I am fairly tied up today on the Gold Coast where I presented a Keynote address to an unemployment conference. But I was reading the news on the plane this morning from Melbourne. While in Melbourne for work last week, I stayed over and saw a great movie at the weekend at the Melbourne Film Festival – Human Capital – which I recommend. On the plane this morning I noticed our intrepid Prime Minister has taken to lecturing the Scottish about their political destiny. His exhortations are both hypocritical and reflect a failure to comprehend the options that national sovereignty would provide Scotland, which has a referendum coming up on September 18. But even if they build a bit of national solidarity in Scotland (against the foreigner), the First Minister who is pushing the YES vote is still proposing to enslave the nation to a foreign power – none other than Britain. His currency Plan A amounts to madness and would not underpin a vibrant independent Scotland. As such I would be voting NO at the referendum but feeling bad that the so-called progressive political classes in Scotland were so entranced with neo-liberalism that they forced obvious YES votes to become NO votes.
Tony Abbott (Australia’s PM) has just spent some time with the British PM and appears to be placing himself as a spokesperson for the Conservative voice on the Scottish referendum.
He was quoted in this artcile (August 16, 2014) – Advocates of Scottish independence not friends of freedom and justice: Tony Abbott – as saying:
What the Scots do is a matter for the Scots and not for a moment do I presume to tell Scottish voters which way they should vote. But as a friend of Britain, as an observer from afar, it’s hard to see how the world would be helped by an independent Scotland. I think that the people who would like to see the break-up of the United Kingdom are not the friends of justice, not the friends of freedom, and that the countries that would cheer at the prospect of the break-up with the United Kingdom are not the countries whose company one would like to keep.
The current Scottish First Minister Alex Salmond instructed his spokesperson to tell the press that Mr Abbott had “put his foot in it”. Which seems to be an understatement.
First, for those not familiar with Australian history, is that on January 1, 1901 Australian Federation became operational whereby the former British colonies became states of the Commonwealth of Australia.
While we didn’t become a Republic (and have still not been able to achieve that obvious status), the Federal government did manage to gain the constitutional power on that day to issue the national currency and remove that capacity from the States, which had been using British currency.
It wasn’t until 1910 that Australian coins became the exclusive currency and then we had to wait for several decades while we participated in various gold standard schemes, including the Bretton Woods exchange rate system, until we had the benefits of a fully fiat currency.
After President Nixon abandoned US dollar gold convertibility in August 1971, all nations had the choice of going fiat. The point of taking that step was that the currency-issuing government was no longer financially-constrained in its spending options.
Under the fixed exchange rate system with convertibility into gold, all participating governments had to raise tax revenue or issue debt (that is, take money out of the non-government sector) in order to spend, even though it issued the underlying currency.
The central bank could only issue currency in proportion to the gold stocks it held.
After 1971, with gold convertibility out of the picture, governments could spend as they liked, without recourse to tax revenue or debt issuance. Regular readers will know that this is a familiar theme of this blog.
Would anyone say that by breaking away from our colonial past and forming a separate nation (the Commonwealth of Australia) undermined the freedom of other nations or the citizens of our own nation (notwithstanding the on-going abhorrent treatment of our indigenous citizens)?
Would anyone say that the creation of the Commonwealth of Australia endangered the enforcement or achievement of justice, whatever that means?
Should all our allies have shunned us because we separated from our colonial past to for a new nation?
Hypocrisy has no bounds it seems!
Does anyone believe that if the citizens of Scotland vote to create a separate nation that they will become a haven for anti-freedom, anti-justice, terrorist groups intent on world domination and attacking our freedoms? Only Tony Abbott it seems.
First Dog on the Moon – Tony on Scotland
Here is the promotion for today’s excellent Australian Guardian edition comic from the brilliant – First Dog on the Moon. Click the following image for the full cartoon – it is worth it.
Back to Scotland
The second point goes beyond the eccentric ravings of our Prime Minister (noting how free I am to say what I want in this country).
