Should the GFC be viewed as a 'balance sheet' recession of the kind Irving Fisher wrote about in the 1930s?

I have been feeling a strong urge to write about the economic policies of the former government of our resurrected prime minister, Kevin Rudd. Whenever I begin to write on this topic, however, what comes to mind is my grandmother’s advice that if you haven’t got anything nice to say, perhaps you shouldn’t say anything. It might be churlish of me to attempt to remind people that Kevin – whom so many people seem to revere as much now as in 2007 – has a record of achievement that is somewhat less than perfect.

Fortunately, not everyone has such qualms and some excellent articles about the economic policies of the Rudd government have appeared in the media over the last week or so. The best newspaper article I have read so far is one by Henry Ergas, entitled ‘Rudd’s Real Record’, published in The Australian last Saturday (July 13, 2013). Ergas reminds us, among other things, that in 2009 Rudd mounted a massive scare campaign about the severity of the GFC in an attempt to justify a splurge of poor quality government spending.

I recall how Janet Albrechtsen suggested in The Australian at the time that the GFC provided Rudd and his treasurer, Wayne Swan, with an opportunity that they were only too eager to grasp:

‘The Rudd Government finds itself at a very fortunate juncture. As Rudd’s treatise in the present edition of The Monthly reveals, he can blame capitalism for the coming government extravagance funded by taxpayers. Prepare for Rudd’s hubris-filled pitch on how he “saved” capitalism and why you had to pay for it.’

Whether we are prepared or not, we are now hearing Rudd’s hubris-filled pitch:

‘As you know, here in Australia, we deployed a national economic stimulus strategy, timely targeted and temporary, which helped keep Australia out of recession, kept the economy growing, and kept unemployment with a five in front of it – one of the lowest levels in the world.’

The hollowness of the claim by Rudd and Swan that the fiscal stimulus pulled Australia though the GFC has been demonstrated many times. For example, in an article entitled ‘Wayne Swan’s legacy of unrivalled incompetence’ in yesterday’s Financial Review (July 16, 2013), John Stone, former secretary to the Treasury, points out that the hubris of Rudd and Swan overlooks the strength of Australia’s fiscal position prior to the GFC, the role played by monetary policy, the underlying strength of Australia’s banks and the growth in China’s demand for our minerals.

John Stone’s article also raised the question I am intending to address here about balance sheet recessions. Stone suggests that the Australian Treasury had erred in seeing 2008-09 as another cyclical recession like that of 1991-92, rather than as a ‘balance sheet recession’ of the kind that Irving Fisher wrote about in an Econometrica article in 1933.

In my efforts to overcome my ignorance about the characteristics of a balance sheet recession I have managed to find an ungated copy of Irving Fisher’s article. Fisher suggested that in ‘great booms and depressions’ … ‘the big bad actors are debt disturbances and price level disturbances’, with other factors playing a subordinate role.

   

Fisher argued that it is the combination of over-indebtedness and price deflation that causes the depression:

‘When over-indebtedness stands alone, that is, does not lead to a fall of prices, in other words, when its tendency to do so is counteracted by inflationary forces (whether by accident or design), the resulting "cycle" will be far milder and far more regular.

Likewise, when a deflation occurs from other than debt causes and without any great volume of debt, the resulting evils are much less. It is the combination of both—the debt disease coming first, then precipitating the dollar disease—which works the greatest havoc.’

Fisher suggested:

 ‘it is always economically possible to stop or prevent such a depression simply by reflating the price level up to the average level at which outstanding debts were contracted by existing debtors and assumed by existing creditors, and then maintaining that level unchanged’.

That seems to me to be similar to the rationale for the quantitative easing policies adopted by central banks in recent years, following the failure of fiscal stimulus efforts. Lars Christensen, a market monetarist, has written more extensively about this similarity on his blog.

John Greenwood’s analysis, conducted in the spirit of Irving Fisher, suggests that some balance sheet repair has occurred in recent years in the countries most affected by the GFC, with greater progress having been made in the US than in the UK and least progress having occurred in the eurozone. 

Postscript:

An article by Max Walsh in today’s Financial Review (July 18, 2013), entitled ‘Rudd’s demands could exceed all expectations’, is another excellent article about the implications of the economic policies of the first Rudd government. Walsh refers to Rudd’s essay in The Monthly (February 2009) in which he sought to differentiate the economic ideology of the two major political parties in Australia. As might be expected, Rudd sought to portray his political opponents as extreme proponents of free market ideology, but he also portrayed the Labor party as being wedded to interventionism.

