Wednesday, May 31, 2017

Governments share power with multitudinous lobbyists

You may think the media is full of the argy-bargy of politics, full to saturation point. There is, however, a level of politics we rarely hear about. You may not have noticed, but it raised its ugly head at the time of the budget earlier this month.

One sign was the anger, almost outrage, of the big banks when, on budget night, Scott Morrison surprised them by announcing a small new tax on them. Why weren't we consulted about this, they shouted.

Just a few days earlier, Education Minister Simon Birmingham surprised us by announcing the government's conversion to needs-based federal grants to schools, a la St David of Gonski.

The Catholic school authorities were deeply saddened. Birmingham's plan was to gradually unwind decades of special sectarian deals, the most recent of which had been made with the previous Labor government.

Why in Heaven's Name weren't we consulted before this unholy decision was made public, they cried.

When I heard both interest groups making their loud complaints I reacted the same way. Who the hell do these guys think they are?

You and I don't expect to be consulted before governments announce their policy decisions, so what gives these people the right to special treatment?

Well, I'll tell you: it's because that's the way they're used to being treated. Governments are considering making changes affecting a powerful and vocal interest group, so they – and more particularly, the top bureaucrats in the relevant government department – engage in private discussions with industry leaders and lobbyists.

If Birmingham decided on a new school funding arrangement without consulting the most-affected interest groups, it must have been because he knew they'd move heaven and earth in their efforts to ensure it didn't happen.

And, come to think of it, it's not all that unusual for new tax measures to be announced in the budget without prior consultation. You could justify this as necessary to ensure people aren't able to profit from inside information.

But I suspect it happens also because Treasury likes it that way. In the annual preparation for the budget, which goes on for months, Treasury ensures decisions about tax changes are made just days before budget night. That way, there's no time to consult and no time for ministers to be dissuaded from acting.

So the consultation happens after the move has been announced, when the government would lose face if it backed down too far.

Indeed, major tax and policy changes are invariably put into an industry consultation phase before being legislated. You can justify this practice by saying the world's become a complicated place and that the affected industry will always have an understanding of the practicalities of implementation that's superior to the bureaucrats'.

But there's more to it. I think industry representatives are routinely consulted on policy matters affecting them because, in practice, elected governments have come to share their power with a multitude of lobby groups.

You and I don't see the huge extent of contact that occurs between peak industry groups, consultant lobbyists and visiting executives, on one hand, and ministers, parliamentarians and bureaucrats on the other.

Indeed, we non-Canberrans don't realise the extent to which lobbying has become that city's second-biggest industry. That's particularly so if you include Canberra's small army of economic consultants, who earn their living by concocting "independent" modelling which, purely by chance, always seems to prove their clients' case.

And that's not counting the big four accounting firms which, when they're not doing "independent" modelling for the small fee, give extensive – and no doubt expensive – consulting advice on policy questions to government departments.

Why do they need such advice? Why is policy expertise moving from the public service to outside consultants? Because the yearly imposition of "efficiency dividends" on government departments means they keep getting rid of their policy experts. The words "false economy" spring to mind.

For an idea of just how big the lobbying industry has become, consider this. Buried in the budget was an announcement that the government had accepted the recommendations of a review of the financial system's arrangements for resolving external disputes.

Some lobby groups were unhappy with this decision, so last week they issued a press release saying so. It was issued in the name of six industry groups: the Mortgage and Finance Association of Australia, the Customer Owned Banking Association, the Australian Collectors & Debt Buyers Association, the Association of Securities and Derivatives Advisers of Australia, the Australian Timeshare and Holiday Ownership Council, and the Association of Independently Owned Financial Professionals (each with their own logo).

But if all the industry groups and other lobbyists did was issue press releases there would be little to worry about. Lobbying in public is just the tip of the iceberg. What matters is all the private contact with bureaucrats, ministers and politicians, particularly crossbench senators, we know nothing about.

Late last year I wrote prematurely about an eye-opening book by Dr Cameron Murray and Professor Paul Frijters, Game of Mates, which has finally been published.

The book reminds us that one way moneyed interests gain influence in the halls of power is by rewarding co-operative senior bureaucrats and politicians with post-retirement patronage. You too could be gamekeeper-turned-lobbyist.
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Monday, May 29, 2017

Our universities aren’t earning the money we give them

Sorry, but the small funding cuts imposed on the universities in the budget don't rouse any sympathy from me.

In an ideal world we'd be investing more in our universities, but our world is far from ideal. And so are our unis. They're inefficient bureaucracies, with bloated administrations and over-paid vice chancellors.

To hear them talk, you'd think unis were the fount of all economic virtue. According to Sydney University's Michael Spence, the budget was "an opportunity missed, because the government's done nothing about the significant cost of research and, of course, university research is fundamental to the innovation economy about which the government is so enthusiastic".

Sorry, prof, but the electorate's too well-educated to swallow such spin. The unis contribute to innovation, but it comes from other sources as well, and the unis' contribution should be better than it is without extra funding.

It's true our unis are obsessed by research, but any innovation this leads to is almost accidental. The research the unis care about is papers published in prestigious foreign journals, which they see as the path to what they're really striving for: a higher ranking on the various international league tables of universities.

Education Minister Simon Birmingham boasts that, on one table, six of our 43 unis are in the top 100, with nearly half in the top 300.

The pollies should stop doing this. It just encourages our "sandstone" unis – the self-dubbed Group of Eight – in their crazy, self-absorbed race.

Had Birmingham's predecessor succeeded in deregulating fees and let the sandstones exploit their monopoly pricing power, they would have delighted in overcharging their students and increasing students' cross-subsidy of the academics' research.

