For better housing affordability, try the premier, not the PM

People have been complaining about the unaffordability of houses for as long as I’ve been a journalist. In all that time, governments have professed great concern, while doing nothing of consequence. But I suspect their insouciance can’t last much longer.

Over the years, the prices of houses and apartments have risen much faster that household incomes have risen, gradually lowering the proportion of Australians able to afford a home of their own.

So the problem keeps getting worse and, with interest rates having risen so far so fast, as well as renters now feeling so much pain, it wouldn’t surprise me if, in coming federal and state elections, many younger voters – and some of their parents – were really steamed up about the issue.

If so, both Labor and the Liberals will be vulnerable to minor parties offering solutions – sensible or otherwise. But what could the major parties do to reduce the problem?

Well, nothing that some people wouldn’t vigorously object to. That’s why the political duopoly has done so little for so long.

The unending rise in house prices has been caused by various factors – some under the control of the federal government, some controlled by the states.

If prices keep rising, this suggests that demand is outstripping supply. In general, the feds have more direct influence over the demand for housing, whereas the states have more direct influence over the supply of them.

It’s wrong to assume that all the problems are coming from either the demand side or the supply side. But, of late, economists have been focusing on the supply side, which points the finger at state governments.

At first blush, if house prices are high and rising, this suggests not enough houses are being built. That’s probably true at present, with immigrants coming faster than we’re building new dwellings for them to live in.

But, over the decades, supply has eventually caught up with demand, so that doesn’t explain why prices have been rising for ages.

And, if it was just a matter of building enough houses to accommodate the growing population, cities would just keep spreading out for ever. That would be expensive – with all the extra transport and infrastructure you’d have to build – and not everyone wants to live that far out from the CBD.

So, the real supply issue is not that we should be building enough houses, it’s building enough housing where people want to live. And the truth is that many people want to live closer in.

As the NSW Productivity Commission explains in a new report, state planning systems make it “difficult to build enough new homes where people want to live – close to jobs, transport, schools and other amenities”.

“Instead, the system encourages urban sprawl, forcing people into longer and longer commutes. These policies increase inequality, especially for low and middle-income workers.”

Guess what happens if governments don’t allow enough homes to be built where people want to live? The prices of homes in, or nearer to, the most desirable areas get bid up relative to prices out in the boondocks, forcing up the median price.

As Australia’s population has grown so rapidly over the decades, the populations of Sydney, Melbourne and the other state capitals have increased greatly, but done so mainly by spreading out.

This has made housing more expensive, as people have had to pay more to live in the closer-in, more desirable parts of the city. Inevitably, it’s the better-off who get the best spots and the less well-paid who have to live further out, where the amenity is less.

Everyone’s paying more for their housing, but the well-off pay a smaller proportion of their income than those in the middle and at the bottom. This pushes families to compromise on where they live – further from family, friends and jobs.

The NSW Productivity Commission report says poor housing affordability brings four disadvantages to individual families and the community. It leaves families with less to spend on other things. It reduces the productivity of the nation’s labour because so many people who want to work can’t afford to live near their best employment prospects.

It adds to environmental damage because more workers live further from city centres and endure long, polluting commutes to their jobs.

And it reduces people’s quality of life because so much of our cities’ populations end up too far from the beach, sports arenas, big entertainment venues and other amenities.

So, what can state governments do to reduce these costs and make our lives better?

We should build more new homes in areas closer to the city’s centre. “These areas offer both the richest collection of job opportunities, and a supply of already-built infrastructure and other amenities whose capacity can be leveraged and expanded,” the report says.

What we need to do is build up, not out, and achieve more “infill” of unused or underutilised land close in.

Specifically, the report says, we need three changes. First, raise average apartment heights in suburbs close to the CBD (and to job opportunities).

Second, allow more development around transport hubs, such as train stations, and take advantage of our existing infrastructure capacity.

And third, encourage more townhouses and other medium-density development, and allow more dual-occupancy uses such as granny flats, where higher density is not an option.

The report argues that, even if the new supply of homes targets the high end of town, building more housing closer to the CBD, “downward filtering” means affordability improves everywhere.

The new, more expensive homes near the centre will be occupied by high-income families. But they will leave behind high-quality homes that middle-income families can move to, leaving their homes to be occupied by lower-income families.

NSW Productivity Commissioner Peter Achterstraat says that “if you believe, as I do, that today’s kids deserve the same shot at the Australian dream that my generation had, we need to change our planning system and build near existing infrastructure to make room for them”.

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It's no wonder the young hate Boomers like me

As I get older, more parts of my body are giving me gyp and I spend more of my life seeing doctors, but the people I don’t envy are the young. They may be fit and keen, but everywhere they look they see problems.

The big advantage of capitalism is supposed to be that it makes each generation better off than the last. But that’s breaking down before our eyes. The really harmful problem we’re leaving them is climate change, of course, but there’s much more than that.

They’re better educated than ever but, for many, it doesn’t seem to get them a secure, decently paid job. Even so, they leave education owing big debts to the government.

But, coming well behind climate change, the biggest disservice the older generation has done to them is to let the price of a home keep reaching for the sky.

We’re now at the point where each successive age group contains an ever-lower proportion of people who’ve managed to buy the home they live in.

In contrast, the aged have never had it better. The only thing they have to fear – and the young have to look forward to – is still needing to rent privately in retirement.

We’ve turned housing into Lotto. If you manage to win, they shower you in wealth. If you don’t win, you get screwed. Renters have few rights because, as we all know, it’s just a temporary state for the young.

And then the Baby Boomers (like me) wonder why the young seem to hate them. It’s not true that all Baby Boomers are rolling in it. Some of them don’t even own their own home. But most of them (like me) were able to buy early in their lives, when first homes were affordable. Since then, they’ve just sat back in delighted amazement as their wealth has multiplied.

Of course, if there’s anything wrong with the way the world’s run, it wasn’t anything I did, it was those terrible pollies. Yeah, nah.

Since older home owners have always far out-numbered the young would-be home owners, the politicians have always run the housing game to favour those who love seeing property prices rise – and, now you mention it, wouldn’t mind buying another house as an investment.

At present, it’s easy to conclude the big problem with housing affordability is rising interest rates and so blame it all on the Reserve Bank boss Dr Philip Lowe. But, as I’ve written elsewhere, although it’s reasonable to ask whether putting interest rates up and down is a sensible and fair way to manage the economy, that’s a separate issue.

Home loans take two to tango: how much you have to borrow and the interest rate on the loan. The interest rate cycles up and down around a relatively stable average, whereas the amount you need to borrow has gone up and up, decade after decade.

True, house prices are falling at present, but this is just returning them to where they were before they took off during the pandemic. It’s a safe bet that, once they’ve finished falling, they’ll resume their upward climb.

This is why oldies are wrong to scoff at young people complaining about mortgage interest rates of 5 per cent. “In my day, I had to pay 17 per cent!” Yes, you did – for a year or so in the early 1990s, when the amount you had to borrow was much less.

What’s true is that, right now, it’s mainly younger people who borrowed huge sums in the past few years who’re really feeling the pain.

But the real question is why house prices have risen so far for so long. They’ve risen much faster than incomes. The Grattan Institute calculates that whereas typical house prices used to be about four times incomes, now they’re more than eight times – and even more in Melbourne and Sydney.

But why? Not because of anything the Reserve Bank has done. Nor so much because we’ve failed to build enough additional houses and units to accommodate the growth in the population.

More because our tax and social security rules have made home ownership a highly attractive, government-favoured form of investment, not just a place you can call your own and not be chucked out of as long you keep up the payments. People who buy investment properties out-compete would-be first home owners, bidding up the price.

But also because there’s more competition to buy homes in particularly desirable areas. Spots near the beach or the river, for instance, but also places near where the jobs are.

People have been crowding into the big cities, trying to get close to the CBD with all its well-paid office jobs, but the older home owners fight hard to discourage governments from making room for younger newcomers. “It’s so ugly.”

And the bank of mum and dad (yes, I’ve done it) is helping prices stay high, while widening the divide between those young people with well-placed parents and those without.

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The knowledge economy is behind the soaring price of land

Over the two centuries and more that people have made a serious study of how the economy works, economists have fallen in and out of love with land. At first, they thought it was at the centre of everything, then they decided it wasn’t terribly important. But the wheel may be turning again. In a major speech last month, the Grattan Institute’s Brendan Coates criticised his profession for its “longstanding intellectual neglect of the economics of land”.