Kevin Rudd wrote: ‘Labor, in the international tradition of social democracy, consistently argues for a central role for government in the regulation of markets and the provision of public goods’. Max Walsh comments: ‘That’s a view that looks to be at odds with the deregulation and privatisation initiatives of the Hawke-Keating years’.

Viewed in that context, it seems to me that the most likely outcome of Kevin Rudd’s recent promise to pursue microeconomic reform ‘with new urgency’ will be further restriction of economic freedom and lower productivity growth. 

Do 19th Century principles of political economy explain British policies towards the Irish during the great famine?

This question has arisen from my reading of ‘The Great Famine’, by Ciarán Ó Murchadha. But I have an interest in the question for two additional reasons: I have some Irish ancestors who would have been affected by the great famine; and in the course of my work as an economist I have developed a great deal of respect for 19^th Century political economics.

I found Ó Muchadha’s book to be enlightening in explaining why a substantial proportion of the Irish population were heavily dependent on potatoes and highly vulnerable when crops were destroyed by a fungal disease in most of the years from 1845 to 1849. Prior to the famine, about one-third of the population was completely dependent on potatoes because no other crop could provide as much nutritional value from small plots of land. Over 600,000 households subsisted without tenure rights on small plots of land under the conacre system, which gave them access to land in exchange for their labour. A further 300, 000 cottier households had a more formal tenancy relationship which entailed working for set wages, which were offset against the rent for their plots. Many tenants on small holdings paid their rents in cash rather than by providing labour, but were also completely dependent on potatoes for subsistence. 

In the decades leading up to 1845, access to land for potato-growing was becoming more difficult, partly because of an increasing tendency for landowners to consolidate holdings for grazing purposes. In their struggle to obtain access to land it had apparently become common for poor people to offer more rent than they could possibly pay, in the hope that once possession was obtained it would be less bothersome for landlords to reduce rents than to initiate eviction proceedings. The transactions costs associated with evictions were often substantial. Tenants had a set of ‘tradition-sanctioned’ modes of proceeding under cover of darkness against people whom they believed to be perpetrators of injustice. 

Such secret society activity did not persist after 1847, however.  By that time, those who would have been likely to exact retribution for evictions were apparently ‘for the most part dead, in the workhouses, in prison or had departed overseas as emigrants or as transported felons’. The famine added impetus to the number of evictions, not just because many tenants were unable to pay rent, but also because landlords anticipated that their rates would rise dramatically to pay for relief under the Poor Law. Evictions would have substantially increased the death toll from the famine, but from a landlord’s perspective, consolidation of holdings was necessary in order to avoid bankruptcy.

The relief provided by voluntary contributions and the British government was not sufficient to prevent over a million deaths occurring during the famine period. The British Treasury spent about £8 million on famine relief in Ireland, much of which consisted of advances that were intended to be repaid. The government’s contribution was relatively small by comparison, for example, with the £69 million spent on the Crimean War of 1854-1856. The government could have done more to help the Irish without causing much hardship within Britain.

So, why didn’t the British government provide more help to the victims of the Irish famine? The explanation offered by the author is as follows:

‘Political economy … combined with ‘providentialist’ and ‘moralist’ views, provided the assumptions underlying the decision-making of the small London-based political elite whose views translated into legislation for Ireland, and none of whom ever witnessed its effects first hand’ (page 194).

However, that doesn’t line up well with what I know about the views of prominent 19^th Century political economists. For example, in discussing the limits of laissez faire in his book ‘Principles of Political Economy’, published in 1948, J S Mill wrote:

‘Apart from any metaphysical considerations respecting the foundation of morals or of the social union, it will be admitted to be right that human beings should help one another; and the more so, in proportion to the urgency of the need: and none needs help so urgently as one who is starving. The claim to help, therefore, created by destitution, is one of the strongest which can exist; and there is prima facie the amplest reason for making the relief of so extreme an exigency as certain to those who require it, as by any arrangements of society it can be made.’

Ciarán Ó Murchadha implies that his view is based on research by Peter Gray, which demonstrates

 ‘that the ideological framework was part of a wider set of beliefs shared across the British political spectrum, including the conviction that the Famine had been sent by providence, and that it furnished the British state with both the opportunity and the moral authority to reform Ireland thoroughly’.

