The long-forgotten supply side needs to be recalled

When I was the Chief Economist of the Australian Chamber of Commerce and Industry, this is what you never saw: Business Calls for Stimulus Spark. In normal English, this says, “Business Calls for More Money from Taxpayers”. There may be no better way to subvert an economy than through public spending. Modern macro is an economic death cult. It’s now more than a decade since the stimulus programs that followed the GFC were introduced, and still our economies remain stalled and stagnant. So let me take you to the words of Australia’s greatest Treasurer:

Mr Costello said fiscal and monetary policy had run out of puff and supply-side reforms such as deregulation were now the key to improving efficiency and ­restoring growth, as retailers pushed for a fresh look at lowering the company tax rate.

Despite the IMF again slashing its growth forecast for Australia from 2.1 per cent to 1.7 per cent — well below the government’s 2.25 per cent forecast — Mr Costello said he did not agree with the school of thought that it was “all doom and gloom out there”.

“We need to turn to another arm of policy which has been long forgotten and that’s the supply side,” he told a Citi investor conference in Sydney.

“After 10 years of deficits and 28 years of continuous growth, we could really get a boost by dealing with some of the imbalances that have built up in the economy.”

While the Morrison government has been under pressure to ditch its commitment to a budget surplus and pump-prime the economy by going into deficit, Mr Costello said he did not believe this held much appeal.

Remember the Costello approach? Cuts to public spending, continuous years of surplus and zero public debt. Worked like a charm. Just let me take you back to my days in ACCI. One of the questions I would ask the entrepreneurs who used to wander through our office is whether they had expansion plans sitting in their drawers that they would put into place if they had the extra revenue. And the universal answer was yes. The American economy has possibly never been as robust as it is today, and all of the efforts have been made on the supply side. That’s where the action is. Public spending as an economic stimulus is a dead end.

The economic resistance speaks out

Peter Costello was Australia’s greatest Treasurer bar none. Today in The Oz there is a front page story that reminds me just how much this is so: RBA cuts won’t help the economy, says Peter Costello, with the subtitle, “Former Treasurer urges Coalition to Resist Infrastructure Splurge”. And it’s not just rate cuts that are useless.

Future Fund chairman Peter ­Costello has brushed off suggestions that further cuts in official interest rates will help the economy, while urging the government to resist calls to ratchet up infrastructure spending, saying it should tackle the “hard” issues of structural reform.

He ran the economy for eleven years, and among the best forecasts I ever made was to say that we will all live through it, see how well a policy of balanced budgets and zero debt actually works, and not learn a thing. Come the GFC, and that fiscal incompetent Kevin Rudd grabbed the stimulus tray with both hands and now, more than a decade later, we cannot get our economy untracked. And it’s not just balancing the budget that matters.

So let me bring you back to the economics of the classics and tell you what needs to be done: (1) leave growth to the private sector and (2) keep interest rates high enough to stop our resources being ploughed into unproductive projects (eg the NBN, desal plants, streetcars down George St, billion dollar train stations at places no one goes to).

The problem remains that Keynesian macro and every introductory text – except mine – pushes stimulus spending and low rates of interest, the perfect recipe for staying in the doldrums for a very long time.

And by structural reform, the proper meaning, which I assume is the same as Peter’s, is to let the economy adjust so that we are producing value-adding goods and services that will actually make a profit in the market. And if we do that, strangely enough, it will also add to the economy’s capacity to provide higher levels of public spending, even though it is a smaller proportion of total output.

Krugman’s Keynesian cluelessness reaches new heights

This is economic cluelessness reaching some kind of peak:

The point is that relatively good private sector performance has been masked by public-sector cutbacks; this is the opposite of what you usually hear, but that’s no surprise.

This is, of course, the point of cutting back on the public sector during bad times, as Obama was forced to do. Krugman is describing the current upturn that has followed the sequester. Making virtue of necessity is the way of the world. But the incapacity of seeing what a dismal detour all of the stimulus spending actually was is the province of Keynesians. Of course, the fall in public sector spending shows up as a fall in GDP. But that’s a fault of the statistic, not of the policy.

Importantly, the reality described is of a rising private sector that is finally being allowed to recover by cutting back on public spending. For a true equation of economic growth, you should try Y=C+I-G, just for a change. It’s still pretty subdued by this is why “austerity” has become the universal policy, irrespective of what our economic textbooks say.