Monday, April 17, 2017

Disadvantaged should rate higher than rich and powerful

I shouldn't say it, but the thing that annoys me most about the readers of this august organ are those who want to consign me to a party-political pigeonhole. "He's only saying that because he's Liberal/Labor/Green/Callithumpian."

Sorry. I have a lot of strong views, and I hope it isn't hard to detect an internal consistency in them, but they're not driven by loyalty to any party.

Like many old journos, the older I get the more disdainful I become of both sides of politics. They're not identical, but they have far too many bad habits in common.

But if my views come from a consistent set of values, where do those values spring from?

It's no secret. If you must pigeonhole me, I don't mind you saying this: "He's only saying that because he grew up in the Salvos – and hasn't managed to shake it all off."

I certainly inherited from my father a penchant for preaching sermons. So, since it's Easter, here's the latest.

Earlier in my career as a commentator my mission was to convert readers to the one true faith of economic efficiency.

As I've got older and wiser, however, I've realised that, though economic inefficiency has nothing to recommend it, efficiency isn't the only worthwhile goal of public policy, and there are often times when other objectives should take priority.

Such as ensuring the fruits of our economic success are distributed fairly between all the participants in the economy, not hogged by the rich and powerful.

Such as ensuring the poor – these days we're supposed to say the "disadvantaged" – are given a helping hand, even if they're the political path of least resistance when trying to fix the budget deficit.

The more unimpressed I've become with party politics and economic orthodoxy, the more I've fallen back on the values I imbibed as a youth, reading about the Salvos' daring, disreputable and sometimes law-breaking exploits in their early days.

I've been reminded of all this by a four-DVD box set, Boundless Salvation, produced by my coreligionist and mate, John Cleary, late of the ABC religion department, to celebrate the Salvos' 150th anniversary.

The Salvation Army was founded in the East End of London in 1865, when the Rev William Booth broke away from the Methodists. As a protestant church, its doctrines are identical to Methodism.

As Cleary explains, what distinguished the Salvos was Booth's preoccupation not just with saving souls, but saving "the worst", and the way he matched spirituality with practicality.

As soon as you were saved you were set to work, not just spreading the word, but helping the downtrodden escape the economic bonds that enslaved them.

Consider this recorded sermon from late in Booth's life: "Amidst all your joys don't forget the sons and daughters of misery. Do you ever visit them? Come away and let us make a call or two.

"Here is a home, six in family. Bathe and drink and sleep and sicken and die in the same chamber.

"Here is a drunken hovel, devoid of furniture, wife a skeleton, children in rags. Father maltreating the victims of his neglect.

"Here are the unemployed, wandering about, seeking work and finding none. Yonder are the wretched criminals cradled in crime, passing in and out of the prisons. All the time.

"There are the daughters of shame, deceived and wronged and ruined. Travelling down the dark incline to an early grave.

"There are the children, fighting in the gutters, going hungry to school. Growing up to fill their parents' places.

"Brought it all on themselves, you say? Perhaps so. But that does not excuse our assisting them.

"You don't demand a certificate of virtue before you drag the drowning creature out of the water.

"Nor the assurance that a man has paid his rent before you deliver him from the burning building.

"But what shall we do? Content ourselves by singing a hymn? Offering a prayer? Or giving a little good advice?

"No! Ten thousand times no! We will pity them, feed them, reclaim them, employ them.

"Perhaps we shall fail with many. Quite likely. But our business is to help them all the same. And that in the most practical, economical and Christlike manner."

Never heard that sort of talk from the pulpit? Here's a verse from Psalm 82 a reader sent me:

"Give justice to the weak and the orphan; maintain the right of the lowly and the destitute.

"Rescue the weak and the needy; deliver them from the hand of the wicked."

It all helps me know whose side I'm on in the great self-centred battle for government largesse.
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Saturday, April 15, 2017

How our penchant for magic numbers gets us into trouble

A lot of the problems we cause ourselves – whether as individuals or as a community – arise from the way we've evolved to economise on thinking time by taking mental shortcuts.

We are a thinking animal, but there are two problems. First, we have to make so many thousands of decisions in the course of a day – most of them trivial, such as whether to take another sip of coffee – that there simply isn't enough time to think about more than a few of them.

Second, using our brains to think requires energy, in the form of glucose. But glucose is not in infinite supply. So we've evolved to save energy by minimising the thinking we do.

As Daniel Kahneman​ – an Israeli-American psychologist who won the Nobel prize in economics for his work with the late Amos Tversky​ on decision-making – explains in his bestselling Thinking, Fast and Slow, our brains solve these two problems by making all but the biggest, non-urgent decisions unconsciously.

This is Thinking Fast. We don't think about taking another sip of coffee, we just notice ourselves reaching for the cup.

But even when we are Thinking Slow, carefully considering a big decision – such as which house to buy, or whether to marry the person we've been seeing – we still have a tendency to save glucose by relying on what Kahneman and Tversky dubbed "heuristics" – mental shortcuts.

