Tag: government spending

Categories
Economics

[2341] Too late for the rest of the Malaysian stimulus to be of any use

You know how that one particular argument against fiscal stimulus goes. There is a temporal mismatch between crisis period and the actual spending. The bureaucracy and incomplete information act to delay the implementation of the stimulus. If transparency is of a concern, then it will further affect the timeliness of the stimulus spending. The crisis may end well before stimulus spending is done, making the stimulus useless and may even hurt the economy by crowding out private spending.

Well, there is not a theoretical concern. Malaysia is a concrete example.

As of March 2011, more than 2 years after the RM67 billion stimulus spending was announced, more than 20% of spending component of the stimulus (which was really RM20 billion and not RM67 billion; RM7 billion of actual spending as announced in the first stimulus package and RM13 billion for the second) has yet to be spent. This is recorded in the Hansard: read page 74 of the Hansard dated March 29 2011.[1]

Twenty percent unspent as of March 2011.

Now, consider that the Malaysia economy might have recovered as early as December 2009. And everybody knows that the first quarter of 2010 grew by 10.1% from a year ago in constant prices. So, how much stimulus money had been spent by the end of 2009?

December 2009 is an important point because it is arguable that the economy did not need any stimulus by then anymore, if one believes in the efficacy of stimulus spending.

If the growth of the stimulus spending had been linear, then by December 2009, about 30% would have been spent, which is about RM6 billion. To be honest, the spending is unlikely to take a linear function. I personally suspect the figure is lower. Nevertheless, it does give you an idea how much money could have been spent by December 2009.

The point I am driving that it is possible that a majority of the spending was useless as far as cushioning the recession.

The 30% figure is obtained by assuming that nothing was spent prior to the announcement of the second stimulus package in March 2009, which is, really, not a bad assumption. We know that by May 2009, only three quarters of a billion of the first fiscal stimulus was spent. Only half a billion was spent by March 2009. Given that the economy lost RM20 in the first quarter of 2009 compared to a year ago,[2] half a billion was nothing.

Contrast the RM6 billion money spent with this: between 2008 and 2009 alone, the economy contracted by RM64 billion in nominal terms.[3] Remember that the source the recession for Malaysia was reduced international trade. In the same period, net exports itself fell by RM23 billion in current prices.[4]

I also wonder how much resources had been deprived from the private sector due to government spending. The crowding out effect is a concern given that a considerable chunk of this spending was done in time when the stimulus is not required. Signs of crowding out were seen as early as July 2009.

If one accepts the excess capacity argument that government spending does not crowd out the private consumption or investment because of excess capacity due to low demand in times of recession, then that argument has become very tenuous with the spectacular growth seen in the last several quarters. Meanwhile, the crowding out argument becomes much, much stronger.

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[1] — Pakej rangsangan ekonomi pertama berjumlah RM6.695 bilion telah dilaksanakan dengan prestasi perbelanjaan mencapai 93.2 peratus. Pakej rangsangan ekonomi kedua terbahagi kepada perbelanjaan fiskal dan bukan fiskal berjumlah RM60 bilion daripada peruntukan fiskal yang berjumlah RM13.26 bilion. Prestasi perbelanjaan setakat sudah hampir 77 peratus. Jadi masih ada sedikit lagi tetapi nampaknya sedang berjalan dengan baik. [Page 74. Hansard. March 29 2011]

[2] — See Gross Domestic Product at Current Prices 2007 – 2009 by the Department of Statistics Malaysia. Retrieved April 3 2011]

[3] — See page 5 of the Malaysia Economics Statistics – Time Series 2009 by the Department of Statistics Malaysia. Retrieved April 3 2011]

[4] — See page 48 of the Malaysia Economics Statistics – Time Series 2009 by the Department of Statistics Malaysia. Retrieved April 3 2011]

Categories
Economics Education

[2283] Of my issues with introductory macroeconomics

Although normatively one should not judge a book by its cover, positively, first impression matters. The first few lessons in economics are likely to affect a person’s perspective on the roles of government. Those who are familiar with economics and who ended up skeptical with the concept of activist government have to suffer those first lessons that suggest increased government spending in the economy is good.

Introductory macroeconomics at the undergraduate level typically presents the Keynesian consensus quite forcefully. Students tend to spend considerable amount of time studying the mechanics of simple IS-LM. The simplified model, while useful as a primer and for the cultivation of understanding in the workings of the economy, tends to overemphasize the effectiveness of government spending in the economy. In the jargons of macroeconomics for example, increase (decrease) in government spending positively (negatively) shifts the IS curve to increase (decrease) aggregate demand that eventually increases (decreases) economy-wide output, given all else the same.

