Thursday, October 30, 2008

Only our government failed to predict the crisis

It has been said that those who lack the imagination of disaster are doomed to be surprised by the world.  Kevin Rudd and Wayne Swan obviously don't enjoy watching a good horror movie.  In recent weeks they have been so surprised by the global financial crisis that they have declared a radically new economic agenda to combat what the Prime Minister calls a "rolling national security crisis".  What was once said of 9/11 is now said of the GFC:  everything's changed.

But as traumatic as the market mayhem has been, it was not only predictable but long predicted and warned against.  Nor were the reasons for such warnings hard to discern.  During the past year, Liberals from Peter Costello to Malcolm Turnbull have suggested that the US sub-prime mortgage collapse in September 2007 could lead to a financial tsunami all over the globe, and that Australia was not necessarily immune.  In this environment, Labor's tight fiscal policy, taken together with the Reserve Bank's (RBA's) tight monetary policy, to slay some inflation dragon would lead to lower growth, higher unemployment and make life tougher for millions of Australians.  Now, the chickens are coming home to roost.

The media has portrayed the Rudd government's response to the global contagion as an economic and political coup.  With his "decisive" move to shore up the banks and stimulate the economy with a $10.4 billion spending package, the PM has, we're told, restored confidence to the financial system and sold a coherent narrative to the Australian people:  Labor, the party of economic conservatism, is best able to save the nation from global recession.

The truth is very different.  For when it comes to running the economy, both Rudd and Swan are drawing confusing roadmaps and not surprisingly are swerving all over the street.  Already the duco is scratched and there are a few dings in the bumper bar.

Rudd and Swan insist they've been prepared for this global crisis since the beginning of the year.  Laurie Oakes recently retold a January conversation between the Australian treasurer and US treasury secretary about the dire state of Wall Street.  "An economic stimulus plan was already on the blocks," according to Oakes.  "As they became increasingly alarmed at what was happening overseas, Rudd and Swan had been working on it, just in case."

If indeed this was the case, why were Rudd and Swan so surprised by the collapse of Lehman Brothers and Bear Stearns in September which led to their sudden decision to spend half the budget surplus and guarantee bank deposits?  If they were so concerned about boosting growth, why were they hewing to the tightest fiscal policy since the early 1970s?  And if they were so concerned about stimulating the economy, why were they, as Turnbull consistently complained, "egging on" the RBA to raise interest rates?

Now, a strong case can be made for a bold, tight fiscal and monetary policy to put downward pressure on interest rates and inflation that has increased by 2 per cent since last November.  A case of a different kind can also be made for giving very high priority to boosting growth and safeguarding the Australian economy from the global storm.  But no case can be made for combining the two -- or dramatically shifting direction from one priority to another -- when the global outlook has remained gloomy for more than a year.  Yet this is what Rudd and Swan have been trying to do.

To reiterate:  it's not as if no one was warning that things could get worse.  In October and November last year, Costello suggested that the US sub-prime mortgage crisis would "create other problems around the world".  Although our economy was in relatively good shape, it was imperative that our leaders held their nerve and didn't panic.  "At a difficult time like this," he said on 25 October 2007, "it is important that we keep our economic management strong, in experienced hands, and that we keep Australia's economy growing strongly." No wonder the Liberal party's election campaign slogan was "Go For Growth".

Fast-forward a year to 20 October when Costello delivered a well received, but little noted address to a Quadrant dinner.  "Labor now wants people to believe that it has been preparing a fiscal stimulus since the beginning of the year.  No, it didn't underestimate the fallout from the sub-prime crisis," the ever so sarcastic Costello remarked.  "It just fooled us all by telling us the government needed to cut spending when in fact it was preparing to increase it."

The point here is that Rudd and Swan have been asleep at the wheel.  Against the backdrop of the US financial meltdown, Labor was more focused on trashing the economic record of the Howard-Costello years and talking up inflationary expectations than safeguarding the Australian economy.  If indeed Australia does go into recession, it will be partly seen as an own goal by an inexperienced Prime Minister, a nervous treasurer and a gung-ho RBA governor.  After all, they rushed into tight measures that were exacerbating the downward trend pressure on economic activity from abroad.

Amid economic uncertainty, the public understandably looks to their elected leaders and the senior public servants for reassurance.  But with its immense power and capacity to harm, government can itself become a source of panic.  In recent weeks, Rudd and Swan have taken extraordinary action to spend half the budget surplus and guarantee all bank deposits in a careless and hasty manner without a single minister discussing the matter directly with the RBA governor.

But how these decisions are implemented is important if they're going to reassure the public and markets.  The government's bungling of its emergency decision to guarantee without any caps all deposits of Australian banks, and the subsequent capital flight and stock market carnage, are evidence of the danger when our leaders take fright.

Having only recently awakened to the scope of the global crisis, Rudd and Swan are indeed frightened.  The need now is not for more dramatic knee-jerk policy changes that could incite severe runs on investment funds and across the financial system, but confidence that the government knows what to do.  Alas, the signs are far from encouraging.


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1 comment:

iconoclast said...

RJW, you say that

"During the past year, Liberals from Peter Costello to Malcolm Turnbull have suggested that the US sub-prime mortgage collapse in September 2007 could lead to a financial tsunami all over the globe, and that Australia was not necessarily immune."

That is not quite correct, Peter Costello did not predict the US sub-prime mortgage collapse. He referred to a financial tsunami in reference to the day that China revalues the renminbi.