They stressed that our use of such shortcuts is, in general, a good thing. We fall into the habit of jumping to certain conclusions because, most of the time, they give us the right answer while saving brain fuel.

But they don't give us the right answer in every circumstance, and it's the classes of cases where they lead us astray that are most interesting and worth knowing about.

Kahneman and Tversky kicked off a small industry of psychologists thinking up different potentially misleading mental shortcuts and giving them fancy names.

I have a couple of my own I'd like to add to the list.

I call the first one "box labelling" – saving thinking time by consigning things or people to boxes with particular labels.

For example: "I regularly vote Labor/Liberal, therefore I don't have to think about the rights and wrongs of all the policy issues the pollies argue over, but can get my opinion just by checking which side my party's on."

You can see how common this is if you look those media opinion polls that show you how many people support or oppose a particular policy – say, curbing negative gearing – then show you who those people would vote for in an election.

Much more often than not, people take their lead on an issue from the position their favoured party takes.

You also see it by watching what happens to the index of consumer confidence when there's a change of government. Almost all those who voted for the losing party switch from optimism to pessimism, while those who voted for the winner switch from pessimist to optimist.

My second mental shortcut is "magic numbers". Experts develop and carefully calculate some economic or financial indicator, based on various assumptions.

The indicator measures changes in something we know is important, so we get used to watching it closely for an indication of how things are going.

Trouble is, we end up putting too much reliance on the indicator, using it as a mental shortcut – a substitute for thinking hard about what's going on.

We turn it into a magic number – a single figure that tells us all we need to know. We use it to inform us about things it wasn't designed to measure.

But, above all, we forget about all the assumptions on which it's built, assumptions that can become inappropriate or misleading without us noticing. That's when our magic numbers hit us on the head.

The American economic historian Barry Eichengreen attributes part of the blame for the global financial crisis to Wall Street's excessive reliance on a financial indicator called "value at risk" or VaR.

As Wikipedia tells us, VaR "estimates how much a set of investments might lose, given normal market conditions, in a set time period such as a day. VaR is typically used by firms and regulators in the financial industry to gauge the amount of assets needed to cover possible losses."

Eichengreen tells of the banking boss who, late each afternoon, would call for the figure giving the investment bank's VaR. If it fell within a certain range, the banker would go home content. If it was outside the range, he'd stay until he'd done whatever was needed to get it back into range.

The problem was his neglect of the assumptions on which the calculation was based, in particular, "given normal market conditions". Conditions stopped being normal without him realising and – like all its competitors – his bank got into deep trouble.

But the most notorious magic number is gross domestic product, GDP. It was developed by economists after World War II to help them manage the macro economy, but has since been widely adopted as the single indicator of economic progress.

Economists know that GDP is good at what it measures, but was never designed to be a broader measure of wellbeing. This, however, doesn't stop them treating the ups and downs of GDP as the be-all and end-all of economics, as a substitute for thought.

Another word for this is "bottomlinism" – don't bother me with the details, just give me the bottom line.

But never inquiring beyond the bottom line will often end up misleading yourself or getting you into trouble. That's particularly true of people who hear the words "deficit" and "debt" and immediately assume the worst.

In business, however, the most dangerous magic numbers – the most egregious substitute for the effort of thought – are known as KPIs – key performance indicators.
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Wednesday, April 12, 2017

The local school is in decline, reducing social cohesion

I love living in my suburb. I shop locally, just so I can run across friends and neighbours on a Saturday morning, and be greeted with a smile – even a name – by shopkeepers who know me.

I figure the best ways to get to know people in your suburb is to own a dog – you get to talk to other dog-owners as you stand around in the local park – and send your kids to the local school. You can't help getting to know the other parents in your kids' classes.

But all that was some years ago, and times change. The local school isn't the institution it used to be.

Perhaps it won't surprise you to be told that, over the years, our capital cities have become more stratified, with a greater tendency for better-off people to live in better-off suburbs – the ones with water and views and, these days, those closest to the centre – and for the less well-off to live in less well-off suburbs far from the centre.

This is most true of Sydney, then Melbourne – which is catching up with Sydney in size – but less true of the other capitals.

But maybe this will surprise: something similar is happening to our schools, particularly secondary schools.

We have a widening divide between the schools attended by the offspring of better-educated, better-off parents, and those attended by, well, the not so well educated and paid.

This is happening partly in consequence of the increasing stratification of suburbs, but also because of the education policies pursued by federal and state governments.

Unlike almost all other rich economies, Australia runs three school systems rather than one.

This array has tempted us to treat school as though it was a market, where government, Catholic and independent schools compete for youthful customers, thus providing parents with greater choice and obliging government schools to lift their game.

John Howard was big on choice. Julia Gillard left Howard's pro-choice funding arrangements running until Labor's last year, while emphasising competition between schools.

She introduced the NAPLAN testing of literacy and numeracy and, to ensure parents were well-informed before making their choice, she introduced the My School website, loaded with detailed information about every school.

We got a lot of choice, but no improvement in measured performance. Moral: schools aren't a market.