You don’t have to think about housing affordability for long to realise it is not actually the high cost of building a house that’s the problem, it’s the high cost of the land it’s built on.

But why is the cost of land rising much faster than the economy is growing? And why don’t economists take more interest in why this is happening and what we could do about it?

Coates began the annual Henry George Lecture by summarising the history of economists’ waxing and waning interest in land as a resource used to produce goods and services.

The first economists – the Physiocrats – thought of almost nothing other than land, he says. Land was fundamental: agricultural labourers were the source of economic growth, while landlords simply commandeered what the workers produced and flowed it through to the rest of the economy.

The next generation of economists, the “classical” economists of the 18th century, broadened their focus to studying the complex interaction of three “factors of production”: land, labour and (physical) capital.

Adam Smith, a Scotsman known as the father of economics, argued that the “division of labour” – workers specialising in different occupations – and technological innovation were what drove economic growth. But land was still central.

David Ricardo, an English member of parliament, argued that landlords were simply the lucky beneficiaries of land’s natural scarcity (any country has only a fixed amount of it) and its productive capacity, to produce food and fibre and even valuable energy and minerals, Coates says.

And Henry George, the last great classical economist, argued that the rental income enjoyed by landlords must be socialised by taxing the unimproved value of all privately owned land.

Do that, and you wouldn’t need any other taxes. George campaigned hard, but never persuaded any government to follow his advice.

Coates says we “would have done well – possibly much better than we have done – if we’d heeded the lessons of Henry George and paid more attention to the economics of land”.

But in the 19th century the classical economists were replaced by the neo-classical economists, who were a lot less interested in land. And in 1956, the great American economist Robert Solow developed a theory of economic growth, which held that it was improvements in the efficiency with which labour and physical capital (machines and buildings) were combined that drove our standard of living.

The role of land in production - and in inequality - disappeared from the theories economists devised to explain the world, Coates says. Instead, land was treated as just another form of physical capital.

Coates says that “the shifting focus on land in the history of economic thought reflects the changing nature of the economies that economists were trying to explain”.

The Physiocrats observed a world dominated by agriculture. It was obvious that the ownership and use of land determined what got produced, in what quantities. And who got what.

The classical economists watched this world transition through the Industrial Revolution, and the neo-classical economists developed theories for a world that had made that transition.

Economic power started to gravitate towards those who owned capital (whether physical or financial) and away from those who owned land. Agricultural production made way for industrial production.

For most of the 20th century, the neglect of land was of little consequence. More important was the amount of capital invested (to make labour more productive) and the pace of innovation (ditto).

“But as the advanced economies of the world have transitioned again – from manufacturing to services – land is back,” Coates says. Economies powered by intangible capital – how much you know; how much information you can gather – strive or stagnate on the ability of individuals to come together and combine their knowledge and skills.

As any real estate agent will tell you, it’s about “location, location, location”. In Australia, it’s the Grattan Institute that’s done most to help us see that, these days, it’s big cities that drive the economy.

Eighty per cent of the value of all goods and services produced in Australia is generated on just 0.2 per cent of our land. Economic activity is concentrated in CBDs, with the Sydney and Melbourne CBDs accounting for 10 per cent of all economic activity in Australia – more than three times the contribution of agriculture.

This concentration reflects the rise in knowledge-intensive services, clustered together at the hearts of our major cities. The willingness of businesses to pay high rents to locate in the CBDs of our big cities shows the value they gain from access to high-skilled workers and proximity to suppliers, customers and partners.

Similarly, the willingness of workers to pay much higher prices for homes located close to those employment centres shows they, too, see value in being crammed in. Our experience of working from home during the pandemic has changed this a bit – three days in the office rather than five – but not a lot.

All this helps explain why house prices have risen about five times faster than average full-time earnings over the past 25 years. And it means the price of land is a much bigger factor in the economy than it used to be.

It’s leaving existing home owners seemingly much better off, but aspiring home owners much worse off. It’s the product of a clash between the rise of the knowledge economy and our longstanding attitudes towards the taxing and regulation of land.

It should not be beyond the wit of economists to come up with a better approach.

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What the economy really needs more of: trees

I think the first economist must have been named Horatio. He’s the one who had to be reminded there were more things in heaven and earth than dreamt of in his model.

I try to keep my horizons wide by regularly consulting my second-favourite website, The Conversation (with academics who know a lot of interesting things about a lot of topics), to which I’m indebted for most of what follows.

We’re meant to know all about photosynthesis, but did you realise it means that, “with a bit of sun, a tree uses the natural miracle of photosynthesis to combine a little water with carbon dioxide from the air to produce the building blocks for its own growth, as well as oxygen,” according to Associate Professor Cris Brack, of forest measurement and management at the Australian National University?

So, to oversimplify a little, we breathe in oxygen and breathe out carbon dioxide, whereas trees breathe in carbon dioxide and breathe out oxygen – making them useful things to have around when we have a problem with excess carbon emissions.

But trees do far more for us than help with our greenhouse problem. For a start, they cheer us up. Academics at the universities of Melbourne and Tasmania examined 2.2 million messages on Twitter and found that tweets made from parks contained more positive content - and less negativity - than tweets coming from built-up areas.

Why are people in parks likely to be happier? Because parks help them to recover from the stress and mental strain of living in cities, and provide a place to exercise, meet other people or attend special events.

The world is becoming more urbanised. There’s now more than half the world’s population living in cities. In Australia, two-thirds of us live in capital cities and nine out of 10 of us live in urban environments.

There are sound economic reasons why so many of us are piling into big cities, but it seems there are also health and social problems. According to the experts, cities are becoming the epicentres for chronic, non-communicable physical and mental health conditions.

But there’s growing recognition of the crucial role of urban green spaces in helping reduce these health problems. More than 40 years of research shows that experiences of nature are linked to a remarkable breadth of positive health outcomes, including improved physical health (such as reduced blood pressure and allergies, less death from cardio-vascular disease, and improved self-perceived general health), improved mental wellbeing (such as reduced stress and better restoration), greater social wellbeing and promotion of positive health behaviours (such as physical activity).

Our cities are getting hotter, more crowded and noisier, while climate change is bringing more heatwaves, according to environmental planners at Griffith University. The obvious answer is more air-conditioning, but this brings more carbon emissions, so a better answer is more infrastructure – “green infrastructure”, otherwise known as street trees, green roofs, vegetated surfaces and green walls. In reality, however, vegetation cover in cities is declining, not increasing.

Planting trees in parks, gardens or streets has many benefits, helping to cool cities, slowing stormwater run-off, filtering air pollution, providing habitat for some animals, making people happier and encouraging walking.

According to those environmental planners, shading from strategically placed street trees can lower surrounding temperatures by up to 6 degrees – or up to 20 degrees over roads. Green roofs and walls can naturally cool buildings, substantially lowering demand for air-conditioning.

By contrast, hard surfaces – including concrete, asphalt and stone – increase urban temperature by absorbing heat and radiating it back into the air.

But though scientists have much evidence that trees and other greenery improve our mood and health, they know less about the actual mechanisms by which this occurs. Japanese research, however, suggests that when we walk through bushland we breathe in three substances: beneficial bacteria, plant-derived essential oils and negatively-charged ions.

We live our lives surrounded by beneficial bacteria, breathing them in and sharing our bodies with them. Gut-dwelling bacteria break down the food we can’t digest and produce substances that benefit us physically and mentally.

Plants and the bacteria living on them produce essential oils that fight off harmful micro-organisms when we ingest them.

And despite the nonsense talked about negative-ion generating machines, there’s evidence that negative air ions may influence our mental outlook in beneficial ways.

This may sound very new and scientific to some (or pseudo-scientific to others) but, as Hugh Mackay observes in his latest book, Australia Reimagined, being connected to nature is a traditional source of relief from anxiety: gardening, bushwalking, strolling in a park, walking the dog, climbing a tree, swimming in the sea or sailing on it, picnicking in a tranquil and beautiful setting, playing games that take you outdoors and into a natural environment.

We know instinctively that “grass time” – running on it, rolling in it, throwing and catching a ball across it – is vital for the health and wellbeing of children. Particularly if they’ve been cooped up indoors, glued to a screen. But adults are no different, the wise man says.

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Economic rationalists regroup under populist attack

Reading the Productivity Commission's grand plan to "shift the dial" on micro-economic reform gives me a feeling of deja vu all over again.

