Monday, June 30, 2014

Ulterior motives abound in privatisation push

The trouble with the latest round of state government privatisations is that those who oppose them do so for the wrong reasons, but their promoters are also pushing them through for the wrong reasons.

Joe Hockey's 15 per cent incentive payment to encourage "asset recycling" - selling existing government-owned businesses to fund the building of new infrastructure - has fallen on receptive pockets in the NSW and Queensland governments, which are worried about their credit ratings and, unlike the Victorian government, still have valuable electricity transmission and distribution businesses to flog off.

The previous, Labor government in NSW tore itself apart over electricity privatisation, with the cabinet supporting it but the powerful public sector unions bitterly opposing it. It wasn't much better with the previous, Labor government in Queensland.

Now Labor is free of the responsibilities of office, it will be completely united in its opposition and its unceasing claims that privatisation will lead to big rises in electricity prices.

Since voters in all states strongly oppose privatisation, Labor will hope to do well with this argument at the NSW election in March. But polling also shows voters are much less opposed when the sale of businesses is linked to the building of specific new projects.

Labor's counter-argument is deceptively simple: government-owned businesses act in the best interests of their customers, whereas privately owned businesses seek to maximise their profits by raising their prices.

The truth is far more complicated than that. Whether publicly or privately owned, the monopoly business that doesn't seek to overcharge its customers has yet to be discovered by archaeologists. Monopolies that don't seek to maximise profits usually succumb to overstaffing and overpaying workers and managers. Why wouldn't they?

The public sector unions understand this full well, which is their real reason for opposing privatisation so vehemently.

They know that whether or not the private owner succeeds in raising prices, it will seek to improve its profitability by moving in on union perks and rorts. They know even Coalition-government owners give them an easier ride than a private owner would.

So voters would be mugs to believe Labor and its union mates have consumers' best interests at heart.

Unfortunately, that doesn't mean Coalition privatisers can be trusted to do their best by customers. The temptation facing all privatising governments is to seek to maximise the price they get for the asset they're selling.

If you can't see why that would be a problem, you're helping demonstrate why privatisations so often fail to deliver their promised benefits.

The main thing that protects customers from being overcharged is effective competition between the privatised entity and other businesses.

So the main way governments seek to inflate the price they get for a privatised business is to protect it from competition, or otherwise ensure its ability to overcharge. They tie the hands of the price regulator in some way, or explicitly guarantee freedom from certain future sources of competition, or sell the business to some player who already owns businesses in the industry and so can use the acquisition to increase the player's pricing power.

The simple truth that escapes so many privatisation supporters on the non-Labor side is that privatisation is only worthwhile if it leads to greater competition in the market. If it doesn't, it will be of little benefit to anyone bar the new private owners.

When the Keating government privatised Sydney airport, it guaranteed the purchaser first refusal on control of any second Sydney airport, thus virtually ensuring that even with two airports there'd be no competition between them.

When the Kennett government privatised Victoria's electricity industry in the 1990s it took care to ensure a wide range of buyers.

But it seems the Baird government in NSW has no such scruples. It planned to sell Macquarie Generation, the state's largest power producer, to AGL, one of the state's three largest power retailers.

The Australian Competition and Consumer Commission tried to block the deal, judging it would have resulted in a substantial lessening of competition in the electricity market. But last week the commission was overruled by the Competition Tribunal, so the deal is likely to go ahead.

Only a couple of days earlier, however, the chairman of the commission, Rod Sims, reiterated his view that "electricity companies have a strong commercial incentive to have all players vertically integrated ... If electricity retailers can tie up most of the generation then they can create a stable oligopoly with high entry barriers and so higher prices and better returns."

I'd be wary of believing any politician who tried telling you electricity privatisation won't lead to higher prices.

Saturday, June 28, 2014

Why weaker demand means lower pay rises

Just about everyone assumes we can never have enough jobs. So it's funny that our unending discussion about how the economy's growth is doing rarely delves into the detail of what's happening in the labour market.

But that's what Dr Chris Kent, an assistant governor of the Reserve Bank, did in a speech last week. He shows it really is a market, with the demand for labour interacting with the supply of labour to help determine the price of labour (wages) and the quantity demanded (employment). Unlike textbook markets, however, this one never "clears" - there's always some labour left unsold (unemployment).

It shouldn't surprise you that, in studying developments in the labour market in recent years, one big thing stands out: the effect of the resource boom as it moves through its three stages of high export prices, booming mine construction and rising production of minerals and energy.

The demand for labour is "derived" demand - it flows from the demand for goods and services. To produce those things you need machines and workers. The more you produce, the more workers you need.

For most of the two years since the middle of 2012, the economy (real gross domestic product) grew at less than its 3 per cent annual trend rate, held back by the decline in mineral export prices, the decline in mining construction, the high level of the dollar and the weak growth in public demand (government spending).

A big part of the problem was that the downturn in mining-driven activity came at a time when the non-mining economy was subdued.

This below-trend growth in the production of goods and services meant weaker growth in the demand for labour, as we can see from the various indicators of labour demand.

The rate of unemployment is high relative to its recent history. The rate at which people of working age (15 years and above) are participating in the labour force, either by holding a job or actively seeking one, is at about the lowest it's been over the past eight years. And since 2010 there's been a significant decline in the ratio of employed people to the working-age population.

It's true the economy seemed to grow more strongly in the last quarter of 2013 and the first quarter of 2014. And we can see some small improvement in the indicators. Using the trend estimates, employment grew by 0.7 per cent over the first five months of this year, unemployment seems to have stabilised at 5.9 per cent and the participation rate at 64.7 per cent.

But much of the growth in real GDP over the past two quarters has come from greatly increased production and export of minerals and energy, as newly built mines start working. Trouble is, mines are so capital-intensive that all this extra production would have created few extra jobs.

So, for once, the growth in real GDP overstates the increase in demand for labour. Kent suspects the growth in employment is explained partly by slightly stronger growth in the non-mining economy and by a catch-up from weaker-than-you'd-expect employment growth last year.

If so, we're not out of the woods yet. And Treasury's forecast is that unemployment will have risen a little further to 6.25 per cent by June next year.

Now let's turn to the supply of labour. At the most basic level, growth in the population of working-age adds to the supply of labour, whether that growth comes from "natural increase" - more young people joining than old people retiring - or immigration.

But not everyone of working age chooses to participate in the labour force, of course. And, in practice, changes in the participation rate are a key indicator of the strength of labour supply.
Kent says growth in labour supply has slowed substantially over the past year or so, with the "part rate" down from 65.1 per cent.

This is a sign of the interaction between labour demand and supply: when demand is strong, more is supplied, but now it's vice versa. So it's usual for the part rate to fall during periods of weak demand.