One benefit, however, is that researchers can collate the My School data to give us a much clearer picture of what's happening to our schools. Leaders in this research are two retired high school principals, Chris Bonnor and Bernie Shepherd.

Everyone knows there's been a decades-long drift of students from government to non-government schools.

What our not-so-retired principals have discovered, however, is that this has masked a big shift from schools with low socio-educational advantage to those with high socio-educational advantage. (A school's socio-educational advantage is rated largely according to the socio-economic status of its students.)

My School shows that, over the five years to 2015, average enrolments at all schools grew by more than five students a year. But enrolments at schools with high socio-educational advantage grew by an average of 11 students a year, whereas enrolments at disadvantaged schools grew by just more than one student a year.

When choosing schools, many of us think of a hierarchy of excellence – in teaching and results – running from government to Catholic to independent. But that's just what you see on the packet. (Echoed by the prices of the packets.)

Studies estimate that 78 per cent of the variance in the performance of schools is explained by differences in their socio-educational advantage – that is, by the socio-economic status of their students.

Independent schools tend to get good exam results because most of their students come from well-educated families. Catholic schools get better results than you might expect because the days when their classrooms were full of working class kids are long gone.

You'd expect this to mean public schools increasingly full of disadvantaged kids getting poor results. True, but they retain a higher proportion of advantaged students than you'd expect.

Why? Partly because public schools in posh suburbs still have lots of smart kids, but mainly because – particularly in Sydney and, to a lesser extent, Melbourne – state authorities have responded to the demand for greater "choice" by creating more selective schools.

But this means greater stratification on the basis of socio-economic status even within the government system, coming at the expense of disadvantaged government schools.

Choice, however, isn't available to all parents. To have a choice you need either brains or money (which usually comes with brains attached).

The vogue for choice has also allowed greater stratification of students on the basis of religion. These days, Jewish kids go to Jewish schools, Muslim kids go to Muslim schools and Baptist and Pentecostal kids go to "Christian" schools.

Trouble is, high socio-educational advantage schools aren't always located in high-status suburbs. So these days, a lot more traffic congestion is caused by a lot more students and parents travelling longer distances to and from school.

Leading to the decline of the local school. Less than a third of schools now have an enrolment that resembles the people in their local area.

Sounds a great way to reduce the nation's social cohesion.

What did the rich kid say to the poor kid? Nothing. They never met.
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Monday, April 10, 2017

Too many stuff-ups about to put economic reform into reverse

I have bad news and worse for advocates of micro-economic reform. First, the jig is up. There'll be few if any further major reforms. Second, the backlash against mounting wreckage from failed reforms is about to begin.

Since the reform push has degenerated into little more than business rent-seeking – let's cut tax on business and increase it on consumers; let's push the legislated balance of power in industrial relations further in favour of employers – it's neither surprising nor regrettable that voters have called a halt.

Micro reform has lost all credibility with voters. Most oppose company tax cuts for big business, cuts in penalty rates and a freeze on the minimum wage. Neither side of politics will pursue these "reforms" with any enthusiasm.

Economic rationalists will blame all this on irrational populism, but if they were more honest with themselves they'd admit the economic case for bizonomic​ reforms – what's good for business must be good for the economy – is debatable and often unconvincing.

And who could blame the public for holding economists accountable for all the stuff-ups committed in the name of reform over the years: the implosion of the deregulated wool price scheme, the wasteful public-private partnerships, the dubious effectiveness of the Job Network, the disastrous admission of for-profit providers of childcare.

The dodgy education businesses selling access to permanent residence to foreign students, the "contestable" pink batts scheme, the failure of encouraging competition between government and private schools, the huge rip-offs of students and taxpayers arising from federal and state efforts to make vocational education and training "contestable", the privatisation of airports and ports with their monopolies intact.

Economic rationalists are so heavily into confirmation bias they've managed not to notice this record of disasters, but they'll be hard pressed not to see the next one, when for-profit providers rip off the disabled in the name of making the National Disability Insurance Scheme "contestable".

Last week the former high priest of micro reform (and Productivity Commission boss) Gary Banks attacked a politician for daring to blame the failures of energy policy on the private sector's lack of enterprise.

Leaving aside his one-eyed criticism of government subsidies for renewable energy (while just happening not to notice the implicit subsidy of fossil-fuel generators arising from the absence of a price on carbon), Banks was right.

The blame must go to the econocrats who designed the national electricity market and the politicians who took their advice.

That we've gone from about the cheapest to about the dearest electricity – and that without a price on carbon – can be blamed on the malfunctioning of micro reform.

The "market" is the utterly artificial creation of government, run by several government agencies with a 6000-page rule book, responsible to a committee of nine governments.

The reformers' wholesale electricity market seemed to be working well, but now lacks the flexibility to cope with energy emergencies. The price regulation of largely privatised natural monopoly network operators was gamed for years before the regulators woke up, and price competition between electricity retailers is weak and margins high.

Historically, economic rationalists under-rate market failure, but are highly conscious of "government failure" – where government intervention intended to correct market failures ends up making things worse.

