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The Perfect Storm: How Australia Managed to Weather the Global Financial Crisis

by Sean Graham on May 15, 2018

The primary function of this thesis was to analyse the Australian experience of the Global Financial Crisis and the contrasting approaches taken by the New and Post-Keynesian economic schools of thought in explaining and understanding how Australia managed to circumvent a technical recession. It was the broader objective of this thesis to justify and promote pluralism in economics by using this analysis of the Australian economy to demonstrate the viability of a synthesis between New and Post-Keynesian economic thought in the sphere of macroeconomic policy analysis.

In analysing Australia’s circumvention of a technical recession, three key elements were identified as playing pivotal roles in this experience;

  1. the state of the economy prior to the crisis,
  2. the nature of Australia’s trade and the stability of Asia during the crisis, and
  3. the use of expansionary fiscal and monetary stimulus policies.

The positions of New and Post-Keynesians regarding the relative importance of these factors in preventing Australia from experiencing a technical recession allowed for a cross-application of the schools’ respective theoretical arguments, as New Keynesians emphasised the first factor, Post-Keynesians emphasised the third, and both schools placed a common emphasis on the second factor. Thus, the explanation of the Australian experience of the GFC necessarily involved the adoption of theoretical elements from both schools, constituting a synthesised New and Post-Keynesian approach.

In analysing the objective factors that played a role in Australia’s circumvention of a technical recession, it became clear that the divergence of opinions regarding the relative importance of these factors in preventing Australia from experiencing a technical recession could be largely attributed to the growing trend of dogmatism and sectarian rigidity in modern economic discourse.

Frequently ground in the theoretical paradigms of their economic schools of thought, economists are rarely willing to concede any points that are not fundamentally in line with the credos espoused by their economic tradition.

The consequence of this is a lack of objectivity in economic analysis, which leads to conclusions that are skewed by inherent ideological biases and normative assumptions. As this sectarian rigidity comes at the cost of analytical objectivity, this thesis sought to promote the use of pluralism in economic analysis as a remedy for the analytical issues that arise when objectivity is replaced by dogmatism.

The thesis was laid out in a manner that allowed for equal treatment of the three broad factors that were identified as having been central to Australia’s economic stability throughout the crisis. The introductory chapter provided an overview of the Australian economy and the theoretical background of policy analysis, in order to introduce the necessary contextual considerations.

The second chapter focused on the state of the Australian economy prior to the crisis, including the budgetary surplus and high level of interest rates, and how these provided both a buffer for the economy and considerable resources for the implementation of expansionary fiscal and monetary policy. The subject of this chapter represented the key argument made by New Keynesians which has been identified as accurately explaining part of the Australian experience of the crisis.

In the six years following the beginning of the resources boom in 2002, the Australian economy was thriving, with national GDP reaching $1 trillion in 2008 for the first time in the nation’s history, while the Government held an underlying cash balance in 2007-2008 of $19.75 billion, worth 1.7 per cent of GDP, the largest nominal cash balance surplus in the nation’s history.

As a result of this surplus, the budget deficit resulting from expansionary fiscal policy was considerably lower than it would have been. By leaving the Government less reliant on the issuance of government debt instruments to fund the stimulus than it otherwise would have been, the stimulus reduced the effect of crowding out in the investment sector that occurred through the sale of Commonwealth Grant Securities (CGS).

Like the budgetary surplus, Australia’s interest rates were also uniquely high preceding the crisis, with only three other OECD countries having higher interest rates entering the GFC. This proved crucial to the effectiveness of Australia’s monetary policies, as the issue of nominal interest rates losing effectiveness as they reach the zero lower bound – a problem that confronted a number of advanced economies – was of no concern in Australia.

Chapter three then explored the nature and performance of Australia’s exports and trading partners, and the contribution of these to the country’s circumvention of a recession. This chapter represented the key area of commonality between the New and Post-Keynesian schools regarding the Australian economy during the crisis and aimed at presenting a stepping stone towards further consensus on macroeconomic analysis between the schools.

For both New and Post-Keynesian analyses of the Australian economy during the GFC, the net export component of GDP presents as a critical factor in explaining the nation’s ability to circumvent a technical recession. This was especially the case in the March quarter of 2009, in which net exports were the only factor that contributed significantly to lifting the nation’s expenditure measure of GDP above zero, ensuring the country dodged a second consecutive quarter of GDP contraction. Moreover, the emphasis that both traditions place upon the role of consumption and demand in determining economic growth leads to a shared conclusion that the impact of the resources boom upon household income, and subsequently household consumption, is significant in understanding how this boom fortified the Australian economy and left it well placed in the lead-up to the GFC.

The fourth chapter then discussed the fiscal and monetary stimulus policies enacted by the Government and Reserve Bank in response to the crisis, and evaluated the efficacy of these measures in buoying economic growth during this period. Though slightly more Post-Keynesian in nature, these stimulus policies were also largely in line with New Keynesian policy prescriptions, and were therefore used to further advocate and justify the need for a synthesis between the schools.

The expansionary fiscal and monetary policies adopted by the Australian Government in response to the crisis reflected a broad adherence to Keynesian policy prescriptions for stimulating economic activity and increasing effective demand.

Generally speaking, these policies for stimulating aggregate demand fall under four categories;

  1. increasing the supply of money to drive up the quantity of real output,
  2. decreasing interest rates to encourage investment,
  3. increasing public investment and government expenditure to generate activity through the fiscal multiplier, and
  4. redistributing income to increase the propensity to consume by providing additional liquidity to lower-income households.

In line with Keynesian fiscal policy prescriptions, the Federal Government incorporated both short- and long-term stimulus measures, with the former designed to generate immediate boosts to consumption which would then be sustained by the longer-term projects. Immediate policy responses such as the targeted cash transfers to low- and middle-income households reflect the fundamental Keynesian principle of stimulating consumption and aggregate demand by “redistributing incomes or otherwise, to stimulate the propensity to consume”, while the significant investments in public works and infrastructure sought to maintain the government expenditure multiplier for the duration of the crisis.

The final chapter was dedicated to summarising the theoretical positions of New and Post-Keynesians in the context of analysing Australia’s experience of the GFC. This chapter discussed how an analysis of this experience had demonstrated the possibility for a resynthesis of Keynesian economics, as the objective factors identified as having contributed significantly to Australia’s resilience can be best understood through a refreshed pluralistic analysis that adopts elements of both the New and Post-Keynesian theoretical paradigms and approaches.

In demonstrating the viability of a resynthesis of New and Post-Keynesian economic theory and the need for objectivity and pluralism in economic analysis, this thesis sought to advance the cause of a refreshed and resynthesised pluralistic Keynesian method.

Sean Graham
Sean is a Political Science and Economics graduate from the University of Sydney, and works as an External Relations Advisor to the Export Finance and Insurance Corporation (Efic). Sean has also worked on the 2017 campaign for Kristina Keneally, and is the Treasurer of the Willoughby branch of the NSW Labor Party.

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