In this post I want to explore bringing together two economic concepts, apply them to Australia and give it a name.
1. Define the concepts.
Crowding out – economists have argued that debt-funded government spending can lead to higher interest rates and an appreciation of the exchange rate that reduces economic growth. As with all things the context is important and crowding out is most likely to occur when the economy is strong (or what economists call near potential), government spending decisions are influenced by lobbying and the borrowing is large.
Role of government – economists have their own take on what this means. The general view among them is that the role of government is to address problems markets cannot address. (Yes. They do not believe in 100% unfettered free markets. That may be the view of Wall St but they are financiers not economists.)
2. Join the concepts
To join them I need to make some broad sweeping assertions about Australia (you may disagree but they are largely not too contentious):
- Australians love housing and are sh!t scared of government debt.
- Australians buy more than they sell overseas (persistent current account deficit).
- Australians borrow from overseas (persistent capital account surplus).
- A very large chunk of the money Australia owes is because of housing.
- Australian governments do not borrow nearly as much as its citizens
- One driver of housing demand is to be close to places you want to get to.
- Transportation infrastructure reduces the time to get between places.
- Transportation infrastructure is an area people accept some degree of government spending.
Why might government not borrow all that much? I did say Australians do not want them to but does this amount to housing crowding out government spending? Sort of but not really. Sort of in the sense that government spending is being curtailed by people’s decision that they would rather hold the debt than their government. Not really because the government is being constrained by politics not a lack of value.
3.Give it a name – crowded house
So far most economist would say yeah so what, this is efficient! The people who value being closest get to live closest. But, what if, this was not so efficient?
The important thing is that there is a link between government spending on transport infrastructure and people spending more to live in more convenient locations. If transport infrastructure is improved, people can have a more conveniently located home without having to borrow, spend more and increase prices. Government can improve the quality of existing homes so there is less demand on the roads, car parks, shops, trains that are currently located and congested costs fall.
Yes but there are potential costs from spending on infrastructure – crowding out. The interest rate goes up and so there is less investment (including in housing). The exchange rate would also go up and export competitiveness goes down. So the decision comes down to are the benefits greater than the costs.
So you’re saying there’s a chance? Yes I am Lloyd. Could there be situations where we are better off with less borrowing for housing and more for infrastructure? I will leave that up to debate but what I will say is that the cost-benefit is likely to be in favour of transport when the city is very congested, the crowding out is small and housing affordability is low. While government may crowd out we crowd the house.
And, my favourite Crowded House song