Depressed economists lose faith in capitalism

The nation's practicing economists are working themselves into a state over the future of the economy, convincing themselves the prospects for growth are dismal and the only answer is more "reform".

They're being rallied by former Treasury secretary Dr Martin Parkinson.

He told the National Reform Summit that Australia risked sacrificing as much as 5 percentage points of economic growth over the next 10 years, the equivalent of the production and income lost during a recession.

"Unless we grab this challenge by the horns and really get concrete about what are the priority issues, we are actually going to find ourselves sleepwalking into a real mess," he said.

There's a host of dubious assumptions hidden behind this stirring call to economic arms. For a start, how do we know we've got a problem? How do we know we're heading for a decade of slow growth unless the government acts?

We don't. We look at the below-trend growth in six of the past seven years and, as any economic illiterate would, simply extrapolate it for 10 years. But why stop at 10? Why not make it 40?

One of the shafts of enlightenment at the summit, we're told, came when a modeller from Victoria University challenged the inter-generational report's modelling that the productivity of labour would improve at an average annual rate of 1.4 per cent over the next 40 years. The rival modeller's modelling put it at less than 1 per cent.

Really? Talk about the biter bit. Rather than using their models to bamboozle the punters, economists are bamboozling themselves, mistaking an "exogenous" variable for an "endogenous" one.

Putting that in English, both the 1.4 per cent and the 1 per cent are merely assumptions, not a finding of the models. No economist knows what will happen to productivity over the next two years, let alone the next 40. And no model can tell them.

All the economists are doing is what any mug punter would do: relying on gut feel rather than science. You may be optimistic about the future, but I'm pessimistic.

They're making the economic illiterate's assumption that our recent weak growth is structural rather than cyclical. Sure, falling commodity prices are reducing our real income, but one day they'll stop falling.

Sure, we're making heavy weather of the transition from the resources boom, but one day it will have been made. Simple statistical theory should be telling economists that a protracted period of below-average growth is most likely to be followed by a period of above-average growth.

The next weird thing about the economists' bout of depression is their assumption that the economy will go nowhere without government intervention. It's as though they've lost their faith in capitalism.

The economy isn't a living organism whose growth and striving is driven by consumers' self-interest and producers' profit-seeking; it's more like a marionette whose animation depends on the Public Puppeteer continually jerking its strings.

Economic growth, it seems, is exogenous not endogenous. Really? What textbook did you read that in?

When you convince yourself, as many economists have, that the only way we'll see faster growth and further productivity improvement is for governments to engage in extensive reform, you've convinced yourself our economy is deeply dysfunctional.

Hugely inflexible and uncompetitive, highly protected, rife with cartels and lazy government-owned monopolies.

You're saying all the (unrepeatable) reform of the 1980s and '90s – floating the dollar, deregulating the financial system and a dozen industries, removing import protection, decentralising wage-fixing and privatising or corporatising public utilities – delivered a once-only productivity improvement but no lasting gain in efficiency, flexibility or dynamism.

There's nothing about those reforms that will help the economy grow in the future, you imply. Somehow in the intervening decade or so all those reforms have disappeared under a jungle of inefficiency; the jungle that's preventing us from ever returning to our former average growth rate.

So now you're threatening to slash your wrists unless the government trawls through all the second-string reforms not yet made and gets on with them.

Naturally, your best advice on how we can get productivity improving faster relies on the things economists think matter most: prices (including tax rates and the wage-fixing system) and intensifying competition (much of which would appal the Business Council and other industry lobbies).

And what do we get if we follow your advice? Another fleeting productivity improvement or something of continuing benefit?

Sorry, guys, but the propositions you're advancing are more like a high-pressure sales job than a rational analysis of our future opportunities and threats. Why don't you take a break and cheer up?

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Contrary to reports, economy battles on

Joe Hockey is right. The economic news is hardly wonderful, but the media's attempt this week to convince us the economy was perilously close to recession was sensationalist nonsense.

What set them off was news from the Australian Bureau of Statistics' national accounts that real gross domestic product grew by just 0.2 per cent in the June quarter. What they forgot to mention was that in the previous quarter it had grown by 0.9 per cent.

