Zealand, true to its overnight conversion to free markets and the free movement of capital, has opened its doors to foreign capital to a greater degree than any other comparable country. We have sold a greater proportion of our economy into foreign ownership than any other developed country. This has been partly a matter of choice, based on ideological conviction, and partly – though not advertised in this way – a matter of necessity; the proceeds of selling our assets into foreign ownership have been an important, not to say essential, factor in balancing overseas accounts that our economic failures have condemned to serious deficit.
It might be thought that this sell-off was a once-for-all effort to balance our books and is now behind us. The figures show, however, that the process continues apace. By March 2008, we had sold off $93.3 billion’s worth of our assets, up 900% from 1989. We soon won’t have anything left to sell.
The consequences for our economy have been disastrous. A current account in perennial deficit (eased only temporarily by the slow-down in imports caused by the recession) has been further burdened by the repatriation of profits to foreign owners, adding to the interest payments we must make to that other group of foreign owners (the proverbial Japanese housewife and Belgian dentist) who help fill the hole in our accounts by buying short-term debt as a response to our very high interest rates. The repatriated profits represent not only a drain on our foreign accounts but a very real loss of national wealth that could otherwise be applied to raising living standards and public services in this country.
That loss is not merely economic. We also suffer a very real diminution in our ability to control our own affairs. Increasingly, under foreign ownership, decisions over major parts of our economy are taken in Sydney or Los Angeles or Shanghai. New Zealand jobs and businesses depend on people in boardrooms where our interests are remote from their concerns.
- 3. The government’s role in a successful economy should not be limited to trying to control inflation through adjusting interest rates. It is hard to separate New Zealand’s relatively poor performance over the past 25 years – something that has increasingly concerned successive governments as we have dropped down the OECD tables – from the policies pursued by those self-same governments. Our policy-makers have insisted that the only important goal of policy is the control of inflation, that that is simply achieved by controlling the money supply, that there is only one instrument – interest rates – that is effective to control the money supply, and that that instrument is best placed in the hands of a central bank whose decisions cannot and should not be challenged.
The consequences of this extremely narrow view of policy are there for all to see. Even in its own terms, the policy has struggled to succeed. The control of inflation has proved increasingly difficult, and achieved only at considerable and growing cost to other objectives; even the Governor of the Reserve Bank has complained that interest rates alone are no longer an adequate instrument even for this narrowly defined task.
The real failures become apparent, however, only when the focus is widened to include other desirable economic goals, such as sustainable growth rates, full employment, well-directed investment, effective public services, a cohesive society and acceptable living standards. It is in these areas that we have failed, and have fallen markedly behind our trans-Tasman neighbours in particular. The average New Zealand family would need at least a 40% increase in real income to reach Australian standards. Little wonder that our economic performance is constantly undermined by the flight of skills and talents across the Tasman!
What seems to be a simple mechanism for dealing with inflation has become, in other words, a major deterrent to a better economic performance. The high interest rates apparently needed to control inflation make investment more expensive, favour wealth owners rather than wealth creators, stimulate a rise in the exchange rate that handicaps our own production in markets both at home and overseas, inhibits our investment, distorts our balance of trade, and then – to complete the vicious circle – requires a further round of high interest rates to attract the short-term “hot” money that is needed to fill the hole in our balance our payments.
These problems will not be overcome without an “agonising reappraisal” of the policy we have doggedly pursued without success for 25 years. The global financial crisis might have been thought to offer just the opportunity we need for such a reappraisal; the evidence is though that we are intent on both overcoming the recession and correcting our own individual past failures by returning stubbornly to the policies that have consistently failed us.
Turning Our Backs On The Lessons
However clear the lessons – both from the global recession and from our own longer-established New Zealand disappointments – our leaders both overseas and at home seem determined to ignore them at the first opportunity. It is already clear that the majority of the world’s governments are keen to return to business as usual, and to reproduce the errors that produced and compounded the crisis in the first place. What are those errors?
- 1. The first priority is to deal with the deficit. Governments around the world, with few exceptions, have responded to the post-crisis environment by insisting that governments that had moved into deficit in a partially successful attempt to avert depression should now concentrate on cutting their spending so as to balance their books. Nothing is more likely to risk a “double dip” recession.
Governments in Europe, Britain and here in New Zealand have succumbed to one of the most common fallacies of economic policy – that governments are no different from individual actors in the economy and should behave accordingly. According to this view, if a recession means that individual people or corporations should retrench and cut their spending and investment, so too should governments. If reduced government spending – not to say savage cuts – should mean that people are thrown out of work, so be it; the deficit will otherwise hang over our heads for years to come.
It is hard to detect any rationality in this view. The best way of getting a government deficit down is to restore the level of tax revenue. A buoyant economy will generate a buoyant level of revenue. An economy that is flat on its back for the second time, on the other hand, will ensure that the deficit is persistent and deeply entrenched. You don’t get your deficit down by throwing people out of work.
But, say the “deficit hawks”, the deficit needs to be funded, and the money markets will lend for that purpose only if they see strenuous efforts to get the deficit down. But this is to allow prejudice – a visceral dislike of public spending per se – to displace rationality. As Paul Krugman points out, our policy-makers run scared of the “bond vigilantes” on the one hand, and seem on the other to have a naïve believe that the “confidence fairy” will somehow convert policies that are intended to produce retrenchment into a recipe for recovery. And, since it was only a year ago that the financial sector was totally dependent on public finance for its very survival, how is it that their fantasies are again so soon able to dictate terms to the rest of us?