When I started in this business in the mid-1970s, macro-economics had become a pitched battle between Keynesians and monetarists. It took years for a resolution of that conflict to emerge.

The monetarists didn't win the war, but they did win a lot of battles, and management of the macro economy was changed forever.

Today's great conflict in economics comes in the aftermath of the global financial crisis, as politicians in all the advanced economies abandon the "neoliberal consensus" under pressure from the populist revolt against privatisation, deregulation, austerity and all the rest.

You could say the global rethink of economics began immediately after the crisis, but it's just in the Productivity Commission's latest report proposing a "new policy model" for future change that we see our local "thought leaders" among economic rationalists shifting to an agenda that responds to the criticism of the old approach and proposes a new set of reforms aimed at improving productivity while giving voters far less cause to object.

Why so few commentators have perceived the significance of this "dial shift" is hard to fathom.

Read the report and it sticks out like organ stops. For some years since the crisis, the bosses of the International Monetary Fund, the Organisation for Economic Co-operation and Development, and even the Bank of England have said we need economic growth to be more "inclusive".

Now the Productivity Commission agrees and has reshaped its reform agenda accordingly.

The old agenda accepted the conventional wisdom that economic efficiency and equity (fairness) were in conflict. Since the crisis, however, economists at the fund and the OECD have been producing evidence that increasing inequality inhibits economic growth.

Now our commission agrees, arguing that its proposed shift in the reform dial will avoid "too great a dispersion in incomes, given evidence that this can, in its own right, adversely affect productivity growth".

In shifting reform priorities from changing tax incentives, moving the balance of wage-setting power in favour of employers, deregulating and privatising, to reforming healthcare, education and cities, the commission is attempting to humanise reform.

In setting its main priorities as improving the quality of services delivered to patients, students and commuters, the commission has made ordinary punters the main beneficiaries. What's that if it's not more "inclusive"?

Low and middle-income earners would be the chief winners because the better-off are better able to buy their way out of bad medical treatment, bad teaching and long commutes.

And get this: more efficient and effective healthcare, teaching and cities bring intrinsic benefits to the lives of ordinary people, whether or not they ever "shift the dial" of the measures of productivity that the commission takes so literally (which they quite possibly won't).

The commission's "new policy model" is far better fitted to an economy ever-more oriented to the services sector, and to an economy where the value of knowledge becomes more apparent as each year passes.

What seems to have bamboozled the commentators is the notion that nothing on the commission's new reform agenda is particularly new.

True, but silly. In economics, there's not much that's new under the sun. Sure economists have been rabbiting on for years about the need to reform healthcare and education and – much more recently – "urban economics".

What's new is not the topics but the priority and emphasis they've been given. What's new is sorting through a list of old potential reform topics to find those that tick the efficiency box and the fairness box.

Another uncomprehending reaction has been that many of the specific reforms the commission advocates – road-use charging, for instance – would be politically difficult, and most unlikely to be taken up by the Turnbull government.

True, but beside the point. What's significant is the radical change in thinking about the nature and direction of economic reform, not how long it will take for those reforms to be made.

I've been around long enough to see plenty of politically impossible reforms come to pass.

A more perceptive critique of the "new policy model" is that it takes us straight into territory where the states have as much say as the feds, if not more. No easy country.

And while it's true ordinary voters have much to gain from the new agenda, it's equally true that vested interests in the health, education and city industries have much to lose.

One further lesson from economic rationalism's poor record in recent times is that if you're not game to take on powerful rent-seekers, you won't get far.

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Report heralds big change in economic reform priorities

Government reports come and go with great rapidity. Some are acted on, most are quickly pigeonholed. Last week Scott Morrison tabled a report from the Productivity Commission called Shifting the Dial, but it was soon lost amid all the excitement about raids on a union and politicians being thrown out of their jobs.

Despite this inauspicious beginning, let me make a fearless prediction: when the history of the economy in the early decades of the 21st century is written, this report will get prominence.

Why? Not because this government or the next will rush out to implement its recommendations, but because it will be seen as a turning point in the thinking of the nation's economic advisers.

The populist revolt against the doctrines of "neoliberalism" – or economic rationalism, as we've called it in Australia – has been apparent for most of this year. It's been apparent since the middle of the year that the long-running bipartisan consensus in support of neoliberalism in the advanced economies has collapsed.

But where to now? The economy and its apparatus are far from perfect and there's always something that needs working on. The econocrats need something to be working on to justify their existence, so what are they to do now that so many citizens are jack of deregulation and privatisation?

Well, now we know. Ostensibly, the commission's report is just the first of many five-yearly reports on ways to improve the economy's "productivity" – its ability to increase its outputs of goods and services faster than the increase in its inputs of land, labour and capital – the magic that's made us so much richer than our great-grandparents.

The Productivity Commission, would you believe, is preoccupied with productivity. Same old, same old.

Don't be deceived. The commission – formerly a leader of the economic rationalist charge – has taken the initiative in proposing an agenda for economic improvement that's quite different to what we've had so far.

Its new agenda attempts to restore public support for economic "reform" (a word it tries to avoid) by responding to popular criticism of the push that, while well-intentioned and necessary when it originated in the Hawke-Keating years, has since seemed to degenerate into "bizonomics" – what's good for big business is good for the rest of us.

Gone is the unending obsession with tax reform (cutting the rates of tax on companies and high-earning individuals) and industrial relations (cutting penalty rates and shifting bargaining power in favour of employers).

In their place, the commission focuses on three big issues: healthcare, education and cities.

On health, it argues there needs to be more emphasis on preventing and managing the growing incidence of chronic illnesses, such as diabetes. This may involve less reliance on paying doctors according to fee-for-service.

The health system – state-run public hospitals in one box, most doctors in another and pharmaceuticals in a third – needs to be better integrated so as to make it more centred on the needs of patients rather than the suppliers of health care.

This greater co-ordination should happen at the local level.

On education, too many students are being let down at every level.

The commission finds that school results are deteriorating, vocational education and training is "a mess" and universities are more concerned with publishing research papers than improving teaching standards.

As for cities, they produce a growing portion of our gross domestic product – about 80 per cent, with Sydney and Melbourne accounting for half of that.

By the time we reach 2050, almost 11 million extra people will be squeezed into our capital cities, according to Morrison.

The social costs of congestion in our capital cities will grow from almost $19 billion a year in 2015 to more than $31 billion a year by 2030, we're told.

See how different all this is to the economic reform talk we're used to?

It's shifted the focus from business to the "non-market economy" run mainly by government bodies. It's less concerned with mining, farming and manufacturing, and more with the services sector.

Its approach to reform is bottom-up – concentrate on the needs of patients and students, on getting to work – not trickle down.

Putting it another way, it's people-friendly, not business-friendly.

The three issues are two-sided: they directly affect the wellbeing of individuals, but also the nation's productivity, as a healthier, better-skilled workforce gets to work more easily.

This means the "reform agenda" ought to be a lot more relevant and appealing to ordinary voters. It also means it can be pursued by either side of politics.

One of the great objections to the old agenda was fear that it benefited the better-off at the expense of the rest of us.

Rest easy – the commission has got the message.

"A key issue will be to ensure that future economic, social and environmental policies sustain inclusive [note that word]growth – by no means guaranteed given current policy settings, and prospective technological and labour market pressures ...

"One of the advantages of better healthcare, education systems and cities is that they provide strong prospects for improving lifetime outcomes for people from all backgrounds.

"Indeed, improvements in these areas have the potential to decrease health inequalities, and reduce job insecurity and wage risks for those whose skills are at most risk from technological change," the commission concludes.

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Lure of globalisation battles our instinctive tribalism

What has caused the rise in populism that's threatening the mainstream political parties around the developed world, including here?

Economists tend to explain it essentially in economic terms – the bottom has been given a rough deal for years, and finally is rising up – but other scholars see it much more in social and cultural terms: people objecting to being overrun by incomers. Immigrants, asylum seekers, Mexicans, Muslims, Asians.

In his new book for the Lowy Institute, Choosing Openness, Parliament's most accomplished economist, Dr Andrew Leigh, also Labor's shadow assistant treasurer, readily acknowledges the role of xenophobia in explaining why "openness makes us uncomfortable".

He sees our fear of foreigners as part of our evolutionary make-up, and I don't doubt he's right.

Drawing on the work of British anthropologist Robin Dunbar, he argues that "for most of history, humans lived in groups of about 150 people" – a figure known as "Dunbar's number".

Such groups were big enough for some specialisation, but small enough for everyone to know and trust everyone else. People were born, mated, hunted and died within their small community.