"As jobs become more difficult to find (at the prevailing wage), some individuals become discouraged from searching," Kent says. If they are still available to work these people are "discouraged workers", many of whom will resume the search for work when conditions improve.

But Kent says that, since 2010, the rise in the number of discouraged workers accounts for only less than a quarter of the fall in the part rate. Some of these other people may have chosen to make themselves unavailable to work by embarking on a period of study or accepting involuntary early retirement.

But another, more structural, factor helping to explain the fall in the part rate is the ageing of the population. Ageing means a higher proportion of the population is in older age brackets which tend to have lower rates of participation. (And if oldies are still working, they're more likely to be part-time).

Kent says ageing is estimated to have subtracted between 0.1 and 0.2 percentage points a year from the part rate over the past decade-and-a-half. But now the rate is a clear 0.2 points. In recent decades this purely demographic change has been offset by the decisions of individual oldies to continue working, but now this second trend seems to have stopped.

In textbooks, prices adjust automatically to bring supply and demand into balance. In the real-world labour market, it ain't that simple. Even so, the weaker demand for labour has seen wage growth decline to well below its average over the past decade. Pay rises of more than 4 per cent are now far less common and rises of 2 to 3 per cent are more common than 3 to 4 per cent. So are rises of 1 per cent or less.

Wednesday, June 25, 2014

No handouts for miners not paying enough tax

It's in the nature of the news media to focus on the new, on the bit that's changing. So when people like me bang on about the resources boom - as we've been doing for about a decade - it's probably inevitable we leave many people with an exaggerated impression of the size of the oh-so-important mining industry.

Most people have little idea how mining compares with the rest of the economy. Some, when asked, say it may account for a third of the total.

Sorry to mislead. It's actually a bit over 10 per cent of all the goods and services we produce. If that doesn't seem like much, it is. It's a bit more than the whole of the manufacturing industry contributes and about three times what agriculture does.

More to the point, it's up from about 4 per cent before the boom began. And it's a big deal for any industry to go from 4 per cent to 10 per cent in the space of a decade. That couldn't happen without having big implications for other parts of the economy, with the high dollar just one example. So it's little wonder the economists have been so obsessed by it.

It's the biggest single development affecting the economy - the whole of the economy - in that time. And though the smarties began proclaiming the boom's death a year or two ago, its closing stages will still have big effects on the economy - favourable and unfavourable - for at least another couple of years.

Many people are uneasy about the expansion of mining. Digging non-renewable resources out of the ground and shipping them overseas seems such a dead-end occupation. People's reservations are compounded when they realise how amazingly capital-intensive mining is. That is, how few people it employs.

Mining may account for 10 per cent of our total production, but it accounts for only about 2 per cent of total employment. Building new mines is labour intensive, but running them isn't. If so, why bother?
It's a mistake to think it's only direct employment of people that makes an industry worthwhile. What matters is how much income an industry generates. Why? Because when that income is spent it will generate jobs elsewhere in the economy. That's what spending does: generate jobs.

In the case of mining, however, there's a complication. Though the powers that be don't trumpet the fact, mining is about 80 per cent foreign-owned. Even BHP Billiton is, essentially, a foreign company. And most of the extensive capital equipment mining uses is imported.

Mining in Australia is a highly profitable activity because we possess a large share of the minerals and fuel the world values highly, and because our deposits are generally high quality and easily extracted.

If mining creates so few jobs directly, and so little of its profits accrue to Australians, that leaves two key concerns to ensure Australians get suitable recompense for the exploitation of our natural inheritance: make sure miners pay adequate royalties on the minerals we grant them and make sure their profits are adequately taxed.

Business people tend to portray taxes and revenue received by governments as dead money. The opposite is true. The government spends the money it receives, and when it's spent it creates jobs, like all spending does.

The Labor government bungled its attempt to ensure the miners' profits were adequately taxed. But, rather than correcting Labor's errors, Tony Abbott has pledged to abolish the tax and let the foreign miners off the hook. Then he'll wonder why the huge expansion in mining production we're now seeing is creating so few jobs.

It gets worse. Not only are we under-taxing the miners, we're giving them lots of subsidies. Not only does the federal government give them a rebate on the excise on their diesel fuel, the state governments give them assistance by building the roads, railways and ports they need to ship their minerals abroad.

According to calculations by the Australia Institute, the states gave the mining industry $3.2 billion in concessions in the financial year just ending. Queensland gave assistance worth almost $1.5 billion, mainly by providing railway infrastructure and freight discounts.

Western Australia spent almost $1.4 billion, mainly on roads and port infrastructure. Other states' subsidies are much smaller - $140 million in NSW, $40 million in Victoria - but so too are their receipts from mining royalties.

It turns out the Queenslanders' subsidies to mining are equivalent to almost 60 per cent of the royalties they receive. In WA it's about a quarter, and in NSW it's less than 10 per cent. In Victoria, however, it's three-quarters.

And this while governments, federal and state, are crying poor and cutting spending on many worthy causes.

As Ian McAuley, of the University of Canberra, has pointed out, we're slashing our planned spending on foreign aid because we can no longer afford such generosity, but by abolishing the mining tax we're being very generous to big foreign mining companies. This makes sense?

Monday, June 23, 2014

Economists face criticism over poor ethics

Are economists ethical? Short answer: no more than most. Long answer: well, it's not something they think about much.

The question of ethics is starting to raise its head among economists, both overseas and in Australia, particularly in NSW. It's an issue the Sydney branch of the Economic Society is likely to start debating in the next few months.

The issue is arising as more economists find ways to sell their services to big business for big bucks. Business is attracted by the status, expertise and authority economists bring, and is willing to pay for it.

Various aspects of conventional economics make economists susceptible to such transactions. Almost all economists believe in the market system and believe that the bigger the economy grows the better off we are. So they have an inbuilt sympathy with business and its objectives.

They believe self-interest is a good thing because it's what motivates a market economy. It should never be a bad thing because it's held in check by countervailing market forces.

And there's a belief among economists that their discipline is "positive" rather than "normative". It's a "value-free" description of how the economy actually works, not a statement of opinion about how it should work.

It's because of this belief that, for example, many economists take no account of the implications of their recommendations for the way income is distributed between rich and poor. That's a "value" question they aren't qualified to comment on and so leave to others, such as politicians.

That's what they say when challenged. When they're not challenged they usually give the impression that distributional issues don't arise and economic efficiency is the only issue worth considering.

In truth, the neo-classical model is loaded with values, the most important being that individualism is superior to communitarianism.

So you see why ethics isn't something economists think much about. And this is reinforced by the profession's lack of organisation. Economics is unregulated; anyone can call themselves an economist (I don't, by the way).

