TALK TO NSW TREASURY, NSW

Parliament House, November 2016

I’ve always been a sympathiser and supporter of Treasuries - federal and state. I think it comes from my background as an accountant, before I began an economic journalist. But in recent years I’ve become more critical of Treasuries’ performances.

I accept and respect that Treasuries see balancing the budget as their ultimate responsibility, the issue they care about most. After all, if they don’t accept ultimate responsibility for the budget, who will? Certainly not the voters and not even the politicians.

But tho worrying about the budget is necessary to the community’s economic progress, it’s not sufficient. If remaining vigilant on budget responsibility is all Treasuries do, it’s not nearly enough.

If Treasuries don’t also accept responsibility for micro-economic policy - for the efficiency with which industries are functioning, who else will?

Actually, the two issues - budgets and economic efficiency - overlap. And it’s in this overlap that I’ve become more critical of Treasuries.

I fear that, in their preoccupation with the budget, Treasuries have been behaving more like accountants than economists. They haven’t resisted the temptation to let the end justify the means. If some spending cut helps reduce the deficit, why worry whether it’s what Paul Keating called a “quality cut”? 

Read more >>

If the economy’s acting dumb, don’t blame the econocrats

Has it occurred to you that, with the Reserve Bank now run by Dr Philip Lowe and his deputy Dr Guy Debelle, Glenn Stevens may have been the last governor we'll see without a PhD?

All Stevens and his predecessor, Ian Macfarlane, could manage was a master's degree.

Of course, nothing is certain. After Dr Ken Henry was succeeded as Treasury secretary by Dr Martin Parkinson, I convinced myself the era of PhD-only secretaries had arrived at Treasury.

Wrong. It didn't occur to me that Tony Abbott would intervene, sacking Parkinson and replacing him with John Fraser (honours degree), a throwback to Treasury's (John) Stone Age.

My point is to remind you that the nation's top econocrats get ever-better educated. And take my word for it – they're not just highly qualified, they're whip smart.

When you spend as much time talking to them as I do – mainly before they make it to their top slots – you have to keep reminding yourself how exceptionally bright they are to stop you underrating your own brainpower.

They're the kind of people who – while you were at uni chasing the opposite sex, playing at politics or just goofing off – were swatting flat out, preparing for every lecture and starting early on every essay. You skimmed the texts; they read every word.

While chatting about other people's academic qualifications I suppose I should disclose my own: scraped through a bachelor of commerce, pass level.

Had to repeat several subjects, and the last pass I got, for international economics, was conceded. I couldn't see the point of economics until long after I left uni.

If by now I do know a bit about the topic, it's thanks mainly to long telephone tutorials from the aforementioned and their predecessors.

As citizens we should find it reassuring that our politicians are being advised by such smart people.

For the most part they're more intelligent (and better qualified) than their political masters – and than the politically ambitious young punks in the minister's office who stand between them and the boss.

We'd be better governed if more of the people in ministers' offices came from the department, if there was a less adversarial relationship between the office and the department, and if ministers and their private advisers were more conscious of their need for policy advice from the more expert.

After Scott Morrison's major speech about "the taxed and the taxed-not" I stopped myself saying it was clear Treasury hadn't written it because of all the bad grammar in it.

The broader point is that, although the nation may not be doing as well as we should be in increasing the human capital of the workforce, there's no doubt our workforce is getting better qualified.

Over just the 10 years to 2015, the proportion of our population aged 20 to 64 with a bachelor degree or above rose by 7.5 percentage points to 29.3 per cent.

This would include a lot of our brighter young people getting double degrees – the benefits of which I'm yet to be persuaded of. (Whether too many of our workers have actually become overqualified is a worry for another day.)

So rest assured, the economic bureaucracy is at least keeping up with the trend to better qualified workers, and probably exceeding it. Of course, people with doctorates are popping up throughout the workforce, not just the bureaucracy.

Most of the Reserve's PhDs are home grown. As you may remember from Peter Martin's fascinating biography of its new leadership, Lowe joined straight from school, meaning the Reserve funded his education all the way from undergrad university medal to doctorate from MIT in Cambridge, Massachusetts.

Since the Reserve earns a fortune each year by printing bank notes for less than 10¢ a pop and selling them to the banks at face value (only most of which it eventually passes on to the government), it's well able to afford to ensure its troops are well educated.