All of us should strive for excellence in our work, but when you start trying to force the pace with league tables and the dreaded KPIs – key performance indicators – you lose the plot.

You shift the rewards from intrinsic to extrinsic, and almost as much effort goes into trying to game the indicators of excellence as being excellent. The big rewards go to those who excel at appearing excellent.

Our big unis are so obsessed by research that academics' promotion is determined almost solely by how many papers you've had published and how prestigious were the journals you got into. Plus how much in research grants you've brought to the uni's coffers.

Apart from the time they spend thinking of ways to turn the same bit of research into more than one paper, our sandstone academics seem to spend more time applying for research grants than doing research.

Then there's the cultural cringe. The sandstone unis are filling their upper positions with sunshine-seeking Poms, Canadians and the odd eccentric Yank, in the belief they'll do better than the locals at getting published in prestigious international journals.

Our academic economists have even conned the federal government into spending taxpayers' money in ways that penalises those economists foolish enough to want to research the Australian economy.

That's because American journals won't publish articles about a small and boring country like ours, but our own journals don't rank in the unis' eternal quest for a higher international ranking.

Notice anything missing? Ah yes, all those students hanging around universities.

The unsatisfactory state of our unis is partly the product of our federal politicians' – Labor and Coalition – decades-long project to quietly and progressively privatise our universities via the backdoor.

Like so much misconceived micro-economic reform, this project hasn't worked well. Put a decades-long squeeze on unis' government funding and what happens? The unis intensify their obsession with research status-seeking and do it by exploiting their market power over students – while building ever larger bureaucracies.

There are some excellent teachers in universities, but they're the exception. The unis pretend to value good teachers – and award tin medals to prove it – but, in truth, there are no promotions for being a good teacher.

Students are seen as a necessary evil, needed because the public thinks teaching their kids is the main reason for continuing to feed academics.

Since Julia Gillard's spendthrift decision to remove the limits on how many uni places the government is prepared to fund, the unis have slashed their entrance requirements so as to rip as much money off the feds as possible.

Are they producing more would-be teachers or journalists or candlestick makers than the economy needs?

Who cares? All the unis know is that cramming more students into lecture theatres yields economies of scale that can be diverted to pay for more research – and pay for some part-time casual to do your teaching for you.
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Saturday, May 27, 2017

How our budget repair problem has been exaggerated

Before the budget Scott Morrison promised us "good debt" and "bad debt". What we actually got was less radical but more sensible.

The government has come under increasing pressure from the Reserve Bank to draw a clear distinction between its borrowing to cover "recurrent" spending (on day-to-day operations) and borrowing to cover investment in capital works ("infrastructure").

It was wrong to lump them together and claim the combined deficit constituted the government "living beyond its means", as the Coalition often has.

Government borrowing to pay for infrastructure that will deliver a flow of services to the community for many decades to come is not in any way irresponsible.

The Reserve's reason for pressing the government was its desire for "fiscal policy" (the budget) to give its "monetary policy" (low interest rates) more help trying to stimulate faster economic growth.

Make the recurrent/capital distinction and the government can move to repair its budget and avoid unjustified borrowing, while still investing in new infrastructure projects that both add to demand in the short term, and later – provided the projects are well chosen – add to the economy's potential to supply more goods and services by improving our productivity.

In this budget Malcolm Turnbull finally capitulated to this pressure, overturning decades of Treasury dogma.

Sort of. Treasury's fought a rear-guard action, retaining the old world while seeming to move to the new.

In the process it's been obliged to make clear all the budgetary cupboards in which it hides the government's spending on capital works.

In so doing it has revealed that the line between budget accounting and creative accounting is thin.

Let's start with what in accounting passes as theory. There are two main ways you can measure the financial performance of an "entity" such as a business or a government: the rough-and-ready "cash" basis, or the more careful "accrual" basis.

The private sector has been using accrual accounting for more than a century, whereas Australia's public sector moved from cash to accrual only in 1999, after the United Nations Statistical Commission shifted the national accounts framework to an accrual basis in 1993 and the Australian Bureau of Statistics complied.

The cash basis measures the government's financial performance merely by comparing the cash it received during a period – usually a financial year – with the cash it paid out during the period.

By contrast, the accrual basis puts much effort into ensuring the incomings and outgoing are properly "matched", so they are allocated to the accounting period to which they rightly apply.

If, say, on the last day of the year you paid for an insurance policy to cover you for the following year, an adjustment would be made to shift that cost to the following year's accounts.

When the feds moved their accounts and budget onto an accrual basis at the turn of this century, however, Treasury declined to play ball.

It stuck with cash, making the debatable argument that recognising government transactions according to when the cash changed hands gives a better indication of those transactions' effect on the macro economy.

(It couldn't admit the real reason. The cash basis leaves much more scope for creative accounting: quietly moving receipts and payments between periods so as to make the books look better or hide something the government finds embarrassing.)

So, to this day, the budget papers are written in two different financial languages. The bit prepared by Treasury is written in cash, whereas the much bigger bit prepared by the Finance department is written in accrual – as it's supposed to be.

Get this: our bilingual budget means the budget papers offer us four different measures of the budget bottom line to pick from.

There's the "underlying cash" balance (the one Treasury wants us to focus on), the "headline cash" balance (please don't ask questions about this one), the "fiscal" balance (the close accrual equivalent of underlying cash) and, buried up the back, the accrual-based "net operating balance".

The news is that Treasury is sticking with underlying cash as "the primary fiscal aggregate" – the one it will make sure we focus on – but will ditch the fiscal balance (always just a face-saver cooked up by Treasury) and replace it with – give "increased prominence to" – the net operating balance, henceforth known as the NOB.