These fallacies certainly seem increasingly to dictate policy in Europe and Britain and are alive and well in New Zealand. Our own government has been lucky in that living with the recession has been easier than it might have been, because our export markets have held up surprisingly well – not least because the Australians pursued a braver and more stimulatory course than we did. But it is becoming increasingly clear that the recession in New Zealand is proving stubbornly difficult to move; we continue to bump along the bottom with no real recovery in sight. The recession will be longer and more serious because we give priority to getting our (perfectly manageable) deficit down, rather than to ensuring that government plays its full part in helping recovery. This is a triumph of ideology over common sense. And that brings us to the next error.
- 2. The deficit provides a good reason for cutting back on the public sector in any case. In both Britain and New Zealand, the emergence of a counter-recessionary government deficit has coincided with the election of a right-wing government. In both countries, the response has been to focus on getting the deficit down, rather than on trading our way out of recession. In both cases, the suspicion must be that the opportunity to trim back the public sector for largely ideological reasons under the guise of dealing with the deficit has been too tempting to resist.
The result has been and will be in both countries a substantial loss of jobs in the public sector, and a dangerous drop in the level of public services, including support for the poorest, just at a time when they are most needed. And while public sector cuts may seem easy to make in the short term, the longer-term consequences can be severe – Cave Creek comes to mind.
The rationale for these measures – that otherwise the public sector’s demand for resources will crowd out necessary investment in the private sector – is simply not credible at a time when the economy is operating so far below capacity. It is hardly helping the private sector to throw a substantial portion of their customers on the dole. The projection might of course become self-fulfilling if mistaken policies are maintained long enough to mean that capacity does fall as resources that are kept out of use simply lose their economic value and utility.
- 3. The banks must be protected at all costs. The determination on the part of many governments to respond to the recession by cutting back the public sector, and therefore the role of government, is all the more surprising when it was the public purse that had to be opened, at the taxpayer’s expense, in order to save the global economy from the consequences of the private financial sector’s irresponsibility. The sharply increased indebtedness of governments around the world is the direct result of the money borrowed and spent on bailing out a failed banking sector; in addition, the current deficits in government accounts are a secondary outcome, via a recession-induced slump in government revenues, of the same failure.
Rather than sheet the responsibility and the burden home to where they belong, however, governments have spent billions on helping the banks to shore up their balance sheets, with the perhaps unintended result that the banks have continued to pay out massive bonuses to their employees. It is the taxpayer that must now pay the burden, not just in repaying borrowings made to deal with the crisis, but in suffering the cutbacks in public services and the loss of jobs that are the inevitable consequences of current policies.
The G20 were not even able to compel the banks to accept, as had been foreshadowed, tighter rules about capital reserves and lending ratios. While President Obama has introduced tighter regulation of US banks, other governments have dragged the chain – and, while individual voices have been raised in support of measures like a Tobin tax on financial transactions, no government has so far given them consideration. In view of this timidity in dealing with the banks, we cannot be surprised that no one apparently stopped to wonder why, if the taxpayers put up the money, they did not acquire the ownership interest – and, even more pointedly, why it did not occur to anyone that, if banking so obviously relies in the last resort on underpinning by the public purse, we should perhaps recognise that banking is in essence a public function.
- 4. Free trade is the only answer. Our experience in New Zealand of free trade over 25 years, during which the much-touted benefits have failed to materialise, has not deterred our policy-makers from pressing on. Potential free trade agreements are now coming thick and fast, and include most recently a Trans Pacific Partnership Agreement which would, if completed, bring us into a free trade relationship with, amongst others, the United States. Typically, the attempt is being made to sell the deal by focusing entirely on the supposed benefits to our dairy exports, despite the growing evidence that powerful American interests are making it their business to ensure that tariff-free access to the American market for those exports will not be made available.
Little attention is paid, on the other hand, to the obvious downsides, which include threats to the organisation (through cooperative marketing) of some of our major exports, to our effective strategy (through Pharmac) in keeping down the cost of pharmaceutical imports, and to our (theoretical) ability to resist overseas purchases of our assets. These are remarkable blind spots for a country that seems in any case to have derived so little benefit to its economic performance from two and a half decades of free trade.
- 5. The sale of our assets to overseas buyers is good for us and our economy. It might be thought that, having sold off a large proportion of our productive capacity and economic infrastructure to overseas owners, and having suffered the consequences of loss of wealth and loss of control over our own economy, to say nothing of the increased burden on our balance of payments, we might be a little chary of going further down that path. Our government, however, is not deterred by our experience or by the blow delivered by the global crisis to the neo-liberal doctrines that apparently endorse the policy of an open market in New Zealand assets; their policy is to further weaken such protections as we still have against an overseas buy-up of our remaining assets and to welcome what they choose to treat as an “expression of confidence” in our economy rather than as a fire sale.
This laissez-faire approach has been seen most recently in the Chinese bid to buy a significant part of our dairy industry. That bid, whose effect would be to remove from New Zealand hands, and – in an almost physical sense – from New Zealand itself, a measurable part of our wealth-producing capacity, so that the wealth produced by that capacity went more or less permanently overseas and New Zealanders were left as relatively low-paid wage slaves on what had been their own land, is currently being considered by the Overseas Investment Office as merely a matter, apparently, of the business reputation of the prospective buyers. There is no indication so far that any issue of principle is involved.