It's harder for Treasury, whose bright young things compete against the rest of the public service for a limited number of scholarships (one of which was endowed by the will of a former Treasury secretary).

You could be forgiven for wondering whether having our top econocrats so well-qualified academically is such a wonderful idea. Fortunately, there's a big difference between an econocrat with a PhD and a university lecturer with one.

Too many trainee academic economists are just learning to do mathematical tricks that will impress their peers. A post-grad from the bureaucracy knows they're learning how to prescribe better economic policy.

Read more >>

Breaking news: classical Athens had an economy

Did you know that classical Athens didn't have an economy? If you find that hard to believe, you should - because it's not possible.

But if you read the many hundreds of books written about Athens in the classical period, you could be forgiven for imagining that all those philosophers, poets, artists, politicians and generals existed in a world where the mundanities of making a living and raising a family didn't exist.

This may be because the authors of those books thought that, beside the glories of Athens' literature, art, architecture and history, mere economics wasn't worth mentioning. Soo boring, darling.

Or it may be that, in the minds of the authors of earlier centuries - maybe even in the minds of the Athenians themselves - an association with "trade" carried a social stigma. Like using the lavatory, it was a necessary evil not to be mentioned in polite society.

But when Peter Acton, who studied classics at Oxford but ended up as a management consultant, finally got the chance, he decided to search out whatever information he could find to set the record straight and complete the picture of Athenian life.

Athens' classical period ran from the defeat of the second Persian invasion of Greece under Xerxes to when Athens and the rest of Greece came under the control of Alexander the Great. So, the fifth and fourth centuries BCE.

Whatever they did to keep body and soul together that long ago must have been small and primitive, right?

Well, no. Acton found Athens at the time had a large and thriving manufacturing sector, defined broadly to include both mining and construction.

He set out his discoveries in the book Poiesis: Manufacturing in Classical Athens, which I'll summarise. "Poiesis" comes from the same Greek root as "poetry", but means "to make".

It seems the Athenians had a lot of manufactured items in their homes. They were at the stage of economic development where the more accoutrements you could acquire, the better off you were (whereas we're closer to satiation with goods and prefer acquiring experiences).

"Athenian Man was as likely as not to have made many of the products used in his own home and probably depended for a good part of his sustenance on manufacturing for sale," Acton says.

"However rich he was, his wives and daughters would make their own clothes, working alongside some of their slaves and perhaps supervising others in the household's workshop.

"Every time he went outside, he would be surrounded by evidence of production: the smells and the smoke of smithies and pottery furnaces, the clack of looms, the hammering of carpenters and sculptors, carts rattling through the streets full of stone or wood or bales of fine cloth or jars of imported oils."

It seems likely that more than half the city's residents would have spent at least some of their time manufacturing products for sale or home consumption, Acton estimates.

This would involve almost all the slaves, of course, either helping with household production or working in a gang for one owner.

"A reasonable estimate is that around a quarter of the free population of all status levels, men and women, worked at making things," he says.

Manufacturing activity ranged in size. "It is a common mistake to see manufacturing as having undergone a steady progression from self-sufficiency based on home crafts to mechanised mass production.

"In reality, individual craftsmen, small workshops, co-operative production arrangements and large factories have coexisted over millennia in various societies, not least in classical Athens."

Although written accounts of economic life are sparse, archaeological finds are a different matter. Material evidence gives us clues about the occupations followed.

Wood, for instance, suggests foresters, sawyers, carpenters, furniture makers and boat builders. Stone suggests quarrymen, stonemasons, sculptors, mosaicists and haulers.

Metals imply miners, blacksmiths, armourers, silversmiths, goldsmiths and coiners. Clay implies potters and tilers; hides say tanners and cobblers; reeds say rope and basket makers; herbs say healers and perfumers, and wool says fullers, dyers and weavers.

Manufacturing, Acton contends, was the great leveller. Whereas agriculture was real capitalism, contributing to social inequality, trade and industry helped to level income and status.

"The social mobility, employment opportunities and relatively even distribution of wealth that accompanied the rise of commerce helped Athens to avoid the revolutions that the Peleponnese suffered regularly."

By Acton's estimate, the classical Athenians enjoyed a high standard of living - not just compared with other people at the time, but even compared with any other society until recently.

Economic growth in Greece was up to 0.9 per cent a year, twice as fast as in England and Holland before the Industrial Revolution.