This is the rationale for micro reform. Governments have mixed objectives, with little motivation to keep things efficient. Much better to leave it to the private sector, driven by the profit motive to put efficiency above all else.

Really? Economic rationalists and econocrats are naive, partly because many of them have never actually worked for the private sector, and are shocked to discover how powerful is the profit motive in motivating business people to game the system, look for loopholes and, far too often, simply break the law.

Private businesses are always overbidding for privatised businesses and underbidding for contracts to provide government services. Governments think this is terrific, until the businesses wake up to their error and try to extract some profit by overcharging or cutting quality, exploiting the incomplete contracts they signed.

Much of this is bureaucratic incompetence, but it's also conservative governments seeing privatisation and out-sourcing in partisan rather than efficiency terms: it's about moving economic assets and activities from the "them" column to the "us" column, so more businesses are beholden to your party and happy to donate.

Turns out the push to reduce "government failure" has produced reverse government failure. We start out trying to stop government intervention to correct market failure that's making things worse, but end up making them worse than they already were.

Then we wonder why the punters want no more "reform".
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Saturday, April 8, 2017

Why we needn't worry about our massive foreign debt

When you consider how many people worry about the federal government's debt, it's surprising how rarely we hear about the nation's much bigger foreign debt. When it reached $1 trillion more than a year ago, no one noticed.

That's equivalent to 60 per cent of the nation's annual income (gross domestic product), whereas the federal net public debt is headed for less than a third of that – about $320 billion – by June.

Similarly, when you consider how much people worry about the future of the Chinese economy, American interest rates and all the rest, it's surprising how little interest we take in our "balance of payments" – a quarterly summary of all our economic transactions with the rest of the world.

Note, I'm not saying we should be worried about our foreign debt. We already do more worrying about the federal government's debt than we need to.

No, I'm just saying it's funny. Why do we worry about some things and not others?

Short answer: the politicians don't want to talk our "external sector" because it sounds bad. The economists don't want to talk about it because they know it isn't bad.

But since we're on the subject – and since Reserve Bank deputy governor Dr Guy Debelle gave a speech about it this week – let's see what's been happening while our attention's been elsewhere.

If you're unsure of the difference between the two debts, it's simple. The federal net public debt is all the money owed by the federal government to people, less all the money people owe it (hence that little word "net").

According to Debelle, about 60 per cent of all bonds issued by the feds is owed to foreigners and 40 per cent to Australian banks and investors. About a quarter of all bonds issued by the state governments is held by foreigners.

In contrast, the nation's net foreign debt is all the money Australian businesses and governments (and any other Aussies) owe to foreigners, less what they owe us. (For every $1 we owe them, they owe us 52¢.)

But how did we rack up so much debt?

Long story. Let's start with the balance of payments, which is divided into two accounts. The "current" account shows the money we earn from all our exports of goods and services, less the money we pay for all our imports, giving our "balance on trade".

Our imports usually exceed our exports, giving us a trade deficit. This deficit has to be funded (paid for) either by borrowing from foreigners or by having them make "equity" (ownership) investments in Australian businesses or properties.

Of course, when we borrow from foreigners, we have to pay interest on our debts. And when foreigners own Australian businesses, they're entitled to receive dividends.

The interest and dividends we pay to foreigners, less the interest and dividends they pay us (actually, our superannuation funds and Australian multinationals), is the "net income deficit".

We've been running trade deficits for so long, and racking up so much net debt to foreigners, that the net income deficit each quarter is much bigger than our trade deficit.

But add the trade deficit and the net income deficit (plus some odds and ends) and you get the deficit on the current account of the balance of payments.

The money that comes in from various foreign lenders and investors to cover the current account deficit is shown in its opposite number, the "capital and financial account".

Because the price of our dollar (our exchange rate) is allowed to float up and down until the number of Aussie dollars being bought and sold is equal, the deficit on the current account is at all times exactly matched by a surplus on the capital account, representing our "net [financial] capital inflow" for the quarter.

It turns out that, in the years since the global financial crisis of 2008-09, the current account deficit has narrowed.

In the 14 years to then, it averaged 4.8 per cent of GDP. In the years since then it's averaged 3.5 per cent. And in calendar 2016 it was just 2.6 per cent.

Why has it narrowed? Well, Debelle explains it's mainly a reduction in the net income deficit component of the overall deficit, which is at its lowest as a percentage of GDP since the dollar was floated in 1983.

The rates of interest we're paying on our foreign debt are lower because Australian – and world – interest rates are a lot lower since the crisis. And our dividend payments to foreign owners of Australian companies fell as the fall in coal and iron ore prices hit mining company profits.

That's nice. But while ever we have any deficit on the current account, our foreign debt will grow, and it already exceeds $1 trillion. Isn't that a worry?

Not really. It's not growing faster than our economy (GDP) is growing, and thus our ability to afford the interest payments.

More to the point, the current account deficit is just the counterpart to all the foreign capital flowing into Australia and helping us develop our economy faster than we could without foreign help.

The proof that such a massive debt doesn't mean we're "living beyond our means" is, first, that the nation – households, businesses and governments combined – saves a high proportion of its income rather than spending it on consumption.