- 6. Private ownership and the profit motive are the best guarantors of economic efficiency. New Zealand, consistently with the commitment of successive governments to the “free” market as the driver of economic efficiency, has a 25-year history of privatisation. Like so much else in the neo-liberal agenda, repeated privatisations have done little to raise the level of performance, and in all too many cases, privatisation has meant only profit-gouging by private owners who have then sold back the enterprises – inadequately invested and saddled with debt – into public ownership; the New Zealand railway system is an obvious case in point.
Post-crisis governments, however, including New Zealand’s, have not lost their faith in privatisation as a panacea for all economic ills. The current government is already moving towards a partial privatisation of the Accident Compensation Corporation, and further privatisations – Television New Zealand, for example – are clearly in sight. The fallibilities of the global masters of the world economy have not dimmed the faith of our leaders in the ability of business leaders to work the oracle.
- 7. There is no alternative to the macro-economic policies that have been pursued for 25 years. It might be thought that the greatest economic upheaval in 75 years might have prompted a re-appraisal of the policies that have served us poorly over two and a half decades. Sadly, this seems not to be the case. To be fair to the Governor of the Reserve Bank, he has indicated from time to time that he is prepared to look at measures to supplement the current reliance on the sole instrument of interest rates, and his requirement on prudential grounds that bank lending should be more responsibly tied to capital reserves may be the first swallow of a new summer.
The government, however, shows little interest in widening the goals of policy, or in adding new counter-inflationary instruments to the armoury. As a consequence, there is increasing evidence that, if we were able to haul ourselves painfully out of recession within the current policy framework, any recovery would be quickly knocked on the head by the familiar combination of high interest rates and an overvalued dollar which is already gearing up before our very eyes. Little wonder that investment languishes and recovery is uncertain.
What is to be Done?
It would be easy to subside into despair as we see the greatest economic crisis of most lifetimes – a crisis brought about by manifest and egregious errors of policy and understanding – come and, hopefully, go without apparently disturbing the simple certainties of a self-serving orthodoxy that should surely have been discredited. If, at this precise moment, governments cannot learn lessons and strike out in new and better directions, what hope is there of a better future?
There are of course never any final battles in politics or economics. The balance of advantage swings from one position to another in often belated response to our understanding of real events. The consequences of the global financial crisis will be real enough, and our understanding of those consequences will evolve and grow for years to come. We must hope that the lessons will not be driven home all over again by an almost immediate relapse into a double-dip recession, brought about by the failure to recognise what went wrong in the first place and what must be done to correct it.
In the meantime, we must equip ourselves with the knowledge and the arguments to carry the debate to those who are reluctant to listen. We should ensure that the lessons are so clear that they cannot be ignored.
Bryan Gould
2 July 2010
This article was published in the August issue of Watchdog, the journal of CAFCA (Campaign Against Foreign Control of Aotearoa)
Learning the Lessons
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.
There 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.
What is 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 to save.
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.
Bryan Gould
26 September 2009
This article was published in the New Zealnd Herald on 1 October.
What the Meltdown Tells Us About Markets
The economic fallout from the global crisis has been immediate, extensive and severe. It has been felt in the shock delivered to our financial institutions, in the balance sheets of our major corporations, in growth rates around the world. More damagingly still, it will take its toll far from the City of London or Wall Street – on the jobs, homes and lives of perhaps billions of ordinary people in all parts of the globe.
Among the many casualties, and in one of the most important, has been the belief- virtually unchallenged for thirty years – that we had, on the basis of the market’s infallibility, solved the problem of how to run the economy successfully. That conviction has surely been shaken to its core. The simple confidence that the market could always be relied on to deliver the best outcomes can no longer stand in the face of the meltdown produced by market forces that were allowed to run riot. The widely accepted assertion that markets, left to themselves, are self-correcting cannot survive the recession.
We can now see what had once been known but had been lost sight of – that when markets operate without any restraint they will inevitably lead to excess and eventually to self-destruction. Even Adam Smith had accepted that markets could and would become the means by which dominant market operators were empowered to act against the general interest. And Keynes had warned that this tendency of markets more generally was exacerbated in the case of financial markets.
This was because, he maintained, of the inherent instability of financial markets and their excessive reliance on opinions and sentiment – not to say guesses and hunches – rather than on real things with well-established values. We have seen exactly what he meant. An unregulated market in financial assets was permitted to create and put a price on new kinds of assets which had no more than a speculative value. As long as those assets – futures, securitised debt, credit default swaps and so on – were accepted at face value, they could be offered as security for debt which could then be used in turn to underpin the creation of a new swathe of assets.
Those who manipulated these money-making mechanisms must have felt as though they were living the alchemist’s dream. Those who watched from the sidelines – including our political leaders who might ordinarily have recognised their responsibility to provide some safeguards – could only marvel, lost in admiration and envy, dazzled by the riches being generated. And as long as the asset values kept growing, the fact that they were underpinned in real terms only by debt mattered little. It seemed to be a fail-safe operation; no great skill was required, and the mechanisms and processes – novel and untried as they were – were apparently supported and validated by complex mathematical models. Even substantial operational errors, such as the gross over-valuation of assets, could be quickly washed away by the rising tide of asset values right across the waterfront. Even the unskilled could make fortunes – to say nothing of the opportunities offered to fraudsters on an unprecedented scale.