"In this environment, there were two kinds of people: those in your tribe and those not in your tribe," Leigh says.

"It made sense to take care of your tribal members. You shared a lifelong relationship with them. Thanks to inbreeding, the rest of the tribe probably looked a lot like you and you certainly all dressed alike.

"Conversely, outsiders were likely to look a bit different and were probably dangerous. While some groups traded, killing was extremely common."

One in seven people in these kinds of societies met their end as a result of violence by another person, he says.

For about 99 per cent of the time that homo sapiens have been on the planet, most of us have lived in small groups. As a species, that is what we evolved to do.

"Each of us is here today because our primitive ancestors were skilled at either fighting outsiders or avoiding conflict. The rule that 'different equals dangerous' kept our forebears alive."

But while hunkering down in the face of difference might have been a useful evolutionary strategy in the past, the growth of cities changed the equation, Leigh argues.

Cities are bound together by not by familial relationships, but by rules and norms of acceptable behaviour.

For hundreds of years, the most productive cities have been those that welcome visitors. In a primitive tribe, a dislike of difference can keep you alive. In a city, it's likely to just make you poorer.

"In this sense, a distrust of diversity is a bit like wisdom teeth – an evolutionary vestige that once helped us grind up plants, but now are more likely to take us on a trip to the dentist's chair."

Today's backlash against openness, Leigh argues, shows how humans' natural discomfort with difference can be exploited for political gain.

In a seminal study of the politics of hatred, the Harvard authority on urban economics Edward Glaeser noted that the key to building a powerful coalition around hate is to focus voters' anger on an "out group" that is sufficiently large to be taken seriously as a threat, but too small to be electorally decisive.

Remind you of any redheads you know?

So Leigh says that populism – the idea that politics is a conflict between the pure mass of people and a small vile elite – is the product of four main forces.

First, slow growth in living standards when the proceeds of economic growth haven't been shared.

"In societies where prosperity is broadly shared, a cosmopolitan outlook steadily replaces traditional values of religion, deference to authority, and an exclusive focus on the security of our family and tribe," he says.

Second, populism is fostered by the pace at which society and technology are changing. Voters may turn to extreme politics as a way of saying "Stop the world – I want to get off."

Third, populism has benefited from canny political entrepreneurs – Duterte, Erdogan, Trump – able to generate massive free media coverage by attacking rivals and breaking taboos.

Fourth, populism has grown because of a loss of faith in mainstream centrist parties. (Their ever-declining standards of behaviour would have nothing to do with this, of course.)

In the late 1960s, seven out of 10 Australians said they always voted for the same party. Today, the share of party loyalists is down to four in 10.

Seems to me that, though much of the problem is manifest in fear of foreigners, the best way to strengthen cosmopolitan values is to ensure the benefits of globalisation and technological change are shared more fairly.

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Have a touchy-feely holiday break from the economic grind

I hope your "face time" with family and friends over the holiday break wasn't done using a mobile phone.

A phone call may be better than nothing, but it turns out that regular, in-the-flesh, face-to-face communication reduces the risk of depression in older adults.

That's according to research by Alan Teo, a psychiatrist at the Oregon Health and Sciences University, and others.

"Meeting friends and family face-to-face is strong preventive medicine for depression. Think of it like taking your vitamins, and make sure you get a regular dose of it," Teo advised.

Thanks to my own painstaking research (I googled it), I can tell you we know from previous studies that having social support and staying connected with people is good for your physical and mental health. It even helps you live longer.

Teo and his mates examined the results of a survey of about 11,000 people aged 50 or more between 2004 and 2010.

They found a correlation between the types of interactions people had with others and their likelihood of showing symptoms of depression two years later.

"We found that all forms of socialisation aren't equal. Phone calls and digital communication with friends or family members do not have the same power as face-to-face social interactions in helping to stave off depression," Teo said.

But what, pray tell, has this to do with the economics I'm paid to write about?

Well, in the silly season it doesn't have to. But as it happens, it does. One of the most important discoveries of economists in the past decade or so is the almost magical economic properties of face-to-face contact.

For this new knowledge we're indebted mainly to the guru of urban economics, professor Edward Glaeser, of Harvard, as set out in his important 2011 book, Triumph of the City.

Economic geographers have long understood the significance of "economies of agglomeration". We crowd into ever-bigger cities because close proximity between a business, its workers, its customers, its suppliers and even its competitors does wonders to improve productivity.

Unfortunately, what's good for our material standard of living isn't necessarily good for the soul.

Glaeser's contribution was to realise that, in the era of the knowledge economy, firms want to crowd together in the very centre of the biggest cities – regardless of sky-high rents – because knowledge spreads most effectively though face-to-face contact between the smartest people.

Here in Oz, pioneering empirical work by Jane-Frances Kelly of the Grattan Institute, has shown how more and more of our gross domestic product is being generated in the CBDs of our four biggest cities.

While she was at it, she publicised Reserve Bank research showing convincingly that, in every capital city, house prices are rising fastest in those suburbs closest to centre and slowest in those suburbs furthest out.

So if you think the golden rule of real estate is position, position, position, you're behind the curve. In big cities these days its proximity, proximity proximity. And that gets back to the economic value of face-to-face contact.

Unfortunately, however, what's good for our material standard of living isn't necessarily good for the soul.

When we're crammed in together in trains, lifts or waiting rooms, we know almost instinctively to avoid invading people's "personal space", avoid conversation and even eye contact.

But research by Nicholas Epley, of the University of Chicago's Booth School of Business, and Juliana Schroeder, of the University of California, Berkeley's Haas School of Business, shows our instincts are wrong.

In a series of experiments, those commuters who were instructed to strike up conversation with a stranger reported having the most positive experience, compared with those instructed to sit in silence or behave as they usually would.

When it comes to the advent of the knowledge economy, the information revolution and digital disruption, there are two errors we can make: underestimating the extent to which it's already changing the way the economy works (see above), and overestimating the extent to which it's changing the way humans work – and are happiest working.

You can be sure the world's model-bound economists will make – are making – the first error. And since their model copes with human nature only by assumption, they won't even be conscious of the second.

For the rest of us, however, the thing is to remember new technology raises three distinct questions: first, what new tricks is it actually capable of doing for us, second, do we really want it to do that trick for us and, finally, assuming we do, what will we eventually feel about the wisdom of that choice? See intro.

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Brave minister wants us to think about road user charges

If you're searching for a politician with courage, smarts and foresight, meet Paul Fletcher, Malcolm Turnbull's Urban Infrastructure Minister. He's so unlike your typical gutless pollie he reminds me of Paul Keating.

Fletcher gave a speech last month in which he raised issues from which most politicians would run a kilometre. He thinks heavy vehicles – trucks weighing more than 4.5 tonnes – should pay road-use charges that more accurately reflect the huge damage they do to our roads. That's brave.

But he thinks ordinary drivers should also be paying a road-user charge. That's not brave, it's outrageous.

Fletcher, however, has his own arguments to persuade us it's really quite sensible.

He says he's worried about how the federal government will be able to maintain its contribution to building and maintaining the nation's roads when the move to more efficient cars causes its revenue from fuel excise to fall away.

He reminds us that, whatever the price of petrol, it's almost 40¢ a litre higher than it needs to be, thanks to the federal government's fuel excise.

This means, of course, that how much tax you pay is partly a function of your vehicle's fuel efficiency. So someone driving a 12-year-old Holden Commodore pays 4.5¢ a kilometre, whereas someone in a six-year-old Renault Megane pays 3.5¢.

But get this: someone with a late-model Toyota Prius hybrid pays just 1.5¢ a kilometre and someone who's paid $125,000 for one of the new all-electric Teslas pays exactly … nothing.

See the problem? As we all do the right thing and move to more environmentally friendly driving, the government's excise revenue will be going down, not up.

Today, electric vehicles make up only about half a per cent of our vehicles, but projections put that up to 30 per cent within 20 years.

Then how will we pay for our roads?

Fletcher's answer is that we need to move to funding them more directly by a user charge – say, one based on the number of kilometres you drive.

He stresses this isn't an argument for motorists to pay more. They already pay a lot more than federal excise to drive their cars, including state rego fees and stamp duty.

Indeed, if you pull together all the taxes and charges we pay that are in any way associated with cars and trucks – including under GST and the fringe benefits tax – you can get to a total of about $30 billion a year, of which fuel excise accounts for only about a third.

