G20 needs to reverse its protectionist waysLink to article
Growth within the G20 has stagnated and UBS believes that structural reform will be more difficult to achieve as a result of increasing protectionism. While the discussion around slowing growth has been focused on the diminishing effects of monetary policy, it is starting to shift to the idea that governments need to promote structural reform. Infrastructure spending is required across both developing and developed countries to lift productivity growth. However, the G20 has become more protectionist, having imposed 1441 protectionist measures since the GFC with around 75% still being enforced. Reluctance to engage in free trade may see inefficient domestic oligopolies to emerge, causing productivity to continue slowing and inflation to rise.
How does this relate to the HSC syllabus?
- Protection refers to an artificial advantage given to domestic firms by the domestic government. Forms of protection include tariffs, quotas and subsidies (HSC Topic 1 – Protection).
- Monetary policy around the world is becoming less effective as interest rates approach the zero lower bound (HSC Topic 4 – Monetary Policy).
- Central banks in Japan and Europe have tried negative interest rates with no success in boosting economic activity.
- This has prompted discussion around what should be done instead, and one suggestion is to focus on longer term microeconomic policy, such as infrastructure spending and reductions in protection (HSC Topic 4 – Microeconomic Policy).
- Microeconomic reform aims to achieve economic efficiency by improving aggregate supply. These policies are long-term oriented and attempt to generate structural change. For example, infrastructure spending increases productive capacity in the long run, driving long term economic growth.
- However, one big disadvantage of microeconomic reform is its impact lag – it takes years for the effects of the implementation of microeconomic reform to be felt in an economy. Governments typically favour shorter term policies because voters have a shorter-term mentality and struggle to see long-term benefits. This reflects the political constraint of microeconomic reform.
- Countries around the world are becoming more ‘nationalistic’ and imposing more trade protection. One possible reason for this is to boost employment in the short run, especially in today’s economically uncertain times (given Brexit, China’s growth slowing down and impending US elections). Trade protection gives domestic firms a competitive advantage, which then allows these firms to better compete and perform better in the short run. This allows these firms to hire more people (HSC Topic 1 - Protection).
- However, this argument for protection does not necessarily hold in the long run. By having protection, it shifts resources to inefficient industries. These resources could otherwise be used in efficient export industries, which would generate higher economic growth.
- In addition, when countries implement more protection, there may be a retaliation effect from other countries, where they implement more protection in response. This effectively cancels out the benefit from implementing protection and reduces allocative efficiency in both economies.
- There are numerous benefits of free trade including: increased specialisation of labour and capital, increased productivity, increased competition and increased consumer choice (HSC Topic 1 – Free Trade).
RBA governor Glenn Stevens warns growth is not a game
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In his final interview has governor, Glenn Stevens warned that the long period of economic growth enjoyed by Australia has bred complacency. Stevens indicated that at $US0.76, the Australian dollar is close to fair value but could damage the economy if it appreciates. Currency manipulation attempts by the Bank of Japan and European Central Bank were criticised which has impacted the Australian dollar. Lower rates overseas have heavily impacted Australian monetary policy, causing the Reserve Bank to cut rates to a record low of 1.50%.
Stevens cited the property market as one of the most significant issues facing the Australian economy.
How does this relate to the HSC syllabus?
- Australia has experienced 25 years of positive economic growth (increases in real GDP over time), which has become the norm in Australia. Stevens argues that this may lead to voters and politicians with the deluded view that it’s “just the natural state of affairs, that we don’t need to do anything to achieve it”.
- In particular, he cites the need for fiscal discipline. Currently, the Australian government has been running consistent budget deficits since the global financial crisis. Stevens has been notably critical of the Australian government’s inability to repair the budget, reflecting the importance of politics as an influencer of fiscal policy (HSC Topic 4 – Fiscal Policy).
- He also mentions that demographic changes will be a challenge not only for Australia, but for the rest of the world. The ageing population will put further pressure on government spending, in aged care, social welfare and healthcare. A lower proportion of the population will be able to contribute to Australia’s economic growth as more people retire (HSC Topic 4 – Fiscal Policy).
- Overall lack of fiscal discipline will contribute to lower external stability for Australia. Earlier in the year, Moody’s has stated there is a risk of losing the government’s AAA credit rating unless the government can consolidate its budget position, which will result in a higher interest burden overseas (HSC Topic 2 – Balance of Payments, HSC Topic 3 – External Stability).
- Stevens has criticised currency intervention by the Bank of Japan and the European Central Bank (HSC Topic 2 – Exchange Rates).
- Currently, the Australian dollar, as well as the Japanese Yen and Euro, are considered floating currencies – their value is determined by the interaction between demand and supply.
- However, these central banks have the ability to “dirty the float” and intervene in the foreign exchange market. Overseas central banks have been manipulating their exchange rates to depreciate them to boost competitiveness of their exports. They have been doing this by directly intervening by buying and selling currency, and indirectly intervening by lowering their interest rates. As many economies around the world aim for a lower exchange rate, it has led to what has been known as a global currency war.
- Stevens states that high property prices in Australia, especially Sydney, are a source of “discomfort”.
- There are fears that house prices in Australia are forming an asset price bubble, where the prices are increasing unsustainably and will eventually “pop” and cause a recession.
- The lowering of the cash rate puts upward pressure on house prices because it incentivises more households to purchase new property. At the same time, Australia’s inflation rate is on the lower end, meaning there is more room to encourage real growth.
- This reflects that monetary policy is a blunt instrument and an appropriate balance must be struck between conflicting goals. Stevens believes the right balance has been achieved between avoiding an asset bubble and boosting aggregate demand in the economy (HSC Topic 4 – Monetary Policy)
- Stevens credits the Australia Prudential Regulation Authority (APRA) and the Australian Securities and Investments Commission (ASIC) for the tightening of lending standards, which reduces the risk that housing loans will be defaulted on, preventing a situation like the global financial crisis (Prelim Topic 5 – Financial Markets).
Theresa Dang is an economics mentor at Keystone Education. She attended Sydney Girls High and achieved an ATAR of 99.70 in 2012. She is now studying Commerce and Law at the University of Sydney. She has experience in a global technology firm and a mutual fund.
Gary Liang is the founder and director of Keystone Education. He attended Sydney Boys High and achieved an ATAR of 99.95 in 2012. He achieved 5 state ranks in Mathematics, Mathematics Ext 1, Mathematics Ext 2, Chemistry and Economics. He is now studying Economics and Science (Advanced Mathematics) at the UNSW Australia, where he is the recipient of four scholarships.