When the Money Runs Out: The End of Western Affluence, by Stephen King, Yale University Press, RRP£20/RRP$30
Academic debates over the right policy response are one of the few abundant commodities during an economic crisis. Just as in the 1930s and 1970s, the financial crisis that began in the late 2000s has divided economists into two camps. The neo-Keynesian troops have relentlessly attacked the eurozone and UK governments for pursuing overly contractionary fiscal policies. The “austerians” attack Barack Obama, US president, for his supposedly excessive largesse. Central banks, too – above all, the US Federal Reserve – have to deal with their own critics, who claim that ultra-loose monetary policy and overstretched balance sheets are not helping the recovery and are in fact planting the seeds of the next crisis.
What if, however, these debates were based on a false premise? This question is at the heart of When The Money Runs Out, a lively and provocative essay by Stephen King, HSBC chief economist and a regular contributor to the Financial Times. King notes how “the protagonists on both sides believe in much the same thing, namely that the appropriate macroeconomic policies will ultimately deliver a return to the growth rates of old”. He poses the question: “What if both sides suffer from an ‘optimism bias’?”
King is not alone in his belief that the recession is more than a cyclical downturn. He is of the same view as Robert Gordon, the American economist who has argued that long-term growth in the US will fall to half the rate registered between 1860 and 2007 – or even below that. In his epamphlet, The Great Stagnation, Tyler Cowen contended that the US economy has already picked the low-hanging fruits that drove growth and now faces a plateau.
Little by way of new evidence is presented to support King’s uberpessimism. That is not the aim of his book. Rather, he intends to warn policy makers that there are risks from failing to face the ugly truth behind slow growth. Western societies may become fractured by three “schisms”: between the rich and the poor; the young and the elderly; and creditors and debtors. Economic dystopia will lead to a political crisis. “When the money runs out, there is only disappointment. And from disappointment comes hardship, tragedy and anger,” he writes.
The author calls on politicians to offer a new narrative of the crisis. This is the book’s most convincing message. Whether or not one shares King’s view, few will argue that western leaders have done enough to tell voters just how uncertain the outlook is. This reluctance is ultimately self-defeating: it may appease the electorate for a while but leads eventually to disappointment. The rise of anti-establishment parties in Europe – from the UK Independence party to Italy’s Five Star Movement – is a product of this bonfire of illusions.
King is also right in his belief that policy makers have fallen short in actions as much as in words. The most glaring example is the inability of eurozone leaders to move towards the greater integration needed to make the currency union work.
Less convincing is his criticism of what policy makers are actually doing and, in particular, of the unorthodox monetary policies pursued by central banks. In the UK, quantitative easing has failed to spur a robust recovery but the outlook would have been worse without it. As for the US and Japan, in spite of recent market volatility there are tentative signs that the unprecedented opening of the monetary taps is helping to lift real output.
King is also unfair in blaming QE for creating winners and losers, which he writes “was never supposed to be part of a central bank’s remit”. This view ignores the fact that conventional interest rate policy has very different effects for borrowers and savers.
The book aims to describe “the end of western affluence”. Yet, given the scale of the problem, the solutions it offers are excessively conventional. The author would like countries with flexible exchange rates to commit to long-term austerity through “circuit breakers” – a process that would automatically cut fiscal deficits when output grows, not when it contracts.
King also calls for a change in the mandate of central banks so that they target nominal income growth rather than inflation. However, it is hard to see how either solution could work if western economies are stuck in stagnation.
The truth is that we have no idea of how to steer economies without the lubricant of growth. King is right to put the question on the table. But it is telling that even he, who has thought long and hard about it, fails to find a convincing way of managing decline. It gives a sense of the magnitude of the challenge that would face western leaders were their governments really to run out of money.
The writer is an FT leader writer