20120722 EDITORIAL: Short-term fear can’t rule economics

EDITORIAL: Short-term fear can’t rule economics

Due to continued uncertainties in the global economy — as underlined by the eurozone’s debt problem, the US’ weak economic recovery and China’s slowing growth — Taiwan’s exports have been in decline for four consecutive months, while growth in domestic investment and private consumption have also stagnated.

Against this backdrop, Academia Sinica last week became the first domestic research institute to raise the red flag about Taiwan’s economic prospects, cutting its growth forecast for this year to below 2 percent, while other economic research institutes are likely to follow suit and lower their GDP growth estimates for the nation when they update their forecasts.

It is difficult to say how accurate Academia Sinica’s GDP growth forecast of 1.94 percent will turn out to be, but it implies that it will be difficult for Taiwan to maintain economic growth of 3 percent this year, as the government desires.

In such circumstances, what should the government do to deal with declining external trade? A more serious concern is what the government should do when the economic slowdown reduces the likelihood of inflation, but raises the possibility of deflation.

Economists have suggested that both monetary and fiscal policies should become more expansionary in order to increase domestic demand. Such a monetary policy entails that the central bank maintain low interest rates, or make them even lower, to ensure businesses have cheap borrowing costs and consumers — especially mortgage-holders — feel less burden to spend, opening room for an early recovery in the economy. Expansionary fiscal policy suggests that the government finance public infrastructure construction and cut taxes to boost domestic investment.

The problem is how much lower the central bank wants its key interest rates to be when the nation still faces the threat of a real-estate bubble. The central bank has kept its key interest rates unchanged for four consecutive quarters, but it has dropped the overnight money-market rate seven times in the past six trading sessions to the lowest level since November, a move that has prompted some to speculate the bank might move to cut its key interest rates if something really goes wrong in the global economy. An immediate challenge facing the bank is whether it can effectively keep idle funds from flowing into the real-estate market, creating property bubbles and rekindling inflationary worries, when there is still a lack of alternative investment options.

The second problem is how growth can be revived when the government’s current financial situation means the scope of debt-raising and tax reduction is limited. Indeed, the nation’s financial difficulties will continue to affect the government’s budget for major public projects over the next few years, given that government debt has nearly reached its legal ceiling, making it impossible to pursue aggressive deficit spending. Earlier this month, the government approved the lowest budget in 10 years for next year’s major public infrastructure projects — NT$175 billion (US$5.8 billion) — which was a direct result of concern over government debt.

Nonetheless, since the situation today is different from that of the global financial crisis three years ago, the government’s priority is to kick-start economic momentum in the short term to maintain productive potential in the long run, considering that there is still some room for near-term maneuvering in terms of government debt spending, and the government can even seek financing from the private sector on public projects.

As long as the economy improves and the government can effectively work out a long-term debt repayment plan, the negative impact of debt-financed fiscal expansion plans will be mitigated. Moreover, spending on public housing and investing to change the industrial structure as well as health, education and pension programs may benefit the next generation.