Bringing the NOB from the back up to the front will "assist in distinguishing between recurrent and capital spending" because, in accountingspeak​, "operating" and "recurrent" mean the same.

Point is, the biggest practical difference between cash and accrual is their treatment of spending on capital works. In cash, it's lumped in with recurrent spending, whereas in accrual it's not. Instead, accrual includes as a recurrent or operating expense an estimate of a year's worth of "depreciation" (wear and tear) of the feds' stock of physical capital – as it should if you believe in "matching" (which Treasury doesn't).

With this unprecedented casting of a spotlight on its accounting practices, Treasury has had to admit that the NOB actually overstates the recurrent balance because it includes as an expense the feds' capital grants to the states to help cover their spending on infrastructure.

Correcting for this reduces the coming financial year's NOB from a deficit of almost $20 billion to one of just over $7 billion (just 0.4 per cent of GDP). So we're already close to a balanced recurrent budget and should be there in 2018-19, after which (if Treasury's economic forecasts prove reliable) we'll be up to a recurrent surplus of $25 billion by 2020-21.

Turns out that, from the time the budget dropped into deficit in 2008-09 until the year just ending, focusing on the underlying cash deficit rather than the corrected NOB has exaggerated the extent of our budget repair problem by a cumulative $150 billion.

So how much have the feds been spending on infrastructure? Long story. Watch this space.
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Wednesday, May 24, 2017

Why I don't feel sorry for fee-paying students

I have my heroes among leading American economists and psychologists, some of whom I know. One I don't is Alan Blinder. But when he wrote a book called Hard Heads, Soft Hearts, I knew I'd found my guiding star as an economics writer.

There are plenty of lovely souls whose heart bleeds freely for all manner of people who want us to believe they're being treated badly.

But hanging around with economists has left me imbued with the harsh reality of opportunity cost, my version of which says you can have anything you want, but you can't have everything you want. So be careful deciding.

The hard-headed truth is, feeling sorry for almost everyone is little different from feeling sorry for no one. I have only so much compassion to go around.

So, sorry, but among all the people claiming to have been hard done by in this month's budget, I don't have much sympathy to spare for the university students complaining about the increase in their debts.

By contrast, I have much sympathy for all those unemployed people hoping and searching for jobs that don't exist – unless, of course, the government's own figures for job vacancies are grossly understated.

Had industrial fate not intervened to prevent me attending my 43rd successive budget lock-up, I planned to wear my jumbo size JOB HUNTER NOT DOLE BLUDGER T-shirt, put up to it by friends at the admirable Brotherhood of St Laurence.

How prescient that would have been. The budget turned out to include an attempt to traduce the reputation of all job hunters by launching the government's umpteenth Crackdown on the Crackdown on all those "leaners" who lounge about taking drugs when they should be out pounding the pavement.

Did you know that some people are being given the dole before any savings they have are completely exhausted? It's an outrage on us upright citizens, groaning under the weight of massive taxation.

Isn't Centrelink bright enough to understand that forcing the jobless to go cap in hand to the Salvos whenever some large and unexpected expense occurs is part of their punishment?

Not content with cracking down on the unemployed, this budget cracks down on those lazy loafers at Centrelink. Do you realise there are days that pass without people on benefits being harassed in some way?

Do you realise that older people, some just a few years from pension age, aren't hassled nearly as much as young people are? It's wrong, it's discriminatory, and the ironically named Christian Porter and his hardworking sidekick Alan Tudge are just the punishers and straighteners we can trust to stamp it out.

I don't understand those two. Do they enjoy beating up the poor, or is it a hateful job they must do to keep their jobs in the ministry, to gratify all those pathetic voters desperate to feel morally superior to someone?

Nor do I get Malcolm Turnbull. He produces a surprisingly good budget intended to convince us he's not the pale imitation of Tony Abbott we thought he'd become, that the Coalition is committed to fairness after all, but can't resist adding the most lurid attempt to stigmatise anyone of workforce age who can't find a job.

Is Turnbull that much in fear of losing votes to the Redheaded One? Malcolm, you're a rich man, you don't have to sink so low.

(But let's not have too much righteous indignation from the Laborites. They're the crowd who went for six years without affording a significant discretionary increase in our pathetically low unemployment benefits. Perhaps they had to spend too much trying to prove they could punish asylum seekers with just as much relish as the Liberals.)

Back to the revolting uni students. You'd never know it from their cries of woe, but Education Minister Simon Birmingham has thrashed them with a pillow.

Their tuition fees – and hence their debts to the government - are being increased by just 7.5 per cent on top of indexation to consumer prices, spread over three years. When fully implemented, this will increase total fees for a four-year degree by between $2000 and $3600 – with that range roughly aligned with the likely earning-power of the particular degree.

We keep being told that the level of income at which people with debts begin having to start repaying them has been lowered from $52,000 a year to $42,000. What we're rarely told is that the bottom rate of repayment has been lowered from 4 per cent of their income to 1 per cent.

Combining the two changes, the time it takes to repay loans will increase by less than a year.

Uni students come mainly from the comfortable middle class and go to uni to get a certificate that pretty much guarantees them a well-paying job, including a much lower risk of becoming unemployed or staying jobless for long.

It's true the wider public benefits from the money governments spend educating people to graduate level, but equally true that the personal benefits to the particular graduate are about as great.

On average, Birmingham's changes will increase the graduate's share of the cost of their degree from 42 per cent to 46 per cent – and, thanks to the unchanged design of the loan scheme, do so without discouraging students from poor families from bettering themselves.

Sounds fair enough to me.
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Monday, May 22, 2017

Labor-like budget ticks all the boxes for Turnbull



For students of the politics of economics – my special subject – this clothes-pinching budget has been a feast. Oh no, it's "Labor-lite". Shocking!

