CAPITAL LEVY, BOOST IN GOVERNMENT SPENDING ADVOCATED

6:09 AM Sep 15, 1993

CAPITAL LEVY, BOOST IN GOVERNMENT SPENDING ADVOCATED
Geneva Sep (Chakravarthi Raghavan) -- Government spending in industrialized countries to stimulate growth and attack unemployment and a one-time capital levy on financial assets has been advocated by the UN Conference on Trade and Development as a way out of the current political and economic impasse in industrialized countries which are faced with lengthening dole queues and increasing public debt and budget deficits.

The UNCTAD recommendation is in its annual Trade and Development Report (TDR) which, as its Secretary-General Kenneth Dadzie put it at a press briefing in Geneva to release the report, once again "challenges current conventional wisdom on a number of development and economic issues".

Other issues dealt with in the TDR include the state of international trade and commodity markets, adjustment and stagnation in Sub-Saharan Africa which faces continued prospect of poverty and marginalisation unless international policies are changed, the uncertainty of recovery in Latin America, the collapse in eastern and central Europe.

The TDR also warns that the debt crisis is far from over and to the problems of the debt of the developing world (affecting not only low-income countries of Africa, but lower middle-income countries of Africa and Latin America, and those who have been paying their debt obligations, but facing major problems), has now been added the significant debt problems of the Russian Federation.

In advocating a one-time capital levy, the TDR recognizes its complexities and problems, but suggests that they can be resolved through coordinated actions by the industrial world, including for relaxed monetary policy and tendering of public debt as payment for the levy, and privatization with proceeds used to reduce unsustainable levels of public debt and the increasing interest payments on them.

In an overview to the TDR, Dadzie notes that last year's TDR had predicted that "without a strong boost to global demand the world economy would continue to stagnate and so it has".

The World economy, the TDR says, has continued to perform poorly. Once again the outcome for 1992 was worse than foreseen. The OECD countries remained largely in recession, though inflation was down. As a group, they grew by a mere 1.4% and are expected to register in 1993 only a 0.8 percent growth. The modest recovery in the US was compensated by deceleration in Europe and Japan, with unemployment continuing to rise everywhere.

(The UNCTAD prognostication has been borne out by the latest official reports in the media of contractions in the German and Japanese economies, with their governments and central banks facing some policy dilemmas in stimulating growth).

The recessionary trend has prevailed everywhere "because of its triple-strength", the TDR says.

In the US and elsewhere, firms and households have been cutting back their spending, and banks their lending, in order to restore their balance sheets to health. Japan's monetary contraction has succeeded all too well in bursting the bubble of inflation asset prices and in Western Europe interest rates have been "kept sky-high by the Bundesbank's policy of taming the German unification boom with monetary overkill", the TDR comments.

"World economic prospects in the 1990s", the TDR says, "depend very much on the economic legacy of the 1980s: an increase in cyclical and structural unemployment, increased fiscal imbalances and government indebtedness, persistent trade imbalances, widespread financial fragility, and a weakening of international efforts to coordinate exchange rate and trade policy".

"Belying almost all other official forecasts," Dadzie underlines in his overview, "the North has failed to recover. As a result, commodity prices are falling yet again, intensifying poverty in the South, and the unemployed are multiplying, intensifying poverty in the North. Joblessness is now not only the prime issue in domestic politics: by providing humus for protectionist sentiments and xenophobia, it is also forcing itself onto the international agenda."

"The new era after the Cold War," the UNCTAD head adds, "should not be allowed to become one of economic conflict. Governments acknowledge the need for cooperation, but the real challenge remains. It is to translate the aspiration for harmony into practice - and do so in a way that will advance development and push back poverty.

"The right approach is to marry boldness with realism. Without boldness structures will not change, but unless policies are tempered with realism there will be costly excesses. Boldness is also required to clear the debt overhand, which continues to bear down on many developing countries. And unless there is boldness too, in fighting global deflation, the problems of the world economy will further multiply, and instability will overwhelm confidence."

Underscoring the dilemma faced by the OECD governments in their desire to stimulate growth and attack unemployment, but held back by rising public deficits and the need to finance government spending by taxation which would reduce private consumption expenditures, thus negating the attempts to stimulate the economy, the TDR suggests the idea of a capital levy.

The one-time capital levy on financial wealth, particularly held with institutional investors, preceded by or with an option of tendering government debt towards payment of the levy, and privatization with the proceeds used to retire government debt, would get the governments of industrialized countries out of their current debt trap, where they see a lengthening unemployment dole queue and increasing deficits (for payments of dole and interest on debt), but find themselves unable to act, according to Shaheen Abrahamian who headed the team responsible for the report.

This can't be done unilaterally, Abrahamian acknowledges. This has to be done in a coordinated way by the industrial countries, but if done it would help the governments to get out of the dilemma of increasing dole queues and deficit to pay the dole, and enable the economy to grow again.

If various measures advocated are carried out in a coordinated way, and everyone undertakes some fiscal stimulus, the effects of the deficits in government finance will be much less than if any one country does it alone, and the world economy can be brought out of its current impasse, he said.

The TDR acknowledges the practical difficulties in the way of taxing the private wealth, but suggests these can be overcome, if there is a turnaround in thinking centred on one simple fact: "since the main source of government deficits is the interest payable to the private sector, in the final analysis the private sector must pay most of the bill itself:"

Basing itself on the experience of the behaviour of consumers and enterprises in the aftermath of the 1987 stock market crash and the more recent debt deflation, the TDR suggests that "if the capital levy is applied to financial wealth alone, and is supported by monetary relaxation, the negative wealth effect on spending, and hence the offsetting fiscal stimulus needed, could be negligible".

