One despairs when a sober institution gets ahead of itself, usually because they make hiring mistakes, and start to think they know stuff. This is an organisation that is steeped in statistical analysis and should have a very good idea of empirical regularities. They know that interest rates have been “essentially zero” in Japan since the 1990s and they know that what hasn’t happened as a consequence. They know that central banks have been “expanding their balance sheets” (now “collectively at … three times their pre-crisis level”) and what hasn’t happened as a consequence (inflation). But as the neo-liberal paradigm has concentrated its control of the policy debate, this organisation has morphed from playing a useful role as a coordinator of central banking into a propaganda unit pumping out misinformation and outright lies and distorting the public debate. Welcome to the Bank of International Settlements, which is now firmly ensconced with the likes of the IMF, the OECD, the ECB, the EU, the World Bank, and others as being part of the problem the World economy faces.
On June 23, 2013, the BIS released its – 83rd BIS Annual Report 2012/2013 – and it would have done better to have scrapped this year’s release and let the economists in question go skiing or something.
I should add that I have loved reading the historical BIS Annual Reports which are available in the – Annual Report Archive – from 1931 to 1996. They are very useful if you are seeking a detailed discussion with data of the Great Depression period and the Bretton Woods period.
But the BIS has changed its colours as time has passed and is now neo-liberal central. That makes it a major part of the problem given its place in the world financial system.
This 204-page report is full of ideological assertions and policy advice that if followed would be impossible to achieve and in trying to achieve the impossible any government that takes their advice will destroy prosperity in their nations.
We read that the goal of policymakers is to “to return still-sluggish economies to strong and sustainable growth”. In that context, the BIS provides the only reasonable assessment of the entire report – that monetary policy is unable to achieve that aim.
In their view, monetary policy is now powerless because:
Central banks cannot repair the balance sheets of households and financial institutions. Central banks cannot ensure the sustainability of fiscal finances. And, most of all, central banks cannot enact the structural economic and financial reforms needed to return economies to the real growth paths authorities and their publics both want and expect.
Indeed, they cannot (mostly). And one of the things we will be able to conclude from the experience of the last five years is that the mainstream faith in the effectiveness of monetary policy in terms of stimulating aggregate economic activity was misplaced.
We also have enough evidence now to conclude that the corollary of that misplaced faith – that the use of fiscal policy as a counter stabilisation tool is dangerous or totally ineffective – was similarly a flawed proposition.
We have learned that fiscal policy has been very effectiveness – both in terms of stimulating demand when governments introduced stimulus packages and in terms of destroying jobs and national income growth when misguided governments, believing these mainstream myths, chose to pursue fiscal austerity.
The mainstream promotion of monetary policy as the primary counter stabilisation policy tool (with fiscal policy being a passive player leaning towards austerity) is the legacy of the failed Monetarist experiment in the 1980s.
Claiming monetary policy was highly effective (despite no serious evidence to support that proposition) and fiscal policy was ineffective (again in denial of the facts) was an important strategic plank for the conservatives.
It allowed them to limit the discretion of the elected representatives of the people and transfer economic management to central bankers who are unelected and largely unaccountable. They tightened the straitjacket on democratic choice by imposing so-called fiscal rules, which are nothing more than arbitrary ideological constraints on the capacity of government to adopt flexible policy choices to changing circumstances.
Part of the straitjacket and shifting of economic policy management was also evidenced by the rise of so-called fiscal commissions – faceless, unelected people who think we are so stupid that their ideological diatribes on fiscal consolidation should be taken seriously. But the intent is clear – these commissions are used to place political pressure on the elected government to adopt austerity measures and transfer real income to the top-end-of-town at the expense of the disadvantaged, fragile and poor citizens.
It is, of-course, totally untrue that “central banks cannot ensure the sustainability of fiscal finances”. From the perspective of flows of funds (and the transactions that Modern Monetary Theory (MMT) characterises as vertical – see – Deficit spending 101 – Part 1 – Deficit spending 101 – Part 2 – Deficit spending 101 – Part 3 – the central bank is part of the consolidated government sector (with the treasury).
Please read my blog – The consolidated government – treasury and central bank – for more discussion on this point.
Depending on the specific institutional arrangements in the nation, the central bank is the currency-issuing part of that consolidated government sector. That means that the central bank has the capacity to ensure the government can always honour all its liabilities as long as they are denominated in the currency of issue.