Actually, it's a budget that ticks all the boxes for Malcolm Turnbull and, by extension, his parliamentary followers – something their silent acquiescence suggests they realise.

You don't need brains to see a Labor-lite budget. What's harder is to see that it's not as out of character as some suppose.

True, the song Turnbull and Scott Morrison are singing now is very different to the one they sang in last year's budget.

But the beginning of wisdom is to see that, these days, what each side of politics offers is an ever-changing mixture of ideology and pragmatism.

The bedrock is pragmatism: what must I say or do to win the next election? Pragmatism rules because of the way politics has been professionalised, becoming a career ladder you climb from newly graduated ministerial staffer to (you hope) prime minister.

But ideology has its uses. Mainly, to gratify the prejudices of the party base and enhance your supporters' loyalty to the tribe. It gives then a warm feeling. It also helps to jolly along union or business donors.

Then there's the third, usually unmentioned factor: Consistency, no need for.

When you're constantly changing the mix, increasing or decreasing the pragmatism component, you can't be too worried about getting caught changing your story from what you said before.

Since the responsibilities of office change little from year to year – similarly, the advice of the econocrats – the two sides' rhetoric while in government is more similar than when they're in opposition. Everyone changes their tune when they come to power.

As for the boxes this year's budget ticks for Turnbull, the first is it shows him taking firm steps to get the trajectories of budget spending and taxing heading in a better direction, giving the budget substance at a time when its forecasts and projections would soon be exposed as optimistic, even fiddled.

It shows Turnbull having the sense to cast off the wishful ideology foisted on him by the economically uninterested Tony Abbott (egged on by the Business Council's lesser geniuses, to whom he foolishly outsourced the commission of audit) that, despite eight income tax cuts in a row, only cuts in spending were needed to get the budget shooting back to surplus.

By doing so, Turnbull was accepting the budgeteers' orthodoxy that budget repair always involves tax increases as well as spending cuts, and joining ranks of all previous successful Liberal prime ministers, starting with John Howard and his goods and services tax.

Nor is Turnbull the first PM to succeed partly by pinching the best of their opponents' policies.

Second box: it shows Turnbull coping with the bills left by Labor – the National Disability Insurance Scheme, schools funding and (eternally) Medicare – in ways that are politically shrewd and not terribly distorting economically.

Solving the NDIS cost problem by linking it to a barely perceptible increase in the Medicare levy in two years' time. Switching to a cheaper version of Gonski-style needs-based school funding. Imposing a new $1.5-billion-a-year indirect tax on the hated big banks – for whom he's been leaking votes by running cover against a royal commission – to help reduce the structural budget deficit.

Third box: this budget neutralises two of the greatest areas of voters' concern, where Labor is permanently perceived by them to have the comparative advantage: health and education.

And this at a time when, largely thanks to factors beyond their control, we're not travelling too well in the areas permanently perceived by punters to be the Libs' comparative advantage: managing the budget and managing the economy.

Fourth box: this budget takes a Liberal party drifting ever-further to the hard right, and yanks it back to the sensible centre, where elections are won.

Fifth box: this budget shows Turnbull as leader rather than follower of his ever-more reality-detached backbench.

It at last gives voters a glimpse of the fair-dinkum Malcolm – the one saying what we all know he really believes – and whom many people whose vote is up for grabs were hoping and expecting to be led by after the unlamented demise of Abbott.

Last box: Turnbull's return to the centre has at last wrong-footed the formerly sure-footed Bill Shorten, exposing his pretence of putting the public interest ahead of partisan advantage – if we can't have our version of needs-based school funding, let's block the Libs' version – and prompting him to shift to left of centre, with his plans to increase taxes on high income-earners.
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Saturday, May 20, 2017

