Australia risks withdrawing state support at own peril
The legacy of the Australian bushfires and the shock of the Covid-19 pandemic are solid ground on which to build a new consensus that deficits are not nefarious
Australia went into the coronavirus calamity with an economic record that was the envy of the world — a three-decade run without a recession. Now there's a risk that any strong recovery will give policymakers a false sense of security. This would be a grave misreading of the situation. The worst decision they can make would be withdrawing government support too quickly.
The damage from the lockdown is staggering. Bloomberg Economics expects GDP could drop 6% in 2020, and doesn’t see activity returning to pre-virus levels for a couple of years. This pain is nowhere more evident than in the labour market: more people lost their jobs in April than any other month on record.
The jobless rate would have been even higher if not for the droves of people no longer looking for work. Government figures on Wednesday showed a slide in GDP in the first quarter, making a recession a certainty, given the collapse of activity in the current quarter. The central bank anticipates unemployment will climb to double-digits. And while acknowledging some signs of improvement this week, the Reserve Bank of Australia was adamant that stimulus will be required well into the future.
RBA governor Philip Lowe has been doing his part. He kept the benchmark interest rate near zero on Tuesday and reiterated a pledge to buy enough government debt to keep the yield on the three-year bond at 0.25%. It's a measure of the programme’s success and the stabilisation of markets that the central bank could dramatically taper its bond purchases in May.
This form of quantitative easing, known as yield curve control, was speedily enacted in March when Covid-19 cascaded through the world economy and financial markets buckled.
The efficacy of the RBA’s vigorous emergency measures will be greatly weakened, however, if fiscal policy doesn’t follow. The labour market will be particularly vulnerable. Lowe probably had temporary employer- and wage-subsidy programmes in mind when late in May he practically begged legislators not to turn off the tap hastily.
The federal government and related agencies have undertaken steps valued at about $260bn, or about 13% of GDP. Yet the dominant strain in Australian governments, across political aisles but especially within Prime Minister Scott Morrison’s centre-right coalition, has long been that deficits are bad and surpluses the mark of good housekeeping. That thinking was just starting to evolve before the pandemic and will need to continue, as Lowe acknowledged in his testimony.
Fiscal policy will have to play a more significant role in managing the economic cycle than it has in the past. For the last 20 years, monetary policy has been the mainstream instrument ... in the next little while there's not going to be very much scope at all to use monetary policy in that way. So I think fiscal policy will have to be used, and that's going to require a change in mindset.
It will be the government, not the RBA, that will bear the brunt of public opprobrium for any stinginess. Right now, it’s sensible to err on the side of doing too much. One reason for the sluggish recovery from the global financial crisis was the austerity imposed in the US and Europe when activity first began expanding. The world’s GDP shrank less than 1% in 2009; the IMF forecasts a dive of 3% in 2020. Its revisions, expected in a few weeks, are unlikely to be positive.
Bear in mind, too, that with interest rates this low, governments can fund themselves cheaply. In May, Australia borrowed $19 billion for 10 years at a rate of about 1%. Suggestions from treasurer Josh Frydenberg that fresh stimulus is on the way, this time for the construction industry, are encouraging. Noises about too much debt, less so.
Morrison and his ministers have an opportunity to redefine the way Australians think about the role of the state. The legacy of the devastating bushfires earlier in 2020 and the shock of the pandemic are sturdy ground on which to build a new consensus that deficits aren’t nefarious and an activist state can be warranted.
For his part, Lowe is right to encourage them. As heroic as monetary authorities have been, they will have to dig deeper still if the government flees the scene. Lowe has skin in the game.