Why bribery is key to boosting our economic prosperity

By MILLIE MUROI, Economics Writer

Of all the incentives in the world, money must be among the most powerful. Since its birth thousands of years ago, dosh – chasing it, saving it, and paying it back – has driven us to ruin but also some remarkable feats. So, it shouldn’t be any different when it comes to the “p” word.

Before your eyes glaze over at the mention of productivity, you should know that had it improved more in recent years, we’d all probably have a lot less to complain about when it comes to issues such as cost of living – and the Reserve Bank wouldn’t be so worried about wage rises feeding into inflation.

What if I told you that boosting our productivity starts with bribing our state governments?

In a speech to the Queensland Economic Society of Australia in Brisbane last week, economist and former corporate watchdog boss Karen Chester identified one of the biggest hurdles to lifting our living standards: a problem called “vertical fiscal imbalance”.

Here’s the issue. Some of our most fundamental needs are taken care of by the state government: education, health, transport, and law and order to name a few. This all requires mountains of cash which the state governments have little ability to raise.

It’s the federal government that has the power to raise a lot of money – mostly through taxation, meaning there’s a mismatch: state governments might be tasked with the big asks, but it’s the federal government that has the cash to splash. As Chester puts it: “The states wear the political pain and the budget loss in doing the right thing.”

Money can’t buy happiness or solve all our problems, but without it, it’s hard to pay for – or incentivise – fixes in some of our biggest sectors, including boosting productivity.

Our productivity improves when we increase the quantity or quality of the goods and services we produce with a given set of resources, such as workers. Making people work longer hours doesn’t count towards improving productivity, but using better technology or other innovations does.

The reason we care so much about productivity is that it’s the main way capitalist economies have kept making us better off – at least materially – over the past few centuries. Innovations from the lightbulb to the assembly line to the internet have made us faster and better at doing our jobs.

Right now, we’re in a productivity slump. Despite a record-breaking increase in hours worked in 2022-23, the amount we’re producing hasn’t been climbing all that much.

Over the long-term, Australia’s productivity has grown by about 1.3 per cent every year. In 2022-23, our labour productivity – the amount of GDP we pump out for each hour we work – actually fell 3.7 per cent.

While pay rises are awesome, there’s a problem when we get them without productivity growth as we’ve had recently: it can feed into inflation. Why? Because it means we push up the cost that goes into providing goods and services without much change in how much we’re actually producing.

So, how do we push up productivity? And how do we fix the vertical fiscal imbalance problem strangling state governments’ ability to take some bold action? Chester says one way is for the federal government to take over chunks of the states’ existing debt which they’ve used for things such as building roads and other public infrastructure.

Why should the federal government scoop up this debt which they aren’t responsible for spending? Because it significantly cuts states’ annual interest bill and boosts their ability to borrow more for new projects. Why is this? Because the federal government can borrow at a lower interest rate than the states – mostly because those who lend to them see a smaller risk of the federal government defaulting, meaning it has a better credit rating.

The total amount being borrowed by the public sector can stay the same but the interest paid on it can be squashed down.

Now, this transfer of debt has to come with some strings attached. Namely, it should be conditional on the states making progress in implementing agreed reforms.

Chester says these reforms should be aimed at resuscitating flat-lined productivity through changes such as tax reform, jack-hammering entrenched disadvantage through measures such as more social housing for people with chronic and debilitating mental health, and relieving structural inflation pressures such as those arising from natural disasters and soaring insurance costs.

Instead of the federal government spending 96 per cent of its natural disaster budget on mopping up the mess, it should give states more money (the amount could also be matched by the states) to spend on mitigation efforts: reducing the risk of future harm from natural disasters such as floods, cyclones and bushfires. This would also put a brake on surging insurance costs.

It’s not the first time we’ve had the idea to give states more headroom to make meaningful reform. In the late 1990s, there were three tranches of payments from the Australian government to states and territories based on their populations – and only if they made satisfactory progress on their reform commitments.

These payments, known as national competition policy payments, cost roughly $1 billion annually (in today’s terms) over six years. But they helped push through reforms such as removing restrictions on retail trading hours, setting up the national electricity market and abolishing price controls on dairy. The Productivity Commission estimates the payments helped lift GDP by at least 2.5 per cent.

By comparison, Treasurer Jim Chalmers last month set up a $900 million fund to prod states and territories into enacting productivity-boosting reforms: a baby step forward – especially, as Chester says, because we confront a much bigger to-do list than we did a few decades ago.

The idea to transfer debt from the states to the Commonwealth government would be a lot cheaper than the old competition policy payments – and it’s a huge opportunity to make big steps forward in improving productivity and wellbeing.

Why do we need this? Because of the sad truth that the vertical fiscal imbalance we’ve talked about has sunken the states into a mentality where they don’t want to make any reforms that the Commonwealth government wants them to make unless they’re bribed into doing so.