How needs-based school funding would work

In education economics, the hot question is whether Malcolm Turnbull's Gonski 2.0 plan for school funding yields a better and more cost-effective combination of fairness and economic efficiency than Labor's Gonski 1.
Since both sides of politics seek to sanctify their funding approach by labelling it with the sacred name of David Gonski, the businessman who chaired the 2011 government inquiry into school funding, remember both sides' plans fall well short of what he recommended.
He started by recognising that, at least since the Whitlam days, government funding of the nation's schools had no rational basis.
Funds came from both federal and state governments, and were spent on three differing sectors – government, Catholic "systemic" and independent schools.
This meant funding differed by state, and by sectarian status. Politicians on both sides and at both levels did special deals aimed at currying favour with Catholic voters. Many governments favoured non-government over government schools, in the name of giving parents greater "choice" (provided they could afford private school fees).
In other English-speaking countries, religious schools get no special treatment. If they want government funding, they play by government rules. If that's not acceptable, they can do their own thing without government funding.
Gonski's key proposal was to allocate government funding on the sole basis of the needs of particular students, doing so in a way that was "sector blind".
An independent "national schools resourcing body" should be established to set a needs-based "school resourcing standard" for each of Australia's 9500 schools.
The standard would start with a uniform basic amount per student, to which loadings would be added to cover their students' disadvantage in the categories of low socioeconomic status, English language proficiency, school size and location, and indigeneity.
In this way, the allocation of funds would be determined from the bottom up, not from the top down in negotiations with states and sectors.
Julia Gillard required Gonski to reallocate funding in a way that ensured "no school would lose a dollar". This necessitated him proposing that total spending be increased, creating the impression he thought schools needed a lot more spent on them.
The Gillard government rejected the proposal for an independent body to oversee the reallocation and came up with its own figures for the school resourcing standard.
Labor also stuck with the top-down approach, going around the states and sectors trying to persuade them to sign up before the 2013 election.
As a result, some states and sectors did much better deals than others, which they now resent Turnbull trying to unwind.
Labor's reallocation was to be phased in over six years, with much of the cost delayed until the last two calendar years, 2018 and 2019.
Tony Abbott claimed to have accepted the plan's first four years, but reneged immediately after the election, saying the states could spend their grants however they chose.
In the 2014 budget Abbott announced that, after 2017, funding for schools would simply be indexed to consumer prices, yielding a huge saving to the budget. But he couldn't persuade the Senate to amend the act implementing Labor's funding plan.
Just before last year's election, Turnbull agreed to funding increases for 2018, 2019 and 2020 that were more generous than Abbott had wanted but less that Labor's plan.
And now, Education Minister Simon Birmingham surprised everyone by unveiling the Coalition government's own version of needs-based funding, dubbed Gonski 2.0.
It involves adjusting all schools' federal funding at different rates over 10 years so that, by 2027, all of Labor's disparities and anomalies would be removed, leaving all government schools (which are mainly funded by the states) getting 20 per cent of their school resourcing standard – up from an average of 17 per cent at present.
All private schools (whose government funding comes mainly from the feds) would be getting 80 per cent of their school resourcing standard, up from an average of 77 per cent at present.
Total federal funding of schools would grow from $17.5 billion this year to $30.6 billion in 2027, an increase of $2.2 billion over already-planned spending over the first four years, rising to an extra $18.6 billion over the 10 years.
You see from this that Gonski 2.0 would take a lot longer than Gonski 1 to reach full needs-based funding. Like Labor's six-year plan, the Coalition's 10-year plan is heavily "back-end loaded".
Of course, on Labor's calculations, a hypothetical continuation of its scheme would cost $22 billion on top of the extra the Coalition plans to spend.
Much of Labor's extra spending above the Coalition comes from its built-in higher rate of annual increase in funding, relative to the Coalition's assumed average indexation rate of 3.3 per cent a year.
Some of Labor's extra would go on higher grant increases for already overfunded private schools, and some on bigger pay rises for teachers.
Unlike Labor, the Coalition would make small cuts in grants to 24 highly overfunded private schools, while another 350-odd somewhat overfunded private schools would get smaller increases until, in 2027, every school's federal funding was aligned with its own needs-based school resourcing standard.
A big weakness in Gonski 2.0 is the way it gets federal funding sorted but ignores the eight states and territories' role in achieving needs-based funding overall. The states would merely be required to maintain the real value of their funding per student, allocated however they chose.
A weakness both schemes share is that though state-based school systems (including government systems) will receive grants based on the individual needs of each of their schools, they will be left to determine the basis on which it's actually allocated to particular schools.
My conclusion is that the opportunity Gonski 2.0 presents to have both sides politics accept and entrench needs-based federal funding, and an end to sectarian deals, should be grabbed with both hands.
There's nothing to stop Labor, or anyone else, coming along later and fixing its weaknesses.
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Wednesday, May 17, 2017

Fixing disadvantaged students key to fairer, better economy

We have a big problem in Australia that has been happening for so long we hardly notice it. It's that far too many of our young people leave school with an inadequate education.

According to Victoria University's Mitchell Institute, 26 per cent of students fail to finish school or a vocational equivalent.

I'm sure some of these people catch up in later life, while others lead rewarding lives without benefit of further education. But I fear most of the 26 per cent lead lives of economic insecurity and limited personal fulfilment. They are the shockingly high proportion of students our school system has failed.

The hardest question I'm asked as an economics writer is why when, until the mid-1970s, economists defined full employment as an unemployment rate of less than 2 per cent, today they say it's about 5 per cent. My explanation is that the economy has changed, but our schools haven't kept up.

The great majority of unemployed people are unskilled.

And many of these are people who left school early. They didn't understand what teachers were attempting to teach them, they hated school with a passion, and left the moment they were permitted to.

My theory is that, until about the mid-'70s, the economy generated plenty of unskilled jobs, sufficient to absorb all the children who left school without being too hot at the three Rs.

These days, there are proportionately far fewer unskilled, brawn-not-brain jobs available, but just as many under-educated children quitting school.

Our schools seem to accept their high failure rate as inevitable. This may be partly because the ever-greater socioeconomic segregation of our schools – church schools serving those from better-off families, public schools serving everyone who can't afford a church school – has concentrated the failures into government schools in outer suburbs.

Certainly, school authorities seem to have given little attention to explaining why the failure rate remains so high, and which modes of classroom operation and teaching methods have been shown to get better results.

As a nation, the inadequate education of so many of our children is an issue that just hasn't registered on our radar.

One part of the greater influence of the nation's "rich and powerful" is that we worry far more about the problems of the brightest and best than the problems of those at the bottom, struggling to keep their seat on the tram of prosperity.

Economists spend far more time worrying about whether the rich are overtaxed than why the poor are being under-educated.

Most people see this as a matter of fairness. Many profess to believe in "equality of opportunity", but if you're genuine about that it means ensuring everyone at least starts the adult race with decent education, if nothing more.

And when you remember how much better-off children inherit – not just money, but brains and socialisation – that means governments devoting more resources to helping the bottom end keep up than to helping the top end excel.

But I see all this as just as much a matter of economic efficiency. What's efficient about allowing a large minority of our young people to emerge from school without sufficient education to ensure they can attain regular employment?

If we could get the "natural" rate of unemployment down from 5 per cent and closer to 2 per cent – if we could increase by 2 or 3 percentage points the proportion of the available labour that's actually put to work – this would do far more to increase "jobs and growth" than cutting the rate of company tax.

The first step in ensuring all our children get a decent education is better early childhood learning – a vital issue I'll leave for its own column.

