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Surplus worriers ignore monetary contraction
Gerard Jackson
With the budget looming up thoughts have turned to the government's accumulating surpluses, which, even with proposed tax cuts, could reach $80 billion by 2012. Panicked by the thought of massive surpluses some geniuses among our economic commentariat are warning the government that funding tax cuts out of the surplus could "over stimulate" the economy and aggravate the current account deficit.
But others are wondering out loud about the need for huge surpluses. After all, the Federal Government's debt has been wiped clean and the Future Fund is supposed to solve the public sector superannuation problem. On the surface there appears to be no sound political reason for the government to continue running surpluses. However, what is being overlooked is the monetary source of the surpluses. (Keynesianland money simply does not matter). It's a pretty sorry state of affairs when economists think tax cuts are inflationary while arguing that money supply is largely irrelevant. It ought to be self-evident that this approach contradictory.
From March 1996 to November 2007 bank deposits rose by 224 per cent and M1 by 200 per cent. Let us take a single year: the period January to December 2007 saw currency rise by 8.7 per cent, bank deposits by 14.7 per cent and M1 by 13 per cent. It really is incredible that our economic commentariat remained completely unfazed by this reckless monetary expansion. No wonder these commentators are clueless about the source of our current account deficits and our rising foreign debt. Where in heavens name do these commentators think all these dollars came from?
You don't need a PhD in economics (come to think of it, a PhD would probably be a hindrance) to grasp the fact that if money incomes rise so must tax revenues. In short, the record tax flows and surpluses came from the Reserve's policy of letting the money supply rip. Surely the Reserve must have some idea of how a loose monetary policy influences the economy? No it does not. As far as it is concerned, money supply only affects output, incomes and eventually prices. To its mind there is no such thing as a production structure or even the notion of capital being heterogeneous. Moreover, money is neutral and interest rates can be manipulated to generate economic growth.
It is not surprising that Stevens can be found wanting with respect to monetary theory and the nature of capital. Not only does he adhere to the "excess savings" fallacy he also supports the fallacy that there is a "natural rate of interest". In an address to the Australian Business Economists and the Economic Society he explained that in targeting the correct rate of interest the Reserve relies on Wicksell's "concept of the natural or neutral interest rate". (Recent Issues for the Conduct of Monetary Policy, 17 February 2004).
Stevens is evidently unaware of the fact that Wicksell's "natural rate" is based on the marginal productivity of capital as it would be in a barter economy. What Wicksell overlooked is that a uniform rate of interest can only emerge in a monetary economy. What this boils down to is that Stevens is a targeting a phantom. (Any discussion about the nature of interest must always concern itself with capital and value productivity). No wonder we are in such a monetary mess. Defenders of the Reserve can argue that it needs to manipulate the money supply in response to changes in the demand for money otherwise a recession might develop. Lord Peter King demolished this argument about 200 years ago when he wrote:
It is manifest . . . that the proportion of circulating medium required in any given state of wealth and industry is not a fixed, but a fluctuating and uncertain quantity; which depends in each case upon a great variety of circumstances, and which is diminished or increased by the greater or less degree of security, of enterprise and of commercial improvement. The causes which influence the demand are evidently too complicated to admit of the quantity being ascertained by previous computation or by any process of theory. (Lord Peter King, A Selection from the Speeches and Writings of the Late Lord King, Longman, Brown, Green, and Longmans, 1844, p. 67).
In English so plain that those economists who work at the Reserve can understand it: no central banker or organisation can ever determine how much money is needed — full stop.
So while our economic commentariat are all of atwitter the fact that the money supply is contracting completely eludes them. Bank deposits peaked last December at 191.3 after which they started to contract, falling to 181 in February. It was the same for M1: it peaked at 231.3 before falling to 220.4 in February. If this trend continues then — surplus or no surplus — the country will go into recession.
Gerard Jackson is Brookesnews' economics editor
BrookesNews.Com
Monday 12 May 2008