This is a re-post of an article originally published on pundit.co.nz. It is here with permission.
What is happening in the world economy?
Think of an economy like a wobbly bicycle. Providing it is going forward, it travels reasonably well. Sometimes it stops, at which point it may fall over and the rider may be injured.
Toward the end of last year (2019) there was a view that the world economy was slowing down. It was not clear why.
I had the uneasy feeling that it was that its recent prosperity had been driven by an unstable speculative boom and that assets values – say, share market prices – were badly out of line with reality – unsustainable.
Underneath this was a major unresolved issue. Whether the world economy could continue to grow as it had in the past, or whether the rich countries, in particular, were going into a much slower phase of growth – sometimes called ‘secular stagnation’. If true, the reasons were uncertain. The signal was that the low real interest rates indicated that businesses did not see a lot of opportunities for investment. The effect would be a financial boom as speculators borrowed at low interest rates to feed the boom which would be unsustainable. Perhaps the boom was coming to an end late last year.
This has not got nothing to do with the Covid-19 pandemic?
Some were already forming the view of difficulties for the world economy before the pandemic became evident. They may have been expecting a repeat of the Global Financial Crisis, that it a financial collapse which would feed into the production side of the world economy. It was too early then to assess what would be the outcome in the longer term.
Suddenly, there was the Covid-19 pandemic. It was a bit like a bazooka firing at an already tottering bicycle. So, it wasn’t going to be a rerun of the GFC – the damage was going to be much greater.
Why? Aren’t all economic collapses much the same?
No, the GFC did not harm the productive side of the world economy much. It compromised its payment’s system and so the bike slowed down and stagnated. The Covid-19 bazooka has actually wrecked some parts of the world economy. In economists’ jargon there has been both a ‘demand-side shock’ and a ‘supply-side shock’. What exactly that means need not detain us; what is important here is that this is a far more complicated downturn than the GFC or just about any earlier one.
Some of the damage may be recoverable in the shortish run. Supply chains have been broken. I was surprised how widespread the disruption has been. Many medicines start off in China – ironically often Wuhan – and there has been worries about supply shortages there. But supply chains should recover reasonably quickly.
However, some entire sectors will take a lot more time. International tourism, for instance, is not going to recover as long as there are severe border controls and suspicions that travellers may be carrying Covid-19. The cruise industry may take years. Another affected industry, important to New Zealand, is the selling of educational services to international students.
But it looks as though the New Zealand’s epidemic will soon be over. We are out of Alert4; perhaps we will be in Alert2 by late May– that is, when the disease is contained, but the risk of community transmission remains. Won’t we back to almost normal by then?
Not really. Just to remind you what Alert 2 is.
- physical distancing of 1 metre
- gatherings of more than 100 people indoors and 500 outdoors prohibited
- sport and recreation activities allowed
- public venues open
- health services operate as normally as possible.
- most businesses open but alternative ways of working encouraged
- schools and early childhood education centres open
- non-essential interregional travel discouraged.
Alert2 sounds pretty good compared to the last month.
You would have been upset to be as restricted as that last year.
The biggest ongoing restrictions will be on people crossing borders. The government is talking about the rules applying for one year with some exceptions; we may do an early deal with Australia. I expect the border restrictions to last longer – until there is widespread use of effective vaccines. That may be two years off. And then there will be additional inconvenience going through a border – checking for biological security just as we already check for security against terrorism.
Even after two years there are likely to be countries still struggling with widespread, and probably devastating, epidemics. Africa and India are usually mentioned. As long as some countries are struggling, the international mobility of people everywhere will be restricted.
That means some industries will be not functioning very well: international tourism, education for international students, entertainment based on overseas visitors – Elton John can’t come back, no international sports tournaments, no live overseas visitors at book festivals (even if they can be held), Even domestic tourism will be discouraged under Alert2.
That’s a pretty small part of the economy isn’t it?
Yes and no.
Together, international tourism and educational services generate about a sixth of our export revenue. In 1966 the price of wool collapsed, also taking with it about a sixth of our foreign exchange earnings. It took over a decade to adjust and when we got back to ‘normal’, the long-run track of the economy was about 15 percent lower than the previous one.
Will it happen this time?
We can’t be sure. Fifty years ago, sheep farms had to adapt. Today the tourist and educational industries will have to. It is already evident with Air New Zealand cutting back its operations and decommissioning chunks of its fleet. How do you decommission a hotel when the tourists don’t come, especially if it is in an attractive scenic location, miles from anywhere, of interest really only to tourists and conservationists?
