Tuesday, April 23, 2013

‘Dismal science’ misled efforts to fix economy

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23 Apr 2013 | Tony Leon  | Original Publication:  BDlive
Our policy makers can’t do much about the debunking of academic economic debates but they can fix risk sovereign factors, writes Tony Leon

THE old joke about economists having called nine of the past five recessions wrong seemed especially true of the "dismal science" and even its most illustrious practitioners in recent days.

Two of the wisest owls in the Harvard aviary were recently proved wrong on a central assumption. Kenneth Rogoff and Carmen Reinhart were apparently checkmated by a doctoral student at the University of Massachusetts, Amherst. According to reports, Thomas Herndon, 28, said of his exposé of the basic flaws in the influential Rogoff-Reinhart 2010 study: "I couldn’t believe my eyes when I saw the basic spreadsheet error."

The paper in question is not of mere academic interest only. It has been at the heart of the recent debate on how to repair the world economy and revive it everywhere: in essence, do we spend and reflate our way out of recession or do we pull in our horns and cut public expenditure, repair national balance sheets and escape "the black hole of debt"?

Rogoff and Reinhart gave comfort and apparent empirical cover for rapid fiscal austerity, the path preferred by so-called deficit hawks, such as the US Republicans and the UK coalition government. Now, it appears that contra the central finding of the Rogoff-Reinhart study, economic growth does not fall sharply when national debt reaches 90% of gross domestic product, the percentage they had cited as the tipping point at which the walls of a national economy collapse. In other words, countries do not need necessarily to don the austerity hair shirt to boost growth on the basis (in the words of another economist, Adam Posen) that "not all debt accumulation is bad for growth". And very often, low growth heightens indebtedness rather than the reverse.

All this seems ancient and obvious history to those of the Keynesian persuasion locally and abroad. But before its local adherents from the Congress of South African Trade Unions and others in the left field apply even more pressure for looser fiscal and monetary policies, another global economic event last week, which received muted attention here, compels attention. This time it wasn’t a dispute among economists, but a message from the markets, which an aeon ago Trevor Manuel moaned were "amorphous". Formless or not, the markets decided to end the decade-long gold bull run, dropping the price of our key metal export so violently that early last week it sustained its sharpest two-day fall since 1983. If not quite amorphous, then markets crystallise, in the words of Financial Times maven John Authers, "in sharp and violent moves" as shareholders know only too well. Low Chinese growth, Japanese quantitative easing, and the Cyprus gold sell-off and less fear of inflation all played their part. Overall, the markets have taken a gloomy view of the prospects of global growth doing anything remarkable soon and have discounted the price of commodities accordingly.

Where does that leave South Africa? With skittish post-Marikana investors and a mineral regulatory regime "struggling with international best practice principles", to quote mining lawyer Peter Leon, our space in the fight for diminished investor enthusiasm was very tight. Now with a plunging gold price, it has just tightened even further.

There is a fascinating article by William Finnegan in the March 25 edition of The New Yorker about Australia’s richest, and probably most unpleasant, person, mining magnate Gina Rinehart. Buried in the account of her rise to further riches, as a result of her father Lang Hancock’s iron-ore empire, is a compelling insight into how Australia has enjoyed, despite the great recession, 21 straight years of sustained economic growth and running up big national debts to sustain its generous welfare provisions. It is also a high-wage country, whose minimum wage in US dollars is twice the federal minimum wage in the US. Yet its export growth and prosperity is significantly dependent on its mineral resources. In a word, it offers three basic factors that are glaringly absent here and in neighbouring jurisdictions: high efficiency, low sovereign risk and excellent infrastructure. Addressing the relative attractiveness and disadvantages of a developed versus frontier places of doing business, Finnegan offers this comparison: "The idea, a threat really, much repeated — that the mining multinationals will soon pick up and leave (Australia) for Africa in search of cheaper labour — ignores basic factors such as efficiency, infrastructure and sovereign risk."

He reminds readers and investors, that in January, Rio Tinto was forced to write off a $3bn investment in coal in Mozambique, largely because of infrastructure problems. It also cost the CEO his job.

Our policy makers and regulators can’t do much about the rise and later debunking of academic economic debates. But they sure can, and must, fix the risk sovereign factors which attach to our country.

Leon is the author of The Accidental Ambassador (Pan Macmillan). Follow him on Twitter: @TonyLeonSA OR on Facebook: facebook.com/TonyLeonSA


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