Wednesday, March 02, 2005

The Banana Men 

The Banana Republic:
The Alternative was Always There

by former Australian Ambassador Dr James Cumes

I have explained, over and over again, for the past 36 years, the alternative policies for our country that I believe to have been and to be still now necessary. I have explained them in several books. I have explained them orally. I have explained them through the medium of the internet. They have always been and are still there for everybody to see at a minimum of inconvenience and expense.

Recently, there has been something of a debate with the Australian Treasury and specifically with the Secretary to the Treasury, Dr Ken Henry. Although, in the past, I have had many personal friendships with Treasury people, I have had fundamental differences with official Treasury policies since 1969 and, publicly, since 1971. In 1970 I wrote and in 1971 published a book called "The Indigent Rich: A Theory of General Equilibrium in a Keynesian System."

In the media attention that was given the book, my differences with Treasury policy were seen as revolutionary. The archives of The Canberra Times contain an account of the "revolutionary" nature of my proposals and of my conflict with Treasury (see page 2 of the issue of 1 October 1971). There is more in The Canberra Times of 13 August 1971, about the appointment of a Secretary to the Treasury to succeed Sir Richard Randall. My Minister at the time, Nigel Bowen, supported my "Indigent Rich" approach in correspondence with the then Treasurer, Billy Snedden. However, Snedden was firmly in the grip of his Treasury officials and their views prevailed.

Sadly, those views have prevailed ever since.

In their fundamentals, the monetary, fiscal and economic policies embraced by such Treasury heads as Wheeler and Stone in the 1970s and 1980s were the same as those embraced by Dr Henry today. Interest-rate and creditary policies are much the same both in the reliance placed on them and the belief in the nature of their impact. The banking system has undergone great "liberalisation" of course; but this has not reduced, on the contrary, it has enormously enlarged the risks deriving from misconceived macroeconomic policies.

I continued to try to change Treasury policies. In several submissions to Foreign Minister Bowen, for his guidance in Cabinet discussions at that time, I recommended the way in which the Government should go. That was at the still relatively early stage of around February 1972, although it was already some seven months after publication of "The Indigent Rich".

If the Treasury policies had not prevailed and we had followed the policies that I advocated - and that Foreign-Affairs Minister Bowen perceptively and actively supported - we would have become one of the Asian Tigers in the years that followed. The whole of Australian economic and social history of the last thirty years would have been changed. (My ideas could not have been too far astray, since, in essence, the Asian Tigers did what I had, long before, advocated we do and they succeeded brilliantly - indeed, miraculously.)

In 1972, it would still be some years before the dramatic changes in several east and south-east Asian economies could be identified and the term Asian Tigers coined. By then, the Treasury policies were deeply entrenched and, despite the damage they could be seen to have done - and even to this day can be seen to continue to do - they were persisted in, right up to the present administration of Treasurer Peter Costello and Dr Henry in March 2005.

When the Whitlam Government came into office at the end of 1972, I made the same recommendations to them on monetary and fiscal policies, aimed at stimulating fixed-capital investment, productivity and production and I wrote another book, published in 1974, called "Inflation: A Study in Stability." Although, by then, stagflation had swept around the world, the IMF had collapsed (though not as an institution) and governments everywhere were trying to manage the inflationary bogey, the Treasury - along with treasuries in many other countries - persisted with the policies I had told them, as far back as 1971, simply "do not work."
What we needed to do was to stimulate fixed-capital investment, productivity and production; not to use interest-rate and fiscal policies to slam pointlessly - and harmfully - into real growth, as we did constantly either in fact or in expectation into the 'eighties and then into the 'nineties. Sometimes, the assault on the economy, for example, under Treasurer Keating was terrifying in its fierceness and in its almost religious conviction that it was right. Remember "the recession that we had to have?"

I continued to write books - such as "The Reconstruction of the World Economy" and "The Multiple Abyss" - and to use whatever opportunities I could find to influence policy. There was a time shortly after Labor was elected in 1983, when Keating seemed to be amenable to new ideas. For a while, I had a useful, though discontinuous association with him; but he quickly became overwhelmed - or perhaps overawed - by Treasury "orthodoxy." He did so to such an extent that, when he made his famous "Banana republic" outburst, he was completely unaware that it was the very policies that he was applying and that his Treasury people had sold to him, that were to blame.

What does all this have to do with our huge trade deficits and those of the United States?

Some commentators suggest that, "there are reasonable grounds for Greenspan's view that market adjustments could correct those imbalances...."