As Hockey says, the figures "bounce from quarter to quarter". But why let that small fact get in the way of a good scare story?

The less excitable Dr Chris Caton, of BT Investment Management, put it another way: "The weak growth for the June quarter was in part payback for the strong growth in the March quarter."

Just so. We were told, for example, that spending on home building fell by 1.1 per cent in the latest quarter, but not reminded that the previous quarter it had grown by a remarkable 5.6 per cent. There is no reason to believe the housing construction boom has ended.

We were told that the volume of exports fell by 3.3 per cent in the latest quarter, but not reminded that in the previous quarter it had grown by 3.7 per cent. Turns out the weather was unusually favourable around bulk-commodity ports in the first quarter, but unusually bad in the second.

We weren't told about these one-off negatives for growth in the June quarter, but much was made of a one-off positive: a sudden surge in defence spending, we were told, fully accounted for the quarter's 0.2 per cent growth.

(Actually, it was worse than that. Whereas total public sector spending made no contribution to overall growth in the March quarter, it contributed 0.6 percentage points in the June quarter.)

All this is why searchers after truth rather than headlines don't take quarterly changes in GDP too literally. Combine the two quarters and you get average quarterly growth of 0.55 per cent, or annualised growth of 2.2 per cent - which is probably closer to the truth.

It also fits better with a fact we were told only in passing, that the economy grew by 2 per cent over the year to June and by 2.4 per cent on average over the financial year, meaning Treasury's forecast of 2½ per cent was near enough to right - a point Hockey kept making and the media kept ignoring.

Examine the figures for the year to June and you don't find much evidence of an economy likely to collapse in a heap. Consumer spending grew by 2.5 per cent, home building by 10.4 per cent, public sector spending by 3.3 per cent.

Export volumes grew by 4.5 per cent, while import volumes fell by 0.7 per cent. In fact, apart from a small fall in the level of inventories, the only major negative contribution to growth came from business investment spending, which fell by 4.1 per cent.

That fall comes from the end of the mining construction boom, of course. It's a reminder of the truth of our position - that our transition from mining-led growth to more normal sources of growth has been far from smooth and isn't achieved yet - a truth too prosaic for the headline chasers. Growth in the low 2s is clearly well below average.

But if you dig a bit deeper you do find signs that the transition is proceeding, with help from record low interest rates and an ever-lower dollar.

For a start, there is evidence of recovery in non-mining investment. According to rough figuring by Kieran Davies, of Barclays bank, it's up by 4 per cent over the year to June, led by investment in the services sector.

Exports of services - including tourism and education - are also growing. Though little changed in the June quarter, their volume was up 7 per cent over the year, Davies says.

"With imports of services down 8 per cent over the past year as the falling exchange rate has made it more expensive to take an overseas holiday, trade in services [exports minus imports] added 0.1 percentage points to GDP in the June quarter and 0.6 percentage points over the past year."

Much has been made of the 1.2 per cent fall in "real net national disposable income per person", rightly described as the best measure of material living standards the national accounts provide. It's fallen for five quarters in a row.

Why? Because of the deterioration in our terms of trade - the prices we receive for our exports relative to the prices we pay for our imports - as coal and iron ore prices have fallen.

But it's important to see this in context. Why do so many people care so much about economic growth? I (and Joe and his boss) think it's mainly because they want to see more jobs created.

If so, real GDP - the quantity of goods and services workers are employed to produce - is a more relevant indicator than the various measures of "real income".

And the growth in GDP we've had has been sufficient to create 240,000 jobs over the year to July (including 68,000 during the supposedly knackered June quarter) and to stabilise the unemployment rate at just over 6 per cent.

It's true that the size of our real income has an effect on our spending on goods and services, and the demand for goods and services affects employers' demand for workers.

But much of the loss of income caused by lower coal and iron ore prices is borne by the mining companies (which are about 80 per cent foreign owned) and by state and federal governments (which collect lower mining royalties and company tax), rather than by the rest of us.

Times aren't easy, but we're not in bundle-dropping territory.