The next step is ensuring the money governments spend on schools is biased in favour of those students needing more help, not those schools that have managed to screw better deals out of the politicians over the years.

That's why my heart leapt in 2011 when David Gonski recommended a way of rising above our anachronistic division of government funding on a sectarian basis, sharing it purely on the basis of student need and in a way that was "sector blind".

The plan Julia Gillard delayed producing until not long before the 2013 election was a big spending, but heavily compromised version of what Gonski recommended. Labor was desperate to get the states and sectors to sign up, so some of them bargained better deals than others.

Tony Abbott wasn't genuine in his professed support for needs-based funding and abandoned it immediately after the election, proposing utterly unrealistic cuts in grants to schools.

That's why it's so encouraging to see Malcolm Turnbull and his hard-working Education Minister, Simon Birmingham, advancing their own improved but less expensive version of needs funding.

You'd expect anyone genuinely committed to a better deal for disadvantaged students to seize this rare chance for bipartisan agreement, locking in better policy for possibly decades to come.

If Labor thinks we should be spending a lot more on schools, it can promise to do so at the next election.

But for Labor and the teachers' unions to oppose Senate approval for the Birmingham plan invites us to wonder if they're putting their own interests ahead of the disadvantaged students they profess to care so much about.
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Monday, May 15, 2017

Liberals paying for Labor’s bigger government, as usual

The Liberals have always been right to portray themselves as the party of smaller government and Labor as the party of tax and spend. If you think that changed with last week's budget, you don't remember Australia's fiscal history.

But two qualifications. One, Labor often stands more for spending first and reluctantly thinking about higher taxes only when the bills start coming it.

That’s after it has carefully structured some new scheme so its true cost isn’t apparent for several years, after it’s too late to pull back.

Two, the Libs have never had any success at shrinking the size of government after Labor's latest spending spree. Their role when in office has been to keep the lid on further demands for bigger government.

But they've always reluctantly submitted to the reality of the "spending ratchet": once some new spending program has become established, there's no way the electorate will let you chop it back.

That's what last week's budget was about: not the Libs becoming big spenders, but Malcolm Turnbull's recognition that it was his responsibility to find a way to pay for Labor's national disability insurance scheme and shift to needs-based school funding, not to mention the ever-growing cost of Labor's most popular government expansion, Medicare.

The spending ratchet is seen in every developed economy. It's what's stopping Donald Trump abolishing Obamacare. What do you replace it with that's just as good?

The two main parties have played these complementary roles at least since the end of World War II.

Bob Menzies and his successors spent two decades resisting, or fending off for as long as possible, all demands for widening the government's responsibilities.

He even delayed the introduction of television until the looming Melbourne Olympics in 1956 forced his hand.

Leaving aside its ministers' utter inexperience, this does much to explain the excesses of the Whitlam government.

Labor felt it had 23 years of catching up to do, and tried to do all its modernising in three years, more than doubling government spending.

Gough had no worries about how he'd pay for it all: he wouldn't need to raise taxes because rampant inflation meant bracket creep would cover everything. Oh, no probs then.

Malcolm Fraser's government stopped the growth in spending, but did nothing to diminish it. It did, however, manage to dismantle Medibank, deeply hated by the Libs.

The Hawke-Keating government focused more on macro-economic management and micro-economic reform than bigger government, but it did restore Medibank as Medicare, and institute compulsory employee superannuation.

For once it did pay its bills, achieving big budget surpluses before the onset of the next recession.

By the time John Howard won government in 1996, he'd learnt his lesson and pledged not to touch Medicare. He hated compulsory super – which he saw as giving his union class enemies influence in the halls of capitalism – but didn't dare to dismantle it.

Howard did much to undermine our ultra-low-cost, means-tested welfare state – the main reason our tax level remains among the lowest in the developed world – by introducing middle-class welfare in the form handouts for self-proclaimed self-funded retirees, tax subsidies for private health insurance and greatly increased grants to private schools.

Peter Costello's later mania for tax cuts – from which the budget is still recovering – was explained by his still-unchallenged record as our highest taxing treasurer: 24.2 per cent of GDP in the mid noughties. And Turnbull was left to rein in Costello's unsustainably generous super tax breaks for high-income earners.

Kevin Rudd thought every problem could be fixed by spending a lot more money. For instance, he mortgaged the budget's future by increasing the base rate of the age pension, something Howard wouldn't have dreamt of doing.

It was our good fortune to have a spendthrift like Rudd in charge of the national chequebook when the global financial crisis hit and a generous cash splash was exactly the right response.

In the end, however, it was Julia Gillard who moved government responsibility and spending to a new plane with her cowardly no-losers version of needs-based school funding and the hugely expensive NDIS, not to mention higher pay for female childcare workers.

Be clear on this: most of the costly expansions of government responsibility introduced almost exclusively by Labor involved long overdue recognition that a country as rich as ours need not suffer under a third-rate public sector – private affluence but public squalor.

It's just a pity that the party so willing to bring us decent provision of public goods, so often leaves to the other, "smaller government" party the dirty work of finding ways to pay the bill.
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Saturday, May 13, 2017

Budget gives mild fiscal stimulus to economy

Will Scott Morrison's big-spending, big-taxing, big-borrowing budget impart a big fiscal stimulus to the economy in the coming financial year? Not so much.

Why not? Short answer: because the higher spending is offset by higher taxes – so we get a bigger public sector, but not a big net budgetary stimulus – while most of the increased borrowing for infrastructure is years away.

The longer answer requires a little arithmetic gymnastics, partly because different economists have different ways of measuring the size of the impetus – whether expansionary or contractionary – a new budget imparts to the rest of the economy.