Economics has no true professional body. The Economic Society is the closest they come, but it's essentially a discussion group that anyone can join. Its other function is to sponsor the academic economists' annual conference and the main Australian economic journal (which the academics don't rate highly because it's only Australian).

Without a proper professional association you could argue economists aren't a profession, just an occupation. Most are employed by governments and, these days, by banks and other financial services firms, which means they're not free to express opinions at variance with those of their employer. Academic economists are free, but often don't bother.

The question of economists' ethical standards arose in the US after the global financial crisis, when impertinent journalists pointed out that academic economists were writing articles posing as independent experts, without disclosing the financial firms they were affiliated with or for whom they had done consultancy work.

In Australia the spur is the rise of the new breed of economic consultancy firms, which are paid to provide allegedly independent modelling to private interests seeking to lobby governments. Sometimes even governments commission private modelling to provide evidence supporting some policy the pollies are pursuing.

For some reason, when the independent consultants run their models they invariably reach conclusions that support their paying customer's proposal. Remarkable.

These carefully contrived conclusions are then used to bamboozle the public, politicians and even judges who don't know enough economics to know how dodgy many modelling exercises are and how easily models can be tweaked to produce whatever answer you're seeking.

The issue has reached a head in NSW, where Dr Richard Denniss, of the Australia Institute, has appeared as an expert witness in a couple of court cases disputing the "independent" modelling being used to claim the development of a new mine will bring huge economic benefits to the district.

One judge was scathing in his condemnation of the use of an "input/output model" to exaggerate the indirect job creation from a project. A report by the independent Planning Assessment Commission on another project criticised the NSW Department of Planning for its uncritical acceptance of estimates of the project's economic benefits that had been challenged and were "not credible".

Last week the department's new minister, Pru Goward, announced that it would commission separate expert economic analysis of all future major mining projects. Good luck.

Issues of independence and conduct will be discussed during the NSW Economic Society's forum on cost-benefit analysis on July 18. And a later meeting of the society is expected to debate whether economists need a code of ethics. I'd start with an ethical code for modellers.

Saturday, June 21, 2014

States change lanes in two-speed economy

You've heard of a Goldilocks economy where everything is just right. Well, when it comes to the states, welcome to the biblical economy, where the last shall be first and the first shall be last.

We're still looking at a two-speed economy, but the fast lane is turning into the slow lane and the slow lane into the fast.

During the 10 years of the resources boom to 2012-13, the West Australian economy grew by 62 per cent in real terms, against 48 per cent in Queensland, 30 per cent in Victoria and 23 per cent in NSW.

But, in the year to March, the mining states' "state final demand" - not as full a measure as gross state product - contracted, while NSW and Victoria steamed on.

The Victorian budget papers last month said the state was "well placed to take advantage of the national shift from mining investment towards more broad-based drivers of economic growth.

"Lower interest rates and a moderated exchange rate, compared with the highs in 2011 to 2013, are expected to benefit Victoria's industry structure."

Whereas the national economy (real gross domestic product) grew by 2.6 per cent in the 2012-13 financial year, Victoria managed only 1.6 per cent growth. And, in the financial year just ending, while the nation is expected to have managed growth of 2.75 per cent, Victoria is looking at an expected 2 per cent.

But the federal budget papers show the nation's rate of growth is expected to slow to 2.5 per cent in the coming financial year as Victoria's growth accelerates to 2.5 per cent. It's expected to reach 2.75 per cent in 2015-16.

And this week's NSW budget papers show its government expects its acceleration to be even faster. NSW managed growth of just 1.8 per cent last financial year, but it's expected to have accelerated to 3 per cent in the year just ending, and to stay at that rate in the coming year and the following one.

So, while Victoria is expecting to catch up with the national average in the coming financial year, NSW believes it has already exceeded it, and will continue growing faster than average in 2014-15. Only by the following year, 2015-16, will the nation have caught up.

Well, that's all very lovely, but how's it supposed to happen? What changes will bring it about?

You may already have noticed that whenever the economy improves, there's always a politician on hand ready to take the credit. Well, here's a tip: when they're at the national level, they're probably taking more credit than they should; when they're at the state level, they almost certainly are.

The truth is we live in a single, national economy. The six states and two territories that make up our national economy are different but highly integrated. So, to the - limited - extent that what's happening to a particular state is influenced by politicians, it's more likely to be federal politicians than state. Macro-management of the economy happens at the most macro level.

State governments don't do macro, they do micro. They manage their own financial affairs, and make decisions about planning and the regulation of particularly industries - how heavily we should tax companies developing new housing on the outskirts of the city, for instance - that do affect the growth of their state economies, but slowly and to a small extent.

So, for the most part, differences in the rates at which particular states are growing are determined by differences in the industrial structures of their economies - for instance, some have a lot of mining, some don't - and in their histories. NSW and Victoria are long established with large populations; WA and Queensland have smaller populations with more scope for development; they're frontier states.

This is why an event such as the resources boom, which has essentially come to the Australian economy from overseas, can affect states so differently.

The point, however, is that the most spectacular stage of the resources boom - the surge in construction of mining and natural gas facilities - which did most to foster the rapid growth of WA and Queensland in recent years, is going from boom to bust.

The rapid fall-off in mining construction in the coming financial year and the year after will cause those two states to grow far more slowly - maybe even contract in WA's case - while NSW and Victoria steam on.

Victoria's big advantage is that, since it has little mining, it has nothing to lose. NSW does have some mining, mainly for steaming coal, but says its big advantage is that its mining construction activity has already fallen about as much as it's going to.

It's their knowledge that we have two years of big falls in mining construction activity to come - along with the dollar's failure, so far, to fall back as much as we'd hoped - that has made the macro managers so obsessed by the need to get the "non-mining sector" growing much more strongly.

They've done this primarily by cutting interest rates to their lowest level in yonks, trying to encourage any spending that also involves borrowing, but particularly home building and home-related consumer spending.

Victoria will get some stimulus from this, but not much because it has already had a lot of building activity and may have some oversupply.

In contrast, NSW has a big backlog of home construction - arising from problems on the supply side that are the product of micro-economic mismanagement by this state government's predecessors. Its home building activity has already taken off, with much further to run.

Put all that together and you see why the last are about to start coming first.

Wednesday, June 18, 2014

How to get more happiness per dollar

If I wanted to get more happiness into my life, I wouldn't do it by trying to earn more money. I'd concentrate on spending more time with family and friends and getting more satisfaction from work itself rather than the money it brings in.

That's because, though money does buy happiness, it buys far less than we expect it to. It suffers from rapidly diminishing "marginal utility" - each extra $1000 you spend brings less satisfaction than the one before.

Since economists are in the money business, it's surprising how little they know about its ability to make us happy. They don't study it, they just assume more money equals more "utility" or satisfaction.