The Scotsman newspaper – reported – yesterday (August 17, 2014) that the voting is 61 per cent No and 39 per cent Yes.
This came after the debate between the First Minister and the so-called Better Together campaign head Alistair Darling. But the latest polling actually shows that 9 per cent are undecided which means that the No Campaign in Scotland is at 55 per cent to 45 per cent. That is a different picture but the Referendum looks like going down anyway.
The proposal by the Nationalists (supporting Yes) is, however, deeply flawed and centres on poorly constructed plans for the currency arrangements that might follow a Yes vote.
The so-called Plan A proposed by the the Nationalists under Alex Salmond, would see the new country sharing the British pound.
What you say? Why would Scotland want to enter a currency union with the British and use a foreign currency?
Salmond lives a short distance from the biggest failed currency union of all time – the Eurozone. What does he actually think would be the prospects for Scotland using a foreign currency, being forced to take its interest rates from the Bank of England, and being subjected to strict fiscal rules that would choke spending in the economy?
He might want to check out Eurostat data and scroll down to Greece, Portugal, Spain, Italy, or take a ferry to Ireland. That would be the future of Scotland under his preferred Plan A.
Facing critics from all sides of British politics who claimed that the Bank of England would never agree to such a plan, the First Minister was quoted in the UK Guardian article (August 9, 2014) – Scottish independence: Salmond refuses to consider currency Plan B – as saying:
Plan B implies settling for what’s second best. And neither myself, my colleagues in the SNP, or the wider yes campaign will ever settle for second best for Scotland.
Which suggests that just like our own Prime Minister, the Scottish First Minister has ‘put his foot in it’.
The YES campaign has a WWW site, which has the logo – “YES, Scotland’s future in Scotland’s hands” (Source), and then proceeds to advocate that:
The Scottish Government proposes that an independent Scotland will continue to use the pound and enter into a formal currency agreement with the government of the United Kingdom.
In other words, Scotland’s future will not be in its own hands but rather be severely limited by the fiscal and monetary policy decisions taken by the British government, as now.
The YES Campaign says that “based on expert advice”:
Scotland should continue to use the £ as part of a currency union with the rest of the UK … A currency union also means cooperation over other issues including financial supervision and agreed fiscal rules.
As is the case now, the Bank of England (which is publicly owned) would retain responsibility for monetary policy – including interest rates – throughout the currency area, as well as continuing to act as lender of last resort to financial institutions in difficulty.
So no currency sovereignty at all.
The YES Campaign claims that forming a currency union is just a matter of “common sense”
The “expert advice” came from none other than the Scottish Fiscal Commission, which has among its members Joseph Stiglitz, who is currently considered one of the darlings of the progressives. Which just goes to show.
The Commission has released a number of reports to support Plan A.
Its report on – Fiscal Rules and Fiscal Commissions claims at the outset that:
Public sector borrowing is one of the most important and valuable tools of macroeconomic policy open to any independent government.
A fully independent government does not need to borrow. Such borrowing is a left over from the old Bretton Woods system when governments had to fund deficits. A fiat monetary system means the government does not have to borrow any longer. The retention of such borrowing has been used by neo-liberals ever since 1971 to stifle government spending and force austerity onto economies.
It is a redundant tool of macroeconomic policy and should be discontinued. No progressive should argue otherwise.
The Report also runs the Eurozone angle – “harsh lessons of the global financial crisis and economic downturn have highlighted the need for greater fiscal sustainability and resilience, and for fiscal rules that embed these into economic policy making”.
Which is a ridiculous statement. The GFC has taught us that:
1. Monetary policy is largely ineffective as a counter-stabilising stimulatory tool.
2. Fiscal policy is extremely effective at redressing short-falls in private spending and saved millions of jobs when it was expanded. Government stimulus was withdrawn too early and too quickly and the rest is continued stagnation in many nations.
