The current groupthink among mainstream economists is that central bankers have control over the economy. As long as they set interest rates correctly or maintain the money supply at the correct level, we can maintain economic growth with no consequences.
There is a small but growing number of people who do not believe this. Systems involving billions of people interacting are just too complex for us to completely understand. When central bankers take action to control the economy, there are adverse consequences.
In this post, Yglesias points to the genius of central bankers in steering the Australian economy to over twenty years of recession-less growth. He dismisses skeptics pointing out that external factors, in this case booming commodity prices and Chinese growth, were the reasons why Australia did not experience a recession in 2008-2009 like the rest of the world.
He points to the fact that Australia skipped the 2000-2001 recession. A recession is two consecutive quarters of the economy shrinking:
He’s right about that, but just barely. The economy did not shrink in the last quarter of 2000, but it did not grow either. In fact, Australia was a rounding error away from a recession. Still, “recession” is a technical term, and he is correct in touting Australia’s impressive economy over the last two decades.
The problem is that Australia’s long boom has little to do with super bankers. In fact, it looks just like any other boom driven by similar factors.
Another country that has famously avoided recession for the last two decades is China. This is not a coincidence. China is a manufacturing powerhouse and requires raw materials for its industries. Australia has plenty of those.
Look at these charts illustrating Chinese GDP, Australian GDP and Australian exports over the last 23 years:
It appears to me that central bankers have little to do with this dynamic. China has been industrializing rapidly, and Australia has hitched its wagon to the Chinese miracle by selling it raw materials. This process would have happened with or without central bank intervention.
Australia is also benefiting from favorable demographic trends. Its population has increased by 35% since 1989. By comparison, the United States has experienced a 22% population increase in the same period with Japan showing an increase of less than 4%. While central banks can stimulate the economy in the short-term by monkeying with interest rates, that’s all they can stimulate as they have no expertise in growing the population. These population growth rates, which directly feed economic growth rates, have nothing to do with central bankers.
What central bankers can do is create bubbles and stoke inflation through their policy decisions. Here is Australia’s recent interest and inflation rates history:
Inflation has always been a problem in Australia. Due to its geography, it must rely on exports to support itself. Even though the country has been growing on the back of exports, Australia has run a persistent current account deficit for the last two decades:
This is the first symptom of a credit bubble, which occurs when central banks maintain interest rates too low for too long. As we have seen here in the United States and in Spain, a credit bubble certainly will grow your economy rapidly, but there are always the unintended consequences of such action. These result in a credit bust leading to recession or depression if you maintain a tight money policy à la Spain’s continued use of the euro.
The second symptom of a credit bubble is an increase in outstanding loans to the private sector. Voila:
Australia’s steady increase in debt has contributed to its phenomenal growth over the last two decades. When the central bank sets a low interest rate making money cheap, people use more of it in the form of loans. This leads to asset price inflation, which is evident in housing prices:
Australia’s central bankers are no geniuses. They merely inflated a credit bubble like that in the United States. Furthermore, the Aussies also benefited from China’s growth causing a commodity price bubble led by the biggest bubble of them all, the price of iron ore:
The Reserve Bank of Australia’s recent rate cut is merely an attempt to keep the credit bubble inflated, but their efforts will be futile. Australia is ripe for a recession and it will have one. It make take a few years, but the myth of the super banker will be debunked as the world economy suffers from the end of the credit bubble one country at a time.