Freedom in the next decade

In the midst of the worst economic crisis since the Great Depression, a whole generation of Australians, myself included, are considering things we have previously taken for granted. The last 17 consecutive years of economic growth created a great number of opportunities for Australians, in terms of employment prospects and wealth creation, across a broad cross-section of the community. Full employment and high salaries have enabled people to cherry-pick the very best job opportunities and, consequently, allowed us to create the experiences and lifestyles of our choosing.

The last 17 years were not just about strong economic growth in Australia. Globalisation, through trade liberalisation and technologies like the internet, has brought increased wealth to developing nations; particularly those in Asia, South America and Eastern Europe, while developed nations have also continued to prosper. The proliferation of the internet and increasing air travel have allowed people across the world to communicate and forge relationships that were previously thought impossible or impracticable.

The basis of freedom

Freedom is a result of two components. The first is the availability of choice; the number and variety of choices that are available in a society. This component of freedom is most abundant in open societies (the openness of a society should be judged very broadly to encompass political, social, artistic and cultural openness) with efficient market-based economies. A society that allows each member to freely pursue whatever he or she chooses will create the most choices for its members generally.

By people exercising their free will, they give rise to new thoughts, actions and wares, which once created may be embraced by other members of society, if they so choose. Efficient market-based economies encourage the proliferation of new goods and services, as well as competition between providers of those goods and services, with the end result being more choice for everyone.

The second component of freedom is the capacity to choose; the capacity of each member of society to pursue any number or variety of informed choices. Those choices may concern matters that are entirely personal, may be choices made available by society to its members, or they may be the result of a group of people coming together in a common pursuit.

A capacity to make informed choices and, in so doing, exercise freedom depends on the capabilities of the person exercising the freedom, including their level of education, social networks and wealth. A wealthy, well-educated society will typically create people with a strong capacity to make informed choices and, provided the society is an open one, those people will be able to exercise considerable freedom in those choices.

The Global Financial Crisis

The GFC includes the sub-prime mortgage crisis, the series of financial crises beginning around September 2008 in the USA, and the broader economic turmoil that has spread across economies generally.

The GFC is a considerable threat to the freedom of people across the globe. As the world’s economies slow and unemployment increases, the jobless suffer a marked loss in wealth and face constrained choices. In the poorest countries, unemployment can result in a stark lack of choices, a loss of access to essential services, and abject poverty in many cases. In Australia, unemployment and underemployment is on the rise and will increase dramatically this year. Those affected will have lower incomes, which makes for fewer choices, and will experience considerable changes to their lifestyles. For retirees and people close to retirement, the stock market crash and the current global cycle of asset price deflation has resulted in considerable wealth destruction, which has narrowed those people’s choices in retirement.

The GFC is the product of a number of regulatory and market failures as well as global imbalances. Access to cheap credit, fueled partly by currency imbalances between China and the USA, resulted in consumers and businesses becoming highly leveraged. Cheap credit was also made possible through the prolonged mispricing of risk by financial institutions, which itself arose from the use of imperfect information. Both financial regulators and credit rating agencies were responsible for the spread of imperfect information about financial products. Governments relied too heavily on the market to self-regulate. Quasi-private regulators like stock exchanges are expected to enforce regulations against the same companies that fund their actions; they are expected to prosecute their own clients. In the private sector, credit ratings agencies were the gatekeepers of objective financial analysis, yet they used a business model that was riddled with conflicts of interest.

Once the financial crisis hit, other market and regulatory failures became apparent. Accounting rules based on mark-to-market pricing have been found to be pro-cyclical and have exacerbated the boom and bust. Concentrations of market power, in companies that are considered “too big to fail”, has compounded the impact of poor decisions made within those companies and created relationships between business and government that are prone to moral hazard.

The global response

What makes crises like the GFC so difficult to control is globalisation and the interconnectedness of global markets and economies. In today’s economies, the actions of a few people in one part of the world, seemingly unconnected to matters or people on the other side of the world, can have profound consequences for everyone across the world. The same global linkages that have transmitted wealth and opportunities to so many people across so many countries prove disastrous when things go wrong, because a failure in one link of the chain becomes impossible to quarantine.

