My Say: Productive investment as the way out of the Great Recession

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THE last Great Recession has refused to respond favourably to neo-Keynesian stimuli, which have proved to work pretty well in dealing with financial crises in the preceding several decades. Why not this time?

Unlike the previous crises, this Great Recession, which arose from the 2007-08 crisis, has much deeper structural roots. And unlike the one in the 1930s, which was due to lack of demand, the most recent crisis was due to lack of productive investment in the advanced economies.

Three major events in the 1990s are relevant to the crisis. China experimented with economic reforms in 1978, but its more radical reform — introducing the market economy to the whole country — was done in 1992, and it joined the World Trade Organization in November 2001.

India experienced balance of payment problems from 1985, which led to an economic crisis in late 1990. The government initiated economic liberalisation in mid-1991 to integrate the Indian economy into the global economy.

The fall of the Berlin Wall in November 1989 and the collapse of the Soviet Union in 1991 signified the end of the Cold War. It ushered in a gradual integration of the ex-Soviet bloc into the global economy.

Between them, these three events released a workforce of 1.47 billion into the capitalist market economy. It was a 100% increase. By any criterion, this was a big shock to the economic system. Even a stable economic system with a very robust financial system is bound to suffer dislocation and pains from the shock.

The huge increase in labour supply in the 1990s sped up and deepened a process that had started a few decades earlier.  Fierce competition forces have driven manufacturing firms in the advanced economies to relocate their production to low-cost countries. This process was facilitated by financial liberalisation in the 1980s.  

The hollowing out of manufacturing weakened the labour movements. Those manufacturing firms that remained behind deployed the time-honoured practice of holding down wages. In this, the business world was given a helping hand by British prime minister Margaret Thatcher and US president Ronald Reagan. The anti-labour environment was further undergirded ideologically when the Berlin Wall collapsed and the subsequent swing to market fundamentalism.

Western states and societies could have responded to the new global economy in two ways. The first is to slash wages low enough to compete with the developing countries; this is political unacceptable. It is also socially wrong.

The second and the right way is to embark on breakthroughs across a range of technologies, to redesign social organisations, as well as other forms of value-adding innovations. Instead of such a response, they opted for a consumption-driven economic growth financed by debts. This is the easy way out in the short term. The rest of the story has been amply reported in the mass media, namely market fundamentalism, subprime mortgages, Wall Street excesses, financial deregulation and failures of supervisory bodies and rating agencies.

 Neo-Keynesian stimuli have more limited prowess in the context of globalisation. The multiplier effect is small if fiscal allocations meant for stimulating demand end up in importing goods. Liquidity created by quantitative easing in the US leaks out to other countries, bringing about asset bubbles there. The Shinzo Abe government in Japan has devalued the yen to boost exports, which is likely to trigger similar actions in other export-oriented economies. We will then have a currency war in the making. But this need not be so.

Economic disasters in the old days were the result of natural disasters and wars. Nowadays, they are the result of wrong policies and bad governance. Ever since the agricultural revolution, economic development has become a technological, social, cultural and political phenomenon rather than merely an activity involving human muscle power and nature.

Fiscal and monetary stimuli designed to boost demand cannot work effectively in situations with deep structural problems arising from competitive weaknesses. The way out is in productive investments, especially those with long-term sustainable goals and that are value-adding. There are four ways to do so.

First, states should invest in scientific research and technological and organisational innovations. This is ideologically at odds with free-market fundamentalism, with its deep distrust of the state’s ability in economic life. But history does provide evidence to question such distrust. Let us take two examples in the US: the space programme launched in the early 1960s and the IT programme launched by Reagan in the 1980s.

Second, investments in infrastructure. This can be funded by states or the private sector, or as a state-private sector joint venture.

Third, states should clean up the environment, which will yield dividends in better health for the citizens and lower medical bills. In addition, find new social organisations, for example rubanisation (, to reduce the massive waste and pollution existing in mega-cities.

Fourth, states should sponsor cultural production such as paintings. These works should be sold to private collectors when the time is good.

Michael Heng is visiting professor of National Chung Hsing University of Taiwan, adjunct professor of IKMAS, Universiti Kebangsaan Malaysia, and author of The Great Recession: History, Ideology, Hubris and Nemesis

This article first appeared in Forum, The Edge Malaysia Weekly, on February 16 - 22, 2014.