ECONOMIC AFFAIRS by Colin TeeseNews Weekly
Two problems the PM must tackle boldly
, March 28, 2015
Two problems confront the Prime Minister, Tony Abbott.
First, he must find a way to dump much of the damaging ideological baggage he and his party have so far insisted on carrying into government.
Secondly, he must allow the creation of a workable and politically neutral institutional framework in which to identify, prioritise and fund infrastructure projects — that is, if he is to succeed in fulfilling his wish to become known as the “infrastructure Prime Minister”.
The first is by far the more difficult — and it is not confined to Mr Abbott. The same problem will face any Liberal leader with whom the party might choose to replace Mr Abbott. But, if the Prime Minister can successfully deal with the Liberal Party’s ideological baggage, his capacity to manage the second difficulty will automatically improve.
That Mr Abbott is personally unpopular is beyond question. Turning that around will only be possible if he can find a way to advance policies more in tune with majority opinion.
Under any leadership, a Coalition unwilling, or unable, to recast its policy program towards helping middle- and lower-income groups, is doomed.
Recapturing the political philosophy of Robert Menzies, the Liberal Party’s founder and first leader, might be a good place to start.
Menzies holds the record as Australia’s longest-serving prime minister. He first held office during 1939-1941, and again during 1949-1966. It was after his fall from power in 1941 that he set about building a new political party as an alternative to Labor.
On May 22, 1942, he delivered his famous speech, “The Forgotten People”, in which he spoke of Australia’s middle-class citizens as the “backbone of Australia”, who had been “taken for granted” by the political elites.
On August 31, 1945, shortly after the Allied victory over Japan and the end of World War II, Menzies formally launched the Liberal Party of Australia. In 1949, he defeated Labor and formed a coalition government with the Country Party.
Early in his second prime ministership, Menzies often rated poorly in the popularity polls. Nevertheless, he won voters’ respect by recognising the primary purpose of legitimate government in a democracy — the need to ensure that the people are adequately fed, clothed, sheltered, educated and employed. That transcended everything, including economics and ideology.
Menzies, arguably our best Prime Minister, grasped this principle.
In his 17 years in office after the war, he never once delivered a budget surplus. What he did deliver, however, was full-time, adequately-paid employment for all those willing and able to work; affordable housing; readily accessible education; and appropriate transport facilities. He continued the previous Labor government’s Immigration Minister Arthur Calwell’s long-term immigration program. Overall prosperity followed in its wake.
Take note, Messrs Abbott and Hockey!
At the moment, the Coalition, rather than following the Menzies formula, apparently prefers to have the community serve the economy. The Treasurer, Joe Hockey, imprudently, dared tell the electorate at the time of the last budget that “the age of entitlement is over” — quite oblivious to the fact that he personally was a beneficiary of the “age of entitlement” that Menzies created.
Mr Hockey’s economy is one in which people are no longer entitled to live in a society where the government’s primary purpose is to ensure that all are adequately provided with basic entitlements: health, education, food, clothing, shelter and employment.
This Coalition’s ideological baggage, built as it is around questionable economic theory — much of which is supported by Labor — is what must be discarded.
A healthy measure of bipartisanship could well be achieved if both sides of politics decided to follow this path. Indeed, the entire political class might reflect on the proposition that some bipartisanship is essential if governments are to deliver the basic entitlements that the community has a right to expect.
A good place to start may be our so-called “budget constraints”. Governments might prefer to believe otherwise, but the budget should be neither an end in itself, or even a means to an end. It should not be framed with the express purpose of achieving surplus — or deficit — or balance. Its less ambitious purpose should be to construct, on an annual basis, the best possible estimate of what the government expects to outlay in order to deliver the services needed for the welfare of its citizens.
Governments (such as those of Australia and the United States, though not of the member-countries of the eurozone), as the sole creators of their countries’ respective currencies, can do this. They don’t face the same constraints as households. Government do not have to save in order to spend.
They issue the currency for their citizens to spend. They should generate enough to ensure that the total purchasing power (aggregate demand) is sufficient to pay for all the goods and services the economy is capable of producing.
This fundamental truth should not create a political divide. It has been confirmed in speeches by no less an authority than Alan Greenspan when he was Chairman of the U.S. Federal Reserve Bank. Ben Bernanke, his successor, has endorsed this view.
Governments can always cover their financial obligations with the currency they create. They are not budget-constrained: they can, do, and should, through their central banks, routinely create money for the smooth-functioning of the economy.