Other complications do get introduced to shake that ceteris paribus assumption by a bit like the crowding out effect of higher interest rate on other components of the GDP and the dynamic of monetary policy. Here, for the first time, macroeconomics cautions students that sometimes, the effect of change in government spending can be ambiguous.

Add more complications and only then, government spending can be bad. Unfortunately, by adding more and more complications, the pedagogic value becomes marginal, making it wise for teachers of introductory macroeconomics to stop at the level where the lesson of the semester suggests that government spending is largely favorable.

By the time simple complications such as monetary policy are introduced, the perception that government is almighty will already have been ingrained in students. Consider the Keynesian multiplier. Students will learn this concept early, well before greater realism appears in the picture. Specifically, it is the idea that an increase in government spending has amplifying impact on total output, never mind that the rate of the multiplier itself is controversial.

My biggest grip has always been the silence regarding government finance. Increased government spending has to be funded. This concern is only answered at the later stage of introductory course, where Ricardian equivalence is finally mentioned. When it is mentioned however, it sounds like a minor curiosity only.

Given the bias, it is a miracle how anybody could finish undergraduate economics and become skeptical of government spending being the panache to short-term economic fluctuation.

Categories
Economics

[2143] Of stimulus may bite back in 2010

Economics has been labeled as some sort of a discipline that predicts the future. The application of various models and efforts at testing its various hypotheses that sometimes result in the affirmative may have contributed to that reputation but it is not about predicting the future. Rather, it is about finding lessons from the past, learning from it and applying it for future endeavors. More humbly perhaps, it serves as a cautionary tale.

In this spirit, what one may expect in 2010 in terms of the national economy?

Many things obviously, and it is beyond me to list it in an exhaustive manner. Given my mischievous agenda against the state in general, I will focus on only a few. That, and based on standard economic theory, two parts of the economy may deserve some attention in light of what happened last year. Two components of Malaysia’s gross domestic product are investment — specifically private sector investment — and net exports or really, exports.

Why?

Economic theory suggests that increased government spending adversely affects net exports and ambiguously affects overall investment after some time. For those who keep tabs on the local economy, the fact that the government launched two massive measures to stimulate the economy should be common knowledge. In promoting it, the government touted it as unprecedented. It is exactly because the size is unprecedented that the concern is legitimate, possibly in a way that is unprecedented too.

The same theory highlights that government spending places upward pressure on interest rate and the exchange rate.

With additional government spending on top of normal spending, it is reasonable to hold the position that the current interest rate is higher than would under a situation without such spending. Higher interest rate means higher cost of borrowing and that itself is a disincentive to invest, especially for the private sector, even if the effect on overall investment is ambiguous. The fact that the government financed its additional spending by borrowing locally further strengthens the phenomenon of crowding out the private sector. With the government expounding on the idea of having the private sector as the driver of Malaysia’s economy, the divergence between the government’s past actions as well as its theoretical consequences and the government’s words creates a noticeable dissonance — but the sun always rises in the east and so, what is new, eh?

The same effect on interest rate is applicable to the exchange rate. In doing so, it makes Malaysian exports more expensive compared to a situation without the stimulus and foreign goods cheaper. It depresses exports, given all else the same. The likelihood of depressed exports is even more worrying given the economy of Malaysia’s trading partners.

For instance, in the United States, which is a major destination for Malaysian exports and really, the world, there is fear that once its stimulus spending runs out some time in the second half of 2010, its recovering economy would go to the other direction, possibly reflecting the artificial nature of economic recovery based on government spending. Should the US economy take a nosedive again, Malaysia’s exports will take a hit, as it had earlier. It would be a double whammy for the exports component.

The importance of the exports component to the Malaysian economy cannot be overemphasized. Despite rhetoric heard these days of the need to move away from the export-driven model, there is no realistic way to make contribution of domestic demand to Malaysian economy a close rival to foreign demand for domestic goods without devastating the local economy. The chasm between the two is just too great to close. This is not to say that improvement of domestic demand is unwanted but Malaysian consumers are simply unable to consume as much as the export markets, even if Malaysia would suddenly become a high-income country tomorrow. Anybody who harbors a dream to remove the centrality of exports and trade at large to the Malaysian economy vis-à-vis domestic demand must be fast asleep.

