Gorging on a surfeit of fiscal virtue
It should come naturally to the authorities who hold the fiscal and monetary levers to turn up the heat if an economy slows, Buiter says.
In Europe, the tendency was not controlled. A "fiscal responsibility deficit" sowed the seeds of that region's sovereign debt disaster. Here in Australia, however, there was "a surplus of fiscal virtue", he told a meeting of Citi clients on Wednesday.
Buiter is a former external member of the Bank of England's monetary policy committee, and he has been a particularly influential commentator during and after the global financial crisis and Europe's sovereign debt crisis.
That is not just because he coined the term "Grexit", a word amalgam that referred to the possibility that Greece would dump the euro and re-issue a heavily depreciated version of its old currency, the drachma.
He specialises in cutting to the chase, by highlighting early, for example, that Europe's sovereign debt crisis was an existential one for the euro, and that makes his comments about Australia during his visit to these shores interesting.
Buiter sees China's growth continuing to slow, to an annual rate of less than 7 per cent by the end of this year, and to not much more than 6 per cent next year.
The slowdown is part of (and at the leading edge) of a global phenomenon, he says. Developing countries including China are slowing as their old economic model of exporting to the West hits the wall, and domestic demand does not take up enough of the slack quickly enough to maintain momentum and sustain a significant increase in government and private sector balance sheet gearing in the past decade.
Weak Western world demand in the wake of the global crisis is playing a part in this change, but it's not just a case of waiting for the world to mend. There also appears to have been a non-cyclical downshift in global trade, to the point where it is growing less quickly now than sluggish global GDP.
That upsets a paradigm that has existed since World War II, and Buiter confesses that the reasons for the shift are not yet understood.
It is what it is, however, and Buiter says that while there is talk among China's leaders about creating policies that would assist the economy's transition from the broken manufacturing export model to one that is more reliant on domestic demand and services, so far there is little action.
It could be that expectations are too high. The West chronically overestimates the ability of China's government to control its economy, Buiter says, adding that it is possible that growth in China might settle at close to 6 per cent and stay there for a couple of decades.
The axiom is that growth of 7 per cent or more is required in China to maintain full employment and social stability as massive internal job-seeking migration occurs. A serious recession would be annual growth of around 4 per cent.
On Buiter's scenario, China sits for a long time in between those two poles, and the run of double-digit growth that characterised the peak of the resources boom becomes a distant memory.
Demand in China and the rest of the developing world tapers rather than collapses, however. Commodity prices also decline, but do not collapse, and Australia's own commodity-powered export model is pressured, but does not become totally unhinged over the longer term as our resources investment boom morphs into a commodity production surge that helps compensate for lower commodity prices.
The pace of the decline of the investment boom itself does, however, pose more immediate risks. There is a risk of recession if it is a rapid retreat that outpaces growth in the non resources economy, and Buiter's observation in those circumstances, "recession or not" basically depends on the fiscal and monetary response.
The Reserve Bank's monetary response is likely to continue next Tuesday with a quarter of a percentage cut in the central bank's cash rate to 2.5 per cent.
The potential for a fiscal response if it is needed is constrained by the bipartisan political compact in Canberra for fiscal restraint, and a relatively quick return to budget surpluses.
This is the surplus of fiscal virtue that Buiter is referring to. It has not been upset by Labor's leadership change because new initiatives such as the early introduction of carbon trading are being accompanied by promises of offsetting savings, and Buiter's point is that, depending on how things develop, it might be risky.
Scrooge is not a role model, he warned on Wednesday.
His advice? "Live within your means, but define your means inter-temporarily."
My translation of that? Get the deficit down, but only if the time is right. And if a recession is threatening next year, it won't be.
mmaiden@fairfaxmedia.com.au
Frequently Asked Questions about this Article…
Citigroup chief economist Willem Buiter says Australia has the fiscal and monetary ammunition to avoid a recession even if China slows sharply. The key caveat is political will — whether authorities will deploy fiscal stimulus alongside likely central bank rate cuts. For investors, that means policy responses could cushion a downturn, but market impacts will depend on how quickly and strongly those levers are used.
The article notes the Reserve Bank is likely to cut its cash rate by 0.25 percentage points to around 2.5%. For everyday investors, a rate cut usually lowers borrowing costs (helpful for mortgage holders) and can support asset prices, while reducing returns on cash and some fixed interest investments.
‘Surplus of fiscal virtue’ refers to Australia’s political commitment to fiscal restraint and a quick return to budget surpluses. For investors, that constraint means the government may be reluctant to run large deficits or enact big stimulus quickly, which could limit fiscal support in a downturn and influence sectors sensitive to government spending.
Buiter expects China’s growth to slow to under 7% and toward about 6%, which would taper demand from China and other developing countries. Commodity prices are likely to decline but not collapse. That pressures Australia’s commodity-export model and resource-sector investment returns, though a shift from an investment boom to higher production could partially offset lower prices over time.
There is a risk of recession if the investment boom retreats rapidly and private-sector growth outside resources can't pick up the slack. Buiter emphasises that whether Australia falls into recession will largely depend on the timing and strength of monetary and fiscal responses.
The article highlights a non‑cyclical slowdown in global trade growth, which now grows more slowly than global GDP. For Australian investors this can mean weaker external demand for exports, more muted earnings growth for export-oriented companies, and a need to consider diversification away from trade‑sensitive or commodity-heavy exposures.
Buiter’s advice—summarised in the article as ‘get the deficit down, but only if the time is right’—suggests balancing prudent budgeting with flexibility. For personal investors that translates to managing debt and expenses sensibly, while keeping enough liquidity and avoiding forced cutbacks if broader economic conditions worsen.
Willem Buiter is Citigroup’s chief economist and a former external member of the Bank of England’s monetary policy committee. He gained prominence during the global financial crisis and Europe’s sovereign debt crisis (he coined the term 'Grexit'). His analysis of China’s slowdown and Australia’s policy options is influential for investors assessing macro risks and policy responses.
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