Many media pretend that the current economic crisis is something falling out of the sky or is inherent to the capitalist system that we have embraced too closely in recent years. It is true that there have always been cyclical movements in market economies. Periods of prosperity alternated with economic downturns, which were necessary for making much needed adjustments. The better this adjustment mechanism can do its work, the sooner the markets tend to go back to equilibrium and the sooner the growth path can be resumed. Business cycles are often the result of (mistimed) government interventions. And that certainly applies to prolonging periods of negative or low growth, as is the case now.
In recent decades, we have seen the intellectual bankruptcy of Marxism and the idea that society can be steered by the government. Unfortunately, that last thought is not yet buried and many policy makers are indulging the idea instinctively. Despite the bad experiences with public assistance in the past, many policy makers have repeated the mistakes of the past during this crisis. Firstly, government spending has increased massively. This has contributed to creating large deficits. In addition, we have hardly benefited from this additional expenditure, which is used largely for consumption or for keeping failing banks afloat. Now we see for some time that especially the Fed, and the ECB to a lesser extent, is trying to steer the economy through (substantial) changes in monetary policy. All these policy interventions are doomed to failure. In fact, the chances are that it only makes things worse.
In the vast majority of markets, government intervention is outdated and is not tolerated. The money market is one of the last markets where government intervention is still the case and is even asked for. This is often with a reverence to the trust function money has in society. Something as important as money can not be left to the responsibility of private parties. Proponents of government intervention make clever use of monetarist principles, which go back to the intellectual ideas of Milton Friedman. It is generally recognized that expanding the money supply in time will lead to more inflation. Monetarists, however, indicate that in the short term, many prices are fixed and monetary policy has, sometimes powerful, real effects. Most monetarists, however, recommend not using monetary policy to influence the business cycle, since it is impossible for the government to determine the necessary dose at the right time. It is here that the opinions expressed by the Fed and the ECB differ from mainstream monetarists. Central bankers see themselves under pressure from politicians faced with the task of returning the economy back to growth. They know that monetary policy is a very powerful instrument. Given the present state of public finances, it is currently the only instrument available.
How bad is the memories of policymakers. Too loose monetary policy is one of the causes of this crisis. The abundant availability of money has contributed to the fact that many investments were made which had no economic value and could be best described as speculation. The money has found its way into equities and real estate markets, where, based on misplaced expectations, huge bubbles were created. Investors were collecting large bonuses, telling everyone how smart they were. When this house of cards collapsed, the bill was taken to the tax payer.
Now through monetary expansion (quantitative easing) authorities try to reanimate the collapsed economy. Most spectacular example of this is the announcement by the Fed of a monetary extension of 600 billion U.S. dollars (which in value terms amounts to the size of the Dutch economy). This ignores that money must be earned in the real economy, the production of goods and services (including financial services). The laws of supply and demand also apply here. In other words, the price of money should be determined by supply and demand. In the present conditions this seems almost a revolutionary insight, but it has been promoted decades ago by the Austrian school of economic thought and by Murray Rothbard especially (see www.rothbard.be).
In our societies it is the government that has monopolized the issue of money. Like any monopoly, this sooner or later leads to abuse and that's also the case here. The abuse by the government is reflected in the occurrence of inflation. The oversupply of money relative to what the economy needs based on the production of goods and services, leads to price increases. In the short run not everyone is able to adjust prices, which causes that some benefit from a monetary easing and others are hurt. Those who can not adjust, e.g. because of long-term contractual obligations, pay the price. When imbalances become too large, they must be disposed of, e.g. through additional savings to compensate for capital losses. This leads to a period of low growth. The greater the mess, the longer the period of low growth will be.
This adjustment process is currently being delayed by government intervention. The desire to steer the economy not only results in the wish to manipulate monetary policy to get out of the crisis. Certain countries have themselves and others fooled by manipulating their financial situation and masking underlying weaknesses. In good times they have not adjusted their economies so that bubbles could arise and rigidities (e.g. in the labour market) remained. The bursting of these bubbles, inadequate supervision and existing rigidities prevent the much needed changes to occur. Or these are achieved too slowly. Within the euro area, by choosing the soft approach many failing countries are allowed an appeal to an economic safety net. Necessary adjustment processes are delayed and more countries have become increasingly dependent on help. There is thus a vicious circle in which the countries that have their affairs in order, are again and again called to help out their weak brethren. Once they have provided help, there's no turning back. Their economies are increasingly intertwined, so that citizens in countries that do have adapted have to share the burden with those in countries who refused to do so. Also, supranational bodies such as the European Commission and the ECB will put themselves forward as saviours. Referring to the need for ‘coordination’, these organisations will stress the need to centralize tasks and responsibilities. For those who need to be rescued, this provides additional opportunities to forestall necessary adjustments and to shift burdens to others.
What lessons can we draw from the above? At least three:
1. A clear lesson from this crisis should be that there is a need for a central bank with only one clear objective and that is price stability. From the Keynesian economist Jan Tinbergen, we already know that one instrument can only serve one goal. Cyclical stabilization should therefore not be the responsibility of a central bank and therefore of monetary policy.
2. A currency area must not have a safety net mechanism. Coordination of policies and rescuing mechanisms are not needed if every country pursues sound economic and financial policies, for example by complying with the EMU criteria. The call for more coordination masks an unwillingness to implement structural reforms and to bring its own house in order. Anyone who strives for balance in public finances and the current account balance (e.g. through a responsible wage policy) does not have to come along in a process of increasing policy coordination. The mere existence of a safety net will increase the problem of moral hazard within a monetary union, as policy makers get more careless and give priority to national economic goals.
3. The burden of adjustment must rest on the countries where imbalances have grown out of control, preferably in economic upturns. If that fails, they will have to leave the common currency area. This principle also applies on a global scale. Germany and China do not have to adjust their economies, so the U.S. can come along. They should do what is best for their countries in the long term, by spurring high growth. Chelsea and Manchester United will also not sell for a bargain price their best players to help underperforming clubs to compete nor will they occasionally shoot in their own goal for the league to remain interesting. China is a somewhat special case here. It does not have a freely convertible currency. It should have, but can not convert to a freely floating currency at this moment. China has invested its reserves in dollars and in the light of current circumstances, this is a very unwise choice. Printing US dollars on a large scale, as is happening now, will deteriorate its value and thereby the huge investments in dollars as well. Hence the Chinese resistance against an overly strong revaluation of its currency. The idea of returning to a kind of gold standard, as expressed recently by Robert Zoellick of the World Bank, is therefore not that bad, although it seems practically impossible to realise now. A classical gold standard will make that adjustments occur more or less automatically and not after imbalances are too far out of control and adjustments are associated with a loss of face. There is more need for such a mechanism than for more coordination on a global or EU level.
Geen opmerkingen:
Een reactie posten