A paper by Peter Gray has explained British policies towards the Irish in terms of

‘a readiness to attribute mass famine mortality in Ireland to the wilful immorality of the Irish, and to insist on the implementation of the penal mechanism of the poor law on all social classes’.

Immediately afterwards, Gray adds:

‘This, rather than any unthinking adherence to “laissez faire” is what informed the doctrine of “natural causes” in the latter stages of the Irish famine’ (IEHC 2006 Helsinki Session 123).

It seems to me that British views relating to providence and morality might have been advanced by English people to avoid acknowledging that they did not feel much sympathy for starving people in Ireland. In his book, ‘Why Ireland Starved’ (1983) Joel Mokyr suggests:

‘It is not unreasonable to surmise that had anything like the famine occurred in England or Wales, the British government would have overcome its theoretical scruples and would have come to the rescue of the starving at a much larger scale. Ireland was not considered part of the British community. Had it been, its income per capita may not have been much higher, perhaps, but mass starvation due to a subsistence crisis would have been averted …’ (p 292).

Even though Britain and Ireland were part of a political union, there are strong historical reasons why many British and Irish people did not see each other as members of the same community. There is evidence that British political economists, including J S Mill, shared the prejudices against the Irish of many other British people. But the principles of political economy espoused by 19^th Century political economists did not require the British government to allow large numbers of people to die during the Irish famine. 

Do Australians elect the prime minister?

In a recent post entitled ‘The importance of representative democracy’, my friend, Jim Belshaw, takes the Leader of the Opposition, Tony Abbott, to task for saying that the Australian people elect the Prime Minister.

Jim writes:

‘They don't, nor should they if you want to maintain our current system of Government’. Maybe you don't so, so present your alternative.

In our system, Parliament is the supreme being. Parliament appoints the Prime Minister by awarding confidence. It is Parliament that stands between us and the overbearing coercive power of Executive Government.’

It seems to me that while Jim is technically correct, it has been unusual for party leaders to be deposed while their party is in government. That has led to a situation where most people have tended to vote for party leaders and perceptions of leadership have a massive influence on the popularity of political parties. The recent lift in the Labor party’s electoral prospects did not occur because of some radical change in the party’s policies. It occurred because caucus elected a new leader.

As previously noted, I am pleased that the Labor caucus has restored Kevin Rudd to the leadership and have given voters the opportunity to vote against him. It does seem reasonable for voters to expect that the leader of the party they vote into office will remain prime minister until they vote him or her out of office. On the basis of Labor’s recent track record, however, it also seems reasonable for voters to question how long Kevin Rudd will remain prime minister if Labor is returned to government. Will Kevin Rudd again be replaced by his deputy next time around? Could a vote for Kevin end up as a vote for Albo?

Unfortunately for the line of argument Tony Abbott seems to be running, the Liberal party also has recent form (in Victoria) in deposing an elected leader while it is in government. And it is possible to imagine circumstances arising where a vote for Tony might end up as a vote for Malcolm. Some voters might view that as a good reason to vote Liberal!

What effect will it have on our system of government if it becomes become more common for prime ministers to be deposed by their own parties? I’m not sure. If it makes voters focus to a greater extent on policies rather than the personalities of leaders that would be a good thing. However, I don’t think that will happen. It seems more likely to attract attention to the personalities of the leader’s rivals in his or her party and could lead to greater political instability as those rivals seek to exploit their popularity with voters. But it may also cause voters to pay more attention to the ability of current leaders to work harmoniously with their rivals. People may become more conscious that when they vote for clowns they end up with a circus.

I am broadly in agreement with Jim about the importance of parliament and representative democracy. I don’t want to change the system. In practice, however, I don’t think parliament does much to protect us from what Jim describes as ‘the overbearing coercive power of Executive Government’. Thank God that we also have a constitution, rule of law, regular elections, two houses of parliament, and a federal system of government.

Another important merit of our representative system of democracy, with single member electorates, is that it normally produces accountable government. One party or stable coalition normally wins a majority of seats and is able to form a government that usually lasts until the next election is held. The elected government doesn’t have unlimited power to implement the policies it is elected to pursue, but it can be held accountable for the policies that it implements.

By contrast, when overall budgetary and regulatory outcomes are the result of unstable alliances involving minor parties and independents, voters have great difficulty in holding any party accountable. 

What is so good about 'Send Round the Hat?'

‘Now this is the creed from the Book of the Bush--

Should be simple and plain to a dunce:

"If a man's in a hole you must pass round the hat--

Were he jail-bird or gentleman once."