So while the BIS defines “fiscal sustainability” in some narrow sense (focusing on some far-fetched notions that financial ratios are ends in themselves) with the private bond markets being central players, the very capacity that central banks bring to the consolidated government sector means that this narrow conception is largely irrelevant.
Just the notion that private bond markets rule is a lie. Please read my blog – Who is in charge? – for more discussion on this point.
Once you appreciate this broader conception of fiscal sustainability, you will also conclude that the government sector (which includes the central bank) is at the centre of the framework that is required to achieve such sustainability. There might be all sorts of voluntary constraints imposed on the way the central bank and treasury work together – typically hangovers from the convertible currency system which was abandoned in 1971.
But the operative word is that the BIS claim that central banks “cannot” ensure deficits are whatever they need to be to maintain a sustainable (fully employed) economy. The truth is they can if they want to and any constraints in place are voluntary and only serve (largely) to restrict the capacity of the elected government to govern.
The BIS claims (see Chapter III) that:
… rigidities in labour and product markets are among the most important obstacles standing in the way of long-term economic health … tight employment protections slow the recovery and the growth of employment in economies that go into recessions with significant sectoral imbalances
How does the BIS explain the evidence from the OECD itself who were forced by the weight of evidence into an embarrassing backdown on these sorts of claims.
In the period leading up to the crisis, partly in response to the reality that active labour market policies did not solve unemployment and instead created problems of poverty and urban inequality, some notable shifts in perspectives became evident among those who had wholly supported (and motivated) the orthodox approach (exemplified in the 1994 OECD Jobs Study).
In the face of the mounting criticism and empirical argument, the OECD began to back away from its hard-line Jobs Study position. In the 2004 Employment Outlook, the OECD (2004: 81, 165) admitted that “the evidence of the role played by employment protection legislation on aggregate employment and unemployment remains mixed” and that the evidence supporting their Jobs Study view that high real wages cause unemployment “is somewhat fragile.”
The winds of change strengthened in the 2006 OECD Employment Outlook entitled Boosting Jobs and Incomes, which presented a comprehensive econometric analysis of employment outcomes across 20 OECD countries between 1983 and 2003. The sample included those who have adopted the Jobs Study as a policy template and those who resisted labour market deregulation.
The report provided an assessment of the Jobs Study strategy to date and reveals significant shifts in the OECD position. OECD (2006) finds that:
- There is no significant correlation between unemployment and employment protection legislation;
- The level of the minimum wage has no significant direct impact on unemployment; and
- Highly centralised wage bargaining significantly reduces unemployment.
That message has been buried again as the pro-deregulation lobby mounts a renewed effort to undermine working conditions and redistribute national income to capital.
It didn’t work before the crisis. It will not work now because the major obstacle to growth is not structural rigidity but a comprehensive lack of aggregate demand (spending).
The BIS claim that deregulation is required to:
… allow resources to flow more easily from low- to high-productivity sectors, with obvious gains for growth
Resource mobility is heightened when economic activity is strong. There is limited capacity for economies to achieve transitions from low- to high-productivity sectors when:
- Labour market deregulation is undermining wages and working conditions, which create incentives for firms to retain old, lower cost technologies.
- Fiscal austerity creates rises in unemployment (in a context of already high mass unemployment) which undermines household spending and provides no incentives for firms to invest in new, best-practice (high productivity) technology.
The other stunning aspect of the Report is the apparent ignorance of the BIS in terms of their recommendations with respect to private and public debt.
The BIS state the obvious that public debt ratios rose during the crisis. They only did that in non-Eurozone nations because governments insist on supplying corporate welfare to the financial sector in the form of matching deficit spending $-for-$ with debt-issuance to the private bond markets.
But that welfare provision has no bearing on the scope that currency-issuing governments to run deficits and so movements in public debt ratios, under those institutional arrangements, in the current period, merely signifies the extent of the collapse in private spending from around 2008.
That is the issue that needs to be addressed and focusing on the change or level of public debt ratios has misdirected the debate into dead-ends, which have led to policies that have made the situation worse.
The reference to non-Eurozone nations is important because under the flawed design of the monetary union in Europe, government surrendered their currency sovereignty and thus have to issue debt to the private markets. But the ECB could (and are) easily circumvent that requirement via various ruses that skate around the dysfunctional rules arising out of the Treaty of Lisbon.
The Graph 1.2 (Page 7 of the Report) which shows the Change of debt, 2007-12 confirms that countries which have the deepest recessions are those with the largest positive change in public debt to GDP ratios. The graph confirms the point that policies that try to bring down these ratios by killing growth fail.