The professionals who study the relationship between money and happiness are the psychologists. And three of them, Elizabeth Dunn, Daniel Gilbert and Timothy Wilson, of the universities of British Columbia, Harvard and Virginia respectively, have published, in the Journal of Consumer Psychology, a useful guide to their profession's finding on how to get more satisfaction from your spending.

"Money is an opportunity for happiness, but it is an opportunity that people routinely squander because the things they think will make them happy often don't," they say.

Why not? Because humans turn out to be quite bad at "affective forecasting" - predicting how happy or unhappy particular events will make them feel. We tend to overestimate how good we'll feel about good things and how bad we'll feel about bad things.

That's mainly because we underestimate our ability to adapt to positive and negative events. We quickly adapt to some improvement in our circumstances and take it for granted. Fortunately, it also works the other way: we soon come to accept, possibly major, setbacks in our circumstances.

But another reason our forecasting goes astray is that how we're feeling at the time we make the forecast has too much influence on how we imagine we'll feel at the time it happens. Haven't you noticed? If it's cold when you're packing for a summer holiday, you tend to take too many warm clothes.

The authors use well-established research findings to offer some tips on how to get more satisfaction from spending. One is to buy experiences instead of things. "Experiential purchases" are those made with the intention of acquiring a life experience; an event, or series of events, we live through.

One reason experiences are better is it takes longer to adapt to them. Objects don't change after you've bought them, but each session of a year-long cooking class is different. Experiences offer more scope for pleasurable anticipation and, particularly, remembering them fondly. It's easier to tell your friends about a great holiday than to boast about a new car.

Another tip is to help others instead of yourself. Humans are the most social animal on our planet, the authors say. We have highly complex social networks that include people who aren't related to us. So it's not surprising the quality of our social relationships is a strong determinant of our happiness.

Almost anything we do to improve our connections with others tends to improve our happiness. And studies show that people who devote more money to "pro-social" spending - gifts to others or to charities - are happier, even after allowing for how high their incomes are.

A third tip is to buy many small pleasures instead of a few big ones. "As long as money is limited by its failure to grow on trees," the authors say, "we may be better off devoting our finite financial resources to purchasing frequent doses of lovely things rather than infrequent doses of lovelier things."

In many areas of life, happiness is more strongly associated with the frequency than the intensity of people's positive experiences.

Another tip is to be wary of comparison shopping. Economists are great believers in shopping around to find the best deal. Indeed, competition doesn't work very well unless consumers are willing to shift their business.

But the psychologists have a different take. "By altering the psychological context in which decisions are made, comparison shopping may distract consumers from attributes of a product that will be important for their happiness, focusing their attention instead on attributes that distinguish the available opinions," the authors say.

The comparisons we make when we are shopping are not the same comparisons we will make when we consume what we shopped for.

Their final tip is another odd one: follow the herd instead of your head. Research suggests that the best way to predict how much we will enjoy an experience is not to evaluate its characteristics ourselves, but to see how much other people liked it.

We're usually not so different from them and, in any case, most people like having plenty of company.

Mike Baird's high-risk election strategy

Mike Baird is nothing if not game. His first budget as Premier is a model of fiscal rectitude - which wins him high marks from people like me, but makes this a most unusual budget for a politician facing an election early next year he can no longer be certain of winning easily.

The budget offers little in the way of tax breaks and few new spending initiatives, save for more money on child protection, disability services and homelessness.

Hardly a standard way to buy votes. The cynical may see this as the reversal of earlier budget cuts that led to political embarrassment, but I think I see signs of a more tender conscience - another rare commodity in politics.

A fourth budget of tight control on spending and steadfast revenue-raising cements the new Treasurer Andrew Constance's claim to have got the budget back on track and heading steadily into the land of surplus. If voters are looking for good managers of the state's finances, this lot is the best we've seen in a long time.

Of course, Baird is promising to spend big on a new hospital, highway or rail link near you. That's sounding more like pre-election vote gathering. But even here he's not planning to do anything that could possibly endanger the state's much-prized AAA credit rating.

As his opponents will lose no time in reminding anyone who has forgotten, almost all the goodies he's promising are dependent on him raising the money by partially privatising the state's electricity distribution businesses - a proposal the electorate has so far found utterly unattractive.

It's also a proposal that caused bitter division within the previous Labor government. It led to the demise of a premier and a treasurer, and was ultimately the greatest single contributor to Labor's ignominious defeat in 2011.

The election next March is shaping as a referendum on electricity privatisation which Labor, freed from the obligations of office, will vehemently and gleefully oppose with blood-curdling predictions about how power prices would rise.

This time, however, Baird has upped the stakes by giving all of us something to lose in the way of improved infrastructure. If you want all those goodies you have to vote for him, not the other lot. But if we vote him back, the privatisation comes too. He's nothing if not game.

It would be nice to say Baird's budgetary virtue had been rewarded by a much-improved outlook for the NSW economy. But state budgets don't have much influence over state economies.

Sometimes, however, the virtuous can have good luck. And Baird's luck is looking fine. With the mining investment boom ending, there has been a changing of the guard between the states. As Western Australia falls back, NSW takes the lead.

The whole of federal macro-economic policy is directed at encouraging growth in the non-mining economy and the non-boom states, making NSW a prime beneficiary.

The Reserve Bank is holding interest rates exceptionally low to encourage borrowing and spending, particularly on housing, and NSW is Exhibit A to show it's working. Baird's budget is getting its cut, with collections from the tax on property conveyancing now very high.

After a long period of below-average growth, the NSW economy is already growing faster than the national average and this seems likely to continue for at least another few years. That means better growth in employment and lower unemployment. Not a bad time to have an election.

Monday, June 16, 2014

We're a nation of stay-at-homes

Would you be surprised if I told you the resources boom and its two-speed economy had led to a big increase in the number of people shifting between states? No, I thought not.

Well here's my surprise: it hasn't gone up, it has gone down. Research by Professor Jeff Borland, of the University of Melbourne, finds that the rate of interstate migration has declined over the past decade.

The eternal lament of oldies (me included) is that we're getting more and more like America. But this is one respect in which we aren't. The Americans are inveterate movers between states, but we have never moved as much as they do, and now even fewer of us are doing it.

"Australians have never been big movers," Borland says. "Most of us complete our schooling in the same state. We're not likely to shift states to find employment if we lose our jobs. And when we move in retirement, this is mostly to another place in the same state."

Borland's paper shows that, in 2003, the proportion of the population moving between states was 2.1 per cent. Last year it was just 1.5 per cent, a decline equivalent these days to 130,000 fewer people.

This was the lowest rate for at least 40 years. And it was no flash in the pan. It was the continuation of a decline that's been occurring steadily for 10 years. The rate of interstate migration rose between the mid-'70s and the late-'80s, then stayed pretty stable at about 2 per cent a year until the early noughties.

