July 25, 2013
According to the great American economist, JK Galbraith, “the conventional view serves to protect us from the painful job of thinking”. The painful job of thinking is what makes the difference between doing the right thing and simply doing the thing that everyone else is doing just because the conventional view concludes that it is right despite mounting evidence to the contrary.
Indeed, Galbraith went one better in summing up why many people refuse to change their views, particularly if they have invested much time, effort and credibility into establishing that view. The following quotation from Galbraith sums up what’s happening in the policy making of the insiders in Ireland: “Faced with the choice between changing one’s mind and proving that there is no need to do so, almost everyone gets busy on the proof.”
The conventional view on the Irish economy is that we must stick with the programme and that we must continue to grind down wages and prices, squeeze demand and raise taxes. This we have been told for the past five years is the only way and if we stick to this approach, the economy will rebound vigorously.
This approach shows that the people who run the country have actually no idea about how a small economy works and also have an entirely invented narrative which has never been evidenced anywhere in the world. The same story is being spun to the people of Greece, Spain, Italy and Portugal. Ultimately, the same will happen in France because it is a creditor’s view of the world imposed by the creditor nations of Europe against the debtor nations.
The flaw is that for an economy to grow, aggressive budget cuts need to be offset by a simultaneous massive easing of monetary policy – as was seen in Reagan’s America of the early 1980s, Thatcher’s Britain in the mid 1980s or indeed Haughey’s Ireland of the late 1980s. Without massive monetary easing, the economy will seize up in the face of rising taxes, cutting expenditure and an overvalued exchange rate at a time when the banks are not lending.
This is the stuff the average honours student doing economics for the Leaving Cert should know. Not surprisingly, therefore, with broken banks, the Irish economy is not responding positively to the present policy, in fact it is going in the opposite way.
Income is falling, domestic retail sales are on the floor, unemployment and emigration are rising and now we realise that the debt to income ratio – the one statistic that the Government seems to focus on as a litmus test for the success of the policy – is going the wrong way. Ireland’s debt-to-income ratio has actually risen by 12pc this year to 125pc of national income.
The reason for the deterioration in this ratio is straightforward. If your debts are greater than 100pc of your income and the growth in your income is less that the annual rate of interest you have to pay on this debt, the ratio of debt to income has to rise. Either you need to get your growth rate up or your burden of debt down. So what’s it going to be?
Before we answer that question, it is crucial to disentangle cause and effect. At the moment the conventional wisdom is suggesting that if we can only get the budget deficit down to some level, we will be okay. The logical implication of this approach is that the budget deficit is the cause of our problems. Therefore, conventional wisdom indicates that reducing the deficit is the solution to Ireland’s woes.
But what if the budget deficit is the consequence – not the cause – of our distress? A much more persuasive angle is to see the deficit as the democratic consequence of a massive balance sheet recession, where the savings rate of Irish people and companies has risen massively due to the collapse of the property market, negative equity and the general slump in confidence.
As savings rise, demand falls. If the Government doesn’t spend in the economy, the slump in demand will cause unemployment to rise even faster.
Proponents of the present policy don’t dispute this but they claim that foreigners will buy Irish goods in sufficient bulk to make up for the collapse in local demand. The implication of this would be that the Irish current account surplus would have to expand at a rate quicker than the Government is cutting spending just for the economy to stand still.
But this is not happening. In truth, the budget deficit is the consequence not the cause of the present malaise.
Saying the budget deficit is the consequence is not the same as saying that the State should run a deficit into perpetuity. But when a country is suffering from a balance sheet recession, with an overvalued currency and a banking system that is dysfunctional, rapid tax increases and spending cuts will make the situation worse.
It is quite obvious that our policy makers and the EU bosses, who are simply looking to keep the entire EMU project alive though all sorts of monetary tricks and sleights of hand, are falling into the Galbraith trap of avoiding the painful job of thinking.
No one is saying that there is a quick fix, but we must entertain the idea of an alternative involving “parking” huge amounts of domestic debt, dealing with our creditors fairly and leaving this currency union which has brought only disaster to Ireland both in the upswing with far too much credit cascading into the country and in the downturn with far too little credit available to refinance the country.
Either we leave the euro and instill a new, much weaker Irish currency, which reflects the much weaker Irish economy or we seek common cause with the other debtor countries within the euro. A united coalition of debtor countries to say to Germany “enough of this nonsense we must mutualise debts now, you take a large haircut, let’s fix this problem right away and stop pussyfooting around waiting for your election results”.
Europe’s economy is seizing up and the rest of the world is moving on. Are we to be sacrificed on the barbarous relic of yesterday’s monetary union and the whims of the German electorate just because we don’t want to involve ourselves in the painful job of thinking?
How much more evidence do we need to at least begin the process of doubting the conventional view?