3. The only nations that encountered trouble with their bond markets were those that do not issue their own currency. Any suggestion otherwise is a total lie.
The Commission also recommends that the public sector fiscal balanced be balanced over a fixed period of time, which tells you that they consider fiscal policy to be understood only in terms of the ‘balance’ rather than the function that the net spending is fulfilling.
There is no reason that a fiscal balance should be anything in particular over any particular time period. It should be whatever is necessary to support the non-government spending and saving decisions and ensure there is sufficient spending in the economy to achieve full employment.
If that requires continuous fiscal deficits of 10 per cent of GDP then so be it. It is required permanent surpluses of 10 per cent of GDP then so be it.
For a nation with a very large external surplus (say a large energy exporter) and strong private saving, then a fiscal surplus might be appropriate.
But most nations will have external deficits of varying magnitudes and then if the non-government domestic sector desires to save, the public balance has to be in deficit, or else a recession will ensue.
The only way around that is if the private domestic sector goes on a debt binge and keeps growth going that way. But that growth strategy is ephemeral, as we have seen with the GFC and eventually the private sector stops the credit glut and tries to restore its balance sheet – at that point, fiscal drag kills growth.
So no standalone rule like a ‘balanced budget over a cycle’ makes any sense at all. It all depends on the spending and saving decisions of the non-governent sector and they can change.
The Scottish Fiscal Commission also put out a report on the desirable – Macroeconomic Framework – which says that:
Under independence, the Scottish Government would be responsible for the design and implementation of its own macroeconomic framework.
Yes, it would free Scotland from the decisions made by the UK government – if they also ditch the currency and set up an independent central bank.
So what does the Commission recommend:
– Currency – Sterling
– Central Bank – Bank of England (the ‘BofE’)
– Day-to-day monetary policy discharged independently (operationally) by the BofE.
– Interest rates set to promote price stability across ‘Sterling Zone’
Which they claim would give “Full economic sovereignty with Scottish Parliament” but which in practice would still tie the country to the United Kingdom and thwart any particular spending initiatives that might run counter to the existing fiscal position of the British government.
The Scottish government could not run an independent full employment policy with large-scale public sector job creation, for example, when the UK government was running austerity and it was forced to balance its budget.
There is thus very little to support in the Scottish National Party’s referendum pitch.
I would recommend the Scots vote YES in September. But only if the Referendum was clear that the new nations would introduce its own unpegged, floating currency and avoid any talk of joining the Eurozone or entering a currency union with Britain.
Further, I would only recommend voting YES, if the political parties committed to a clear statement that they would use the newly created currency sovereignty to achieving full employment and abandoned the neo-liberal austerity straitjacket that it is trapped in as a result of being part of Britain.
Under those circumstances,the creation of a separate nation would unambigously improve the welfare of the Scottish people. If they continued to use the British pound and/or maintained the austerity mindset that dominates neo-liberal governments around the advanced world at present, then nothing will be gained that would benefit the Scottish people.
But Plan A is anything but that and so I would vote NO.
While the ‘nationalist’ sentiments that go back in history are an important part of a nation’s defining culture, which are driving the need to be independent of Britain after losing that status in 1707, the currency arrangements define what a government can do and cannot do on behalf of its people.
In general, the statements by the Fiscal Commission about fiscal autonomy and full fiscal responsibilities are fraught with misconceptions given that the Government does not propose full currency sovereignty.
The absence of their own central bank would completely compromise the new government’s capacity to advance public purpose independent of policy settings from Westminster.
A sovereign government in a fiat monetary system has specific capacities relating to the conduct of the sovereign currency. It is the only body that can issue this currency. It is a monopoly issuer, which means that the government can never be revenue-constrained in a technical sense (voluntary constraints ignored). This means exactly this – it can spend whenever it wants to and has no imperative to seeks funds to facilitate the spending.