So, the economy is likely to undergo a profound structural change. Whether it lasts just two years or longer nobody can be sure, but businesses from big ones like Air New Zealand to small ones like motels and cafes dependent upon tourists are going to have to make guesses.
Does that mean unemployment?
Unemployment is rising. There are claims it will rise to unprecedented levels. Some argue it will rise to the levels of the Great Depression, although historians are not sure how high that was. The experience may be more like the early 1990s, when the unemployment rate rose to just above 11 percent, but as much as half of the labour force lost their jobs and had to find new ones (often at inferior terms of reward). What the unemployment rate did not capture was that workers lost their jobs, flowed into the pool of unemployed and after, say, six months, found another job.
Is that why the government intervening in the economy so heavily at the moment?
The immediate issue is that, for a month and more, large chunks of the economy have closed down. That means some people haven’t got jobs although they still need to consume, while businesses have had to pay expenses – such as rents and debt servicing. The immediate task for the government has been trying to support them.
It has been spending an awful lot of money to do this, hasn’t it? Where is the money coming from?
Basically, it is borrowing. Even when the government pays with a banknote it is borrowing from the holder of the banknote. We don’t know how much it is borrowing; it may not know very well itself. The budget promised for the end of May may tell us something.
Are you talking about ‘helicopter money’?
‘Helicopter money’ came from a thought experiment in which helicopters dropped banknotes for people to gather up. Today the notion is used more loosely to mean handing out cash to people to spend without imposing any obligation on them to repay But it is still the government borrowing from the public. The recent boosts in the benefit levels are a kind of helicopter money and so are the government’s wage subsidies.
The government has being doing other things and the Reserve Bank has been active too, including buying government and corporate debt. The interesting thing is there is not that much disagreement that the government – all governments – should be running deficits – incurring more debt – to deal with the crisis. Basically, it is like fighting a war. You put all the effort into the immediate challenge, and while you keep an eye on the future, the focus is the immediate crisis.
Where there is much public debate is how best to inject the government spending and how to fund it. It must be very confusing for outsiders; some of the public commentators seem confused too.
But the basic Keynesian message – ensure there is enough money in the economy to enable it to do what you want it to do – seems widely accepted. This is quite different from the Austerian approach after the Global Financial Crisis which focused on reducing government debt and expected the economy to look after itself. It didn’t. We learned from that failure. Various forms of Keynesianism seem to be the approach being used almost universally today.
Won’t that lead to difficulties later?
Absolutely. The expectation is that government debt throughout the world is going to rise to levels comparable to that immediately after the Second World War. How to unwind that debt is going to be a challenge; it is one of the issues of the debate of the form on the government monetary injection. Some government debt will be easier to unwind than others.
The high debt was unwound after the Second World War.
Yep, partly by inflation and financial repression. We would like to avoid inflation this time. I am not sure we will be able to avoid it.
You seem to keep coming back to history?
The future is so uncertain that we need to draw on all the useful information that we can. Keynes, referring to the ability to think about the future and adapt, said ‘I do not know which makes a man more conservative - to know nothing but the present, or nothing but the past.’
I am privileged compared to many, in that not only do I struggle with contemporary issues, but I also have a great interest in history. Have even written a book about it.
Tell us about it.
Not in Narrow Seas: The Economic History of Aotearoa New Zealand is to be released next month. It covers our history from Gondwanaland to the Ardern-Peters Government and climate change.
The history of its publication illustrates recent events. It almost didn’t get printed because overseas printers were locked-down because of the Covid-19 crisis. Then the books got stuck in a warehouse because they were not considered essential under Alert4, and they won’t be available through your local bookshops because they are still closed under Alert3. Nor will you be able to borrow the book from your public library because they are also closed. There will be no launch because large gatherings are not permitted and the book festivals, at which I had been invited to speak, have been cancelled because of the gathering restriction and limitations on interregional travel.
Yet you will be still able to get it. Your local bookshop is couriering ordered copies and you can get the e-book on line. One of the positive things of the Covid Crisis is how we have learned to use online services more effectively. Thankyou for the decision 15 years ago to initiate the broadband rollout.
That ability to adapt to new circumstances, to new challenges, to new opportunities has always happened as my book, Not in Narrow Seas, beautifully illustrates.
Brian Easton, an independent scholar, is an economist, social statistician, public policy analyst and historian. He was the Listener economic columnist from 1978 to 2014. Some of these issues were covered in Nights with Bryan Crump (28 April 2020). This is a re-post of an article originally published on pundit.co.nz. It is here with permission.