If the US economy contracts again this year, the political pressure on the Najib administration for yet another fiscal stimulus would be great as Malaysia’s own ongoing fiscal stimulus measures expire. Already there are calls for a third stimulus in Malaysia. Needless to say, further government spending will exacerbate issues associated with the investment and exports components.

This may further discourage investment by the private sector and there may be an urge for the government to take a more active role in the economy.

Granted, at the moment, there is an effort to liberalize the economy. Yet, the reduction and the expansion of government happen in different parts of the economy, bringing about unclear net government intervention in the market as a whole. Economic theory suggests that the government of the economy portion will expand. Further involvement through stimulus spending will tilt the arrow towards the appropriate side.

Critics of this line of reasoning tend to point out that there is excess capacity during an economic downturn and hence, the negative impact of increased government spending is only a theoretical worry to be shrugged off. They forget that, as with most economic policies, there is a lag between implementation and effect. In the very short term, the impact of crowding out caused by government spending is non-existence. Notwithstanding other arguments against fiscal stimulus such as the relative ineffectiveness of fiscal stimulus for a small open economy such as Malaysia, they can hold on to their criticism in the heat of the crisis. In 2010 and farther into the near future however, the lag will catch up to make the issue less theoretical and more real as each day passes.

How the Najib administration will address that lagged impact will be an interesting economic problem. If the global economy — really the US economy — continues to improve, it will give a boost to Malaysia’s exports component. In doing so, it may solve the problem associated with the lagged adverse impact of the economic stimulus measures. Out of prudence, however, that is a bet deserving of hedging.

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First published in The Malaysian Insider on January 1 2010.

Categories
Economics

[2068] Of o stimulus, where art thou?

Apparently, the second quarter GDP results came out way better than expected.

Aug. 27 (Bloomberg) — Malaysia’s economy is expected to resume growth this year after slipping into its first recession in a decade last quarter, mirroring recoveries across Asia.

Gross domestic product shrank a less-than-expected 3.9 percent in the three months ended June from a year earlier, after a 6.2 percent contraction in the first quarter, the central bank said yesterday. Economists, who were expecting a 5 percent decline, are raising their GDP forecasts for Southeast Asia’s third-largest economy.

Asian economies are reporting better second-quarter GDP numbers as the global slowdown eases after fiscal and monetary stimulus around the world. Malaysian central bank Governor Zeti Akhtar Aziz said yesterday that the government will revise its GDP forecast for a 5 percent contraction this year in the budget to reflect the nation’s economic improvement. [Malaysia’s Economy May Resume Growth This Year on Higher Demand. Shamin Adam. Bloomberg. August 27 2009]

Now, first of all, this dismisses concerns from some quarters that there was a need for a third stimulus package. These alarmists should be shot. No, I am not kidding. I really mean shot. I almost had a heart attack when I read about the suggestion months ago.

Secondly, we will only notice the stimulus money in full action only after recovery has taken place. I have taken this position from early one and I am being proven right. In fact, signs for recovery began as early as February, way before any stimulus has any impact. Since February, various indicators have shown general improvement independent of stimulus.[0A] The good news is that exports also improved;[0B] I have also maintained that recovery will be export-driven.

The official line is that the stimulus package helped cushion the fall. It may help by a tiny bit but changes in exports is more significant than increase in public spending, which more or less. a proxy of the stimulus package. Imports too went up but it is unclear if it was due to domestic consumption or instead, correspond to the increase in exports. Given that the make-up of the economy is that many of imported goods are intermediary goods which are used for exports, I am more inclined to favor the exports answer.

On top of that, in contrary to the celebrated increase in private consumption as announced by the Governor, in real terms, it fell to further gives credence to the exports explanation.

The same could be said about the increase in for capital formation. It is probably due to increased exports more than it could be about stimulus spending.

Furthermore, it appears that Malaysia may not have any need for a stimulus in the first place, or at the very least, the kind of outrageous size that we saw earlier. Proponents of stimulus, especially ones who advocated greater government spending as the base of that stimulus, were merely panicking more than anything else when they decided to unveil a large stimulus package, as I have accused them of.

As an aside, the much hyped Rangsangan Ekonomi website[1] which was announced as a site to make the stimulus spending transparent is especially a great cheat. For the second stimulus, it does not give actual progress. Rather, it only gives distribution of money. The whole thing is a big fat lie.

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[0A] — See The Coincident, Leading and Lagging Indicators, and Growth Rates, 2005-2009 table by the Department of Statistics.

[0B] — See Gross National Income (GNI) by Expenditure Components in Constant Prices (2000=100) and Current Prices table by the Bank Negara Malaysia.