But it needed only a scintilla of doubt to creep in about the value of these new assets for the whole ramshackle structure to come tumbling down. When the confidence bubble burst, assets lost their value, but debt did not. The result was – as we have seen – the collapse of the whole financial infrastructure of the world’s major advanced economies.
In New Zealand, with our relatively undeveloped financial sector, we have tended to congratulate ourselves on escaping the direct consequences of the financial meltdown. But that was to live in a fool’s paradise. It has not taken long for the financial collapse to have its effect on the real, productive economy, and for the hit taken by our export markets and commodity prices to be added to the impact of the home-grown recession we had entered at the end of 2007.
Some of the immediate global lessons to be learned from this experience have been applied quickly, albeit belatedly. The new regulatory regime for financial markets and institutions introduced by President Obama is a recognition that we should never again entrust our economic future to unregulated markets. His example will no doubt be followed by other, but by no means all, governments. President Obama at least seems to understand that we cannot correct and prevent egregious errors by handing back control to those who committed them in the first place. Effective regulation is now surely the name of the game.
But, as governments around the world have – with varying degrees of reluctance or enthusiasm – found themselves taking centre stage, many commentators and practitioners, not least in New Zealand, have jibbed at accepting the longer-term and wider lessons to be learned from the meltdown. They have been keen to see government intervention to correct past errors as merely a case of dangerous times requiring exceptional measures. The central task, they believe, is to right the ship; it should then be allowed to sail on as before. They impatiently await the opportunity to return to what they see as business as usual, so that governments can safely be put back in their boxes. This is, however, to misunderstand what has happened. The current role of government in correcting and counteracting recession is not an unfortunate aberration. The recession has revealed an abiding truth – that the market can deliver its unmatched benefits only if governments are there when needed to make good its deficiencies and act against its excesses.
The plunge into recession has illustrated beyond peradventure what happens when market operators become so powerful that governments are unable to restrain market excesses. But the response that is now needed to limit and shorten recession delivers a further lesson – that governments must bear a responsibility not only for allowing the recession to develop but also for the measures needed to counteract it. Governments can and must act to correct market failure in ways that the market, left to itself, cannot. Economies are robust things. They would recover sooner or later without intervention. But – as all but the most purblind now recognise – it is the responsibility of governments to hasten the recovery process, and thereby limit the misery that recession inevitably brings about.
The reason for this is that governments, uniquely, have the ability to counter the inevitable tendency of recessions to feed on themselves. For most actors in the economy, the demands of self-interest mean that, in a recession, they spend less, invest less, cut costs, employ fewer people. Each individual decision taken by companies or businessmen may be – indeed usually is – rational and justified, but the cumulative effect for the economy as a whole is that recession is intensified.There are those who wish to resist this line of argument. They are reluctant for ideological reasons to accept that governments should ever have a special role and responsibility. They argue that governments should act (if at all) as though they were individual people or companies. According to this view, governments in a recession should also cut costs, spend less and lay people off, as though they were just like households or businesses. But if governments behave like everyone else, the economy is condemned to a deeper and harsher recession than needs be. Those holding this view are so blinded by an ideological hostility to the very idea of government as to deny Keynes’ statement of the obvious – that governments have a unique responsibility to act counter-cyclically. Only governments have the capacity and the duty to defy market logic. Only governments have the resources to over-ride what would normally be market-based self-interest and to substitute for it the wider interest in getting the economy as a whole moving again. Only governments can afford to live with long-term indebtedness if that is what is required in the interests of their shareholders – and that means everyone. Our own government has been one of the more reluctant to learn this lesson.Government intervention, whether to underpin the liquidity of the financial sector or to stimulate demand in the real economy, is certainly necessary if recovery is to be hastened, but it is – importantly – more than a singular response to a singular problem. It is a statement of a wider and ever-present relationship between governments and markets. Markets function best – indeed only function properly at all – if government is ready and willing to second-guess and lean against market outcomes. What is required of governments to save and support financial markets in a recession is equally required – in differing ways – if markets across the whole economy are to function properly. There are of course those who would at this point throw up their hands in horror. For them, the debate is about absolutes. The alternative to the unfettered market is state socialism. They do not see that to recognise and correct the deficiencies of the market is the best guarantee that a market economy can sustain itself efficiently and beneficially.
It is vital to understand that this is a lesson of more than purely economic import. The damage that has been done by the unrestrained market has, after all, been more than merely economic. By the time the crash came, thirty years of unrestrained global markets had done largely unrecognised damage on a much wider scale. Not least, the so-called “free” market had converted the world to a new culture of greed and excess. No reward was too outrageous for those who could claim that it was ordained by the market. The huge fortunes “earned” by successful market operators were regarded – by themselves and by cheerleaders such as The Economist – as a proper reward for their brilliance. Self-aggrandisement was treated as the mainspring of all economic progress. Greed was good. A New Labour government in Britain, we were assured, was “intensely relaxed about people getting filthy rich.” The values of those who grew rich by exploiting others were held up by the world’s media for admiration and emulation.
The consequences for both our economy and our system of values were certainly deleterious, but the debit side of the balance sheet is further burdened when we can add in the social outcomes. Across the globe, and especially in those countries (such as New Zealand) where the “free” market and the culture of greed were allowed free rein, there was a rapid widening of the gap between the rich and poor – not surprising given that the billions gouged from the economy by the manipulators of financial markets were not new real resources but were filched from the pockets of the rest of us. The result has been societies that are less integrated and more divided – societies increasingly marked by alienated and disaffected minorities who feel that their interests are quite separate from those of the increasingly triumphant, visible and eulogised “rich and powerful”.