The Reserve Bank has its own shortcut way of assessing the impact of the budget ("fiscal policy") on the economy – which it does as part of its assessment of what it must do with its own "monetary policy" (manipulation of interest rates) to ensure the combined effect of these two "instruments" – which the economic managers use to smooth the strength of demand as the economy moves through the ups and downs of the business cycle – is as it should be.

The Reserve does this because it, not the elected government, accepts ultimate responsibility for stabilising demand. It thus uses its monetary policy as the "swing instrument".

If, for example, the Reserve found that a government was using its budget to stimulate demand at a time when demand was already growing strongly (and thus threatening to increase inflation pressure beyond its 2 to 3 per cent inflation target) it would seek to counter that stimulus by "tightening the stance" of monetary policy (that is, by increasing interest rates).

This is just what was happening under treasurer Peter Costello in the early years of the resources boom before the global financial crisis.

The government's coffers were overflowing with money and it was spending it and giving it back in eight tax cuts in a row – presumably because it believed the boom would last forever – when it should have been saving the excess for lean years to come, and thereby stopping the economy from "overheating".

Meanwhile, the Reserve was trying to counter this "pro-cyclical" fiscal policy – that is, policy that amplifies the business cycle rather than smoothing it – by jacking up interest rates.

It had the official cash rate up at 7 per cent by the time the crisis occurred in September 2008, but then lost little time in slashing the rate to 3 per cent.

This was an extreme reminder that fiscal and monetary policies aren't the only sources of stimulus or contraction bearing on the economy. The other main source is the rest of the world, the "external sector".

For example, a rise in the dollar ("an appreciation of the exchange rate") has a contractionary effect on demand – because it worsens the international price competitiveness of our export and import-competing industries – whereas a fall (depreciation) in the dollar has an expansionary (stimulatory) effect.

Point is, it's usually best for the two "arms" of macro-economic management to be reinforcing each other, by having them adopt similar stances.

This is why, now, while the Reserve has been cutting the official interest rate as low as 1.5 per cent in its effort to stimulate demand, successive governors have appealed to the government to use the budget to give them more help.

This could be done by distinguishing between the budget's deficit on "recurrent" (day-to-day) spending – which the government could continue reducing – while increasing its spending on capital works, thus adding to demand.

The year's budget is a belated response to that appeal.

But back to the Reserve's shorthand way of assessing the stance of fiscal policy. It's to look at the direction and the size of the expected change in the budget balance between the old year and the coming year.

ScoMo is expecting the underlying cash deficit to fall from $37.6 billion in 2016-17 to $29.4 billion in 2017-18, a drop of $8.2 billion.

A decline in the deficit (or, in other circumstances, an increase in a surplus) says the stance of policy is contractionary.

But $8.2 billion is less than 0.5 per cent of the size of the economy – nominal gross domestic product – which is expected to be $1.82 trillion ($1822 billion) in 2017-18, meaning it's barely visible on the economic radar.

The Reserve's shorthand measure doesn't distinguish between the two reasons for a change in the budget balance: cyclical factors (what the economy does to the budget as it moves through the business cycle) and structural factors (what the government's policy decisions do to the budget, and thus to the economy).

The strict Keynesian way of judging the stance of fiscal policy is to ignore the cyclical change and focus on the structural (or "discretionary") change.

(BTW, the budget papers estimate that the structural component of the budget deficit will be equivalent to about 2 per cent of GDP in 2017-18, compared with an overall underlying deficit of 1.6 per cent, implying the cyclical component is now back in surplus.)

If we look at the effect of the discretionary policy changes announced in the budget, but take account of the reversal of the "zombie" measures that had been included in the budget even though they never happened, decisions were made to increase spending in 2017-18 by $1.9 billion, but offset this with increased revenue of $1.7 billion, leaving a net addition to the structural deficit of about $200 million.

To this, however, we need to add the government's additional capital spending – on the national broadband network, the second Sydney airport and Melbourne to Brisbane inland freight railway – totalling about $12.8 billion, which for strange reasons Treasury excludes from the underlying cash deficit.

This takes discretionary policy spending up to about 0.7 per cent of GDP which, by Keynesian lights, makes the budget stimulatory, but only mildly so.
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Wednesday, May 10, 2017

A better, more economic budget

Of the government's four goes so far, this is its best budget. For a budget aimed squarely at improving Malcolm Turnbull's ailing political fortunes, its economics is much better.

At long last it completes the Coalition's 180 degree turn away from its toxic first budget of 2014.

It heeds mainstream economists' advice and abandons the Coalition's misguided professed concern about a "debt and deficit crisis".

It is, however, a lot stronger on principle than practice.

It accepts the repeated urgings of the Reserve Bank, the International Monetary Fund and the Organisation for Economic Co-operation and Development that the government distinguish between borrowing for worthwhile infrastructure – which raises the economy's productivity – and continuing to borrow to cover recurrent deficits long after the downturn has passed.

It abandons the Coalition's smaller government ideology and accepts economists' advice that all successful attempts to return the budget to surplus involve a combination of spending cuts and tax increases.

In short, it's a big spending, big taxing, big borrowing budget.

Smarties may call it "Labor lite" but, in truth, it contains measures Labor wouldn't have dared to take: increasing the Medicare levy, imposing a much bigger tax on the big banks, and standing up to the Catholics schools' demand to continue their special treatment compared with other private and government schools.

Scott Morrison is right to say the budget is a fair and responsible path back to surplus.

It better aligns government policy with the voters' wishes, does a better job of managing the economy and puts the budget on a sounder basis – but all without bringing closer the time when Morrison expects the budget to return to surplus.