Everything the nation saves each year is used to fund new investment in houses, business structures and equipment, and infrastructure. This investment is further proof we're not living beyond our means.

In fact, the nation invests more each year than we save. Huh? Well, the extra funding is borrowed from foreigners.

You can call it the surplus on the capital account of the balance of payments, or the "net foreign capital inflow" or – get this – the current account deficit.
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Wednesday, April 5, 2017

How politicians use claims about 'jobs' to mislead us

What's the four-letter word politicians of both stripes most use to bamboozle voters? Jobs. Or, as Neville Wran, former NSW premier and never given to understatement, used to say Jobs, Jobs, Jobs.

Economists and business people worship at the shrine of Growth because it raises their material standard of living. Materialism is the god of our age.

But growth is rarely what the pollies try to sell the public on. No, what presses the right button with ordinary folk is jobs.

Just as most of us don't know much about art, but know what we like, so most of us don't know much about economics, but do know there's an eternal shortage of jobs. We can just never hope to have enough of them.

So the sleaziest, most obviously self-aggrandising business person knows to say about whatever money-making project they want permission to undertake that it will create loads and loads of new jobs.

No matter what damage your scheme would do to the surrounding environment – and thus to the prospects of other industries – nor how great the risk you'll skip town if it's not working out, promise jobs and you're already half way in the door.

You can always find a friendly economic consultant who, for a small consideration, will do some modelling of your proposition and produce a generous – even exaggerated – estimate of the many thousands of jobs your plan will generate. Directly and, not forgetting, indirectly. Thousands.

Then there's a high chance government politicians will take up your cause, accepting without question or qualification you inflated job estimates, and castigating all those who lack the vision to see how much your scheme will contribute to the community's wellbeing (not to mention their re-election).

This, among many other instances, is the story of the resources boom, which our leaders applauded all the way and made little effort to control.

Think of all the jobs created. The main price we paid was that the dollar, caused by the boom to stay way too high for too long, prompted a slab of our manufacturing sector to give up the struggle.

Perversely, the highly-publicised loss of jobs that followed has served only to reinforce the public's conviction that we can never have enough jobs and that anyone claiming to want to create a few should be welcomed without further question.

It's true, of course, that a healthy rate of growth in employment is the most important thing we should expect of our economy, given our growing population.

Trouble is, our uncritical obsession with jobs – any jobs – leaves us open to manipulation by business people and politicians with their own barrows to push.

Promoters of projects exaggerate the number of jobs they will create secure in the knowledge that politicians and the media will repeat their claims without bothering to check them.

And no one but no one will return a few years later to check the gap between what was promised and what was delivered.

With mining projects, too little is done to remind people that almost all the promised jobs are for the construction, not running the thing. As soon as the project's completed, the construction workers go back where they came from – often overseas – leaving the nearby towns as flat as a tack.

Many development projects require skilled workers. But workers with particular skills are usually in short supply, meaning the project doesn't create additional jobs for plumbers or whatever so much as create vacancies that have to be filled by attracting plumbers away from their existing jobs elsewhere.

Every dollar anyone spends has indirect, flow-on effects beyond what was originally spent on. But these indirect effects are hard to measure and easy to exaggerate.

My rule of thumb is that whenever you hear the promoters of projects talk about all the jobs to be created indirectly, they ain't to be trusted.

As you recall, the centrepiece of Malcolm Turnbull and Scott Morrison's "plan for jobs and growth" was their desire to cut the rate of company tax from 30 to 25 per cent over 10 years.

Last week the Senate agreed to cut the rate to 27.5 per cent for companies with turnover under $50 million a year.

Turnbull and Morrison have chosen to regard this a big win, and are already assuring us it will do wonders to encourage small and medium businesses to expand and create jobs.

ScoMo​'s demanding to know whether Labor would reverse the tax cut and spend the money on other things, such as education and health, accusing it of "playing cynical politics all along with no regard for the jobs and wages that are at stake".

Get it? Cutting company tax creates jobs; not cutting it doesn't. Nor does spending the money on education and health create jobs.

This is economic nonsense. ScoMo regards it as a self-evident truth that cutting taxes creates jobs whereas raising taxes destroys jobs. Unfortunately, no one's told the Scandinavians.

In fact, there's no empirical evidence of a relationship between countries' level of taxation and their success in creating jobs.

ScoMo's own Treasury modelling predicts that the full company tax cut would do almost nothing to increase employment.

Beware of politicians trying to sell propositions on the basis of all the jobs they'll create. They just know which of your buttons to press.
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Monday, April 3, 2017

Politicians addicted to the appearance of economic success

I realised Australian government was fast approaching peak fake when I read Laura Tingle of the Financial Review's revelation that Malcolm Turnbull's Snowy 2.0 announcement was timed to favourably influence the imminent fortnightly Newspoll result.

When our leaders progress from being mesmerised by opinion polls to trying to game them, that's when we know the country's in deep, deep trouble.

It's long been clear that, acting on their belief that "the perception is the reality", the political class – Labor and Coalition – has focused less on attempting to fix problems and more on being seen to be fixing them.