If we widen our perspective even further, to take account of the threat to the global environment which many believe to be an underlying and developing crisis of even greater dimensions than the global recession, we can again see a prime example of market failure. Global warming, the exhaustion of natural resources, the despoliation of our ecology, the energy crisis, the pollution of water and air, are all consequences of a short-sighted and narrow market-based approach to the interaction of economic activity with the natural world. It is the inevitable outcome of a dogma that says that the bottom line of individual corporations is the only number that matters, and that the shareholders’ interests must necessarily prevail over those of the wider community and humanity as a whole.
The recession – and government’s response to it – has laid bare and illustrated a further and yet wider truth – that the readiness of government to intervene is the essential condition on which the market can be made compatible with democracy. The whole point of democracy, after all, is that it ensures that the wider and longer-term interest is brought to bear so that the often harsh and unfair outcomes of unfettered market operations are softened and made more acceptable. That is what governments are for. If the market is infallible and must never be challenged, there is no role for democracy. Governments are then merely bit players and democracy merely a sham – a cosmetic trick to provide the illusion that the rich and powerful can be made to account for themselves. We can profit from this recession if we draw from it the important lesson that the legitimacy conferred by the democratic mandate empowers and requires government to ensure that personal and sectional interests must not prevail over the general interest. There can be no return to the fallacy that the “free” or unfettered market establishes a kind of economic democracy that renders democratic politics irrelevant. The recession and the need for a government response to it may be, one hopes, an exception, but the value of the proposition that democracy rules is a constant.Many of the deficiencies of unregulated markets have clearly manifested themselves within the national context but their true theatre of operations has been on a global scale; the triumph of the “free market” has been, after all, a global victory. The global dimension was an important element in ensuring that, for three decades, it could confidently be claimed that “there was no alternative”.Today’s commentators are certainly justified in pointing to the unprecedented size, power and reach of economic forces that now operate on a global scale. But what has really been significant about the drive to globalisation is that it has been invested with a truly ideological fervour. Globalisation has ceased to be just a useful way of describing a number of related but more or less accidental economic developments, and has become, in the minds of many, a deliberate and coordinated project. It is this ideological element that marks out the current development of the global economy. The market fundamentalism that fuels it is ideologically driven and is intolerant of debate or challenge; according to its supporters, the global market is infallible and produces unprecedented and unalloyed benefit.The rise of the global economy has been, in other words, as much a political phenomenon as it is an economic one, and as such it has succeeded in turning upside-down many of the assumptions and attitudes politicians and others have acted upon for centuries. The global economy is, by definition, an economy in which there is little or no intervention by governments or other authorities. If there were such intervention in any part of it, so that the intervention made that part operate differently from the rest, it would cease to be a single market and would instead be a series of differentiated markets in which different rules applied. The global economy therefore operates on the basis of an acceptance by most politicians that intervention is to be eschewed. There is a recognition on the global scale of what at the national level would be described as the monetarist view that governments should limit themselves to establishing conditions of monetary stability and leave the economy to look after itself. These trends are clearly seen in New Zealand – perhaps the most enthusiastic and ideologically-driven participant in the global market, and a leading innovator in the mechanisms of monetarism.The acceptance of this view has required left-of-centre politicians to make an historic reversal of a fundamental position they have taken in what has probably been the central debate of modern politics. For at least 200 years (or, in other words, for as long as we have had what would be recognised in modern terms as an economy), that debate has raged. It is a debate to do with the role of government in relation to the economy, and it has been the central issue that has divided right from left.An early statement of the positions of the protagonists in that debate is to be found as long ago as 1810 in the majority and minority reports of the British Select Committee on the High Price of Gold Bullion. The Select Committee focused on a relatively narrow point – whose responsibility it was to determine the volume and value of the money stock – but the debate reflected much wider issues concerning the responsibilities of government and the extent of its role. While the language may be outdated, the ideas are contemporary. Sadly, the debate itself has virtually been abandoned, most often by those who do not understand that they have given up anything of value.On the one hand has been the view – generally supported by the majority in 1810, who concluded that government should have no discretionary power to adjust the money stock – that governments have very limited capacity to manage the economy. Any pretension to extend that power will not only be self-defeating but also – because of the distorting effect on the proper and unfettered operation of the free market – positively damaging. Governments, according to this view, are not, or at least should not be, actors in the economy in their own right. They should not be, because their motivation will usually be a non-market one, and to use the power of government to intervene for non-market purposes in the marketplace will inevitably distort the market’s proper operation. More importantly, they should not even claim a role as policy-maker in shaping the course of the economy, since it is very unlikely that policy-makers will reach as good judgments as would the unfettered market.Governments should instead limit themselves to those aims that are their proper concern. The defence of the realm, the maintenance of law and order, the underpinning of a system of law and practice that allows commerce and business to operate efficiently – this is the proper role of government. In the field of economics, the role of government is similarly restricted. It is limited to the maintenance of the value of the currency, as an essential part of the landscape in which business can operate efficiently. It matters little what the numerical value of the currency might be, as long as it is stable enough over a sufficient length of time to enable business decisions to be taken with confidence. Government is entitled to use those instruments of monetary policy as are necessary, such as interest rates, to secure the desired stability. Beyond that, however, governments should withdraw. Once monetary stability has been established (and this is essentially a technical operation that can safely be left to officials and is thereby insulated against the vagaries of democratic pressures), the economy can safely be left to operate by itself. This is not a failure of responsibility but a proper recognition of the respective roles of government and business.The alternative view postulates a much greater role for government. According to this view, government is a major player in the economy, both as a direct and significant actor in its own right and as a coordinator of other actors and a maker of policy. This inescapable role means that government should accept, and according to some views seek and welcome, a responsibility for the performance of the economy.That performance is to be measured not according to purely monetary criteria but according to real phenomena such as output, employment and investment. Government should therefore set its sights on achieving targets such as full employment, a reasonable rate of growth in output, and an effective level of services. Stability should be sought not only in terms of monetary conditions but also in matters such as the level of demand. Particularly in the matter of demand management, governments will often aid economic performance by taking a deliberately counter-cyclical stance. The economy will also perform better if the power of government is harnessed to the needs and interests of industry, and if government undertakes those functions – such as the provision of major infrastructure – that cannot easily be carried out by private industry.Historically, the right in politics has on the whole identified with the first view, while the left has endorsed the second. It is hard to exaggerate the significance of the left’s abandonment – over the last three decades – of its historic commitment to the idea that the power of government should be used to promote the general good in favour of an acceptance that the task can safely be entrusted to the “free” market instead.