This is in sharp contradistinction with a household (generalising to any non-government entity) which uses the currency of issue. Households have to fund every dollar they spend either by earning income, running down saving, and/or borrowing.
Clearly, a household cannot spend more than its revenue indefinitely because it would imply total asset liquidation then continuously increasing debt. A household cannot sustain permanently increasing debt. So the budget choices facing a household are limited and prevent permanent deficits.
These household dynamics and constraints can never apply intrinsically to a sovereign government in a fiat monetary system.
There is also a sharp distinction between a state within a federal system (which uses the federal currency and has no central banking capacity) and a truly sovereign national government.
A sovereign government does not need to save to spend – in fact, the concept of the currency issuer saving in the currency that it issues is nonsensical.
A sovereign government can sustain deficits indefinitely without destabilising itself or the economy and without establishing conditions which will ultimately undermine the aspiration to achieve public purpose.
Further, the sovereign government is the sole source of net financial assets (created by deficit spending) for the non-government sector. All transactions between agents in the non-government sector net to zero. For every asset created in the non-government sector there is a corresponding liability created $-for-$. No net wealth can be created. It is only through transactions between the government and the non-government sector create (destroy) net financial assets in the non-government sector.
This accounting reality means that if the non-government sector wants to net save overall in the currency of issue then the government has to be in deficit $-for-$. The accumulated wealth in the currency of issue is also the accounting record of the accumulated deficits $-for-$.
So when the government runs a surplus, the non-government sector has to be in deficit. There are distributional possibilities between the foreign and domestic components of the non-government sector but overall that sector’s outcome is the mirror image of the government balance.
If Scotland wants to be truly independent it has to have its own currency.
Then all the issues about what ratings the public debt would get from the bond markets and the rating agencies and all the rest of the nonsense would fade away into irrelevance.
Another leading commentator puts his foot in it!
To show how mixed up people are about currencies, the national Murdoch rag, The Australian wheeled out one of its regular conservative commentators in this morning’s edition. In the article –
Big picture must frame reform – Henry Ergas, who regularly advocates greater deregulation and reduced government spending really put his foot in it.
He opened by asserting:
In Australia’s case, we cannot run large budget deficits forever. At some point, debt accumulation, combined with loss of confidence and external shocks, will force painful adjustments.
First, we do not run large fiscal deficits anyway but could without any negative consequences if they were scaled to the non-government sector spending gap.
Further we ran continuous fiscal deficits for most of our history as I explained in this blog – Fact checking the fact checkers is required in macroeconomic matters.
The following graph shows the period since 1953-54 to 2013-14. The columns are the fiscal balance as a % of GDP and the green line is the real GDP growth for the fiscal years. The averages shown in the bottom right-hand corner are for real GDP growth and the split in the sample reflects the switch from Keynesian policy ideals – using fiscal policy to generate full employment (prior to mid-1970s) and the Monetarist-Neo-liberal period that followed where deficits became a symbol of lax government.
The growth rate fell in the second period by almost 50 per cent and, of-course, unemployment rose from its average of below 2 per cent to much higher numbers (averaging 6.9 per cent since 1974). Fiscal deficits were higher on average in the earlier period but that mostly reflected discretionary choices aimed at nation-building.
The red lines roughly depict distinct phases of economic growth (note roughly) and the numerical annotations for each of these periods is the average fiscal deficit as a per cent of GDP for the period.
It is hard to align the fiscal years with economic cycles in real GDP growth, given that the peaks and troughs of the latter occur in quarters and the fiscal data is for fiscal years. But a close approximation is shown in the following Table that I constructed.
The periods reflect peak to peak (that is, one entire real GDP cycle). The data suggests that there is no tendency to ‘balance the budget’ over these cycles.
The norm is for deficits to persist over the entire cycle except for the one cycle noted above where the average was a fiscal surplus – but then during that period, households enslaved themselves with a massive debt build-up and they are enduring the consequences of that now as housing prices become more subdued and casual hours of work for the secondary bread-winner to supplement repayments become more difficult to get.