Chalmers this week said his government was bold and reforming. But reform needs to take foot in some of our most consequential sectors including health and education. To achieve this, we need states to buy into the vision and, most importantly, act on it.

The good news? Chester says implementing the buyback program is relatively quick. We just need the guts to do it.

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Will Trump be disastrous for our economy? I doubt it

When, in its wisdom, the American electorate does something really stupid, it’s tempting to predict death and disaster for the whole world, including us.

But though the Yanks are embarking on a bout of serious self-harm – and this will have costs for the rest of the world economy – let’s not kid ourselves that we’ll be prominent in the firing line.

Leaving aside Donald Trump’s climate change denial – a topic I’ll get to another day – his most damaging stated economic policy is to make America great again by imposing a tariff (import duty) of 10 to 20 per cent on all America’s imports except imports from China, which will cop 60 per cent.

This is rampant populism – it sounds like a great idea to those who understand nothing about how economies work but it will make the US economy worse rather than better. Trump claimed this new tax would be paid by the foreign suppliers but, in reality, it will be paid by those American consumers and businesses that continue to buy imported items.

So the man who got elected because the punters hate inflation will be acting to worsen inflation. This isn’t likely to do much to increase the demand for locally made manufactures but, to the extent that it does, automation and digitisation will mean it does little to create more jobs in manufacturing.

Another reason protectionism doesn’t work is that America’s major trading partners – particularly China and Europe – are likely to retaliate by imposing tariffs on their imports from America. We know from history that trade wars end up leaving both sides worse off.

So the United States will suffer most, although all countries that trade with it will suffer to some extent. But get this: the US is not one of our major trading partners. It takes only about 5 per cent of our exports. Our big partners are China, Japan and South Korea.

Like many ignorant Americans, Trump believes any country that runs a bilateral trade surplus with the US must be doing so because they’re cheating in some way. Not a problem for us: we import more from the Yanks than we export to them. It’s China and the Europeans Trump will be going after, not us.

To the extent that Trump hurts the Chinese economy – as part of the Americans’ bipartisan obsession with trying to prevent China usurping their place as the world’s top dog – that will have an adverse flow-on to us.

But the Chinese have their own ways of fighting back. In any case, the greatest risk to our economy is not from what the Yanks do to the Chinese but from what the Chinese stuff up on their own account.

While it’s clear Trump is well placed politically to press on with implementing the crazy policies he has promised, that doesn’t mean he’ll do everything he’s said he’ll do to the full extent that he’s said. For instance, why would he tax all imports of goods and services when it’s manufactures he’s really on about? Also, not everything he tries to do will be done in next to no time.

We know the man. He’s nothing if not capricious. Dead keen one minute, moved on the next. And as someone who sees himself as the great dealmaker, he’s highly transactional. A 20 per cent tariff may be just the list price before the bargaining starts. ANZ Bank economists say the average tariff on Chinese goods will go from 13 per cent to 22 per cent, not 60 per cent.

The truth is that we’re too small to figure largely in Trump’s thinking. And why kick the US lapdog we’ve made ourselves?

Trump has made much of his promise to deport the many millions of undocumented immigrants. Most of these people are doing jobs Americans don’t want to do. Getting rid of them would reduce the size of the economy while increasing inflation as employers offer higher wages to attract other people to unattractive jobs.

But not to worry. It’s hard to see just how he’d round up all these people without calling out the military. It’s much easier to see him limiting himself to trying harder to stop more people crossing the Mexican border. In this case, the reduction in the economy and the rise in costs would be smaller.

So far, his policies on tariffs and immigration seem likely to increase America’s rate of inflation while reducing its economic activity. Great idea. But then we come to his promises for big tax cuts.

He says he wants to cut the rate of company tax and “extend” his 2017 personal income tax cuts, which greatly favoured the high-income earners more likely to have been too smart to have voted for him.

In principle, you’d expect tax cuts to be expansionary and thus possibly inflationary. But note this: according to a strange American custom, the personal tax cuts enacted in 2017 are due to expire at the end of next year.

So extending them means not that everyone gets a tax cut, but everyone avoids a tax increase. The troops’ after-tax income is unchanged. But, of course, the budget deficit is now worse than previously projected.

One thing we can be sure of is that Trump’s not a man to worry about deficits and debt. Republican congresspeople do have a history of worrying about such matters – but only when those irresponsible Democrats are in charge.

The Yanks do have many of the smartest academic economists in the world and, as the US government’s annual interest payments get to be bigger than its spending on defence, they’re starting to wonder how long America’s fiscal insouciance can continue before something goes wrong. But the reckoning is unlikely to come in the next four years.

All told, it does seem that Trump’s policies will cause America’s inflation and interest rates to be higher than they would have been had Kamala Harris won the presidency. But what doesn’t follow is that this will have much effect on our inflation and interest rates, and on our Reserve Bank’s decision about when to start cutting rates to prevent us having an accidental recession.

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