This barely remarked reversal has removed from the left any identifiable ground on which to stand. All politics in the end is a response to a fundamental characteristic of social organisation. All societies demonstrate an inevitable tendency for power to concentrate in a few hands. The power may be expressed in physical, economic, social or hierarchical terms – but at its most fundamental it is power to make choices, the freedom to choose, even at the expense of and against the interests of others.
In any society, those who are stronger, cleverer, or luckier, or who enjoy some other advantage, will inevitably acquire more power than others. They will then, with equal inevitability, use that power to enhance their advantage, accreting to themselves differential privileges which will make them yet more powerful, allowing them to entrench that advantage and defend it against attack, and by doing so to reinforce the disadvantage of others. The response that should be made to that intensifying concentration of power is the central and defining issue of politics – and the key characteristic of the left response has been, traditionally, to resist and counteract it.
A society in which the market dice are allowed – indeed, must be allowed – to lie where they fall is inevitably one in which power concentrates in fewer and fewer hands. A government supposedly of the left that feels unable to challenge market outcomes can have nothing to say – however it is dressed up, whatever cosmetics are applied – to those who look to it for social justice and a more integrated society.
How and why did this flip-flop occur? How did these free-market doctrines become so dominant? Why did governments – even those of the left – not ensure that market forces were tempered by a concern for the interests of the majority? The answer lies in a single word – globalisation. It was the development of the global economy which incapacitated governments and which left the field uncontested to market forces.
The individual steps by which this was achieved need be only briefly rehearsed here. One of the earliest was one that masqueraded as a purely technical change that would help international trade and investment, and that was sold to the ordinary citizen as a welcome reduction in bureaucracy. That change was of course the removal of exchange controls by Reagan and Thatcher so that international capital was free to roam the world in search of the most favourable investment opportunities.
In one step, the rules of the game had changed hugely. Investors no longer had to comply with the requirements of elected governments. Instead, governments found themselves played off against each other by investors who commanded greater and greater resources as the now global economy was funnelled into fewer and fewer hands.
Now, it was governments that had to sue for terms, and who would lose out in the competition for investment if they did not comply with the demands of the multinationals. The world’s major corporates could, in effect, set the political agenda in each individual country. The price they demanded for what was seen as essential foreign investment was a menu of measures drawn from the text-books of right-wing ideologues and familiar to any observer of the New Zealand scene. That menu included a “free-market’ (or monetarist) economic policy, low business tax rates, accommodating rules about the repatriation of profits, industrial relations laws that reduced the power of trade unions, health and safety legislation that was not too onerous, a regime that allows the “externalisation” of costs to the environment (or, in other words, the transfer of those costs to the public purse), and labour costs aligned to the lowest international benchmarks.
The investors, on the other hand, now understood that they could exercise their power quite irresponsibly; it was, after all, governments – not the investors – that had to answer to their electorates. The investors answered to no one but their shareholders. Most costs could be “externalised” or passed on to taxpayers who no longer had a voice. And, as voters began to understand that their governments could no longer protect them, confidence in the democratic process began to weaken.
It is no accident that, with the rise of the global economy, voter apathy is an endemic problem in the older democracies. Voter turn-out in the leading democracies, and particularly in the United States, is notoriously low, and it is on a downward trend in most countries. Even in a country like New Zealand, where there has traditionally been a commendably high participation rate in general elections, voter interest is declining. In the United Kingdom, while the turn-out in the 2005 general election showed a tiny improvement on the 2001 figure, both results – at just over 60 per cent – were at historically low levels. And the numbers voting in the recent European elections were shamefully low.
At around the same time, monetarism – the doctrine that managing the economy was a more or less technical exercise in controlling inflation (the only goal, it was said, that mattered) by regulating the price of money – became the accepted wisdom, on the left as well as the right. And, in a development introduced in its modern form in New Zealand, this technical task could safely be entrusted to unaccountable officials – bankers no less – so that, in one simple step, democratic government was excluded from perhaps the central function – the management of the economy – for which it was elected.