Let's hope they are right.
First, let's be clear that the imbalances are chronic. They might move up a bit from time to time. They might move down a bit. But they have been stubbornly there to stay ever since domestic inflation began to subside. What that means, of course, is that domestic inflation never did subside, except in outward appearances. The Treasury policies could do nothing but ensure that they did not subside but that they would grow worse. All that happened was that, as soon as supply was available from other, external sources - that is, instead of increased supply coming from increases in our own fixed-capital investment, productivity and production - inflation shifted from domestic price rises to external trade and payments deficits.

That was how we came to live on borrowed "money" and borrowed time.

That is the way we still live.

Bear in mind that the United States dollar - like the Australian - has done a lot of sliding or slipping or falling since the gold link snapped in 1971. Sometimes, especially in the 1990s, the US dollar regained some, even quite a lot of the lost ground before, in the new millenium, it dived against the Euro - and other currencies - from something like 85 to whatever it is now - about 1.32. That's a slippage of something over 50%, I reckon, in the last couple of years.

The Australian dollar has been in much the same long-term trend. When I was Ambassador in Vienna in the early 1980s, I could get 25 or more Austrian schillings for my little Aussie battler. In the years that followed and after Keating's "Banana republic" warning, it slipped way, way down, to under 7 to the dollar. At that point, it had lost two-thirds to three-quarters of its value. It had become, if you like, a "banana-republic currency." Even now, though it has moved up against the US dollar - pretty much a "banana-republic currency" itself - it is still not much better in the Euro equivalent.

Let's just give a thought to what that collapse does to trading positions. At 25 schillings to the $A, a $10 bottle of Australian wine - or a hunk of cheese or anything else - cost the Austrians 250 schillings. Today, that same bottle of wine costs them about 70 or perhaps 80. And still we've got a whacking great global trade deficit. How much further does the $A have to fall before we achieve a turnaround? The answer is that it might have to disappear altogether - or, like the French franc or the Italian lire in the past, have a few noughts struck off its nominal value to make it "respectable" again. It's not too wild a prospect: it could happen, somewhere down the track, unless we switch dramatically away from the policies that have, over the past three decades, got us into this bind.

Dr Henry points to our primary commodities/raw materials sales to China. If Chinese growth and demand hold, that might give us some breathing space. But that's all it can be. And don't forget that we're back to the farm-and-mine status that we tried so hard to lift ourselves up from in the sunnier days from 1945 to 1970.

How much good has the slide in the value of our dollar done us? How much good has the slide in the US dollar done the United States? So far as I know, we in Australia are still hitting pretty near record levels for our monthly and quarterly trade deficits. The United States? The deficit is now running at well over $600 billion a year with prospects that it will go even higher in the months to come. We must ask therefore, how much more must the US dollar slip, slide, fall or collapse before the deficit starts to turn around?

It will turn around of course - though don't expect any immediate economic miracles - if the fundamental economic and financial policies of the United States - and Australia, of course - are turned around in the way I recommended 35 years ago.

But, otherwise, the United States economy will continue to drain away. So will the Australian economy. Much manufacturing industry has already been gutted. Much high-tech industry, both manufacturing and service, has been and is being lost.

That will continue, unless those fundamental policies are changed. The future course is all too clearly defined in the course of the past.

So, our present way of life will not change until we change the fundamentals of our macroeconomic policy - (or, of course, God forbid, we experience some sort of ultimate economic collapse, with a possible accompanying political and strategic catastrophe). It will not change until we try harder to understand more clearly, for example, the impact of rises and falls in interest rates; the need to have a banking system that is more attuned to real development and social requirements; the need to manage capital flows; and the impact of free-floating currencies on trade flows and economic stability. (Somewhere in that lot is the need for the re-creation of the sort of IMF that we had to manage world currencies in the period from 1945 to 1971.)

It is astonishing that so many highly intelligent people, around the world - and, of course, in Australia - can be so stubbornly wrong for so long. It is even more astonishing that specially trained people, many with long experience in responsible positions, in the Treasury and elsewhere, can be so blind for so long to such obvious facts and such obvious truths.

Of course, it has happened before. It took a Great Depression and a World War to snap us out of our idiocies of the 1930s and 1940s. In the early 1970s, I was naive enough to think that perhaps we had learned something and good sense would prevail much earlier. Now, more than thirty-five years later, the prospects are that we might have to go through another purgatory of economic collapse and another strategic nightmare, before we grasp what are essentially the quite simple solutions to our domestic and international dilemmas.

James Cumes
"Uncle Rupert is beautifully narrated, with a wonderful sense of warmth and detail."Order your copy from - http://www.magellanbooks.com/jamescumes.html orhttp://www.authorsden.com/jameswcumes

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