But taxing real property could further glut the property markets and depress asset prices, increasing the possibility of the tax would be paid out of current income (and hence depress consumer buying and economic activity further).

"The levy," the TDR says, should therefore be primarily on financial wealth held with institutional investors..to avoid a liquidity crisis and sharp declines in asset prices, debt retirement should begin before the capital levy is collected so that the liquidity needed is first injected into the economy; alternatively provision should be made to meet levy by tendering government debt."

Most governments, the TDR complains, are still reluctant to pursue counter-cyclical fiscal policies and the leading industrialized countries and the leading financial institutions are seeking solution to the legacies of the 1980s in the motto of that decade: "leave it to the markets!".

While there is much to be said in favour of flexible labour markets, the TDR says, the industrialized countries are now facing both cyclical and structural unemployment and solutions require reorientation of macroeconomic policies.

"The curse of unemployment will remain as long as demand is insufficient to induce firms to hire more workers."

The report notes that most countries are banking on export growth to lower unemployment, but recovery in one country could not go far without corresponding recovery in others. Everyone can't be exporting, Abrahamian wryly comments and the efforts to increase exports would only induce beggar-my-neighbour import protection or export subsidization.

"Every country can increase productivity, but all cannot increase competitiveness, and if all try to do so rather than to increase global demand collectively, the result will inevitably be more recession and unemployment all around," the TDR says.

Abrahamian said the TDR was also making the point that exchange rate volatility was a problem and "the question of capital controls out to be brought back on the agenda and seriously discussed".

"We think it unrealistic to talk only in terms of exchange rate or stability in European capital markets and recession everywhere; countries may need some defence in terms of capital controls," he added.

In explaining benefits of a capital levy over any tax to reduce deficits, Abrahamian said if there was a one-time levy on holdings of bonds and bills, bank deposits, and stock market assets of the private sector, it will cause them to cut spending much less than any taxation on income or the raising of VAT or sales taxes.

In this recession, firms are trying to adjust by cutting costs and making real adjustment, reorganizing both production and management, sales etc and this is resulting in white collar unemployment on top of the blue collar unemployment.

Over the past few years, UNCTAD (in the macro-economic policy area in contrast to its approach to the trade policy area) has been bucking the official thinking and analysis flowing out of the dominant capitals of the North and the institutions controlled by them -- the IMF, the World Bank, Paris-based Organization for Economic Cooperation and Development and the conservative think tanks staffed by neo-classical economists and consultants to the IFIs.

It was the first institution to recognise in 1988 that the Third World debt cannot be repaid without damage to the countries and to the North and the Third World debt must be written down.

More recently, over the last 2-3 years it has also been bucking the official views of the North about the nature of the current world economic crisis and the stagnation/recession in the industrialized countries and their major centres.

The official thinking, advocated by IMF etc, has been for governments to cut budget deficits (by cutting expenditures) which, it is argued, would bring down interest rates, stimulate private spending and generate higher levels of economic activity. In this approach, all of them have been projecting recovery under way, and constantly revising it downwards -- with almost everyone agreeing that their models don't seem to be taking account of changes in private behaviours.

UNCTAD has been taking the minority view to argue that this policy won't work, that in fact the industrialized North has been facing a debt deflation and with interest rates low (as in the US and Japan), there is very little scope for stimulating the economy through cuts in interest rates, and that what is needed are government spending on goods and services (such as on some types of infrastructural projects) to stimulate the economy.

The UNCTAD plea for a debt write down of the debt of the Third World to official and private creditors was first ridiculed and later adopted, in a distorted way though in the Baker and Brady plans and some debt relief through the Paris Club of official creditors. But it has not been enough to get the indebted countries out of their trap and grow with vigour, but has continued to keep them on the short least of the Fund/Bank structural adjustment programmes that have fed the overall crisis.

In its latest report, it has again bucked the official thinking from the citadels of the North, in effect arguing for a way to provide for debt relief to the governments of the North by a reduction of the public debt and enable them to reduce their debt and interest payments to manageable levels.

The TDR has not put forward any fine blueprint. Rather it has sought to bring about a "turnaround in thinking"-- persuade the governments and the financial institutions to think some 'unthinkables' and get out of the mental prison of economic thinking they have landed themselves.

The TDR has cited though what Keynes wrote in the 1920s advocating a capital levy, in the context of the "progressive and catastrophic inflation" then prevailing in central and eastern Europe.

While suggesting a one-time capital levy on financial assets, it has not also ruled out other approaches, and cites the plan of the Chicago School in the United States during the Great Depression which advocated monetary expansion and use of the money to buy the government debt, but requiring the banks to keep 100 percent reserve to prevent inflation.

In trying to bring about the "turnaround in thinking", UNCTAD though will be running against the reality that financial assets are held not merely by a few very wealthy but by policy-makers, parliamentarians, national and international higher level bureaucrats, and the media and others influencing public opinion. It is asking them to do some short-term self-sacrifice.

On this, an UNCTAD official who did not want to be named, commented, "some of us too are in the similar situation, but are nevertheless advocating it, since other solutions have been tried and failed and continuing with them would do greater damage."