[1] — To see it, go to http://www.rangsanganekonomi.treasury.gov.my/. Information for the first stimulus package however is respectably shared, unlike the second and much larger one. Accessed on August 27 2009.

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p/s — I am delighted to discover that the BNM website has been upgraded. Kudos to BNM.

Categories
Economics Politics & government

[2013] Of regretfully, fiscal deficit is a non-issue

The consistent fiscal deficit the federal government currently experiences is an issue far removed from everyday life. For many, it is an abstraction without concrete consequences. Hence, it is highly unlikely that the issue will be able to capture public attention and directly become a determinant in any election. This gives the federal government too much free hand in managing its fiscal position.

Despite the lag in effect, the persistent fiscal deficit presents real challenges to the economy and perhaps, more tangibly, to all taxpayers. It is so because the idea of scarcity is not something that is only valid within the theoretical world of economics.

It is because of scarcity that the concept of deficit exists. It is also because of scarcity that any deficit requires financing.

As far as the fiscal deficit of the Malaysian government is concerned, it is being financed through borrowings. The government issues debts in which market participants — be they individuals living within Malaysia or financial firms based abroad — purchase in return for greater payoff in the future.

So far, the federal government is fulfilling its existing debt obligations by issuing more debts. The situation on the ground at the moment allows that to happen but it does not take a leap in imagination to understand how a snowball may cause an avalanche. Argentina in 2001, for instance, defaulted from fulfilling its debt payments; it borrowed to finance its deficit for the longest time until its repayment requirement became too big for it to comply.

Malaysia still has a long way to go before that happens. Nevertheless, eventually, our deficit has to be attended. There are at least three ways to address the deficit: increase revenue, decrease government spending or default.

For any self-respecting government, defaulting is not much of a choice. The Argentine economy was in ruinous state after it defaulted on its payment; capital fled and dried up, bringing the economy to a screeching halt. Regardless of preference, the current local scenario that includes the maintenance of strong foreign reserves by Malaysia makes the likelihood of default very small.

Decreasing government spending is the policy path that libertarians favor because it necessarily reduces the size of government. Unfortunately, this will not occur anytime soon. Even during the Abdullah administration when the fiscal deficit finally saw relaxation, government spending continued to rise. Keynesian thinking meanwhile reigns supreme in the Najib administration; the government has expressed its intention to spend to stimulate the economy. The two factors set the momentum for the federal government’s fiscal position in the near future.

The third way is to increase revenue. This can happen by having enough growth in either non-tax revenue, tax revenue or both. With a healthy economy, those items can help in balancing the fiscal position. Without a sufficiently healthy economy, however, taxes simply have to increase to meet the gap eventually.

A tax increase is the clearest credible solution because it is increasingly clear that the fiscal deficit is structural in nature, and not cyclical. It is structural because it is arguable that we may have seen or are seeing the completion of a business cycle. In that cycle, the federal government has been running on a persistent fiscal deficit. Year 2009 will be the 12th consecutive year that the government has either failed or refused to close the gap and there is no reason to believe why year 2010 will not be registered in red ink.

A tax hike, however, is an unpopular policy, even when it is a potent tool in arresting the runaway fiscal deficit. Under the current political atmosphere where the Barisan Nasional-led federal government faces a considerable number of hostile voters, raising taxes is committing harakiri. The political situation demands spending.

In fact, the pressure is on Barisan Nasional to continue to spend in order to keep the economy going. More importantly, it has to keep voters happy by shoring up the economy in the short term to push its expiry date farther into the future.

Government spending is not necessarily bad or undesirable even in times of deficit. Yet, unless the government spends the money for the purpose of investment, spending for the sake of spending — as the two fiscal stimulus packages are doing — will further widen the difference between revenue and expenditure. For deficit hawks, the situation is gloomy because between investment and spending, the effect of the latter comes quicker than the former. Naturally, political expediency favors quick wins; quick wins mean the deficit will continue to take a hit.

Given the situation of a structural fiscal deficit, weak economic environment and political unpopularity, the only palatable short-term option is to continue to borrow to finance the deficit.

As a result, the present generation will be free from the burden of increased taxes and so too subsequent generations that are lucky enough to live during times when the economic situation allows the government to keep borrowing to finance its deficit. With the problem being out of sight and out of mind among the current generations, regretfully, there is no pressure to address the issue of fiscal deficit.

Somebody, however, eventually will have to pay those debts. By the time that happens, it is likely that the problem will become too big to handle.

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First published in The Malaysian Insider on June 15 2009.