In truth, whether his prediction this will happen in 2020-21 proves accurate turns on economic forces beyond his ability to forecast, let alone control.

Without doubt, the budget measure that will do most to increase economic efficiency – not to mention fairness – is the government's belated embrace of needs-based school funding.

Getting funding right is the first step towards raising the poor academic performance of the nation's schools and narrowing the achievement gap between students from advantaged and disadvantaged families.

David Gonski's new inquiry will guide us in the second step: improving what happens in the classroom.

The success of Labor's "Mediscare" at last year's election has prompted the government to abandon its claim that healthcare spending is growing "unsustainably".

It is phasing out its freeze on Medicare rebates to doctors and adding expensive drugs to the pharmaceutical benefits scheme, while searching out efficiencies to slow the rate at which spending is growing.

The budget relies far more on tax increases than spending cuts to offset its higher spending.

The main tax increases are a (delayed) 0.5 percentage point increase in the Medicare levy, a big new tax on big banks and crackdowns on the black economy and multinational tax avoiders.

Little there for voters to object to, especially as the higher Medicare levy will pay for the widely supported but hugely expensive National Disability Insurance Scheme.

All this is marred, however, by a list of bad measures: the Melbourne to Brisbane inland freight railway is a waste of money, the housing affordability package combines minor measures with a counterproductive superannuation saving scheme, the regional growth fund is a National Party pork barrel, it would have been fairer to continue the 2 per cent deficit levy on high income-earners, and the Medicare guarantee fund is an accounting trick.

But you can't have everything – especially not from our flawed political system. This budget is much better than we have come to expect.

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Wednesday, May 3, 2017

How Medicare needs to be improved

It's the time of year when treasurers and finance ministers, asked about the content of the budget, reply with righteous indignation that we'll just have to wait, as though they've been asked to break the official secrets act, while their ministerial colleagues are busily leaking or even announcing large slabs of what's to come.

Why do politicians indulge in this tiresome charade? Because they want to be sure we know about the nice bits, while delaying our knowledge of the nasty bits as long as possible.

They haven't yet leaked much about what lies in store on healthcare, though what we have been told is benign. The government, which in its first budget told us healthcare spending was growing "unsustainably", is adding a lot of hugely expensive new drugs to the pharmaceutical benefits scheme.

And it seems the freeze on the rates of Medicare rebates – including bulk-billing payments to doctors – is to be eased, at a cost of $500 million over several years.

There's sure to be some bad news on health hidden in the budget but, after the success of Labor's scare campaign at last year's election, alleging the Coalition wanted to "privatise" Medicare, it's a safe bet it won't be too terrible. No one got a bigger scare than Malcolm Turnbull.

Voters have always been strongly attached to Medicare – by which they mean not having to shell out when they go to a bulk-billing GP – and Labor was trying to reawaken voters' resentment when, in its first budget, the government proposed a GP co-payment of $7 a pop.

The element of truth in Labor's scare was that, if you froze bulk-billing rebates for too long, GPs would begin to break out and start charging their own co-payments.

That's the political reason the freeze is to be eased. The Turnbull government will never again make controversial changes its opponents could characterise, however wrongly, as "privatising" Medicare.

Most of the things you could do to limit the growth in healthcare spending involve cutting the incomes of doctors, or at least restraining the rate at which they're growing.

So, whenever governments try, the doctors resort to their own scare campaign, telling their patients – the older and more pitiable the better – the government is forcing them to charge, say, $3000 for having their cataracts fixed.

Few people could afford to pay such prices – which is why, in reality, they'd never happen – but that doesn't stop old ladies taking their indignation to a slavering tabloid media or beating down the doors of their local member.

But it's a great pity to have the government running scared of making changes to Medicare. There's a lot of inefficiency in our present arrangements which, if we could reduce it, would slow the rate at which the healthcare bill is growing and so ease the burden on taxpayers, without harming patients.

Indeed, as Dr Stephen Duckett (a real doctor, not a medico), of the Grattan Institute, argues in a new report, Building better Foundations for Primary Care, a more efficient system could give some patients better care by reducing the need for them to go into hospital.

Much has changed since Medicare was first installed in the 1970s. It needs to be brought up to date without weakening its key features.

One thing that's changed is the rising average age of the population, meaning that more doctor visits are about chronic (lasting) conditions – such as diabetes, asthma or heart disease – rather than acute (temporary) problems.

So GPs need to spend more time helping their patients manage their chronic conditions (older patients will often have more than one), which requires longer but (we hope) fewer consultations.

But, as Duckett and his colleagues explain, Medicare's present system of rebated fee-for-service, acts to discourage such better assistance to chronic sufferers.

It gives GPs a financial incentive to increase the number of services provided, but also keep them short.

It would be better to pay GPs a (higher) fee for successfully managing a patient's chronic condition. But that's well down the track. First things first.

"Primary care" is the medicos' term for a patient's first point of contact with the healthcare system. It could be a hospital emergency ward or an "allied health service", but mainly it's GPs.

Health experts have long known that the key to an efficient and effective health care system is to get primary care working well. GPs get paid a lot less than specialists, but they're probably more important to ensuring good patient care.

Our primary care doesn't work well enough to be called a "system", mainly because of squabbling between federal and state governments and the absence of clear lines of responsibility.

Duckett says we need a primary care agreement between the two levels of government and the primary health networks, which should be given more resources, responsibility and accountability.

But first we need much more information about what happens in general practice, so sensible targets can be set for improved performance.

Since almost all GPs use a computer program when seeing patients, such (de-identified) information could be supplied with little additional effort or cost.

If the government is about to ease the screws on GPs' incomes to the tune of half a billion dollars, it should make this conditional on them providing the information needed.
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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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