Booms and Busts

The British Prime minister Gordon Brown was very foolish to proclaim, in 1997, that he’d “abolished boom and bust”. Even if he hadn’t put a foot wrong in his time as Chancellor of the Exchequer and Prime Minister, that wasn’t at all possible. A single country, especially a trading nation like the UK, cannot  isolate itself from the world economy.

There was a recession at the start of the millenium and if you look at at the sectoral graphs supplied by you can see why. The UK government went strongly into surplus in the year 2000. In the USA the same thing happened under the last years of the Clinton government. The snag with government surpluses is that they also mean, arithmetically, that the private sector have go into deficit unless the trade balance is very strong , as in the case of Germany. The private sector deficit reached 6.21% in 2000 . See the orange curve on the graph.

It was the same story for the US too as you’ll have seen if you watched the video in the previous posting. See the graph shown by Stephanie Kelton at about the 10 minute mark. That recession was ‘fixed’ by drastically lowering interest rates, but that created a credit boom, especially in housing. The UK government looks to have handled things better than the Americans, in 2007 -2008, because the UK private sector wasn’t in deficit then but it was in America.

This was unsustainable and triggered off the GFC on a worldwide scale. There is a good case for saying that the GFC actually started in the late 1990’s with the much heralded surplus created by President Clinton.

Following the GFC there was an inevitable process of automatic stabilisation. Tax revenues fell, government spending rose everywhere. It had to as workers lost their jobs, stopped paying income tax and started to receive state benefits. Instead of going with the flow, politicians decided they didn’t like the idea of large budget deficits and tried to cut them . There is no virtue in doing that,  driving the economy towards recession, which forces the central bank to lower rates, and then saying – look our fiscal policy is really good because it results in lower interest rates.  This is the moronic position we hear all the time from those  who should know better.

They all fail to understand that even trying to achieve a budget surplus, or even a reduced deficit, at a time when the economy is struggling is a self-defeating goal. The reality is always that the automatic stabilisers , that is, the plunging tax revenues,  will likely see the budget in increasing deficit anyway and so there will be nothing at all positive to show for austerity measures. Contractionary fiscal policy at a time when private spending is weak overall is  irresponsible fiscal management.  Neo-liberal politicians – Conservative and Labour, Republican and Democrat alike don’t get it at all.

All the usual myths  are trotted out– the importance  of a AAA, or AA+, or whatever, credit ratings even though Government don’t intend borrowing anymore!  The need to take pressure of interest rates. Even though interest rates are whatever Governments, sorry the independent central banks,  choose them to be and are at an all time low.

The important thing is to learn from past mistakes and not repeat them. However it looks like both the UK and US governments are intent on doing just that. To prevent the next credit bubble which could generate a short term boom, and therefore the next bust, monetary policy needs to be tighter, ie interest rates need to be higher,  and fiscal policy needs to be much looser, ie lower taxes and/or higher levels of government spending,  to compensate.

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