A lack of global co-ordination, moving in the direction of what was regarded as a fringe economic policy only a few months ago, stagflation and a challenging outlook for New Zealand, are all key issues David Skilling sees emerging from the COVID-19 pandemic.
Skilling, director at economic advisory firm Landfall Strategy Group and former chief executive of public policy think tank the New Zealand Institute, now lives in the Netherlands having moved from Singapore late last year.
Speaking to interest.co.nz, Skilling says whilst most governments are responding reasonably well to the economic fallout so far, notably through wage subsidy schemes and getting money into the real economy through small and medium sized businesses, there's a long, hard road ahead and a lack of international coordination is not helping.
"This is not something that is a V-shape, goes down sharply and then bounces back. In some countries there might be an element of this, but I think for the most part this is a very long protracted way back. And so the challenge from a government policy perspective is for governments, like New Zealand and others, that have been very aggressive in the early days in terms of fiscal stimulus, that's kind of manageable if this is a short, sharp scenario and you want to stabilise the ship for a discrete period of time. But if we are talking nine, 12, 18, 24 months before we return to economic normality, with the potential for [COVID-19] flare-ups, that's a much more challenging scenario. Particularly for an economy like New Zealand," says Skilling.
"It's very hard for the government to stimulate an economy that's in cold storage for that length of time. So this is going to be deeply, deeply challenging. Much more so than the Global Financial Crisis."
And a lack of global coordination, potentially including when countries start reopening their borders, won't help.
"Obviously these things, both from a public health perspective and also from an economic perspective, are much better if they are done in a coordinated way."
"The US and China are at loggerheads, the US and Europe are at loggerheads, President Trump has absolutely no interest in doing anything multilateral, and even within Europe they are arguing about how to allocate risks and allocate debt guarantees across the region. So the reality is to an extent it's every country for themselves. And yes there are measures or attempts being made to ensure that supply chains keep moving and medical supplies can move across borders and that's good to see. But I think the reality is that in the current geopolitical environment we're not going to see anything coordinated," Skilling says.
The return of international people movements, such as tourism and migration which have been key drivers of the NZ economy during recent years, is going to be very, very patchwork, Skilling adds.
"Normal has shifted on us. There's no return to the status quo. We're not going back to life in December 2019 where things looked like they were on the up, global trade was increasing, GDP looked like it was on the up. That world is far in the rearview mirror."
He sees trade and investment evolving to more of a regional than global bias, with a small economy like NZ's facing challenges.
"We [NZ] need to think about how we position ourselves to make sure that we are able to compete in this new world. Tourism is not going to be the growth engine that it has been, migration is going to be restrained which is another dimension of globalisation. And migration has again been a very important driver of New Zealand's labour force growth and our GDP growth over the last decade," says Skilling.
"Other things like agriculture demand so far looks like it's holding up, it's not part of complex supply chains. But at the same time we have pressures on the technology front with people moving away from red meat and dairy to other substitutes. So this is challenging. Coronavirus, I think, just amplifies or reinforces those pressures that many New Zealand exporters were already under."
"It is a challenging outlook, I think, for New Zealand," says Skilling.
Meanwhile Skilling says Modern Monetary Theory (MMT) is gaining traction. This is the idea that governments do not need taxes or borrowing for spending since they can print as much of their own currencies as they need as monopoly issuers of the currency.
"I think what we are likely to see, and there was some movement in this direction prior to coronavirus, you're going to see monetary policy and fiscal policy increasingly fused and integrated. Where basically the central bank is printing money, it's buying up government debt, we see that in Europe already, the Fed is obviously moving in that direction also. And so what seemed like fringe economic policy even a year ago - Modern Monetary Theory and the like, and basically saying there are no budget constraints and central banks can just buy up government paper, I think we are de facto moving in that direction anyway," says Skilling.
"We are moving into uncharted territory. Where are the binding budget constraints on governments, how much debt can you issue, can central banks keep on buying this government paper with no adverse consequences in terms of inflation? Obviously the immediate issue is a huge deflationary shock. But can you keep doing this without any of the risks and negative consequences that people are concerned about?"
"Will there be austerity? I think the reality is the productive potential of all economies has reduced significantly and will remain lower than where it was in December for quite some time. So people's incomes are going down, governments even if they put the foot on the accelerator in terms of fiscal stimulus, that's only a partial offset. And I think over the next period of time constraints on their ability to do that will emerge," Skilling says.
"The reality is living standards in an economic perspective have taken a hit. People's incomes are going to be lower, unemployment is going to be double digits, in some cases 20% plus for some time. So household balance sheets are going to be stretched. We are moving into a much tougher financial situation."
Skilling sees a 1970s type scenario, possibly with stagflation.
"One analogy I think about quite a lot is the 1970s where again there were a series of very significant supply and demand side shocks from the oil price shocks, the US moving off the Bretton Woods exchange rate system and all the volatility of moving to floating exchange rates. [There were] very significant macro imbalances, huge deficits in the US, and that ended up shortly thereafter in periods of stagflation [with] very high inflation, high unemployment, [and] pretty ordinary rates of GDP growth."
"And governments, because they had put too much weight on fiscal stimulus, there were supply side constraints everywhere because of import substitution and tariffs and protectionism. [It] ended up being a real mess," he says.
"So I think the challenge for governments is how do you manage through the current situation which is unprecedented, it is global, it is not manmade if you like, it's an exogenous shock. How do you manage through that in a way that doesn't create a mess like it did in the 1970s?"
"And I think the message for New Zealand, when perhaps the 1970s weren't our finest moment in terms of import substitution, losses of taxpayer money on what turned out to be white elephants, I think the issue for New Zealand is let's be thoughtful about the way we marry the short-term imperative about keeping the economy afloat, getting money into people's pockets, in some cases I'm sure basically renationalising things like Air New Zealand. But how do we do that in a way that avoids some of the bad experiences of the 1970s? And with luck begins to think about investing in infrastructure and other things that actually positions us for recapturing some economic value down the track," Skilling says.
"Some time in the next couple of months we have to look at how do we move from a fire fighting, short-term stimulus, and actually think about how do we structure this in an intelligent, thoughtful way that avoids some of these risks and actually positions our economy for strength down the track."
*This is the second interview in a series looking at reactions to and potential policy responses to the coronavirus pandemic and evolving economic downturn. The first interview, with staunch critic of the economic mainstream Steve Keen, is here.