Government crisis plans should be clear-headed & transparent

A quip goes: when your neighbor loses job, it is economic slowdown; when you lose your job, it is recession; when an economist loses his job, it is called a depression. Right now, despite conundrum about whether global economy has reached recession or depression, nobody could deny that pervasive fear about worsening market has caused risk-aversion in consumers, firms and banks to such an extent that aggregate spending has declined, bludgeoning GDP to shrink even for emerging market economies like China and India. Three major systemic crises --'Food Peril, 'Climate Change' and the 'Financial Debacle'--have plagued year 2008 with a ricochet effect. Economies are nose-diving with worst slump in decades since the 1930s, while the UN estimates of global economic growth being just 1%.

As consumers are frightened, credits are squeezed, frenzied individuals are tightening their wallets, marketing strategies are hinging on "predictably irrational" psychology of homo economicus. "Buy 1 car, get the 2nd free: Recession specials run wild", goes the news caption in International Herald Tribune (January 5, 2009). All these deep discounts or desperate sale strategies show that sales are unresponsive to interest-rate cuts which are 'effectively' zero. Industrial output is plunging with the possibilities of a contagion of protracted recession as aggregate demand has dried up.

Following the 1937 Hicksian IS-LM interpretation of Keynesian doctrine, by increasing aggregate spending, government can increase the velocity of money in circulation, thus arresting price falls and fall in production. With rising unemployment, retrenchment, and evaporating demand the fear of deflation is looming large. Expected or unexpected, as it may be, deflation causes output to shrink even with very low interest rate as all the economies are seemingly dipped into Keynesian liquidity trap. This is sign of debt-deflation and self-defeating liquidation following Irving Fisher (1933). Aggressive fiscal policy, by either cutting taxes or, inducing demand in Keynesian fashion, is sensible way to avert the slump. The fundamentals will be restored once the ill-effect of the calamity subsides; for that, we need government to restore full faith.

With weakening demand for the Asian export oriented economies, the demand for products such as cars, semi-conductor, and consumer goods are evaporating in the crucial industrialized nations. Fiscal stimulus, adopted by most of the nations, is policy packages to prop up sagging demand. Consumer confidence reaching low, 'new New Deal'--- spending almost US $775 billion on five broad categories such as, infrastructure, school construction, energy efficiency for eco-friendly green growth, broadband internet access, and health care information technology-- has been launched by the president-elect Barrack Obama. Chimerica mirage effect, following economist Niall Ferguson, is blamed as the kingpin behind the economic catastrophe. The lesson is: too much interlinked dependency without judicious regulation and control could have disastrous consequences. Korea's faltering export, sole engine of economic growth and weak domestic demand, owing to debt-laden households and firms, are severe drag on the economy. The finance ministry is working for a fiscal expansion of 51 trillion won with one-third devoted to fiscal spending while two-third is reserved for tax cuts to stimulate job creation. Korea has also initiated government projects -Korean 'New Deal' along with the 'Green New Deal (investing in 36 eco-friendly projects) - to stimulate sluggish demand via job-creation (more than 956, 000), green growth, infrastructure development. China's planned fiscal expenditure package including public works, social welfare and tax reform is about $600 billion (14% of GDP). Chinese-style stimulus package focuses on raising incomes of low and middle income households, spending on health and education, infrastructure investment, social security benefits, VAT reform.

It is better not to view the financial crisis as an isolated phenomenon. A synergistic approach is necessary. For example, the much-needed government project spending to generate demand can induce spillover benefits as the investment could be used to tackle other crises--energy-environment crisis (via investing in biomass, energy efficient buildings and green car) and food crisis (investing in agricultural innovation). All crises are priorities. We can tackle three-pronged crisis, by for example, investing in green-clean technology, low carbon-high growth path, harnessing talents in R&D, investing in energy-saving technologies, agricultural innovation, creating social capital, expanded unemployment benefits, health care, tackling fundamentalist terrorism, spreading education. For fair, ethical and regulated market capitalism system to survive ascribing a minor role to the government is not justified. The best way to restore the global economy's health is to tackle on the basis of fairness, coordination and solidarity among nations.

"The fault, dear Brutus, is not in our stars, but in ourselves, that we are underlings (Julius Caesar)." Not only reversing the slump is necessary, but protecting the vulnerable and fragile economies, sufficient regulation and supervision of the financial systems, sustainable development with sensible energy policies, coordinated macro-economic policies are necessary. Giving confidence to everyone--the small trader, large business houses, those who are losing employment, educational opportunities, and health care--is important for increasing consumer confidence. We do have to have confidence that both the developed and developing nations can have appropriate public leadership to make it a shallow recession. Resolute public policy has a prime-mover role in setting the law of motion in a crippled global economy.

However, a caution: the government proposals should be clear-headed, transparent and genuine with definitive action plan, rather than being full of red herrings. These would help global economy to avoid a hard landing. We are, indeed, in the Keynesian territory to jump-start a weak global economy.

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Published in 'The Korea Times' on 13 January 2009.