Coronavirus: To get economy working, devil is in the retail

Domestic consumption, fuelled by tax cuts, holds the key to our economic recovery.

A long line outside and around the corner at Fortitude Valley Centrelink in March. Photographer: Liam Kidston.

“We have involved ourselves in a colossal muddle, having blundered in the control of a delicate machine, the workings of which we do not understand,” John Maynard Keynes wrote in 1930.

If authorities weren’t confident in their ability to manage the economy — Keynes’s delicate machine — as the world stared into the abyss of the Depression, they are today, after 90 more years of experience and economic pontificating. Conventional wisdom says the Depression endured more or less until World War II because governments refused to pump-prime their economies with borrowed money, and naively allowed the money supply to shrink.

Keynes’s later writing gave politicians the confidence they could tame the economic cycle with timely fiscal and monetary tweaks. But stagflation — rampant inflation amid high unemployment, a combination almost ruled out by Keynes’s theories – brought the edifice crashing down in the 1970s and 80s.

Even as recently as the 90s recession, Canberra, for instance, resisted pump-priming the economy, too worried about causing a rise in interest rates.

There’s no chance of that happening this time, not least because interest rates appear so dormant.

Boosted by the belief they saved the world from financial collapse in 2009, policymakers have their mojo back.

In 2009 the Rudd government sent $900 cheques to taxpayers who earned up to $100,000 a year, which elicited a welter of criticism from the Coalition. Labor introduced subsidies to help the construction sector, such as supercharging the first-homebuyers grant. The federal deficit blew out to a maximum of $54bn.

This time the Coalition government is paying almost $20,000 each to 3.5 million people, many professionals on high incomes, across six months. The cumulative budget deficit over this and next year could be as high as $350bn.

As for measures of the money supply, they are all up. The broadest, M3, which essentially adds up deposits at financial institutions, was $2.3 trillion in April, a record, and about $150bn higher than Decem­ber.

With so much money sloshing around — and the prospect of much more yet — chasing the same assets, one wonders how much share and dwelling prices will actually fall. The government is relatively optimistic about the economic outlook. Indeed, last week’s jobs figures, which saw the jobless rate rise to a 19-year high of 7.1 per cent, gave cause to think the worst was behind us.

The slump in hours worked — a better indicator of what’s going on — seems to have bottomed out at 10 per cent last month, about half the Reserve Bank’s forecast for this month. Employment has begun to rise again. Confidence among households and businesses has bounced back significantly from the horrific levels in March and April.

Investors have shrugged off fears of a spike in COVID-19 cases; the benchmark share indices have risen about a third since March.

The unprecedented nature of this recession, a simultaneous supply and demand shock, and one in large part induced by government rules, remains one reason to be optimistic. Perhaps the machine can be switched off, then on again relatively seamlessly.

Last week Scott Morrison even suggested policy changes could wrench an additional percentage point of growth out of the economy, putting it back on its pre-COVID-19 path by 2025. One would have to be positively Panglossian to believe that.

Certainly, authorities’ public confidence isn’t reflected in the ranks of professional economists.

“I haven’t heard anyone say there’s much chance of the economy snapping back as such,” says Justin Fabo, a senior economist at Macquarie Bank. “If you look at retail sales data in China, it took a big hit and has hardly improved since.”

Their concern revolves around what happens to the labour market once JobKeeper, which is subsidising 3.5 million jobs, ceases in September. “We have postponed the ‘ordinary’ recession until after September,” says Bob Gregory, an economics professor at the Australian National University, who sat on the Reserve Bank board during the 90s recession. “And I think it will be a reasonably deep one because it’s global.”

Veteran economist Bill Evans reckons the economy still will be 1.5 per cent smaller at the end of next year than the end of last year.

Last month’s labour force survey indicated 350,000 people were still attached to their employer but weren’t working at all, and a further 1.2 million were working fewer hours than normal. “The question is how those businesses will respond when the subsidy goes,” says Evans, who advocates an extension of the program for the worst-affected sectors. Will they join the 1.6 million workers on JobSeeker?

If half of them did, say, the jobless rate would jump to about 12 per cent overnight later this year, above the 90s recession peak and a harbinger of chronic economic weakness. “It took 15 years for the jobless rate to get back to the previous level after the 1990 recession, and about six years after the 1980s recession,” Evans notes.

The government is, naturally, optimistic in public about the economic outlook, but unless it follows through with major policy changes, our destiny will mostly depend mostly on China, whose demand for our iron ore has remained voracious.

Indeed, the single biggest difference between our circumstances now and in 1930 is the vastly higher prices we command for our exports, which collapsed by almost half in two years.

“I would be strongly promoting the idea of tax cuts, bringing forward the July 2022 cuts to January 1,” Evans says, dismissing plans to trim the company tax rate as pointless in today’s environment.

The coronavirus pandemic has freed the Coalition from any political requirement to produce a budget surplus in the near term, which may well be a good thing if it expedites tax cuts and simplification. Paying down debt doesn’t hone the incentive to work or boost households’ disposable income. Avoiding the top marginal tax rate has become a huge, wasteful industry.

Cutting taxes won’t be enough though. Keynes’s legacy has distracted governments and economists with macro-economics: government budgets, central bank balance sheets and interest rates. Yet it is a better appreciation of micro-economics, how individuals and businesses behave, that will spur economic growth.

Slashing regulations, especially those that inhibit hiring, so businesses’ efforts can be directed at producing what consumers want rather than jumping through bureaucratic hoops, is at least as important. After all, Keynes himself believed government shouldn’t take more than about 25 per cent of GDP, yet we are about 35 per cent in Australia.