By classical times the basic daily wage was about six times that required for subsistence, and half Athens' population lived a life that was better than the typical Briton's in the 18th century.

Conspicuous consumption became increasingly common in the fourth century BCE. "Some couches and tables were highly ornate and inlaid with gold or silver.

"Men and women wore jewellery of outstanding craftsmanship and decorative ceramics or silverware for festivals might take several years of work."

Health, as measured by bone density, increased rapidly, even though urbanisation tends to have the opposite effect.

Houses, though not luxurious, were large and comfortable, typically with roof space larger than the median single detached house in the United States in 1997. The extra space accommodated more furniture and possessions.

Athens engaged in much trade. Massive imports of grain allowed her farmers to pursue their comparative advantage, producing olive oil and wine for export.

They also imported luxury items such as fine cloth, spices, dyestuffs and precious metals, often for further processing in Athens.

But it was rich in raw materials, including marble, limestone, clay and silver.

Sounds like Athenians then were doing better in relative terms than many of them are today.

Read more >>

Continued globalisation requires more 'inclusive' growth

Remember globalisation? It was big news some years back. Now, however, the leaders of the global economy worry that public opinion is turning against it, pressuring governments to reverse it.

Globalisation is the process by which the barriers separating nations and their economies have been broken down by international co-operation and deregulation, but mainly by advances in technology.

We now have much more telecommunications, travel, trade, investment, money flows and migration between countries. News now travels around the world almost in real time.

Just how worried leaders have become about a reversal of this trend is revealed by a speech Christine Lagarde, managing director of the International Monetary Fund, gave in Canada this month.

She began by asserting the benefits of the process. The ability of countries to rise above narrow self-interest over the 70 years since World War II has brought unprecedented economic progress, she argues.

"Conflicts have diminished, diseases have been eradicated, poverty has been reduced and life expectancy has increased around the world."

The prime beneficiaries of economic integration and openness have been the developing countries, she says, a point the critics of globalisation rarely want to admit.

One of the most important developments was the entry of China, India and the former communist countries into the world trading system in the early 1990s.

According to the World Bank, international trade has helped reduce by half the proportion of the global population living in extreme poverty.

China, for instance, saw its rate of extreme poverty drop from 36 per cent at the end of the 1990s to 6 per cent in 2011.

In a single generation, Vietnam has moved from being one of the world's poorest nations to middle-income status, which has allowed increased investment in health and education.

But the rich economies have also benefited through higher living standards, caused by a more efficient allocation of capital between countries, improved productivity and lower prices for consumers.

"Research on the consumer benefits suggest trade has roughly doubled the real incomes for a typical [rich-country] household. And for the poorest households, trade has raised real incomes by more than 150 per cent," she says.

So what's the problem? Well, for a start, the opening up of world trade effectively doubled the size of the global workforce, putting downward pressure on the wages of lower-skilled workers in the advanced economies.

In the US, competition from low-wage countries has been one of the factors contributing to a decline in manufacturing employment, along with a wave of automation.

This decline has not been spread evenly across the economy, but concentrated in some states and towns that have faced deep and long-lasting effects from overseas competition, she says.

Similarly, the benefits from economic growth have not been spread evenly. In the major advanced economies, incomes for the top 10 per cent increased by 40 per cent in the past two decades, while growing only modestly at the bottom.

Then there is the globalisation of capital. Between 1980 and 2007 there was an eight-fold expansion in global trade, but a 25-fold increase in flows of financial capital.

This has greatly increased investment in developing countries. But much of the flows have been short-term and speculative, opening the door to financial contagion – sudden outflows sweeping from country to country – leading to concerns about the stability of financial systems.

"Growing inequality in wealth, income and opportunity in many countries has added to a groundswell of discontent, especially in the industrialised world – a growing sense among some citizens that they 'lack control', that the system is somehow against them," she says.

"Financial institutions are being seen as unaccountable to society. Tax systems allow multinational companies and wealthy individuals not to pay what many would consider a fair share."

Couldn't happen here, could it.

"And there is the challenge from uncontrolled migration flows, contributing to economic and cultural anxieties."

So what should we do? The goal should be to maintain the benefits from globalisation while sharing them more widely, she says.

Governments need to do more to encourage economic growth, but make it more inclusive, to "benefit workers across all economic sectors". (The need for growth to be "inclusive" is something leaders are talking about everywhere but here.)

