Much was at stake earlier this week when finance ministers from G20 countries met in Istanbul to discuss Greece and the state of the world economy in light of recent downgrades in world growth expectations. But did they agree to too little, too late?
There is now no doubt that the world economy, not just Canada’s, has slow downed considerably and will slow down even more unless appropriate policies are adopted soon. To date, some eight central banks, including Canada’s, have either lowered their interest rates or adopted some unconventional policy in an effort to boost their fortunes at home.
In a communiqué following the meeting, the finance ministers stated that “growth in the global economy remains uneven and although the recovery is in progress, it is slow.”
This echoes IMF Managing director Christine Lagarde’s statement before the meeting that “there is a lot at stake … without action, we could see the global economic supertanker continuing to be stuck in the shallow waters of sub-par growth and meager job creation.” Canada’s Finance Minister Joe Oliver spoke of “kickstarting the global economy.”
The finance ministers supported the recent actions of some central banks, noting that monetary accommodation was warranted.
Yet, the problem with the use of continued monetary policy at such historically low interest rates is that reducing them even further is more like pushing on a string. It will do nothing or very little to boost domestic economies.
The reason more monetary stimulus won’t work is that investment does not react that well to changes in interest rates alone. The continuing disappointment of private sector investment has nothing to do with interest rates, but it is due to the overall pessimistic mood or the uncertainty over expectations of growth next year. Since these expectations are low, firms see no value in taking on new investment, no matter how low interest rates are. So lowering them even further will do absolutely nothing.
It’s time to recognize this fact, put monetary policy aside, and return to expansionary fiscal policy.
In a way, the G20 meeting recognized this: “Fiscal policy has an essential role in both building confidence and sustaining domestic demand.” How right they are. Indeed, more fiscal stimulus pumps up aggregate demand and reduces this pessimism that is holding back investment.
So why are governments not spending more?
After all, we know fiscal policy works. In 2009, as the crisis developed, countries agreed to an international and coordinated assault on aggregate demand, and adopted large expansionary fiscal policies to boost the economy. This was the right thing to do. In a very short time, output stopped falling and actually started growing.
So why not do it again?
There are two obstacles:
- Countries have become convinced that deficits and debt are not politically desirable, although they are desirable from an economic perspective. In other words, it’s a tough sale politically
- Many governments are refusing to acknowledge the severity of the downturn.
Yet it is severe, and nowhere is this truer than in Canada. In a recent speech, Carolyn Wilkins, senior deputy governor of the Bank of Canada, acknowledged that at this stage of the “recovery,” Canada’s labour market is considerably underperforming, and unemployed workers remain unemployed on average much longer than normal, or at least much longer than in previous recessions.
So with all the evidence mounting in favour of some intervention, why is the government still refusing to spend and invest? There is little chance the government will do so in its much-delayed, upcoming federal budget.
Seven years into this crisis, we are facing a lost decade and even more; in the end, when it’s all done, we would have lived through quite possibly a “depression” worse than the one in the 1930s, and economic historians in the future will ask why we did not do more to put an end to this scourge.
Despite all the fear-mongering out there, fiscal policy and deficits don’t lead to inflation (in fact, there is zero inflationary pressure at the moment, a fact recognized by the Bank’s Wilkins); they don’t lead to higher interest rates; deficits are not a debt we leave our children.
In Istanbul this week, there was recognition of the sad state of international economic affairs, but very little in terms of concrete policies to meet the challenges such a slowdown poses. In fact, the communiqué was rather vague when it came to policy, despite a few positive sentences.
Governments around the world, still believing in austerity policies and the wisdom of expansionary fiscal contraction, have failed us miserably. The evidence is now clear: it simply does not work. Neither does monetary policy.
If this is the wisdom of our elected leaders, then I double down on my predictions for 2015 and argue that now a recession in Canada is almost certain by the end of the year.
Louis-Philippe Rochon is an associate professor of economics at Laurentian University and founding co-editor of the Review of Keynesian Economics