Henry Ergas then really put his foot in it, saying:
Last week’s news from Europe shows just how painful those adjustments can be. After modest signs of recovery, the eurozone has slipped back into zero growth, with even Germany, its powerhouse economy, sliding into negative territory. While the European Central Bank is ramping up its interventions, monetary policy has proven more effective in preventing collapse than in reigniting expansion. With government after government reaching the limits of indebtedness, the eurozone seems set for a lost decade.
Nor is there any doubt who is paying the price. Recently released OECD data shows that poverty has increased most in the countries where the fiscal crisis has been most severe. On even the narrowest definition of the poverty line, the proportion in poverty has more than doubled since 2007 in Ireland and Greece, while nearly doubling in Spain. And even countries with well-developed safety nets, such as The Netherlands, have struggled to maintain their effectiveness as slower growth and fiscal constraints bite. To make matters worse, stagnation is fuelling neo-populist movements, such as France’s Front National, whose opposition to economic reform will entrench Europe’s difficulties.
Note, he is writing about Australia here. In the previous two (quoted) paragraphs is there a single currency-issuing nation mentioned.
Answer: No. All the nations that are in crisis use a foreign currency (the euro) and have signed up to nonsensical fiscal rules (the Stability and Growth Pact).
The fact that monetary policy has had little stimulatory effect is hardly surprising – why would it if fiscal policy austerity is deliberately creating millions without work and destroying the investment climate. Why would anyone want to borrow under these circumstances?
The fact that he think monetary policy should have done something (implicit in his ‘surprise’) is testament to the skewed neo-liberal thinking that says fiscal policy is largely ineffective and monetary policy is the principle counter-stabilisation tool.
It never was and never will be. That is just neo-liberal Groupthink mantra! Wrong as usual.
There is only a ‘fiscal crisis’ in nations that surrendered their currency sovereignty. There is no such crisis in any other nation irrespective of the level of public debt.
Why doesn’t Henry Ergas cite Japan? The reason is that it would be too inconvenient because it blows the mainstream claims out of the water – highest public debt ratios, high deficits for two decades, zero interest rates, and deflation! Everything that the mainstream economics textbooks tell us shouldn’t happen.
Everytime the government in Japan tries to impose austerity, the economy goes into recession.
Of-course, countries that impose harsh fiscal austerity will force poverty rates up. Who would be surprised by that? Austerity kills jobs and unemployment is the principle cause of poverty.
The ultimate cause though is that these nations surrendered their currency sovereignty. The analysis therefore is totally inapplicable to Australia which retains that sovereignty.
Ergas either doesn’t understand that or is deliberately misleading his readers. Either way his message should be disregarded.
The so-called fiscal “day of reckoning” for Australia that Ergas proclaims is approaching is just neo-liberal claptrap – ignore it.
The problem for the Scottish people is that their so-called progressive political party, which is pushing the YES vote are all closet neo-liberals and probably don’t even understand the reasons I say that, which is part of the problem.
They think that by falling into line with the Washington Consensus which is now the Brussels-Frankfurt consensus as well and supporting a currency union with Britain with tight fiscal rules that they are appearing to be fiscally responsible and the bond markets will like them.
The reality is that their grand plans for independence would grind to a halt because they would be using a foreign currency and the bond markets would know that. Greece all over again.
The only fiscally responsible position is to base independence on the creation of its own separate sovereign currency. Then the Scottish Government could achieve its goals to enhance the common good and it could avoid the nonsensical fiscal austerity that has captured the British government.
Running a nation of 5 million odd people with limited resource diversification would not be easy. But I suspect the people would be better off overall with true independence.
However, if they keep the British pound, then independence will achieve little – other than soothe the nationalist desires.
I would be voting NO under the current proposals and feeling a heavy heart in doing so.
That is enough for today!
(c) Copyright 2014 Bill Mitchell. All Rights Reserved.