The Rudd Government is getting it about right

The cash payments have led to greater public debate among economists. The basic rationale of the policy is simple: give people money; they’ll spend it (or at least a large part of it); this will boost consumption expenditure (and indirectly investment expenditure as firms will see a continuing need to produce goods and services to meet sustained consumer demand, and will undertake the fixed business investment they see as necessary to do this).

Not all the revenue will stimulate economic activity in Australia, certainly. Some will “leak” out of the economy as some of the expenditure will be directed to imported goods (and hence will stimulate expenditure in other economies); and some won’t even go to people in Australia in the first place (a surprisingly substantial number of recipients of pensions have returned to their place of birth).

Most controversially and speculatively it has been argued some of the revenue will be saved, or used to pay off accumulated debt, rather than spent. It is in this respect that economists have been most vocal.

But when one “balances out” conflicting views the consensus is that the Rudd government has done what is probably the best thing it could have - particularly in view of the fact that this issue is one not merely of economics but politics as well.

To have not acted was not really an option. If the “stimulus package” will provide less of an economic stimulus to economic activity and employment than some may have hoped it will at least have had some effect and save the government from the charge that it simply “stood by”. No matter how bad circumstances become at least the government can say “it would have been worse had we not acted”.

But - the main point that is made here - is that all of this fails to address the really important questions at the moment.

These are two-fold:

• can we do anything (other than devise a “stimulus package”) to more effectively address the present problem? and
• can we do anything to stop it recurring?

If these questions were what economists were debating they would be rather more widely respected than they are at the moment. Some are, it is true. But the economists being given more air time on current affairs shows are those debating the (rather speculative and ultimately relatively unimportant) question of whether tax cuts or one-off cash payments are likely to have a greater stimulative effect on consumption spending.

On the first of the more important questions set out above, the Rudd Government (advised it must be acknowledged by economists in the public service, the Reserve Bank and academia - though sadly probably not many in the latter) seems to have again got it pretty well right.

The return of “normalcy” requires above all that financial institutions be willing to lend money to any individual or business enterprise - including other financial institutions - when it is reasonably clear that the money will be used, be it for the purchase of a house or investment in machinery or equipment, or in “on-lending”, in a way that the borrower will repay the loan. This is not the case at the moment. The failure of the financial system to deliver in this respect is the most significant barrier to the resumption of some categories of economic activity.

For this to be achieved requires the “quarantining” of the so-called “toxic assets” held by some financial institutions in order that they, and other, financial institutions can resume “normal business” on the basis of prudent financial principles. This appears to be the proposal that the Australian prime minister will be taking to the forthcoming meeting of the G20. Its adoption by the world’s largest nations (and in particular those in which financial institutions have accumulated debts which have little prospect of being repaid in the short term) would be an important step in returning the functioning of the financial system to its “normal” role. This is as an important mechanism for allowing expenditure to be made on the basis of money borrowed - where there is a good prospect of the money being used in a way so that can be repaid.