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Economic growth, exports and falling currencies
Gerard Jackson
At the moment there is some talk of a possible depreciation of the Australian dollar against the US dollar. Of course, most of the economic commentariat and exporters would welcome a devaluation on the grounds that it would promote exports and stimulate growth. They obviously do not know that this view is a mercantilist fallacy.
I think it was about 30 months ago when a small rise in the Australian dollar against the US dollar caused some of our economic commentators to lament the detrimental effect this would have on ‘export led growth’.
The logic of their argument is that since a falling dollar stimulates growth by increasing the demand for our exports a rising dollar would choke it off. That a depreciating dollar would tend to expand exports is true — the rest is pure fantasy. (I sometimes think these guys should be writing fiction for Disney studios). A quick look at their psychedelic economics immediately reveals no real understanding of the nature of economic growth.
Assuming that the dollar were to fall, this would reduce the cost of Australian tradables in terms of other currencies. This means that living standards will be lower than they would otherwise be because the terms of trade have now become adverse. In plain English, Australians must export more for the same quantity of imports. This is like someone working more and more hours for the same amount of pay. No one in his right mind would claim such a worker's living standard is rising simply because he is working longer hours just to maintain the same income, but this is what is really being said about the effects of a falling dollar.
Living standards fall not just because imports become more expensive but because capital goods (the material means of production) are scarce. To satisfy other countries growing demand for Australian goods because of a falling dollar export industries would have to expand output. This means, unless there is a considerable amount of idle capacity, that land, labour and capital must be withdrawn from other lines of production thus curtailing their output, or at least expansion. (See William H. Hutt’s The Theory of Idle Resources, LibertyPress 1977)
Some, particularly Keynesians, would argue that the increase in the demand for exports also raises the demand for labour and thus increases wage rates. This is not strictly true. Where there is unemployment any increase in the demand for labour in these circumstances is entirely due to the depreciating currency cutting real wage rates. (In the 1930s this was called exporting your unemployment). Where there is no unemployment real wages rates are still cut while the composition of the demand for labour changes.
It should now be obvious that an increase in exports due to a depreciating currency would have to take place at the expense of domestic consumption. It baffles me how those bright sparks who make their money by selling economic advice can describe this situation as healthy let alone one of economic growth.
Japan is still sometimes touted as an example of export led growth. Once again, not true. For nearly 40 years Japan’s terms of trade for its manufactures declined, meaning that it had to export more and more for the same quantity of imports. But the fundament difference between the Japanese experience and one brought about by a falling currency is that Japan’s change in the terms of trade for its manufactures was entirely due to increasing productivity and not a depreciating currency. This is why Japanese living standards rose significantly even as it developed an ‘adverse’ terms of trade.
I never tire of pointing out that savings fuel an economy and entrepreneurship drives it. Japan had an extremely high saving rate which enormously increased its productive capacity while entrepreneurs did the rest, despite powerful government intervention from which the country is still suffering.
Do those who argue that a boom in Australian exports caused by a devaluation would generate economic growth think that savings and investment are unrelated? Do they really think that merely increasing exports leads to a rise in per capita investment? Have these people ever given any serious thought to the nature of economic growth?
Gerard Jackson is Brookes’ economics editor
BrookesNews.Com
Monday 14 November 2005