This compares with total spending on building, maintaining and operating roads – federal, state and local – of about $25 billion a year.

So Fletcher's idea is to rationalise this mish-mash of taxes and charges and replace them with a road-user charge that would be much more visible.

But this is where he reminds me of Keating, who often used wrong but more appealing arguments to persuade us to accept needed but unpleasant measures.

Fletcher has picked up a long-standing piece of motoring organisation propaganda – that every cent of tax paid by motorists should go back into roads – and given it the status of a self-evident fiscal truth.

The truth is there's never been any link – legal or informal – between the taxes and charges on petrol and cars, and the amount governments spend on roads.

Nor should there be. Governments have to pay for 101 services we demand of them apart from roads. So they have to raise a lot of revenue, which they do by taxing a wide range of activities and things, not just one or two.

What they tax tends to be what we're used to them taxing, since we have such knee-jerk opposition to anything we can condemn as a "new tax".

The feds' spending on roads is equivalent to only about two-thirds of what they raise from fuel excise. So should excise receipts decline in the future, this will be a problem for the whole budget, not for road spending in particular.

Fletcher is right to think that user charges would be an improvement because their greater visibility would encourage us to be more economical in our use of roads.

That's particularly true of heavy vehicles, because it's they that do most of the damage to our roads. We don't want goods being moved interstate by road rather than rail because we're charging semi-trailers and B-doubles only a fraction of the cost of the damage they do.

But if the rest of us had to pay a user charge whose purpose was to cover all the remaining costs of roads and to replace all the other taxes and charges, that might be neater and more visible, but it would be a lost opportunity to help us reduce a different, fast-growing cost for city motorists: congestion.

The cost of congestion is the cost I impose on other motorists by driving my car at the same time they do.

And the way to reduce it – as well as the spending needed for new motorways and even public transport – is to replace some of the tax we pay with a user charge that varies by location, time of day and distance travelled.

As Fletcher says, there's a lot more thinking to be done about how we pay for roads.

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More to infrastructure than just spending more

Everyone knows our federal and state governments haven't been spending nearly as much as they should on public infrastructure. But, sorry, the full story isn't nearly that simple.

Adequate and well-functioning infrastructure has an important role to play in the efficiency of the economy by raising the productivity (productiveness) of our labour.

According to figures quoted by Adrian Hart, of BIS Shrapnel, we went through much of the 1980s and '90s with little increase in annual federal and state spending on infrastructure. This, no doubt, is how we got it into our heads that we have a huge "backlog" of investment in infrastructure.

Over the noughties, however, annual spending just about doubled, reaching a peak of $76 billion in 2009-10. So don't think we haven't been spending a lot – we have.

Since then, however, annual spending has actually fallen in real terms. By 12 per cent to 2013-14 and, according to Hart's estimates, by another 10 per cent in 2014-15.

Now, the macro-economic commentators are right when they say this is crazy at a time when the mining construction boom is coming to an end and leaving a vacuum in the heavy engineering construction industry and the long-term interest rates paid by governments are at record lows.

But this is where the story gets interesting. As the Productivity Commission says in a recent report, "not all public infrastructure supports productivity and generates economic growth and wellbeing". Poorly selected projects may actually make things worse.

As the Grattan Institute put it more bluntly, "the capacity to waste money is a serious risk for infrastructure, given the very large amounts of money involved".

Get it? If we take the attitude that more is always better, and more is never enough, the pollies will happily spend more of our money, but much of it will be wasted.

So just as important as making sure our infrastructure spending is adequate is making sure what we do spend is spent wisely. But how?

First point, at a time when budgets are tight, governments face a temptation to underspend on maintenance. This can shorten the useful life of existing infrastructure, bringing forward the need to spend a fortune building a new one.

The trouble here is that maintenance spending is politically invisible, whereas opening a new facility offers visible, concrete proof of progress on the pollies' watch, gives them a ribbon-cutting photo op and leaves their name on the plaque for decades to come.

Next, consumers and businesses often have to pay a price for the services of infrastructure – for power and water, for instance. Where no price is charged – road use, for instance – it often should be.

If you undercharge you get excessive demand for the service, which prompts you to build more infrastructure than you really need. Overcharge, however, and you get suppressed demand and don't build as much infrastructure as would be in our interests.

The correct price will incorporate the "social" costs involved in the activity, such as the cost its users impose on the rest of the community arising from its adverse effect on the environment.

So get infrastructure pricing right before you rush off and build more stuff.

Case in point: part of the reason for the recent fall in infrastructure spending is the fall in spending by the electricity poles-and-wires businesses now the regulation of their prices has been tightened up.

Before that, they were being granted big price rises to allow them to gold-plate their networks to cope with imagined future peak-load problems, which weren't going to happen and, in any case, should have been solved by the use of smart meters. This stuff-up was brought to you by the nation's economic reformers.

Finally, pick your projects carefully by undertaking rigorous, published comparisons of each project's benefits and costs. The commission says it "found numerous examples of poor value for money arising from inadequate project selection and prioritisation".

To ensure you pick projects with the highest return to the community as a whole, you need to assess social benefits and costs. That is, you also take account of benefits other than the revenue stream the project would generate so as to include any positive or negative effects on economic activity, social activities and the environment.

The point is to analyse information in a logical, consistent way and encourage decision-makers to consider all the costs and benefits of a project rather than focusing on just a few. You should be evaluating the other ways of achieving the same objective – recycling water rather than building a desalination plant, for instance.

Some important costs or benefits may be hard to quantify. You should quantify as much as you can, then compare this result with the unquantifiable factors, so they don't get overlooked.

As a general rule, you should rank all potential projects according to the extent to which their benefits exceed their costs, then implement the most beneficial until you've hit your budget limit.

The experience of the feds' review body, Infrastructure Australia, is that smaller projects (such as fixing rail crossings or traffic hotspots) tend to have much higher benefit-cost ratios than big projects (such as expressways), many of which have benefits only marginally exceeding costs.

But the commission finds that governments prefer the bigger projects because the private firms participating in public-private partnerships need bigger projects to cover their fixed costs.

Unfortunately, there can be ulterior motives: to get the debt associated with the project off the government's balance sheet and onto the private sector's. Or because fixing traffic lights doesn't impress the punters the way opening a new expressway does.

The commission doesn't say it, but what we need is to take an outfit like Infrastructure Australia and give it the statutory independence to conduct rigorous evaluations and make them public, so all of us can know whenever the pollies are planning to do something crazy.

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Cities: jobs in the centre, most people on the outer

It's remarkable how few new ideas most economists get. They look at the world the way they always have and worry about the same things they've always worried about, chasing the same rabbits down the same burrows.

They analyse the world using their standard model and see those things the model is designed to highlight, but don't see anything that's outside its scope.

What most economists rarely think about is the spatial dimension of the economy. It's ignored by their model, so it's ignored by them. Could it have something to tell us about why the economy isn't functioning as well as it could? Who knows?

Jane-Frances Kelly and Paul Donegan, that's who. They've been studying the economics of our cities for the Grattan Institute, and their eye-opening findings are explained in their new book, City Limits: Why Australia's cities are broken and how we can fix them. Here's my version of their message.

Despite our self-image as sun-bronzed sons and daughters of the soil, we are a nation of city-dwellers. Australia is one of the most urbanised countries in the world.

Our capital cities are growing and most of our income is being generated in them, notwithstanding the big expansion in mining, which is more about additional structures and capital equipment than workers.

For at least the past 40 years, all the net increase in employment has been in the services sector, and the services sector exists mainly in cities. The arrival of the knowledge economy will only heighten this trend.

Most of the economic action in our capitals is occurring near the centre of the city. Just the Sydney and Melbourne central business districts – occupying a combined area of a mere 10 square kilometres - account for about a quarter of each city's production.

Businesses crowd into the CBD because it gives them the easiest access to desirable employees and because they benefit from being close to the other firms in their industry and their suppliers. It facilitates the transfer of knowledge. Get it? They think that crowding together increases their productivity.

The biggest trend in city property prices is not just big rises over time, but the way inner-city prices are rising so much faster than outer-city prices as people seek "proximity" – closeness to the centre, with all its facilities and jobs.

Researchers at the Reserve Bank have shown that if you draw a graph with home prices on the vertical axis and distance from the CBD on the horizontal axis and then plot actual prices, you get an almost perfectly downward-sloping curve for Sydney, Melbourne, Perth or Brisbane. On average, prices are highest close in and lowest far out.

