MICHAEL CASEYreviews No way to run an economyBy Graham Turner Pluto Press; €14

ECONOMIC POLICY is often characterised as being “too little too late”. There can be different reasons for this – bureaucratic inertia or even political interference, lack of timely data and failure to understand the behavioural forces at work in the economy. It is mainly the latter which this hard-hitting book addresses.

The author makes a good case when he criticises the authorities in the US (but also in the UK and EU) for not fully understanding the nature of the economic and financial collapse and for not acting in a timely or adequate fashion. He believes house prices could fall in the US by up to 60 per cent from peak to trough, and that the economy could relapse in 2010. Solutions would be even more difficult at that point, given that there is no scope for further interest-rate reductions.

The book virtually reverses the conventional wisdom about policymakers knowing much more now than in the 1930s.

The “blind pursuit of the profit model” in the context of globalisation is the fundamental critique put forward by the author, and indeed he uses a Marxist analysis to explain how the giant multinational companies sowed the seeds of their own difficulties. This is intriguing since the author’s own firm, GFC Economics, does consulting work for some of the world’s top financial companies.

One of the key insights of the book is that the Federal Reserve tends to follow financial market trends rather than lead them – partly because financial markets have become so huge.

In the real economy (Main Street), much the same is true in that the multinationals are now more or less beyond the control of the authorities and will shift production to any country in the world to avail of lower wage costs.

Another valuable insight is the suggestion that liquidity injections and bank recapitalisations will not work unless borrowing costs are brought down in real terms. It is only when lending increases that the money supply will begin to grow. (This is highly relevant to the question of whether our “bad bank”, Nama, will actually encourage new lending.)

In the spring of 2009, the US had five planks of policy. Interest rate reductions and quantitative easing had failed to prevent house prices from falling. Second, the large injections of liquidity did not work because they did not reduce borrowing costs. Third, the attempts to modify mortgages did not lessen the number of defaults because job losses increased – nationalising the banks might be the only solution here. (Irish policymakers, please note.) Fourth, fiscal expansion (the Obama “stimulus”) was inadequate and the widening of the US fiscal deficit pushed up bond yields. This, of course, offset the hoped-for reduction in borrowing costs essential for reflation and recovery. Fifth, the stress-testing of banks was a cosmetic exercise which failed to improve stock-market sentiment. In short, nothing really worked in the US.

The lack of demand in the US economy is also due to the compression of wages. This was caused by multinationals leaving en masse for cheap-labour countries. Low wages also forced people into more debt, the servicing of which is rising in real terms because consumer prices are falling. Prices may continue to fall because the multinationals have engaged in Marxist “over-accumulation”, ie by investing so much abroad they now have excess capacity. This, with lower wages, is leading to continuing price-falls in the US.

The author believes that if much stronger policy action had been taken following the collapse of Bear Stearns in March 2008, things would be a lot better. Interest rates should have been cut more aggressively then – inflation concerns were a red herring – and so, too quantitative easing. By buying more bonds from the banks, the Fed would not just have injected liquidity into the system but would also have forced longer-term interest rates down. This would have encouraged borrowing for investment and job creation.

If the Fed had slashed interest rates in March 2008, the markets might well have interpreted this as a panic reaction. These psychological factors cannot be ignored and the author may be just a little unfair in this regard.

One interesting aspect of the book is the way it tries to integrate monetary and fiscal policies. In more “normal” times, these policies tend to be assigned to different targets. But in a deflationary situation, there is merit in combining them. It may be difficult to co-ordinate them, however, because the Fed handles monetary policy while the treasury deals with fiscal policy. It would have been interesting to have the author’s views on this division of labour. He concludes by blaming the system (including globalisation), but surely the policymakers must share the blame if only because they didn’t understand the system?

The book is a penetrating critique of recent events and contains many useful ideas, including Marxist ones. But it is not clear where we go from here. Is the author advocating protectionism to lessen the compression of wages? At what point should the Fed begin to worry about inflation again? How can governments control gigantic markets and multinationals in the future – or even regulate them?

There is a tendency for the book to jump from the US to the UK and EU, and between the 1930s and the present day. Many of the graphs added little. But these are minor criticisms of a book which analyses important economic events in a succinct and radical way. The underlying pessimism regarding the US economy and the costs of globalisation are worrying from an Irish perspective.

Michael Casey is a former chief economist at the Central Bank and board member of the International Monetary Fund