But trying to game the political polls takes faking it to a new level: being seen to be seen to be trying to fix things.

It hardly needs saying that Snowy 2.0 was just a stunt, designed to excite the media and portray Turnbull as the great Nation Builder, while being no more than a feasibility study of a scheme that's probably not feasible, would end up costing at least double what we were told it would and, if it did eventuate, would come years too late to help with the energy crisis.

Since faking progress – conning the media into conning their voting customers – is a lot less time-consuming than pondering real solutions, you fill the vacuum by attacking your opponents' policies and record – even though such attacks rate sky-high on the hypocrisy Richter scale.

The pollies must know from their focus groups how this slagging off of opponents serves only to alienate the voters – and discourage most young people from taking any interest in politics.

But since they have little in the way of genuine policies to outline and explain, and have to keep burbling on about something, they don't seem able to stop themselves saying things that make the public change the channel.

Veteran Australian National University political scientist Professor Ian McAllister says trust in politicians is at its lowest than at any time since he started surveying it all the way back to 1969.

The other group whose perceived trustworthiness has declined badly are the media. Purely coincidental, I'm sure.

Sometimes I wonder if the pollies haven't turned the hostility between them up so high that it's no longer possible for any flesh-and-blood prime minister to survive for more than a year or two. When every day is a minefield, the sharpest leader will often put a foot wrong.

Certainly, the leadership instability we've seen since the ejection of John Howard shows no sign of abating. Whoever's leading the Coalition by the time of the next election – likely to be late next year because of last year's double dissolution – it's hard to see the Coalition surviving.

But who could convince themselves Bill Shorten's the man to restore stable government and the steady pursuit of good policy?

The superficiality of the way we're governed these days has made our politicians even more prone to short-term thinking, to the quick fix.

This explains the difficulty we're having getting both sides to accept a more disciplined, objective approach to the selection of infrastructure projects.

Infrastructure isn't something you use to improve the nation's productivity – its ability to move people and goods around efficiently; its accumulation of human capital – it's something you use to buy votes in particular electorates for particular reasons.

Speaking of getting a fix, pollies on both sides and levels of government have become addicted to announcing new mining projects, notwithstanding that the resources boom turned to bust long ago.

No one in their right mind would think now is a good time to build a mega coal mine in the Galilee Basin, but that hasn't stopped either the Turnbull government or the Palaszczuk government from offering huge subsidies to get one going.

And when politicians are waving their cheque books, you can usually find some enterprising miner – usually foreign and often tax-haven-based – confident of their ability to extract more from the government than the government extracts from them, even if history tells us most go out backwards.

There's a large element of con trick in mining projects. Their supposed attraction is the many jobs they're said to create. But these numbers are invariably hugely exaggerated and, in any case, relate only to the construction phase.

The one thing new mines don't do is create many jobs, barring the first few years.

What they do is create short booms and long busts for nearby towns. They're the bringer of all the joys of going cold turkey.

Viewed from the front, however, they look like Christmas. No wonder our vision-bereft politicians are addicted.
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Saturday, April 1, 2017

Economists' changing view of the labour market

The newly invigorated Australian Council of Trade Unions is demanding a $45 a week increase in the federal minimum wage, a rise of 6.7 per cent, which has shocked and appalled the employer groups and the Turnbull government.

If I was on the minimum wage, however, I wouldn't start spending the increase yet. It's all a bit ritualistic, with the unions demanding far more than they expect to get, while the employers cry poor and predict huge job losses should anything more than the tiniest increase be imposed on them by the Fair Work Commission.

Not that many years ago, most economists would have shared the employers' doubts about the wisdom of even a modest increase in the minimum wage.

Indeed, conventional economic analysis – using the "neo-classical" model of markets – told them that government intervention in the labour market to set a "binding" minimum wage – that is, one higher than would be set by the unfettered interaction of supply and demand – might benefit those workers who managed to retain their jobs, but must inevitably mean many unskilled workers would be prevented from getting jobs.

Just how many people were unemployed as a consequence of holding the minimum wage above its "market-clearing" level would be determined by the "elasticity" – the degree of sensitivity to price changes – of employers' demand for unskilled labour.

There are probably plenty of economists who still believe all that, particularly those who don't make a study of the economics of the labour market and rely on elementary analysis of any and every market.

After all, such analysis is completely logical, given the assumptions on which the simple model rests.

Trouble is, it's long been obvious to those who cared to look that the conventional model isn't much good at predicting what will happen to employment and unemployment.

For instance, those economists who use the neo-classical model – as opposed to a Keynesian approach – to explain the behaviour of the macro-economy are obliged to argue that the jump in unemployment during recessions is voluntary rather than involuntary.

It's just a lot of workers choosing that moment to take an unpaid holiday.

But the big challenge to economists' conventional wisdom that minimum wages cause unemployment came in 1995, when two American economists, David Card and Alan Krueger, published empirical evidence showing that a 19 per cent rise in New Jersey's minimum wage actually saw a small rise in employment.