For the five mainland state capitals, 60 per cent of all the employment growth over the five years to 2011 occurred within 10 kilometres of the centre. But here's the problem: no doubt because inner-city house prices were so high, about 55 per cent of the population growth occurred 20 kilometres or more from the centre.

In other words, we've been developing a big economic and social problem few economists have noticed: a growing spatial divide between where the jobs are and where people live.

It's an economic problem because it increases the economy-wide costs of each day's production of goods and services. It's a social problem because, for the most part, those costs fall on the less-wealthy working families living in outer suburbs. Some of the costs come as dollars paid, some as time wasted and some as opportunities forgone.

The growing distance between where we live and where we work means car travel in peak periods is getting slower in all capital cities. Traffic is slowest on inner-suburban roads, because that's where most people are travelling to or from.

Over the past decade, the proportion of people spending more than 10 hours a week commuting has increased by about half. One in four full-time employees spends more time commuting than with their children.

Women caring for children in outer suburbs face tough choices, with a lack of accessible jobs forcing some out of the workforce altogether.

So what can we do about it? We need to reduce congestion and make it easier, quicker and cheaper to move across the city. To me that means improving access to public transport – which is excellent in the inner-city and woeful in the outer suburbs – not returning to our earlier delusion that building more expressways will fix it.

One day we'll have the courage to use time-of-use tolling to encourage those who have the flexibility to avoid travelling in peak periods to stop doing so.

But improving public transport is expensive and can be only part of the solution. The authors stress the need to increase the supply of semi-detached homes – terraces, townhouses and low-rise blocks of flats – in inner and middle suburbs.

This would require changes to complex planning and zoning regulations – and a lot of public consultation if the changes are to stick. But if so many people want to live closer in, we need to accommodate their wishes.

With the release of another intergenerational report this week, we'll be hearing much agonising by politicians and economists about why our productive efficiency isn't improving fast enough. But don't hold your breath waiting for them to acknowledge that a fair part of their problem is spatial.

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Greenery has magic properties

I've just got to get through extended Christmas festivities - and subsequent mopping up - and I'll be off on my hols. What am I doing this year? Same as most years: heading for the bush. This time, we're going to the mountains.

As a denizen of the inner city, I've long had a great desire to get out into the country whenever possible. Get into the grass and trees, where the air is clean and the sleeping seems better.

There's a place we rent not far up the coast that backs on to a national park. I call it Lyrebird Lodge. And even when we go overseas, I often find the country towns beat the big cities.

In recent times, I've been singing the praises of big cities: how efficient they are and how they promote creativity and productivity, particularly in the era of the information economy.

But cities have their dark side and insufficient grass and trees is it. That's more than just a personal preference. Environmental psychologists and others have been gathering impressive evidence of the health-giving properties of greenery.

It's evidence to support the US biologist E. O. Wilson's "biophilia" hypothesis: because humans evolved in natural environments and have lived separate from nature only relatively recently in their evolutionary history, people possess an innate need to affiliate with other living things.

Research published last year found that people who live in urban areas with more green space tend to report greater well-being - less mental distress and higher life satisfaction - than city dwellers who do not have parks, gardens or other green space nearby.

Mathew White and colleagues at the University of Exeter Medical School used a national longitudinal survey of households in Britain to track the experience of more than 10,000 people for 17 years to 2008.

They found that, on average, the positive effect on well-being was equivalent to about one-third of the difference between being married rather than unmarried and a 10th of the effect of being employed rather than unemployed.

A different study followed the experience of more than 1000 people over five years, in which time some moved to greener urban areas and some to less green areas. The results showed that, on average, people who moved to greener areas felt an immediate improvement in their mental health. This boost could still be measured three years later.

"These findings are important for urban planners thinking about introducing new green spaces to towns and cities, suggesting they could provide long term and sustained benefits for local communities," the lead author of the study said.

A study from Canada began by summarising all the various benefits from contact with nature that other research had found: it can restore people's ability to pay attention, improve concentration in children with attention-deficit hyperactivity disorder, and speed recovery from illness. It might even reduce the risk of dying.

Yet another study notes that the first hospitals in Europe were infirmaries in monastic communities where a garden was considered an essential part of the environment in that it supported the healing process.

This study of studies, from Norway, says: "In most cultures, both present and past, one can observe behaviour reflecting a fondness for nature. For example, tomb painting from ancient Egypt, as well as remains found in the ruins of Pompeii, substantiate that people brought plants into their houses and gardens more than 2000 years ago."

Many studies find health benefits from contact with nature. The Norwegian paper says a key element in this may be nature's stress-reducing effect. Stress plays a role in the causes and development of cardiovascular diseases, anxiety disorders and depression.

Contact with nature may help "simply by being consciously or unconsciously pleasing to the eye".

Office employees seem to compensate for lack of a window view by introducing indoor plants or even just pictures of nature. One study found that having a view to plants from the work station decreased the amount of self-reported sick leave.

One of my favourite blog sites, PsyBlog, conducted by the British psychologist Dr Jeremy Dean, notes research estimating that people now spend 25 per cent less time in nature than they did 20 years ago. Instead, recreational time is often spent surfing the internet, playing video games and watching movies.

But this is more up my line: Dean reports a study finding that taking group walks in nature is associated with better mental well-being and lower stress and depression.

The study evaluated a British program called Walking for Health, and involved nearly 2000 participants, divided into two matched groups of those who took part in the walks and those who did not.

The walks, which extended over three months, combined three elements, each of which you'd expect to make people feel better: walking, being in nature and being with other people.

Those who seemed to benefit most were those who had been through a recent stressful life event, such as divorce, bereavement or a serious illness.

"Our findings suggest that something as simple as joining an outdoor walking group may not only improve someone's daily positive emotions, but may also contribute a non-pharmacological approach to serious conditions like depression," one of the study's authors said.

You beaut. When I get to the mountains, I'm hoping to do a lot of bush walking.

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There has to be more to our future than the budget

The end of last year was too early to make judgments about Tony Abbott and his government, but by now we can make a reasonable assessment. And it's hardly a favourable one, even by those who couldn't wait to see the back of infighting Labor.

But though it's easy to bang on about the Abbott government's failings, I'm beginning to think it's too easy. Maybe our politicians are an uninspiring lot because their citizens aren't much better.

My strongest feeling in recent days is what a mentally incestuous, intellectual backwater we've allowed Australia to become, even in an age of instant access to the newest and best ideas.

It's all there to enlighten and guide us into better paths, but few of us seem to be taking it in - not our politicians, our bureaucrats, our media commentators, maybe not even our academics. Just a few of our think-tanks - most notably, the Grattan Institute.

The future is pregnant with exciting possibilities, but we sweat the small stuff and keep chasing the same tired old reform ideas round and round the track.

Monday's midyear budget review was a depressing reminder that this government or the next is likely be wrestling to get the budget back to surplus for up to a decade.

Can you imagine how much effort and attention from our politicians, econocrats and media this will consume? This year's argument played out every year for many years?

And for what? To get the budget back to balance. I'm not saying balancing the budget is unimportant; of course it's important. But it's just housekeeping. It has to be done, but once it has been it's just the avoidance of a problem.

It doesn't achieve anything positive. And yet we're hoping that, sometime within the next decade, we'll be able to list it as one of our great achievements.

So bogged down and obsessed by the budget has our elite become that, in all our fiddling with government spending and taxation, an attitude is developing - especially in the purse-string departments - that it doesn't much matter what measures we take so long as they reduce the deficit.

This is impoverished, desperation thinking. We ought to be choosing budget measures that kill two birds with one stone; that improve the government's efficiency or the economy's efficiency or the fairness of our tax-and-transfer system - or even, dare I say it, improve the quality of our lives - as well as cutting the deficit.

But when you look at this year's budget you see little sign of such broader thinking. Take the way successive governments have imposed Orwellian "efficiency dividends" on government departments and agencies, which by now actually sets off another round of compulsory redundancies.

Such savings draw approval rather than complaint from a shiny-bums hating public, but the notion that so many jobs can be cut without impairing the public service's ability to do its job - and to give the government high quality advice - is crazy.

Staff cuts in the Taxation Office are one reason tax collections have fallen short. Staff cuts in Treasury and Finance are one reason the budget was so bad. And why do you think the Bureau of Statistics is having so much trouble telling us what's happening to unemployment?

We're indebted to a think-tank - not the econocrats - for reminding us how unequal the distribution of wealth between the generations has become. To a fair extent this arises from longstanding and increasing discrimination between the generations in the government's tax and spending policies.