The rate of decline was reasonably similar in all states, with one exception. No, it wasn't Western Australia. It was Queensland. And Queensland's share of the decline wasn't disproportionately smaller than for the other states, it was larger.

The decline has occurred among people of all ages. But that's not to say people of all ages are equally likely to pack up and move interstate. They aren't.

Borland finds that the peak ages for state migration are the 20s and 30s. "People above 40 years move progressively less as they get older," he says.

If we take the example of the late 1990s, one in 25 people aged 20 to 24 moved interstate in the previous year, whereas for those aged 70 to 74 it was one in 200.

So why has interstate migration declined? If moving tends to be concentrated among people in their 20s and 30s, could such migration be down because, with the ageing of the population, people in that age range now constitute a smaller proportion of the total population?

No, the overall decline is explained by declines in all age groups, although it's true that the decrease has been larger at younger ages.

It seems clear to me that most interstate migration is work-related. Or, as Borland puts it, "suppose we think of the main rationale for interstate migration as being to match the location of the population to the location of jobs".

In that case, could the decline in movement between states be caused by less reallocation of jobs between states? Doesn't seem so. An index of the annual change in the distribution of employment by state shows no downward trend in the extent of change.

So what is the reason? Borland isn't certain, but he finds evidence to support the idea that the change is in the behaviour of recent immigrants to Australia, not that of people long resident here. There's been an increase in the correlation between the states immigrants first come to and the states where employment is growing fastest.

My guess is it gets back to the Howard government's move to a much greater proportion of skilled migration, with greater employer nomination of migrants via 457 visas. Migrants are now more likely to come straight to a particular job than to land in Sydney or Melbourne and start hunting for one somewhere in Oz.

RIVALRY between the Coalition and Labor can reach petty levels. The budget papers always had white covers until the Rudd government decided dark blue would be a good reform. Under the Abbott government they've reverted to white.

For many years the federal government spelt "program" the way this newspaper does. But John Howard, spiritual son of Bob Menzies, insisted it revert to the fancy English spelling. Labor changed it back to the no-bulldust way. Now Tony Abbott, spiritual son of Howard, has reverted to "programme".

Pedants who know their stuff know the Poms - including Shakespeare in his day - used the simple spelling until the 19th century, when it was prettied-up during a bout of francophilia.

Saturday, June 14, 2014

Botched reform causes higher power prices

There's no subject more likely to stir people up than rising electricity bills. With prices roughly doubling since 2007, that's hardly surprising. But why have prices risen so fast? And will they keep rising?

It has suited various business lobbies and Coalition politicians - federal and state - to leave people with the impression the main reason is the carbon tax and the renewable energy target, which requires that 20 per cent of Australia's electricity come from renewable energy sources by 2020.

In truth, the price rises started well before these measures took effect and they explain only a small part of the increase. Which suggests the politicians will suffer yet another loss of credibility when eventually (and stupidly) the carbon tax is abolished and the renewables target is dropped, as seems on the cards, but power prices don't seem to fall by much.

The more important reasons were given by Professor Ross Garnaut, of the University of Melbourne, in a recent speech. Here's my version of his explanation.

One part of the reason is that more people have been using renewable energy and this reduced their demand for conventional electricity from the grid, which is produced mainly by coal-fired generators, of course.

Apart from all the wind turbines, governments - federal and state, Coalition and Labor - have offered incentives to people to incur the significant expense of installing rooftop solar power systems.

The most generous of these incentive schemes have been abandoned but, at the same time, the cost of photovoltaic systems has been falling rapidly, partly because of advances in technology, partly because more purchasers mean greater economies of scale.

The most important economic characteristic of renewable energy is that once you've incurred the high "fixed cost" of installing a system, the "variable cost" of using the system to produce more energy is negligible. Sunshine is free. So once you've got a system, you use it.

A second important part of the reason for rising power prices is that many businesses and households have reacted to the rising price by being more economical - less wasteful - in their use of electricity.

Another factor (one many economists tend to ignore) is that all the talk about the need to reduce emissions of carbon dioxide to stop climate change, and all the talk about how much power we waste, has made more firms and householders waste-conscious. Some people are being careful in their use of electricity as a self-interested response to its rising price, while others - including businesses - are doing it from a sense of duty to society.

By now, I trust, a big red light is flashing in your head. If people are using less power from the grid because more of them are collecting their own and more are reducing their wastage of electricity, doesn't that mean demand for conventional power is falling?

Indeed it does. According to figures from the Grattan Institute, since late 2009 electricity demand in eastern Australia has fallen by about 7 per cent.

But hang on, is this guy saying the price of electricity has gone up because demand for it has gone down? Isn't it supposed to be the other way round? Isn't a fall in demand supposed to lead to a fall in the price?

Well, assuming no change in supply, yes it is. So you're right to be to be puzzled. The relationship I've described between price and demand is, as an economist would say, "perverse".

But why? Because, as Garnaut explains, we've stuffed up the deregulation of the electricity market. (Moral: as we're being reminded by the plan to "deregulate" university fees, if you deregulate or privatise without knowing what you're doing you can make things worse rather than better.)

Before the reform process began, each state had its own, government-owned electricity monopoly, with little trade between the states. From the late 1980s it was decided to break the integrated state monopolies into their component parts - generation, transmission, distribution and retailing - and form one big eastern Australian electricity market with as much competition and as little monopoly as possible.

The power stations were separated into individual businesses - some of which were privatised, particularly in Victoria - and made to compete in a highly sophisticated "national" wholesale market for electricity. Garnaut says this has worked well, with competition keeping the wholesale price low in response to the reduced demand.

But transmission (high-voltage power lines) and distribution (local poles and wires to the premises) are natural monopolies. That is, it's not economic to have more than one network. So whether these businesses are publicly or privately owned, the prices they charge have to be regulated to prevent them overcharging.

Trouble is, Garnaut says, we've done this by fixing the maximum rate of return the businesses are allowed to earn on the capital they have invested. Economists have known for 60 years that this always causes problems because it's so hard to pick the right rate of return.

If it's too low it leads to underinvestment in the physical network, causing blackouts. If it's too high, however, it leads to overinvestment in the network at the expense of business and household customers.

But as well, when monopoly businesses that are guaranteed a certain rate of return suffer a loss of demand, the regulator has to allow them to restore their profitability by raising their prices.

Another red light flashing? Surely if you keep responding to a fall in demand by raising prices, this will lead to a further fall in demand (particularly as the cost of renewable energy keeps falling) and the whole thing will keep going round and round and getting worse and worse.

Just so. People in the know call it a "death spiral". One day soon the regulators of the regulators - aka federal and state governments - will have to step in and call the madness to a halt. Until then, prices will keep rising.

