Tuesday, February 01, 2011

Macroeconomics & short term-ism

In Sunday Snippets - drop bears and other phenomena I made the comment that a central problem in all this lay in the failure to properly differentiate between short term and long term issues. I was talking about the 1980 Australian mineral boom, but it is also a broader statement.

In the past, the inability to properly take longer term issues into account in public policy was often expressed in terms of the electoral cycle. If parliamentary terms were longer, politicians would be less likely to focus on short term electoral cycles.

This may or may not be true. The NSW experience is not especially encouraging. However, there are more fundamental problems.

At present, macroeconomic issues and policy responses dominate public discussion to a quite remarkable degree. For every word written on the environment, education or health, a hundred words are written on macroeconomic issues - interest rates, how the economy is performing, retail sales, employment and unemployment; the list goes on.

By its very nature, macroeconomics is short term, measured in months.

When the economy is expanding, attention focuses on inflation control, managing growth, freeing resources to facilitate growth. When the economy is contracting or growing very slowly, the pressure comes off.

This may sound reasonable, but consider this. Governments don't find it easy to increase taxes. There is a strong pre-supposition against Government borrowing. The only mechanism in any way under Government control is expenditure.

A very high proportion of Government spending is effectively locked in in the short term. The only items that can be reduced or deferred are Government programs involving a degree of discretionary spend. Sadly, these are nearly all activities with a longer term payback.

On the other side of the ledger, it is actually very hard to crank up spend in the short term. To expand spend and especially that spend with longer term paybacks, you need a pipeline of possibilities. Continued expenditure control, previous contractions to accommodate growth, means that those projects are not there. Instead, we get pink batts.

Do you see the problem? 

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