Did the budget seize the opportunity to fashion its savings in ways that reduced this problem? Did anyone even think to assess the proposed savings from the perspective of their effect on this imbalance? What do you think?

Similarly, we're indebted to the Grattan Institute for bringing to us relatively new research showing how important the efficient functioning of big cities is to the efficiency of the economy and to promoting economic growth.

To boil it down, a key issue is how long it takes people to get from their home to work. Did it occur to anyone to suggest to the government that this efficiency consideration should affect its choice of state infrastructure projects to fund?

Then there's all the orthodoxy-busting research - now coming even from the official international economic agencies - finding that that income inequality acts as a drag on economic growth. Did the government know - or did anyone warn it - that by preferring budget cuts biased against the bottom half it could be hindering its professed goal of faster growth?

In any time remaining after it has struggled with the budget, the government plans reviews of the tax system and industrial relations, leading to major proposals to reform the economy and get it growing faster.

Really? One more time? That's the best advance you've been able to think of? That's the best the whole nation has come up with? Another argument about the GST? Another argument about bringing back Work Choices?

The tax system will always need running repairs, but for so many of us to see tax reform as the Stairway to Heaven is delusional. Same goes for another fiddle with wage bargaining.

It reveals the limits to our ambition, the incestuous nature of our policy debate, the limits to our imagination and even the limits to our use of Amazon.
 

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Why house prices will stay high

Why are house prices so extraordinarily high? Short answer: because Australians have an unusual relationship with their homes. The reasons for that strange relationship aren't new, but until now they haven't been well understood. And among foreigners they still aren't.

House prices in cities such as Sydney and Melbourne don't just seem high to you and me, they're high by international standards. According to the International Monetary Fund, Australia has the third highest house prices, relative to the level of people's incomes, among 24 advanced economies.

Our house prices are so high that just about every foreign economist who looks at them becomes convinced we're sitting on a bubble that could burst at any moment. But few Australian economists agree with them.

Though there's no guarantee prices will keep shooting up the way they have been lately and nothing to stop them falling back a bit - there's plenty of precedent for periods of either stable or falling house prices in our recent history - most local economists see little prospect of an American-style collapse in prices.

But what is it that's holding our prices so high? For the full explanation of Australian exceptionalism I'm relying on a typically thorough report by one of our top business economists, Saul Eslake, of Bank of America Merrill Lynch.

Much of the explanation comes from the insights of economic geography, the study of how we're affected by the spatial dimension of the economy and, in particular, of the way big cities work.

Eslake says foreigners tend to think of Australia as a country of wide-open spaces - "a land of sweeping plains" - where people live with kangaroos grazing peacefully on their front lawns. In truth, most of us live on the edge of the continent, crammed into a few very big cities, making us one of the most urbanised countries on the planet.

Almost 60 per cent of Australians live in cities with populations of more than one million, a proportion exceeded only by Japan, Hong Kong and Singapore. Of our six state capitals, all but Hobart fit that description.

Urban geography research suggests real estate prices are usually a lot higher in cities with populations of more than a million. So an unusually high proportion of Australians live in big cities where house prices are safe to be higher.

Second, compared with cities in other countries, Australian cities are large in terms of area, relative to the size of their populations. Trouble is, Eslake says, public transport and arterial roads in the outer suburbs of Australian cities are generally inadequate for the task of moving large numbers of people from those suburbs to the central business district.

But, because of this, many Australians choose to spend a higher proportion of their incomes on housing so as to spend a smaller proportion of their time commuting. In the process, we bid up the prices of houses and units closer in.

So houses prices are higher in Australia partly because commuting times are so long. The recent return of the delusion that building more expressways will reduce traffic congestion is unlikely to make things better.

Third, Australian house and apartment prices are higher because our homes tend to be bigger than those in other countries. Three-quarters of us live in detached houses, a much higher proportion than in most other rich countries. Our average size of a new house - 206 square metres - is a fraction higher than America's, with daylight third. And our housing is usually constructed using more expensive materials.

The international comparisons purporting to show how expensive our houses are never allow for differences in size and quality. If our housing is of higher quality than other people's, you'd expect it to cost more.

Eslake's fourth point is that, thanks partly to the resources boom and two decades without a severe recession, Australians are richer than we were, even relative to other high-income countries. Guess what? Better-off people tend to devote a higher proportion of their income to their housing.

We can afford to, so we do. Sounds pretty Australian to me.

Another part of the explanation is that, for more than a decade, we've been building too few houses and units to keep up with the growth in the population. Since the turn of the century we've had relatively fast growth averaging 1.4 per cent a year with 60 per cent of that coming from immigration.

During the 1990s we built 145,000 new dwellings a year, but though the annual increase in the population has doubled since then, our construction of new places has averaged just 150,000 a year. It was estimated that by June 2011 we'd built 284,000 fewer homes than needed to maintain housing patterns the way they were.

Supply isn't keeping up because of excessive restrictions and charges by state and local authorities. So this is putting some upward pressure on house prices. But it's just the opposite of what happened in most of the countries where prices tanked.

Finally, Eslake argues that a further part of the reason our house prices are so high is our unusual tax incentive encouraging people to invest in residential housing. It wouldn't be so bad if it added as much to the supply of homes as it adds to the demand for them but, in fact, 94 per cent of "negatively geared" investors buy established dwellings, not new ones.

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How the econocrats can lift their game

When we judge the performance of chief executives, most of us know the boss who's good at cutting costs isn't worth as much as the boss who's also able to improve the outfit's products and processes. Well, the same goes for treasurers and finance ministers - and their econocrats.

It seems the fiscal managers are running low on good ideas. But not to worry - the former Treasury and prime ministerial adviser Dr Ric Simes, now of Deloitte Access Economics, had some useful advice to offer in a speech to the Australian Business Economists last week.

Simes argues governments themselves have an important role to play in achieving the improved productivity performance the econocrats keep saying we need. Especially when "productivity" is better thought of as "technological progress" and the figures for measured productivity aren't as important as actual improvements in welfare.

"For those parts of the economy where market forces are paramount, government's main role is to make sure that regulation or its own actions allow competition to unfold without unwarranted intervention," Simes says.

To me, this means econocrats should urge their masters to tread carefully when powerful business interests, fighting to shore up a technologically superseded business model, demand that governments make breaches of government-granted copyright a hanging offence.

As Simes says, digital technologies have lower entry barriers and are forcing businesses to be both more productive and more responsive to consumers. So don't help incumbents resist change.

But, he says, the potential for technology to make some of the largest improvements in Australian lives lies in government-heavy sectors including health, education and transport. In these areas, progress has been too gradual.

"The exemplar is probably electronic health records, which have been the focus of considerable effort for perhaps 15 years now, but where we still seem to be a long way off the goal of having them routinely used throughout the health system.

"Or, take even an example where we have done well, the SCATS - Sydney Co-ordinated Adaptive Traffic System - for control of traffic lights. SCATS was originally developed 40 years ago, it has been constantly refined since then and is now in use in 27 countries.

"So, a success story - yet, as a Sydney driver, I know my welfare would be improved with a more refined SCATS system. It's coming - NICTA [the National Information Communications Technology Research Centre of Excellence] and others are working on optical-based monitoring and improved optimisation algorithms - but more support for both the research and especially its deployment would lift my welfare!"

Simes notes that in both cases, electronic health records and SCATS, the strict efficiency improvements from the technology - the bit that would help government budgets - represent a relatively small part of the overall benefits to the community.

"Especially in health and education, many of the benefits will involve improvements in the quality and range of services rather than efficiency gains," he says.

"Making the most effective use of digital technologies in health and education - as well as other areas where government has a direct role, such as smart technologies in transport and utilities - will deliver much larger economic and social benefits than where we seem to like to focus much of our policy attention, such as whether we should get the budget back into balance by 2017 or 2019."

Another potentially major area of micro-economic reform, Simes says, is how we organise our cities. Up to 80 per cent of Australia's output and employment occurs within its major cities. This has happened in the pursuit of economies of agglomeration.

"Yet we know that the problems are mounting. Congestion, compromised open spaces, the loss of amenity all risk detracting more and more from those benefits."

As with digital, many of the benefits from fixing these problems would not show up in our standard measures of welfare derived from the national accounts.

"Ten minutes less travelling time to work, or to school, doesn't have direct effects on gross domestic product. A more vibrant space around the harbour, or convenient shopping centre in the 'burbs, doesn't get picked up. But social welfare is clearly affected," he says.