Wednesday, June 11, 2014

Budget shows Abbott's true priorities and values

Tony Abbott has turned out to be a chameleon. Before the election, he took the guise of a populist, opposed to all things nasty and in favour of all things nice. Since the election, he's revealed himself to be a hard-line ideologue, intent on reshaping government to suit the interests of big business and high-income earners.

Before the election, he was the consummate vote-seeking politician. Since the election, he has transformed into an inflexible "conviction politician" who doesn't seem much worried about whom he offends.

Dr Mike Keating, former top econocrat, says the budget is always the clearest guide to a government's priorities and values. That's certainly true this time.

This budget scores high marks for its efforts to get the budget back on track. As almost every economist will tell you, there is no "budget emergency". But there would be problems if we allowed the budget to stay in deficit for another 10 years, which was a prospect had Abbott failed to take tough measures (all of which were in marked contrast to his sweetness and light before the election and many of which were in direct contradiction to his promises).

The budget's great strength is its approach of announcing savings while delaying their major effect until 2017-18, by which time it's hoped the economy will be strong enough to cope with the reduced spending. That, plus Treasurer Joe Hockey's efforts to increase spending on infrastructure in the interim.

But the budget goes further than is needed to fix the budget. It's our first genuine attempt to achieve (as opposed to talk about) "smaller government". So as to minimise the need for future tax increases, it puts government spending on a diet.

It does so partly by increasing user charges (for GP visits and tests, pharmaceuticals and university tuition), but mainly by changing the indexation of pensions and government grants to the states for public schools and hospitals, from indexes linked to the growth in wages to the main index linked to consumer prices.

That's a saving of at least another 1 per cent a year, cumulating every year forever (or at least until it's reversed as politically and economically untenable).

By restricting his savings to cuts in government spending and studiously avoiding all the lurks hidden in the tax system, Abbott ensured the burden of his savings is carried overwhelmingly by low and middle-income earners, leaving high-income earners largely unscathed, save for a small temporary tax levy. He also ignored almost all the government spending constituting welfare for businesses.

You would have to be terribly trusting to believe all this happened by accident rather than design.

The public's wholehearted disapproval of the budget makes it likely a lot of its measures won't make it through the Senate. Abbott's opponents will have a field day acting as our saviours.

No doubt much of this disapproval arises from simple, short-sighted self-interest. After all, Abbott spent the past four years fostering our selfish incomprehension. People got it into their heads that their cost of living was rising rapidly, causing their standard of living to slip. It wasn't true, but Abbott reinforced rather than corrected the misperception. (To be fair, the Labor government was no better.)

But I'd like to believe there's more to our disapproval than simple selfishness. John Howard says the public will accept a tough budget provided people are satisfied it's reasonably fair and in the nation's interests.

Trouble is, this budget is neither fair nor in the nation's interest - unless you share the Business Council's certainty that the world would be a much better place if only big business was allowed to do whatever it pleased and executives paid minimal tax.

What surprises me is how Abbott could change from being such a supremely pragmatic, vote-obsessed pollie in opposition to being so willing to alienate so many interest groups while in government.

I never imagined I'd see the day when any government decided to take on perhaps the most powerful voting bloc of them all, Grey Power. The fury of the old will be even greater when they fully comprehend how the planned change in pension indexation will lower their relative incomes.

Nor did I ever expect to see any government declare war on virtually the whole of the younger generation. The plan to deny education leavers the dole for six months involves high social costs with little budgetary or economic merit, but is the reappearance of one of Abbott's personal bonnet-bees.

The plan to let universities charge what they please for their courses and impose a real interest rate on students' HECS debt will saddle our brightest and best with big debts, lingering for many years. I've heard of worse injustices, but it seems a strange way to endear yourself to those who represent the future Liberal heartland.

Abbott is no doubt counting on there being a long time for voters to forgive and forget before the next election in 2016. But despite its goal of avoiding future tax rises, the budget's incorporation of a further two years of bracket creep means it will push up the tax rates faced by a lot of low to middle-income earners.

If I were Abbott, I wouldn't be counting on too much voter gratitude for fixing the budget.

Monday, June 9, 2014

Why Hockey's budget is unsustainable

Coalition governments have been banging on about the need for "smaller government" since Malcolm Fraser started echoing Maggie Thatcher and Ronald Reagan. They've talked without doing anything. Until now.

Few have noticed, but the goal of this budget is to reduce government spending by 1.1 per cent of gross domestic product (GDP), from 25.3 per cent this financial year to 24.2 per cent in 2024-25.

If that doesn't impress you, this may: Joe Hockey's plan is to cut government spending to 0.7 percentage points below its 30-year average of 24.9 per cent.

That makes this the most ideologically driven budget we've seen - not that Hockey or Tony Abbott will admit it. They claim the budget's harsh measures are needed simply to get the budget back to surplus and start paying down the public debt.

They don't admit it was their choice to do this in a way that achieved savings more by cutting spending than by cutting tax expenditures. They cut the real growth in pensions, but left high-income-earners' absurdly generous superannuation tax concessions untouched.

They tightened up the family allowance and cut young people's access to the dole, but didn't tackle the concessional taxation of capital gains, negative gearing or company cars, while ignoring the miners' diesel fuel rebate and other business welfare. They imposed a co-payment on GP visits, but didn't abolish the private health insurance rebate.

The intended effect of this bias against spending and in favour of tax breaks is to make the budget significantly less redistributive. That's because, particularly with our tightly means-tested welfare system, government spending tends to benefit the less well-off, whereas tax expenditures go disproportionately to people at the top.

So it's the "end of entitlement" for people in the bottom half, but no change to the entitlements of the well-off, save for a small three-year tax levy.

It's true the government's 10-year "medium-term budget projection" sees tax collections rising as a proportion of GDP from 21.6 per cent this year to 23.9 per cent in 2019-20, at which point it would be prevented from rising further. (This cap is based on the average tax ratio to GDP between 2000-01 and 2007-08.)

This seems to indicate Hockey is relying more on higher taxes than lower government spending to get the budget back to a surplus of 1.5 per cent of GDP. But this impression is misleading.

At 25.3 per cent of GDP, government spending at present is only a little above its long-term average of 24.9 per cent, whereas at their present 21.6 per cent, tax collections are well below Hockey's benchmark of 23.9 per cent.

It's no secret why tax collections are unusually weak at present: because the fall in mineral export prices is causing real national income to grow more slowly than real GDP and because of the continuing revenue loss from the eight income-tax cuts in a row we enjoyed when the Howard government assumed the resources boom (and its inflated company-tax collections) would run forever.

To get tax collections back to a more normal proportion of GDP, the government is relying mainly on allowing another six years of bracket creep. The 23.9 per cent cap after 2019-20 is supposed to allow the resumption of regular tax cuts (though who will benefit most from those cuts is another matter).