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The game pollies play rather than governing

It came to me while I was lying awake the other night: the business, union and community worthies at last week's National Reform Summit thought the way to make progress was to hammer out a compromise proposal most people could agree to. You hand it to the government, the opposition agrees, they whack it through parliament and problem solved.

But that's not the game Tony Abbott is playing.

He doesn't want agreement, he wants disagreement, but with the government on the majority side and its opponents on the minority side. That way, you get re-elected and maybe, as a bonus, there's some benefit to the country.

Pretty bad? Here's the worst part of my early-hours revelation: the other side's no better.

This is the way both sides have been playing the political game for years. It's just more obvious now because Abbott doesn't play it with as much finesse as his predecessors.

In Canberra, the game is known as "wedging", but is better described as "wedge and block". Whoever's in government thinks of issues acceptable to their side – and popular with voters – but inconsistent with the other side's values and thus likely to divide it. Ideally, the others oppose you and so get themselves offside with most voters.

Failing that, the pragmatists on the other side – who see perfectly what you're up to – reluctantly go along with you, but a more principled minority don't, so you've sown dissent among your opponents. Always a bad look to the electorate.

If the practitioners of expedience get their way without noticeable demur from the keepers of party principle, the wedge has been successfully blocked and you have to go away and think up another one.

How do you come up with a good wedge issue? You consult those polls that regularly ask voters which party is better at handling particular issues. Study these results and you find voters have highly stereotypical views about the parties' strengths and weaknesses.

The Liberals are better at what you'd expect a penny-pinching bosses' party to be better at: managing the economy, fighting inflation, keeping taxes and interest rates low and controlling the budget. And, of course, keeping the country safe from threats to our security.

Labor, on the other hand, is better at what you'd expect a big-spending workers' party to be better at: unemployment, social security, health, education, the environment and industrial relations.

In the months leading up to an election, each side manoeuvres to establish as key election issues problems the voters regard them as better at dealing with. They try to neutralise – block – those issues the other side is pushing that would leave them at a disadvantage.

The sainted Julia Gillard wasn't too saintly to use her two most popular (and expensive) measures to try to wedge Abbott at the 2013 election.

She proposed a 0.5 percentage point increase in the Medicare levy to help pay for the national disability insurance scheme, hoping Abbott would object and so could be accused of opposing greater assistance to the disabled.

She delayed the Gonski reforms to school finding, hoping Abbott would defend private schools and she could make it a key election issue.

Abbott blocked both wedges. He quietly agreed to the tax increase which, becoming uncontentious, was never mentioned again. On the Gonski reforms he belatedly professed to be on a "unity ticket" with Labor. But the delay meant many Liberal state governments declined to sign up to the scheme so close to an election.

Abbott's efforts to wedge Labor have come thick and fast in recent days. He asked President Obama to ask us to join in the US bombing of Syria because he was hoping Labor would object to such an ill-judged move. It didn't.

In another effort to increase public concerns about national security, he propose stripping certain Australians of their citizenship, hoping Labor would object and so allow him to accuse it of being "soft on terrorists". It didn't.

Abbott is anxious to portray his government as big on "jobs and growth". He cooked up a story about greenies using the law to block a new coal mine in Queensland and proposed amending the federal environment protection act to counter "green sabotage", hoping Labor would object and he could accuse it of putting the environment ahead of jobs.

As became clear at last week's reform summit, there's now widespread agreement that superannuation tax concessions to high-income earners are too generous and need to be cut back, with big savings to the budget.

Earlier this year, Joe Hockey had Treasury working on super changes when Labor announced it would take such a policy to the election. Abbott immediately embarrassed Hockey by insisting the government would countenance no changes to super or any other tax concessions.

Labor may stand for higher taxes, he told us, but the Libs stood for lower taxes. He made it clear last week that, come hell or high water, the government would go into next year's election promising tax cuts.

Great wedge. One small problem: all Labor has to do to block it is promise to match it – just as it did when John Howard tried the same thing at the 2007 election.

Bad policy, but what of it?

If you wonder why our politicians don't seem interested in good government, their addiction to playing the wedge-and-block game explains a lot.

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