Taking Sydney as an example, if commuter travel times on its roads were reduced by five minutes per trip, the benefits would amount to $3.6 billion a year, if an individual's time is valued at average weekly earnings.

To this you could add savings for freight or commercial vehicles. And savings for going to the shops, or school, or to the beach.

Echoing the patron saint of treasurers, Simes wants to lift our gaze to "the big picture".

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Why almost all of us are 'out of touch'

When politicians say things such as that the poor don't buy petrol, it's easy to accuse them of being "out of touch". Actually, all politicians face that accusation before they're through. It's one of our favourite things to say about pollies we disapprove of.

But let's turn it around: exactly how in touch are you and I? Much less than we imagine.

We know a lot about our own circumstances and those of our friends and neighbours, but are surprisingly deficient in our understanding of people outside our circle.

And one of our greatest deficiencies is our inability to see ourselves as others see us, to place ourselves on the spectrum. Take the question of income.

In 1999, researchers at the University of NSW conducted a survey asking people to nominate their family's gross income and then to say where they believed that income placed them in the distribution of all families' income.

The results showed that more than 93 per cent of respondents believed their income to be in the middle 60 per cent of the distribution.

Most of us like to imagine we're middle-income earners. Ask us where we fit and almost no one admits to being either rich or poor (unless they're accused of not using much petrol).

A survey conducted this year for the Australia Institute, found a similar result but put it a different way: nearly all Australians think the average income is the same as their own income.

Of those respondents reporting their own annual household income to be between $20,000 and $40,000, 58 per cent believed the average income of all households lay within that range.

For those on $40,000 to $60,000, 71 per cent thought this was average. For $60,000 to $80,000 it was 61 per cent, for $80,000 to $100,000 it was 55 per cent, and for $100,000 to $150,000 it was 51 per cent.

Even for those on more than $150,000 a year, a third of them thought that was average. According to the Australian Bureau of Statistics, the average household income in Australia is $80,700.

But how could so many of us be so out of touch? How could we be so unaware of how the other half lives and which half we fit into?

I'm sure there are various reasons, but one of the big ones is something that's been going on for years without most of us noticing. Our cities are becoming more socially stratified, with the better-off congregating down one end and the less well-off down the other.

These days, you're less and less likely to find suburbs with a cross-section of high and low income-earners, or highly and lowly educated people.

So we don't know how the other half lives because they are in the other half - the half we live far away from and rarely visit or even drive past. Pretty much all our family, friends and workmates are in the same half we're in.

A study conducted last year by Jane-Frances Kelly and Peter Mares, of the Grattan Institute, Productive Cities, looked at maps of who lives where in Australia's largest cities and tracked how this had changed in the 20 years between 1991 and 2011.

The authors found that the residents of our four biggest cities have enjoyed rising incomes and have become much better qualified. At the same time, however, our cities had become more polarised.

"Increasingly, high-income residents with university-level qualifications cluster in suburbs close to city centres, while residents on lower incomes, and residents with vocational [trade certificate and diploma] qualifications, are more likely to live around the city fringes," they say.

"In each city, it is also possible to identify particular areas of disadvantage, where a high proportion of residents have no formal qualifications beyond secondary school, where labour market participation is low and where a high proportion of young people are 'disconnected' - that is, neither working nor engaged in education or training."

In Sydney and Melbourne, individuals on higher incomes are clustered in inner suburbs and suburbs with desirable natural attributes such as beaches, trees and hills.

In Sydney, the highest median incomes are found in inner, northern and harbourside and beachside suburbs, while the lowest median incomes are concentrated in western and south-western suburbs more distant from the CBD.

In Melbourne, the highest median incomes are found in inner, eastern and bayside suburbs, while the lowest median incomes are concentrated in more distant western, northern and south-eastern suburbs.

A map also shows a clear pattern in house prices. "The premium placed on proximity to the city centre is evident in steep house-price gradients in Sydney, Melbourne, Brisbane and Perth," they say.

Research by the Reserve Bank shows that, if you rank house prices for any of those cities according to their distance from the central business district, you get an almost perfect curve that (using figures from 2010) starts well above $1 million in Melbourne and Sydney and then declines steadily to about $300,000 when you're more than 60 kilometres from the centre.

This relationship between proximity and house prices has strengthened in recent decades, with average annual growth in house prices about 2 per cent higher in inner suburbs within five kilometres of the centre than on city fringes.

Those people out in the boondocks have no idea how much we struggle with our mortgages - and we have no idea that they have problems too. Price of petrol, for starters.

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Stop wasting money on infrastructure

Don't laugh too hard at the ABC's new satire, Utopia, and the wasteful and appearances-driven antics Rob Sitch gets up to as head of the Nation Building Authority. It's too close to the truth to be funny.

One of the foremost areas where governments need to lift the efficiency of their spending - as opposed to cutting payments to the needy or short-sighted cost-shifting - is infrastructure. It has become an area where too much spending is never enough and anything labelled "infrastructure" is above critical scrutiny.

In recent days, however, we've been given cause to cast a more sceptical eye over spending on capital works. Consider first the views of a highly experienced former econocrat, Dr Mike Keating: "Australia has a long history of over-investment in infrastructure, with the costs exceeding the benefits, and under-charging the beneficiaries so that they demand more and more.

"It is therefore most reprehensible that this budget prides itself that new spending decisions will add $58 billion to total infrastructure investment, when none of the projects announced have been ticked off by Infrastructure Australia as having completed proper cost-benefit appraisals, probably because a great deal of this investment never could pass any proper evaluation.

"And this from a government that was properly critical of the former government and its approach to the national broadband network. Clearly this improper use of the nation's savings is not an acceptable reason for the other budget cuts, and the increase in petrol excise should not be tied to an increase in uneconomic road funding."

Yes, indeed. It's disillusioning behaviour from Tony Abbott, who promised "rigorous, published, cost-benefit analysis" of infrastructure projects.

Last week, Garry Bowditch, chief executive of the University of Wollongong's SMART infrastructure facility, offered a sobering assessment of capital works spending, noting that cost overruns have reached between $4 billion and $5 billion a year.

Value for money is thrown out the window, he said, when governments fail to time the construction of infrastructure to make sure they're not inflating the prices of labour, materials and equipment by competing with the private sector during booms.

Adjusted for inflation, Brisbane's Gateway Bridge, built in 1986, cost about $300 million. But when a second, identical bridge was built in 2010, during the mining construction boom, it cost $1.7 billion.

Bowditch, a former econocrat, called on governments to release cost-benefit analyses for Sydney's proposed $11.5 billion WestConnex motorway and Melbourne's $8 billion East West Link tunnel.

He argued that poor long-term planning by federal and state governments, which don't communicate well with each other, had led to unnecessary costly construction methods, such as tunnels, because land corridors had not been reserved for rail and road development.

Sir John Armitt, former chairman of Britain's Olympic Delivery Authority, said we should be using technology to improve the capacity of existing rail, road and energy networks, and to prepare for driverless cars.

Good point. Politicians love cutting ribbons and announcing grand, nation-building projects. But they'd waste less taxpayers' money if they got the pricing of existing infrastructure right first, and so had a more realistic estimate of the demand for additional infrastructure. It's called efficiency.

The credibility of economic modelling by allegedly independent consultants is surely shrinking before our eyes. Not long ago we were treated to the spectacle of two leading firms of economic consultants producing diametrically opposed modelling of the cost of the renewable energy target. Why? Surely not because they were commissioned by outfits with rival axes to grind?

Last week we learnt that AMP, whose funds lost a lot of dough after the failure of the outfit owning Sydney's Lane Cove Tunnel in 2007, is suing the consultants who provided excessive forecasts of the likely traffic flows, accusing them of producing figures that were "reverse engineered" by working backward from their client's commercial objective. Surely not.

One reason it would be good to see cost-benefit analyses of the aforementioned infrastructure projects adopted by the Coalition is to test the efficiency of Abbott's insistence that he'll finance roads but not public transport.

So far the NSW and Victorian governments have done a hopeless job of limiting congestion. Since building extra motorways adds to demand rather than reducing delays, my guess is neglect of public transport is the culprit.

But the Grattan Institute's report on cities as engines of prosperity reminds us that the longer it takes people to move between home and job, the harder it is to fully exploit the "knowledge spillovers" that drive the knowledge economy. Didn't you guys say you were worried about slow productivity improvement?

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