These ground-breaking changes were reinforced by the re-shaping of political structures in the image of international capital. Multi-national investors found it increasingly irksome to have to deal with national governments, each with its own set of requirements, each reflecting the particular interests and priorities of their own voters. They insisted that economies would function more efficiently if those controlling investment capital could deal with authorities, like the European Commission, that matched their own multinational structure and scale – and that were not democratically elected, but were instead multinational bureaucracies whose goals coincided with their own. So powerful was the momentum towards the integration of national economies in the name of greater economic efficiency that no one seemed to notice that the long-term consequence was not only an actual reduction in economic efficiency but also a political loss of a most serious kind – the replacement of democratic governments as the ultimate authority by multinational capital.
The ability of multinational capital to set the political agenda meant that a doctrine that could never have been directly sold to voters in individual countries – the view that markets are infallible, that they must not be regulated or interfered with in any way, that the interests of shareholders and the bottom line are all that matters, and that governments must step aside while market forces have their way – became the dominant driver of the world economy.
The concession that it is the market that is the only legitimate and effective determinant of economic activity, and that government has only a limited role to play in holding the ring, is not a matter whose effect is limited to the management of the economy. The implications go much wider. If the left concedes that, on the central question of economic policy, decisions can safely be left – indeed, must be left – to the market, then what case can be made for saying that the market cannot be trusted in important but less central matters such as the delivery of health, housing or education? If the market is infallible or at least unchallengeable on the most important issues, then the rest of the game has also been conceded.
And if the fundamental question of managing the economy is to be handed over to unelected officials, and thereby removed from the democratic control of voters so that they no longer have the opportunity of expressing a view or choosing an alternative, how could it be argued that it is essential that other, less important, matters should be subjected to democratic control? Are democracy and the responsibilities of government to be limited to the detail and the trivia, while the essential issues are decided by unaccountable experts?
To accept these propositions, even implicitly, is entirely destructive of any political position that treats democratic control and government responsibility as the central features of a proper system of government. It is because the left has indeed accepted those propositions that it has found itself intellectually bankrupt and lacking in confidence. Very few left politicians have analysed their situation in this way, preferring to persuade themselves that they are merely acknowledging the – largely undefined – inevitable (in matters like central bank control of monetary policy) and pretending that this central concession leaves intact their political positions on other issues.
The abdication of the left has been more than just a failure of omission. The democratic state that exercises its traditional concern for all of its citizens, and in particular for those who need its help, has not simply ceased to exist; it has been turned against itself. The revolution that has occurred under the influence of the global economy has not meant that the activist state has disappeared; it has merely changed its role and focus, and operates in a different interest.
Hence, the modern state is increasingly activist in the causes of producing more police and prisons, in treating views at variance with orthodoxy as subversive, in regulating the labour market so as to force people to work for lower wages, in making life difficult for immigrants and other non-conformists, in restructuring the agencies that deliver public services, and in redefining the concept of public service virtually out of existence so as to ensure that private interests can pursue profits across the whole economy. As a consequence of globalisation, the state has been recruited as just one more soldier to the cause. It has become just one more mechanism for ensuring that the prescriptions of global investors are followed faithfully.
This is not just a matter of the freedom to debate and choose different political systems, remedies and approaches. It is also a real loss of freedom to act and to govern one’s own life. The loss of economic power, accompanied by the closing off of the political escape route and safety valve, means a real loss of freedom for the majority of people. The test of a free society is the degree of freedom enjoyed by the least free. Freedom is not an absolute; it is the degree to which one is free to act and choose in relation to the same power exercised by others. If power is concentrated in fewer hands, so that they have comparatively more power of decision and choice, then by definition others are less free. Those societies that are part of the global economy can therefore be said to be less free than when they decided – however imperfectly – their own affairs and futures.
It may be questioned, however, as to how far the problem is unwelcome to those who now control and dominate the political debate. Voter apathy might be seen as encouraging evidence that the real political debate is now over – that we have reached the “end of history” and that, for the first time in the modern era, there is no longer any real challenge to the views and interests of the rich and powerful.
It is no accident that the constant mantra of political leaders like Margaret Thatcher was that ‘there is no alternative’. It is very much in the interests of the purveyors of the new orthodoxy that dissent should not only be discouraged but be convinced that it is pointless and hopeless.
This victory is all the sweeter because it can be represented as the proper and defensible outcome of the democratic process. The voters are apathetic, so it can be argued, because they no longer have anything of substance to concern themselves with or to contest. Apathy is, in fact, contentment and an endorsement of the dominant orthodoxy. All the processes and trappings of democracy are, after all, in place. The opportunities are there for the expression of different or contrary views. If they are not taken up, surely that is evidence that those views no longer have traction?
This is the final irony. When the democratic process has been hollowed out so that there is little of substance left, the mere – perhaps only apparent – existence of that process can be used to silence the critics. A victory won by force or overtly in the face of democratic process would be hard to justify or defend. But a victory that appears to have been secured in accordance with democratic process can not only be justified but celebrated.