The BIS claim that:
Although countercyclical fiscal policy was needed to combat the threat of depression at the height of the financial crisis, the situation is different today.
Why is that? Well apparently they are drunk on the kool-aid provided by those Excel Spreadsheet experts:
… studies have repeatedly shown that as government debt surpasses about 80% of GDP, it starts to become a drag on growth.
None of the credible studies establish any such threshold. That is a lie.
The BIS claims that “Ultimately, outsize public debt reduces sovereign creditworthiness and erodes confidence” – note the use of the qualifier “ultimately”.
When is ultimately? Japan has been running very large public debt ratios for 20 years now and there is always a long queue lining up to purchase yen-denominated public debt (as evidenced by the unwavering bid-to-cover ratios).
The assertion is evidentially vacuous – the mouthing of the fear-mongering ideologues, which is not the role that a large organisation such as the BIS should play. It is more the role that Fox News might adopt.
Which advanced national government that issues its own currency and has only borrowed in that currency faced a credit failure and a erosion of confidence? Answer: None that I can recall and I know the data as well as the BIS economists.
The BIS claim that:
… with low levels of debt, governments will again have the capacity to respond when the next financial or economic crisis inevitably hits.
One by one the lies are rehearsed. There is no additional capacity to respond if the government is running surpluses (large or small) or deficits (large or small). The level of public debt to GDP that a nation holds is irrelevant to the capacity to spend.
A sovereign government can always buy anything that is for sale in the currency it issues including all the unemployed labour. In fact, it has a duty to purchase all that unemployed labour if there is zero bid for its services from the non-government sector.
The startling point about this Report is that never actually get a definition of fiscal sustainability. The term is all over the Report with austerity being the key to achieving it but when do we conclude enough is enough?
It would be a lot easier for the BIS if bond yields were rising quickly. Then they could hang a definition on some reversion in bond yields. But that hasn’t happened.
If economies were bursting at the seams (full employment with rising inflation) then the BIS would have some benchmark to assess against. But that hasn’t happened.
All we get are statements such as:
Although there is no hard and fast rule for selecting debt targets, the calculations that follow assume a safe debt target of 60% of GDP for advanced economies and 40% for EMEs.
Remember, the revelations last year about how the Stability and Growth Pact debt limits (reflected in these so-called “safe debt” limits) were plucked out of thin air over a weekend by the French advisor to the Mitterand government at the time.
Remember the revelations in Le Parisien article (September 28, 2012) – L’incroyable histoire de la naissance des 3% de déficit (The incredible story of the birth of the 3% deficit)
An English language report – The secret of 3% finally revealed – says that a “former senior Budget Ministry official” in the Mitterrand government was asked to come up with the fiscal rules that would become the Stability and Growth Pact (SGP).
He was quoted as being the “the inventor of the concept, endlessly repeated by all governments whether of the right or the left, that the public deficit should not exceed 3% of the national wealth”.
Note that this reporting, itself, is misleading because wealth is a stock and GDP is a flow and the SGP budget deficit rule is specified in terms of 3 per cent of GDP (the size of the flow of national output and income in any given period).
Anyway, the French official had this to say when asked about the origins of the 3 per cent rule:
We came up with the 3% figure in less than an hour. It was a back of an envelope calculation, without any theoretical reflection. Mitterrand needed an easy rule that he could deploy in his discussions with ministers who kept coming into his office to demand money … We needed something simple. 3%? It was a good number that had stood the test of time, somewhat reminiscent of the Trinity.
Which is another example of the arbitrary rules and assessments – all part of an elaborate smokescreen or charade – to limit the capacity of government. There are countless highly paid officials in Brussels and Washington and within the BIS strutting around making all sorts of statements about the need for nations to cut welfare, wages, jobs and the like based on a rule that was just made up on the spot without any economic justification or authority.
The BIS then conduct what they consider to be a rigorous analysis of “the change in the underlying primary balance that would be needed to bring debt levels down to the above-mentioned targets by 2040″ all of which is just the product of someone with too much time on their hands and an Excel spreadsheet in front of them.
The BIS also entertain the fiscal contraction expansion myth. They dispute the claim that fiscal austerity will undermine growth in the current period although they acknowledge that “(f)iscal consolidation has undoubtedly been a drag on growth in the last few years.”
Their reasons for disputing the calls for less austerity are pure assertion. Despite the IMF admitting that fiscal multipliers are closer to 1.7 than 0.5, the latter which conditioned their forecasts and recommendations for austerity, the BIS assert that there is “no compelling evidence that they are large enough to render fiscal consolidation more difficult”.
