What about boom-bust cycles, economic stimuli and jobs?
BRADES, Montserrat, Dec 30, 2015 – For many people, Economics is all about jobs and money, and “the Government” is supposed to “stimulate the economy” so – instantly – we can all have nice jobs and have plenty of money to buy what we want. Too often, politicians and pundits play on that feeling, and fail to tell us that they are tickling a dragon’s tail.
To do better we must understand some basics of macroeconomics, the study of the economy as a whole.
Especially, what booms, busts and trends are about, and how such affect the markets for jobs in light of creative destruction in an outdated, stagnant economy. (Recall, in the 1980’s the OECS region grew at 6%; then in the 90’s 3%; then in the 2000’s 2% – and we were hit by the global financial crisis from 2008 on. We have never really recovered.)
Then there is the leaky tyre economy problem: too often, when money is pumped in to “stimulate” an outdated and stagnant economy, it only works a little and as soon as it is over, pfft, things go back flat. Because, the “rim” was bent after we hit a bad economic pothole. And, it is hard – and painful – to fix “bent-rim” economies.
So, a key challenge is, how can we summarise enough of macroeconomics in a nutshell, so that we can understand enough to think straight about what needs to be done. Forgive, this is not easy to do – but it is very important. I do think Roger Garrison has a simplified but useful approach, based on . . .
A: Hayek’s investment and production stages, value-added triangle,
B: the production possibilities frontier (PPF) model for Consumption (C) vs Investment (I), and
C: The Loanable Funds interest rate market model:
We saw Panel A last time, it is about how stage by stage of production, value is added. So, as we move from research and development, mineral or energy exploration, agriculture etc to manufacturing then distribution and sales, investments, ideas and labour (= jobs) are added, increasing the value of goods and services. This leads to consumption, C.
Panel B feeds consumption C into a model of economic productivity, and its limits, at the production possibilities frontier (PPF). Along the PPF we trade off consumption C against investment, I. Also, if we reduce consumption now – thus have higher savings – we get a higher growth rate (and higher consumption) eventually.
The increased savings pass along to Panel C, on the market for supply S and demand D for loanable funds. Of course, the level at which supply matches demand is the effective rate of interest, i. (The coloured lines also show that if a community consumes less and saves more, it feeds more funds into the loanable funds market. This naturally reduces the price for such funds (blue dotted line), so the rate of interest falls.)
When interest rates fall, riskier, longer term investments in the earlier stages of production become more attractive, potentially opening up the economy’s growth potential. And the jobs profile will shift: science, technology, finance, technical management, new industries and skills, etc. And, in a global era our work force needs to be competitive with the rest of the world. Starting, with our education base and skills level. (We have to hit the books, labs and workshops for six.)
But, we may tickle the dragon’s tail the wrong way; to our painful cost.
For example, suppose the investment funds pool is artificially increased (e.g. by “printing” money unjustified by realistic growth prospects or by ill advised Government loans for poorly planned projects and/or unaffordable increased spending). Money is money, and there is more flying around. Investors see the same lowered rates that make risky ventures seem worthwhile for them, and a malinvestment led boom can begin. But, as people still want to consume at the old level, that is going to push the economy out beyond the PPF to where the old C level and the new I line intersect. We are living beyond our community’s economic means. Including, the new jobs that have been created for the moment.
If we are very lucky, the economy may grow just right and catch up. But sooner or later, malinvestments usually fail and the economy is liable to snap back into recession well inside the PPF. Jobs will go away, poof. Worse, if our economy is then stuck with outdated investments and failures, we are going to face the wrong side of creative destruction. That points to stagnation in a low growth, under-performing economy. The lost jobs will not be coming back.
As one clue for Montserrat, when the volcano struck, we lost 50% of our GDP, and tourism moved from 20 – 30% of the economy to maybe 3 – 5% of a much smaller one. We have been on budget aid, with about 55% of our recurrent budget coming from HMG, and with almost all of our major capital investments coming from HMG also. Our civil service has been heavily subsidised through that year by year pumping up. For years, there has been talk of needing a cluster of “catalytic” investments to get the economy kick-started and growing again – but there has been little progress beyond talk. And, as a reasonable estimate, we need to grow at about 5 – 8% per year for about 20 years, average, to get back up on our own two feet. But, we also need to face some major good governance concerns and reforms.
The challenge we face, is how to pull together a critical mass behind a sound consensus, and how to build the capacity to move forward over the next fifteen to twenty years. Yes, it took twenty years last time (between the 1960’s and 80’s). Especially, when the policy medicine is quite painful – starting with simply learning true facts and understanding the real issues.
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