The GFC has left the private sector so crippled that any recovery will have to be government led. However, the response from government presents its own challenges to freedom. Will governments respond with increased protectionism like after the Great Depression? Will governments overreact with onerous and ill-conceived regulation that stifles future growth or can they get the balance right?

The GFC presents a regulatory conundrum that governments have so far failed to solve. Trade liberalisation and deregulation has increased the size and reach of Multi-National Corporations (MNCs), and since the 1990s there has been considerable debate about the rise of MNCs and the ability of sovereign nations to regulate them across borders. Until now, governments have relied on the discipline of market forces as a form of regulation, although this looks more like government inaction in the absence of a better alternative.

So far the GFC has been met with co-ordinated global actions from central banks and governments, albeit in a reactive and ad hoc manner. Policy makers are now turning their minds to the sort of measures that are required to rebuild the global economy and prevent another crisis of this kind in the future.

The wrong path

While government-led intervention is the most appropriate way to resolve the GFC, the involvement of government in other areas often does more harm than good.

There is a risk that governments will start presuming that all problems are best solved through government regulation. Individual liberties are often the first casualty of government regulation. Regulation invariably strangles liberty, so it is important that every regulation is a justifiable infringement of liberty.

Some commentators see the GFC as evidence of the failure of market based policies, and have called for greater government control of the economy. Advocates for big government ignore the drag that bureaucracy puts on economy growth. Big government also tends to spread its influence across all areas of society, which may lead to value-based policies that are an even greater affront to liberty. (For example, the Rudd Government is seeking to impose its social values on the broader public, with adverse impacts on the liberty of Australians, with, for example, compulsory internet filtering).

Above all else, governments must avoid knee-jerk, populist policies that do more harm than good. Some lobbyists are calling for increased trade protectionism, whether in the form of special industry relief packages (for example, the Australian governments’ A$6.2 billion relief package for the car industry) or broad-based policy changes (such as a rollback of the North American Free Trade Agreement in the USA). These calls should be resisted.

The better path

In the near term, governments should look to maintain high levels of employment and bolster public and private safety nets, especially those accessed by the unemployed and underemployed.

Appropriate fiscal policy - being government spending programs that build the productive capacity of the economy - is also called for during this part of the business cycle. Government spending that targets consumption, like one-off payments to pensioners and parents with children, are less effective in the long term, as those payments do not enhance the availability of choices in society once the money is spent. Conversely, expenditure on capital works will continue to make choices available for people long after the investment is made. (For example, government expenditure on a new train route creates transport and logistics choices once it is built, which remain available to society so long as the train route is maintained.)

The medium term challenge for governments is to identify and correct the regulatory and market failures responsible for the GFC without undermining the global system that so many people across the world rely on for their long term prosperity and freedom. This involves an analysis of markets to identify and structurally remove inefficiencies, such as inherent conflicts of interest, information asymmetry and incidents of moral hazard. A review of competition regulation is required to restrict the ability of large companies operating in monopolistic or oligopolistic structure from abusing their market power or becoming “too big to fail”. (Companies that are “too big to fail” should not be allowed to privatise profits in good times but then socialise losses, by calling on a government bail-out, when times are bad.)

This is particularly relevant in Australia, where the banking, aviation and various other industries are dominated by big players.

Individually, people are already responding to the GFC by preserving their freedom. Consumer spending is down, as people defer key purchases and look to increase savings and reduce debt. Wealth preservation, rather than the pursuit of increased returns for greater risk, has become the preferred approach. Job security is now front-and-centre for Australians.

Maintaining freedom

The dramatic change in people’s fortune from the 2007 boom to the bust of 2008 and 2009 illustrates the transient nature of freedom. The choices available to someone at a particular time may not be there for them tomorrow. The availability of choices and the capacity to choose them, as components and measures of freedom, must be considered in terms of the sustainability and security of those choices.

As the GFC has shown, people’s freedom can be profoundly affected by circumstances beyond their control. However, the choices we have made in the past, and those that we make today, also have a profound impact on the freedom we will enjoy in the future.

Australians should consider, both personally and as a community, the long-term security of their freedom as well as how much they have at any given time. We should make choices with an eye to the future as well as the present so that, by making the right choices today, we can preserve and enhance our freedom for tomorrow.