What we do know is that, whereas the eight successive tax cuts weren't particularly "progressive" in their effect on the income-tax scale, its particular shape at present means the following eight years of bracket creep will be highly "regressive", causing average tax rates towards the bottom to rise a lot further than those at the top.

So even the recovery in tax collections will come mainly at the expense of the less well-off.

It's clear the government will have much trouble getting many of its more controversial measures through the Senate. What the 10-year projection will end up looking like is anyone's guess.

But even if the budget passes intact, it contains the seeds of its own destruction.

Pensions heading inexorably below the poverty line? Pressure throughout the public sector for wages - including for nurses, teachers, childcare and age-care workers - to rise no faster than inflation, while private sector wages continue rising in real terms with productivity growth?

The vice-chancellor herd given total control over how high uni fees (and graduate debts) rise, including whether they make training for jobs as nurses, teachers and even government lawyers financially untenable?

This budget is unsustainable because the wider implications of its measures haven't been thought through. By knocking back its worst features, the Senate will be doing the Coalition (and the nation) a favour.

Saturday, June 7, 2014

Mining hides news of non-mining recovery

And the smarties told you the resources boom was finito. Now it's being given most of the credit for this week's news that the economy grew by a rip-roaring 1.1 per cent in the March quarter and by an above-trend 3.5 per cent over the year to March.

The boom is far from finished. It will be adding to - and subtracting from - the growth in real gross domestic product for several years yet.

Media reports that "the mining industry accounted for around 80 per cent of growth in GDP in the March quarter" come from no lesser authority than the Bureau of Statistics itself. Sorry to say it, but this is true from a certain perspective, but essentially misleading.

It comes from the estimate that the mining industry's volume (quantity) of production grew by an amazing 8.6 per cent during the quarter, which means it made a contribution of 0.9 percentage points to the overall growth in real GDP of 1.1 per cent.

Almost all that increased production would have been exported. So it explains most of the growth of 4.8 per cent in the volume of total exports during the quarter, which itself made a contribution of 1.1 percentage points to the overall real growth in real GDP of 1.1 per cent.

But that's not the only way the mining sector affected the economy's growth during the quarter. Overall, business investment spending fell by about 1 per cent during the quarter. But Kieran Davies, of Barclays bank, estimates this was composed of a fall of about 8 per cent in mining investment, plus a rise of about 3 per cent in non-mining business investment.

And that's not all. The accounts show that the volume of imports fell by 1.4 per cent in the quarter which, since imports subtract from gross domestic product-ion, means their fall made a positive contribution to the overall growth in real GDP of 0.3 percentage points.

But if the economy is roaring along, why on earth would imports be falling?

Because such a high proportion - about half - of spending on new mines and natural gas facilities goes on imported capital equipment. And if mining investment is falling, imports of mining equipment must be, too.

Complicated, ain't it. Perhaps this will help. The resources boom, which began a decade ago, has had three stages: first, the huge rise in the prices we get for our exports of coal and iron ore; second, the massive investment in additional mining production capacity; third, a big increase in the volume of our exports of minerals and energy as the new mines come on line.

We're still being affected by all three of those stages. Export prices peaked in mid-2011 and have since fallen a fair way, though they remain a lot higher than they were before the boom started. Prices fell further during the quarter and, though this doesn't affect real GDP directly, it does represent a loss of real income to the economy, which must dampen demand indirectly.

Mining investment spending peaked in 2012 and has since started falling. It fell further during the quarter and this subtracted from growth, though less so when you take account of the related fall in imports of equipment.

Since so many mining construction projects are finishing, mining production is now growing strongly. It grew particularly strongly in the quarter because we didn't have any floods or cyclones to disrupt it. But though mining production has a lot further to grow, it can't keep growing as fast as it did this quarter.

Putting all that together, the mining sector's net contribution to growth during the quarter accounts for not 80 per cent of the growth during the quarter, but just under half, meaning the "non-mining sector" contributed just over half.

And that's good news. Why? Because this quarter's mining performance was the exception to the new rule. Mining made a net positive contribution because mining investment didn't fall as much as it could have, while mineral exports grew by a lot more than could have been expected. And neither of those two things can last.

The new general rule is that mining has been and will continue to make a net negative contribution to overall growth.

That's because the fall in mining investment spending generally outweighs the rise in mineral exports, even after you allow for the fall in mining-related imports.

The good news is that just over half the growth didn't come from mining. This is good news because for at least a year we've been worried about the economy "rebalancing", making the "transition" from mining-led to broader-based growth.

And even though the bureau did its (inadvertent) best to hide the fact from us, its accounts actually show that non-mining growth is at last taking hold.

Consumer spending grew by a not-so-wonderful 0.5 per cent during the quarter, but by an almost-OK 2.8 per cent over the year.

Home building grew by a rapid 4.7 per cent in the quarter, the first really strong quarter. But best of all, by Davies' estimate non-mining business investment grew by about 3 per cent.

Economists usually can't see the future with any clarity, but the mining investment boom is different. Because it consists of a relative small number of hugely expensive projects, it isn't hard to see how close they are to finishing and whether there are many new projects getting going.

They are, and there aren't. The macro managers have known for ages that mining will give the economy a big (net) dump in 2014-15 and 2015-16. That's why getting the non-mining economy going is so vital.

It's why the Reserve Bank has keep interest rates so low and won't start raising them until it knows we're out of the woods. It's also why, despite all his budget cuts, Joe Hockey made sure they don't do much to dampen demand until 2017-18.

Wednesday, June 4, 2014

Changes to HECS debt: a users' guide

There is one glaring exception to the rule that Tony Abbott’s budget cuts are designed to protect higher income-earners at the expense of lower income-earners: the changes to university fees.

Although uni students like to see themselves as part of the deserving poor, it’s overwhelmingly the sons and daughters of people in the upper part of the distribution of income who go to university, and do so with the goal of acquiring the qualifications that will allow them to take their own place in the upper reaches of the distribution.

So the irony of the government’s efforts is that it’s predominantly the children of the better-off who’ll be hit by the expected significant increases in the cost of a uni education. And those increases raise the hurdle faced by those wishing to join the echelon intended to benefit most from the government’s budget reordering.

Only about 17 per cent of uni entrants come from a lower socio-economic background – a proportion that has changed little over the decades. The Whitlam government’s abolition of fees was intended to increase the proportion of poor kids getting to uni, but didn’t.

The Hawke government’s reintroduction of fees was predicted by some to reduce the proportion of poor kids, but didn’t – mainly because of the success of an invention by Professor Bruce Chapman, of the Australian National University, specifically designed to ensure it didn’t: the "income-contingent loan", known to us as HECS.