Many studies since then have come up with similar findings.

This suggests the conventional model of markets doesn't offer a useful description of how the labour market works. Either the model's many assumptions don't hold, or there are key factors affecting labour markets that the model doesn't capture.

This is no radical idea. A father of neo-classical economics, Alfred Marshall, argued as long ago as 1920 that the market for labour differed from two other "factor markets" – markets for the factors of production - land and capital.

Why? Because, according to Marshall, workers retain ownership of their human capital (skills) – they're free agents – and because workers must be present in the workplace for the delivery of their skills.

The first characteristic means that anything workers learn on the job, or are trained to do, remains their property, not their employer's, thus giving them some control over the use of those skills.

The second characteristic – that every unit of labour an employer purchases comes with a human being attached – means workers can't live very far from the workplace.

Since moving homes involves cost and inconvenience – especially if the worker has a family – this may give employers some ability to exploit their workers.

Remember this and the notion that a model for the buying and selling of land, or machines, or for the borrowing and lending of dollars, would work just as well in explaining the buying and selling of labour, is fanciful.

So what other, better models of the labour market are there? Labour economists are working on many. A favourite of Professor Alison Booth, of the Research School of Economics at the Australian National University, is the "oligopsony" model.

Huh? Monopoly means there's just one seller of a product. Monopsony means one buyer of a product or, in this case, input. Oligopsony means just a few buyers – by no means uncommon in a modern economy where a few big companies dominate many product markets.

The oligopsony model assumes that even if workers have identical skills and abilities, they have differing preferences on which employer they want to work for, influenced by such things as how far the firm is from where they live, the hours they want to work, or whether they like the boss and their fellow workers.

It takes time and effort (that is, cost) for workers to find alternative employers they like at least as much as their present one and, similarly, it's expensive for employers to find a worker they like as much as the one they could lose.

This makes many workers reluctant to change jobs and many bosses reluctant to change workers. And because these preferences are private information – the other side can't be sure how strong they are – there's scope for "economic rents": for workers to be paid less, or more, than the value of their work. Less is more likely (except for me).

Booth says the attraction of the oligopsony model is its ability to show how a minimum wage can actually increase employment, as well as why employers provide general training to workers who could leave and take the training with them.

Trouble is, these alternative models of the labour market may be more realistic, but they're also more complicated and harder to reduce to a set of equations.

Keynes once said it was better to be roughly right than precisely wrong. A lot of economists disagree.
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Wednesday, March 29, 2017

Home affordability problem caused by generational conflict

You know the remarkably high price of homes is now a top issue for our politicians, state and federal. But you may need reminding that house prices are an intergenerational issue.

As a general rule, the younger generation buys its homes from an older generation, which means rising house prices constitute a transfer of wealth from younger to older generations.

Unfortunately, this conflict of interests between the generations makes it unlikely the measures in the "housing affordability packages" the pollies say they're working on will do much to limit the rise in prices.

Our problem in Australia isn't so much fake news as fake government – governments that, lacking the courage to implement controversial solutions to problems, just create the pretence of solving them.

Since the media usually fall for the trick – the recent excitement over Snowy 2.0 being a case in point – the pollies' preference for appearances over reality has worked well for years, although the drift of voters away from the mainstream parties is a warning the illusion is wearing thin.

As a general rule, older generations don't have much sympathy for younger generations – which is the pollies' dilemma.

We make an exception, of course, for our own kids. This is why parents who've benefited from the rise in house prices over the decades increasingly find it necessary to help their offspring make it onto the home-ownership merry-go-round.

I've done it myself. But get this: what we regard as an act of parental generosity, is actually an act of generational self-interest.

Huh? Everything parents do to help their kids afford seemingly unaffordable house prices helps keep those prices high.

Were parents to decline to help their kids, prices would have to come down until they could be afforded – which would be contrary to the interests of older sellers, such as parents.

Prices rise when demand for the item is growing faster than supply. One reason could be because the population has been growing faster than the number of dwellings has, but this seems less likely to be a big part of the story now we've had a surge in home building and face an excess of units in some state capitals.

It suits politicians to say the solution to affordability is to add to the supply of homes. Federal pollies say it because supply is essentially a state responsibility.

State pollies say it because allowing more homes to be built on the fringes of the city pleases developers without annoying many people.

Trouble is, this does little to increase the supply of homes where people want them to be: closer in – where the jobs and entertainment venues tend to be, and where road congestion and commute times aren't as bad.

State politicians are a lot less enthusiastic about increasing supply in middle-ring suburbs by changing planning rules to allow higher density development. The locals hate the idea.

Next the pollies pretend to help by giving special breaks to first home buyers, such as cuts in stamp duty on home purchases.

But as with help from the Bank of Mum and Dad, all this does is help young people meet and increase the higher prices. The benefit ends up with those older home-owners selling their homes to newbies.

What politicians rarely propose is measures to reduce the upward pressure on prices by reducing the demand for homes.

How? By distinguishing between the two main motives for wanting to own a home: the desire for secure tenure, to modify it as you see fit and minimise housing costs in retirement, as against the desire to own a rapidly appreciating, tax-preferred investment.