This should not be seen as licence for reckless government spending without regard for circumstances. The government should not, for example, allow total spending in the economy to grow faster than the volume of goods and services. This leads to too much money chasing too few goods — in other words, inflation.
The risk of inflation, then, rather than the prospect of a government budget deficit, should be the constraining influence on government spending.
Central banks know this, but normally choose not to discuss it publicly — except, that is, at the beginning of 2014, when the venerable Bank of England broke ranks. In its first Quarterly Review for that year, the bank described how money is created by banks — in direct contradiction to what economic students have long been taught in universities across the Western world.
Central banks do not, as textbooks have asserted, lend depositors’ money to borrowers. The volume of investment therefore can, and usually does, exceed the volume of savings in a growing economy.
The Bank of England went on to explain that, in the real world, commercial banks create money electronically whenever they lend to a borrower they judge to be creditworthy.
The money loan is then transferred electronically into the borrower’s account, where it can be drawn upon for, say, the building of a new house.
Private banks settle overnight their financial obligations to each other, arising from the creation of loan facilities, by drawing down on reserves they maintain at the central bank, be it the Reserve Bank of Australia, the U.S. Federal Reserve or the Bank of England. If necessary, the central bank can advance overdraft facilities for each bank from funds the central bank has created.
As a last resort, commercial bank lending can by underwritten completely by the central bank by virtue of its ability to create money on behalf of the government.
It will be immediately obvious that private business could not function smoothly in the absence of these facilities.
Yet, the economics profession continues to maintain that banks are merely financial intermediaries, lending to borrowers based on the amount of savings held by the bank.
Okay, let economists persist, if they must, in their make-believe world. However, let governments, including Australia’s, make policy on the basis of what really happens.
The government should ensure, as far as possible, that total spending in the economy (that is, consumption spending, investment and government outlays) should grow at a steady predetermined rate to ensure that the productive potential of the economy is fully utilised. And the curious thing is that a healthy, growing economy, generating livelihoods for all who are willing and able to work, will quite likely generate tax revenues closely matching what governments need to spend annually.
Today, joblessness is soaring with the end of the mining boom and with so many other industries contracting or shutting down.
Major infrastructure investment is likely to be the primary means of generating economic growth and employment for many years to come.
Mr Abbott wants to be known as the “infrastructure prime minister”. Therefore, he should be building budget policy on the basis of what the Bank of England has revealed. That would allow him to find the money needed to fund the infrastructure we so badly need, and which has indeed been acknowledged by the prime minister. No costly public-private partnerships (PPPs) — just government funding.
In these circumstances, finding the money is the easy part. Working out an order of priorities for spending it is more difficult. Quite obviously, all projects, even if of equal merit, cannot and should not be implemented simultaneously. The output capacity of the economy and its labour force would be a fundamental constraining influence.
Priorities as to the order of projects need to be established to avoid overheating the economy.
It is here that Mr Abbott will need to be at his most disciplined. Focussing on vote-winning projects, tempting though this doubtless is, would be disastrous.
He can only truly be the “infrastructure prime minister” if he is bold enough to quarantine the determination of priorities from political interference.
This would be no easy task — and it would certainly be made easier with a measure of national political bipartisanship.
It would require the services of a wide-ranging group of experts to draw up a list of infrastructure projects and assign an order of priority based entirely on national interest considerations, independent of political and ideological input.
Ideally, the prime minister, in cooperation with the leader of the opposition, should choose the group so that it is truly representative. It could not, for example, be confined to business leaders, but should include community figures from education, social welfare and, yes, trade unions, in order to be properly representative.
It would also need the help of a fully independent secretariat.
Such a group should be answerable, not to the government, but to the Commonwealth parliament.
If possible, though, parliament should vote on this initiative, but not on party lines. Possibly, the adoption of a set of priorities could be considered endorsed if a majority of each of the two major parties supported it.
Of course, the government in office could not be compelled to follow any such parliamentary endorsement; but presumably it would need to advance strong non-political reasons for proceeding against such advice.
It will immediately be said that such a strategy is unrealistic. Party politics must and should play its part.
If, however, such a scheme is doomed from the start to be politicised, then we will have to resign ourselves to the consequences of such a failure, namely, that politically-influenced decisions on priorities for infrastructure projects will most likely fall short of what would best serve the national interest and will thus betray the next generation of young Australians.
Colin Teese is a former deputy secretary of the Department of Trade.