So, what is now to be done? As President Obama’s Chief of Staff, Rahm Emanuel remarked, a good crisis should never be wasted. The fact that thirty years of global “free-market” economics have not only culminated in recessionary crisis but have raised a wide range of yet more fundamental questions about governments and markets provides us with an opportunity that must be taken.It is an opportunity that arises in two arenas – the national and international. This is not the place to set out a complete agenda but we can at least sketch out the approaches that will be needed if we are to learn and apply the lessons of the past thirty years. On the national level, it is surely now clear that it is governments, not banks, that underpin our financial systems and our currencies; and if that is so, should we not recognise that banking and the creation of money and credit are public functions for which public accountability should be demanded? And should not the management of the economy be the first function of democratically accountable government and not sub-contracted out to unaccountable bankers and officials?In the light of undeniable statistical evidence of widening inequality and fractured societies, should we not consign to the dustbin of history the discredited “trickle-down” theory of wealth creation, and acknowledge that a fair distribution of wealth will not happen by itself but must be a deliberate matter of government responsibility? And is it not clear that markets are valuable servants but dangerous masters, and that supervision and monitoring in the public interest are needed if goals like full employment, responsive and effective public services, and social cohesion are to be achieved?On the international scale, is it not clear that we need new forms of international cooperation to restrain the irresponsible and excessive flows of “hot” money and the volatility of exchange rates, and to provide better prudential supervision of international lending and greater responsibility of international investors to the communities in which they invest? And should we not apply the lessons of the recession to issues beyond the immediately economic, so that we do not leave to the short-sighted and the self-interested the issues of ecology and the environment that will decide our future as a species? Why should New Zealand not take the lead in promoting this new international agenda?This most recent recession is significantly different from its predecessors, in that we now have a chance to understand better what has caused it. It provides, as a result, a potentially critical turning-point in our relationship with our planet. We can now perceive, albeit imperfectly, where irresponsibility and lack of foresight could lead us. There will be many who will want to ignore the warning signs. It is vital that there are also many who do not.
Bryan Gould
28 August 2009
This article appeared in the August edition of Watchdog, the journal of CAFCA (the Campaign Against the Foreign Control of Aotearoa)
Governments and Markets
As the global recession takes hold, governments around the world have – with varying degrees of reluctance or enthusiasm – found themselves taking centre stage. This is usually seen as a case of dangerous times requiring special measures. Many commentators and practitioners impatiently await the opportunity to return to what they see as business as usual, so that governments can safely be put back in their boxes.
This is, however, to misunderstand what has happened. The current role of government is not an unfortunate aberration. The recession has revealed an abiding truth – that the market can deliver its unmatched benefits only if governments are there when needed to make good its deficiencies and act against its excesses.
The plunge into recession illustrates what happens when market operators become so powerful that governments are unable to restrain market excesses. And the response we now see to recession shows that governments can act to correct market failure in ways that the market, left to itself, cannot. Economies are robust things. They would recover sooner or later without intervention. But – as all but the most purblind now recognise – governments can significantly hasten the recovery process, and thereby limit the misery that recession inevitably brings about.
The reason for this is that only governments can counter the inevitable tendency of recessions to feed on themselves. For most actors in the economy, the demands of self-interest mean that, in a recession, they spend less, invest less, cut costs, employ fewer people. Each individual decision may be rational and justified, but the cumulative effect for the economy as a whole is that recession is intensified.
There are those who say that governments should act as though they were individual people or companies. According to this view, governments in a recession should also cut costs, spend less and lay people off. But if governments behave like everyone else, the economy is condemned to a deeper and harsher recession than needs be. Those holding this view are so blinded by an ideological hostility to the very idea of government as to deny Keynes’ statement of the obvious – that governments have a unique responsibility to act counter-cyclically.
Only governments have the capacity and the duty to defy market logic. Only governments have the resources to over-ride what would normally be market-based self-interest and to substitute for it the wider interest in getting the economy as a whole moving again. Only governments can afford to live with long-term indebtedness if that is what is required in the interests of their shareholders – for which read everyone.
Government intervention, whether to underpin the liquidity of the financial sector or to stimulate demand in the real economy, may well be necessary if recovery is to be hastened, but it is – importantly – more than a singular response to a singular problem. It is a statement of a wider and ever-present relationship between governments and markets. Markets function best – indeed only function properly at all – if government is ready and willing to second-guess market outcomes. What is true of the economy as a whole and of financial markets is equally true of markets in general. If, for example, we are to save the planet, market regulation will be needed in place of the unrestrained exploitation of natural resources.
There are of course those who would at this point throw up their hands in horror. For them, the debate is about absolutes. The alternative to the unfettered market is state socialism. They do not see that to recognise and correct the deficiencies of the market is the best guarantee that a market economy can sustain itself efficiently and beneficially.
The recession has laid bare and illustrated in other words that the readiness of government to intervene is the essential condition on which the market can be made compatible with democracy. The whole point of democracy, after all, is that it ensures that the wider and longer-term interest is brought to bear so that the often harsh and unfair outcomes of unfettered market operations are softened and made more acceptable. That is what governments are for. If the market is infallible and must never be challenged, there is no role for democracy. Governments are then merely bit players and democracy merely a sham – a cosmetic trick to provide the illusion that the rich and powerful can be made to account for themselves.
As Rahm Emanuel remarked, a good crisis should never be wasted. We can profit from this recession if we draw from it the important lesson that the legitimacy conferred by the democratic mandate empowers and requires government to ensure that personal and sectional interests must not prevail over the general interest. There can be no return to the fallacy that the “free” or unfettered market establishes a kind of economic democracy that renders democratic politics irrelevant. The recession and the need for a government response to it may be, one hopes, an exception, but the value of the proposition that democracy rules is a constant.
Bryan Gould
17 April 2009