Many of the tax advantages politicians have loaded onto home ownership, in the name of encouraging it, have made home ownership more desirable to have but, by increasing the demand for homes, made it that much harder for would-be home owners to attain.

Exempting the family home from capital gains tax, for instance, encourages people to "invest" in improving their home rather than buying shares or securities.

Largely ignoring the value of the family home when assessing people's eligibility for the age pension under the assets test adds to the attraction of homes as an investment.

Then there's Australia's unusual tolerance of negative gearing, combined with the 50 per cent discount on the taxation of capital gains, which adds greatly to the demand for homes as an investment, while adding little to the supply of homes.

Even without all those tax advantages, homes would still be a good lifetime investment – though not as good.

The Great Australian Dream of owning your own home has always been about personal security and autonomy.

The attraction of home owning as an investment option has become a big issue only since the introduction of capital gains tax in 1985 and, more particularly, its modification in 1999.

See the scope for conflict between the two motives for wanting to be a home owner? Making housing less attractive as an investment would reduce the demand for it and so make it easier for first home buyers to get on board.

What makes the pollies reluctant to act is their knowledge that existing home owners – whose votes greatly outnumber first home buyers' – have come to value their home's (or homes') attractions as an investment.

It comes down to a conflict between the generations.

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Monday, March 27, 2017

Company tax cut has a not-so-dirty little secret

Throughout their whole push for a cut in the company tax rate, there's been a key factor the business lobbies and government politicians simply haven't wanted to mention: our unusual system of dividend imputation.

That's because it so greatly weakens their case and questions their motives.

But that's not all. It's set to turn the limited reduction in company tax we're likely to get into tokenism: the cut will be of little benefit to the businesses receiving it, little net cost to the budget and little benefit to "jobs and growth".

Australia's problem isn't fake news, it's fake government. The coming company tax cut will be a classic case. But it will make the medium-term budget projections look a lot healthier.

Paul Keating introduced full dividend imputation in 1987 to eliminate the double taxation of company dividends. Domestic shareholders are given "franking [tax] credits" worth 30¢ in the dollar on those dividends that have already been taxed at 30 per cent in the company's hands.

Dividends are taxed at the shareholder's marginal tax rate, but less their franking credits. Should they not owe enough tax to extinguish the credit, the balance is refunded to them.

The effect of this for Australian shareholders and super funds is to render company tax little more than a withholding tax, like the income tax businesses withhold from their workers' pay packets.

This means the only significant continuing purpose of company tax is to tax foreign shareholders.

Since the franking credit rate moves up or down with the rate of company tax, Australian shareholders have little or nothing to gain from a cut in the company tax rate. Only foreign shareholders – present or prospective – would benefit.

When you remember how often the nation's chief executives make speeches claiming to have only their shareholders' interests at heart, it makes you wonder why the big business lobby has been so insistent on the need for lower company tax.

One possibility is they see their interests as managers as differing from their local shareholders'. Another is that outfits such as the Business Council of Australia are dominated by executives who owe their allegiance to foreign bosses and owners.

It hasn't suited the government to admit that its promised $48 billion, 10-year phase-down of company tax holds no benefits for local shareholders, only foreigners.

So anxious are the econocrats promoting lower company tax to avoid thinking about the implications of imputation that Treasury got caught overstating the (remarkably modest) benefits in its modelling. A rival modeller had to point out the error.

Smoke signals from Canberra suggest that all the government will manage to get through the Senate is a reduction to 27.5 per cent in the tax rate applying to companies with turnover of less than $10 million a year.

In other words, only small and medium incorporated businesses will get a cut.

Trouble is, almost all the shareholders in such businesses – many of them owner-managers – would be locals, not foreign investors, meaning they're already eligible for dividend imputation and so have little to gain from the lower tax rate.

In which case, their behaviour – their enthusiasm for creating "jobs and growth" – is unlikely to change.

But get this: since almost all the shareholders of small and medium-sized companies get franking credits, the reduced measure's net cost to the budget (less company tax collections, offset by a corresponding reduction in franking credits) is likely to be minor.

It's only when you're handing tax cuts to the foreign shareholders in much bigger companies, as originally planned, that the (mainly unfunded) cost starts to mount up in later years.

So if the smoke signals are right in predicting that, once the government's got the most it can get through the Senate, it will ditch the rest of its original plan, this will greatly improve the 10-year projections of the budget balance.

That's particularly so because the 10-year phase-down was partially funded by the tax increases announced in last year's budget: the further huge hikes in tobacco excise, the cut back in super tax concessions and the crackdown on multinational tax dodgers.

Further smoke signals say that, once the government's got through the Senate what it can of the unpassed, "zombie" spending cuts from its disastrous 2014 budget, it will abandon the remainder.

That will have quite an adverse effect on the 10-year budget projections – which is the very reason it has refused to kill the zombies until now.

Penny dropped? The time to kill off the zombie savings is when you're also killing off your grand plan to cut company tax to 25 per cent.
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