Henry Lawson, a renowned Australian bush poet and story teller, used that verse to begin his story, ‘Send Round the Hat’. The story is based on his experience in the Bourke district of New South Wales in the early 1890s and would have been intended to be read mainly by Australian pastoral workers.

I came to re-read the story a month or so ago when I was asked to recommend some historical references for an Argentinian visitor who was interested in the cultural tradition in rural Australia of people sticking together and supporting each other in this vast harsh land. I suggested that ‘Send Round the Hat’ was excellent.   The comment that came back was: ‘Not necessarily that easy for an Argentinean to understand!’

That response is fair enough. There are probably a lot of Australians who would also struggle to understand English as it was spoken in rural Australia in the 1890s.

 Some people might even struggle to understand the message of the poem quoted above. A person who is ‘in a hole’ is in a difficult situation, often involving a financial problem. To ‘pass round the hat’ is to ask people to donate money to help the person concerned – traditionally, by asking them to place a contribution into a hat. The message is to be kind to people who are in difficulty, irrespective of their background.

The storyline is very simple. The author presents a series of anecdotes to explain how Bob Brothers (more commonly known as the Giraffe or Long-‘un because he was tall) has gained a reputation for passing around the hat to help others. He tells us that Bob is always the first to make a contribution when he passes around the hat and that he sometimes has to borrow money in order to do this. The story ends with Bob’s friends stealing his hat and passing it around to raise money to help him on his way back to Bendigo in Victoria to marry the girl he loves.

The story is brought to life by Lawson’s description of the characters involved and their attitudes. Most regard Bob Brothers as a nuisance, or pretend to. One of the characters, Jack Mitchell, is even permitted to suggest that Bob is ‘is one of those chaps that is always shoving their noses into other people’s troubles’ because of ‘vulgar curiosity and selfishness’. According to Jack’s theory, Bob makes his collections because he is ambitious and likes public life.

Fairly early in the story, Lawson has Bob explain his philosophy as follows:

"The feller as knows can battle around for himself," he'd say. "But I always like to do what I can for a hard-up stranger cove. I was a green-hand jackeroo once meself, and I know what it is."

Bob was saying that he does what he can to help strangers in need because he knows what it is like to be one. The ‘feller as knows’ would have a great deal of local knowledge and networks to support him. A ‘hard-up stranger cove’ is a stranger with little money. A green-hand jackeroo is an inexperienced worker in the pastoral industry.

The main reason why I consider ‘Send Round the Hat’ to be excellent is because Lawson is using the story as a gentle way to suggest to his readers that kindness involves helping strangers as well as your mates (friends and people you know well) and fellow members of trade unions, religions and ethnic groups.

The anecdote that makes the point most strongly, in my view, is the description of Bob’s attempt to take around the hat for the benefit of a sick Afghan camel driver:

‘Some years before, camels and Afghan drivers had been imported to the Bourke district; the camels did very well in the dry country, they went right across country and carried everythink from sardines to flooring-boards. And the teamsters loved the Afghans nearly as much as Sydney furniture makers love the cheap Chinese in the same line. They love 'em even as union shearers on strike love blacklegs brought up-country to take their places.

Now the Giraffe was a good, straight unionist, but in cases of sickness or trouble he was as apt to forget his unionism, as all bushmen are, at all times (and for all time), to forget their creed. So, one evening, the Giraffe blundered into the Carriers' Arms--of all places in the world--when it was full of teamsters; he had his hat in his hand and some small silver and coppers in it.

"I say, you fellers, there's a poor, sick Afghan in the camp down there along the----"

A big, brawny bullock-driver took him firmly by the shoulders, or, rather by the elbows, and ran him out before any damage was done. The Giraffe took it as he took most things, good-humouredly; but, about dusk, he was seen slipping down towards the Afghan camp with a billy of soup.’

The point being made was that Bob was even prepared to pass the hat around among bullock-drivers - a notoriously tough and profane group - asking them to make a contribution for the benefit of an economic competitor belonging to a different religious and ethnic group.

‘Send Round the Hat’ might not be great literature, but it makes some important points about the inclusiveness, or otherwise, of Australia’s cultural heritage of supporting people in need. After re-reading it I am still of the view that the tradition of passing around the hat has always been largely about ‘looking after your mates’. However, I greatly admire Henry Lawson’s attempt to promote higher ideals.