Much the same was predicted when the Howard government greatly increased uni fees, but HECS ensured it didn’t happen. That was chicken feed compared with this decision to allow unis to set their own fees. If this one doesn’t reduce the proportion of poor kids at uni, it will be because of the continuing magic of HECS.

That, plus the new requirement that 20 per cent of the unis’ additional revenue be used to set up "Commonwealth scholarships" to assist students from disadvantaged backgrounds. (Where have I heard that name before? Maybe because I had one in my uni days, before Whitlam. This government is nothing if not retro.)

These days, going to uni means not so much paying fees as taking on a debt. Loans have three key variables: the size of the principal borrowed, the rate of interest charged, and the term of the loan.

Abbott’s changes will affect the first two, with major implications for the third. Once the unis are let off the leash, there’s no telling how high they’ll lift their fees. Between them, they have a monopoly over the provision of a high-status, high-value product in high demand.

And it’s not just the changes planned to take effect in 2016. The further the government cuts its funding to unis, the more the unis will up their fees. And they may not stop at covering the cost of teaching, but also require students to subsidise their lecturers’ research. So suggestions that fees could double or treble aren’t far-fetched.

That covers the principal. At present under HECS there’s no formal interest rate, but outstanding debt is indexed to the consumer price index. To economists, this says the debt is subject to a "real" interest rate of zero.

Now there’s to be a formal interest rate set at the long-term Commonwealth bond rate, 4 per cent at present, but capped at 6 per cent. This implies a real interest rate of between 1.5 per cent and 3.5 per cent.

So whereas at present outstanding debt merely keeps pace with inflation, now it will grow in real terms – will compound, particularly while no repayments are being made. (This change will apply to everyone still with a HECS debt, not just present and future students.)

Commercial loans have a fixed repayment period, with a fixed rate of repayment calculated to ensure all interest and principal is paid by the end of the period. HECS debt has no fixed repayment period.

Rather, debtors pay nothing until their annual income exceeds about $50,000. Initially their repayments are set at 4 per cent of their income, but this increases as their income rises, to a maximum of 8 per cent. (Hence the term income-contingent loan.)

So the time it takes people to repay their HECS debt varies mainly with the level of income they attain after leaving uni. The lower your income, the longer it takes to repay. This means the imposition of a real interest rate is "regressive", hitting lower-income debtors harder than those on higher incomes.

It also means that, leaving aside differences in the size of the initial principal, the people who’ll end up with the biggest debts under the new rules will tend to be students who stay at uni for a year or two before realising tertiary education isn’t for them, graduates who take time out of the workforce to raise children and then work part-time for a bit, and graduates who go overseas. These last will face an ever-growing disincentive to come back.

But none of this contradicts Abbott’s claim that a HECS debt will still be "the most advantageous loan they ever receive". That’s why it never made financial (as opposed to filial) sense to repay HECS early under the present rules, and only rarely will it make financial sense under the new rules.

People’s debt will be much bigger and they’ll stay owing it for many years longer, but their repayments will never be onerous, thanks to the loan being income-contingent.


Monday, June 2, 2014

Hockey crafts our first decadal budget

This is the 40th budget I've studied, and it's unique. The only decadal budget we've ever had, a budget only an incoming, Coalition government would deliver, a budget with big political costs up front, but a big pay-off way into the future.

It's obviously the budget of a new government, one confident it can blame its predecessors for its harsh cuts and broken promises. But it's such a slow-burn, delayed-reward budget that only the party that knows it's born to rule - that's confident it will stay in office for at least a decade - would have the front to introduce it.

The legendary Labor finance minister Peter Walsh was proud of persuading the Hawke-Keating government to introduce budgets showing the "forward estimates" for the three years following the budget year. At last governments would be obliged to reveal the longer-term consequences of their decisions.

That was fine until the Gillard government, struggling to reconcile its big-spending proclivities with its foolhardy promise to return the budget to surplus in 2012-13, came up with the "fiscal bulldozer" it used to push its ever-mounting spending commitments off to the years beyond the forward estimates, where they couldn't be seen.

By last year's budget this trick was wearing thin, so we saw the emergence of the antidote, the latest attempt to keep governments honest, the 10-year "medium-term budget projection". We've seen that projection in every budget-cycle document since, so we must hope it's permanent.

This is the first budget we've had built around that 10-year projection. In concept, this budget is simple: it doesn't reform spending programs or drop many programs. Rather, it shifts some of the cost of programs off onto others, including the states.

It does this partly by introducing or increasing user charges, but mainly by changing indexation arrangements.

As one of the budget's glossy spin documents reveals, the changes to university funding are "part of a government-wide decision to streamline and simplify indexation for programs". That's one way to put it; I call it changing the indexation in any way that favours the government.

A remarkably high proportion of the measures in the budget involve fiddling with indexation: suspending it for a few years, introducing it where to do so would favour the budget, changing its basis where that's what would favour the budget. You don't get this budget unless you get its preoccupation with indexation.

Why indexation? I can imagine why. The new treasurer arrives and the Treasury boffins sit him down to explain the budgetary facts of life. They start by showing him the medium-term projection, which shows that, on unchanged policies, we won't be back to surplus even after 10 years.

There's worse. You must understand, minister, that returning to a healthy rate of economic growth won't reduce the deficit. Your plan to increase productivity would be great for the economy, minister, but will do little to help the budget balance.

Really? Why? Because higher productivity soon translates into higher real wages. That's great for tax collections, particularly income tax. Trouble is, it also pushes up the spending side of the budget.
Directly or indirectly, almost all spending programs are linked to wages.

Wages are by far the greatest component of operating costs throughout the public sector - federal and state, education, health, even non-government welfare organisations.

To top it off, we index pensions to wages.

Suddenly, someone gets a bright idea. I know, we'll cut the Gordian knot by shifting from indexing to wages to indexing to prices. With one bound, Joe broke free. Even the huge cuts in overseas aid can be seen as a switch from indexing to gross domestic income to indexing to prices.

The thing about the indexation solution is that the initial savings are small, but they compound with each year that passes. So provided you're still in power, you clean up down the track.

Take the resumed indexing of fuel excise: a huge political stink over a tiny tax rise, but once that's past the revenue grows inexorably without anyone noticing.

As well, this budget creates scope for big future savings, such as discretionary increases in user charges. With universities' fees off the leash, there's huge scope for further cuts in federal funding, including pushing research costs on to students.

And anyone who thinks the maturation of the new Medical Research Future Fund won't prompt the feds to cut other grants for medical research is terribly trusting. (Whoever came up with that ruse deserves the Public Service Medal.)

One small weakness in the 10-year projection approach (about which the Treasury secretary has warned): it's just a mechanical projection, and assumes we'll go for 33 years without a severe recession.