Of-course, the issue is not whether net spending cuts are difficult or easy. The issue is whether fiscal austerity is undermining growth and causing unemployment to rise. Only a ideologically-blinkered idiot would conclude that austerity has been good for growth or employment.
But the BIS says “other factors almost surely contributed to unexpectedly weak growth”. There was nothing unexpected about the weak growth that followed announcements by government to run pro-cyclical fiscal austerity. But what are these “other factors”?
Well apparently (without any evidence cited) in Europe “large, front-loaded fiscal consolidation was a necessary remedy without which the loss of output would have been even greater” because investors stopped buying Greek government bonds.
Well the ECB has demonstrated categorically that the bond markets don’t matter a tap. The ECB could have gone one step further and told governments that they should prioritise growth and that their deficits would be adequately funded. Whatever the bond markets thought about that would have been irrelevant and growth would have risen immediately.
The BIS also mount a curious claim that “larger multipliers do not necessarily undermine the case for an early or relatively fast adjustment”. This is because unless governments scorch their economies now with large discretionary fiscal contractions because if there is no recovery their debts will be higher in the future.
But if the multipliers are “larger” (than the wrong multipliers the IMF has admitted using but have now renounced in favour of estimates in the range of 1 to 1.7 – which means that government spending of a $1 will increase GDP by more than a dollar perhaps even up to $1.70), then there will be growth.
There are several similar assertions. There is no analysis of the massive costs of having 60 per cent of a nation’s 15-24 year olds unemployed for years – their formative years. There is no analysis of the devastating losses in national income of prolonged austerity.
Finally (I am running out of time), there is the basic denial of macroeconomics running through the Report.
The BIS claim that the non-government sector and the government sector have to simultaneously reduce their debt ratios (and levels). Okay, that is a popular claim by those who have no idea of what that means.
Basic macroeconomic theory tells us that spending equals income. If there are leakages from the spending cycle via saving, imports, or taxes then there have to be equal injections into spending stream (via government spending, investment spending or export revenue) if the current level of economic activity is to persist.
At present the level of economic activity is vastly below potential – large output gaps are everywhere. So there needs to be more injections and/or reduced leakages to boost overall spending and create the conditions for higher levels of national income and employment.
That should be the policy imperative.
The private domestic sector in most nations is clearly carrying a debt overhang from the credit binge and needs to restore balance sheet credibility. That means the sector has to save.
What do we mean by that? Well, the deleveraging might be centred on the household sector. In that sense, the household saving ratio has to rise, which means at current levels of disposable income, consumption has to fall.
That could be offset, within the private domestic sector if private firms lift the investment ratio. But with the government running an austerity program (cutting aggregate demand), which will show up as declining orders to firms, and consumption spending falling, what theory of private investment would conclude that firms will start building new productive capacity?
The historical evidence is very strong and very clear. Firms currently have excess productive capacity, which means they can meet all the current spending with existing capital stock. The reality is that if their sales are declining in the face of government cutbacks and declining household consumption, firms are likely to cut investment plans, which reinforces the vicious cycle of contraction.
Okay, there might be a sudden boost to net exports to fill the gap as both the government and private domestic sectors contract. Probability? Highly unlikely, especially if many governments are pursuing the same strategy and many private domestic sectors are deleveraging.
Please read my blog – Fiscal austerity – the newest fallacy of composition – for more discussion on this point.
For most of the nations, currently run substantial external deficits, there is no possibility that the IMF-dream solution – an export led recovery – will come in the face of domestic spending austerity.
So how can the non-government sector and government sector simultaneously run surpluses? Answer: impossible.
I regularly enjoy reading the old BIS Annual Reports from the 1940s and 1950s. The narratives are interesting and reflect a more balanced approach to economic analysis, even if I disagree with some of the theoretical principles advanced.
However, I think a future generation will pick up the current range of Annual Reports offered by the BIS and wonder what planet they were produced on. Not only has the style of the narrative changed and become ideological and assertive in tone but also the evidence base for the discussion is largely non-existent.
Where relevant evidence does exist it is ignored. These annual reports will fall into the dustbin of neo-liberal nonsense when the world finally wakes up from this black era of ignorance and elite domination.”
This Report is a disgrace. Please read my blog – BIS now part of the neo-liberal propaganda apparatus – for more discussion on the way the BIS has evolved into a institution of misinformation.
That is enough for today!
(c) Copyright 2013 Bill Mitchell. All Rights Reserved.