We need to "step up direct support for lower-skilled workers" by greater public investment in education, retraining and by facilitating occupational and geographic mobility.

We need to "strengthen social safety nets" by providing appropriate unemployment insurance, health benefits and portable pensions. The US, for instance, could cushion labour market dislocations by increasing the federal minimum wage.

We need to "address the lack of vigorous competition in key areas. Think of major industries – from banking to pharmaceuticals to social media – where some advanced economies are facing large increases in market concentration."

Not here, of course.

"Boosting fairness also means clamping down on tax evasion and preventing the artificial shifting of business profits to low-tax locations," she says.

These measures can create a positive feedback loop: stronger, more inclusive growth reduces economic inequality and increases support for further reforms and openness.

But we must resist the temptation offered by "politicians seeking office by promising to 'get tough' with foreign trade partners through ... restrictions on trade".

We tried that in the 1930s as a solution to the Great Depression, and made things a lot worse for everyone.

Read more >>

Global leaders change direction while we play games

It's strange the way Malcolm Turnbull and Scott Morrison keep shooting off overseas to compare notes with world economic heavies, but come back none the wiser.

Fortunately, the wonders of the internet allow us to read for ourselves what they're being told by the trumps at the Organisation for Economic Co-operation and Development and the International Monetary Fund.

It's clear those at the leading edge are getting increasingly worried about the outlook for the world economy and are urging a marked change of policy direction.

But while the trumps see a need for policy to swing back to the centre, our unruly Coalition is intent on drifting off to the far right.

Our preoccupation is with protecting the aspirations of the richest superannuants, changing the Racial Discrimination Act, delaying same-sex marriage, protecting negative gearing and blaming the budget deficit on greedy welfare recipients.

Back where they still care about the economy, the OECD is worried that "the world economy remains in a low-growth trap, with poor growth expectations depressing trade, investment, productivity and wages.

"This, in turn, leads to a further downward revision in growth expectations and subdued demand. Poor growth outcomes, combined with high inequality and stagnant incomes, are further complicating the political environment, making it more difficult to pursue policies that would support growth and promote inclusiveness," last week's OECD interim economic outlook said.

Here's where you're supposed to think of Donald Trump, Brexit and the resurrection of One Nation. That's really gonna help.

What's turning the prolonged period of weak global demand into a trap – a Catch 22 – is the adverse effect on the growth in supply from weak business investment spending, weak productivity improvement and the atrophying skills of the long-term jobless.

The OECD estimates that, for its 35 member countries as a whole, their "potential" growth rate per person – the average rate of growth in their capacity to produce goods and services – has halved to 1 per cent a year, relative to their average growth in potential during the two decades before the financial crisis.

The organisation is worried that growth in global trade is "exceptionally weak" and that "exceptionally low and negative interest rates" are distorting financial markets – including overblown share and housing prices – and creating risks of future crises.

So what should we do to escape the low-growth trap? Change the mix of policies.

We've relied too heavily on loose monetary policy, which won't be sufficient to get us out of trouble. Worse, it's "leading to growing financial distortions and risks".

Rather, we should move to "a stronger collective fiscal [budgetary] and structural [micro reform] policy response". Note the word "collective" – fiscal stimulus always works better when every country acts at much the same time.

The goal with fiscal and structural measures is to boost demand and raise the economy's productive capacity.

"All countries have room to restructure their spending and tax policies towards a more growth-friendly mix by increasing hard and soft infrastructure spending and using fiscal measures to support structural reforms," the organisation says.

The OECD and the IMF have argued that Australia has plenty of "fiscal space" to increase borrowing for productivity-enhancing infrastructure; space that's been increased by the very low interest rates payable on our existing and any further debt.

The latest OECD economic outlook continues: "Concrete instruments include greater spending on well-targeted active labour market programs and basic research, which should benefit both short-term demand, longer-term supply, and help to make growth more inclusive."

And, in the present environment of weak demand, supportive macro-economic policies would create a more favourable environment for the short-term effects of structural reforms, we're told.

Now get this: easing the fiscal stance through well-targeted growth-friendly measures is likely to reduce the debt-to-GDP ratio in the short term, we're told. How? By adding more to nominal GDP than it adds to public debt.

"Furthermore, provided that fiscal measures raise potential output, a temporary debt-financed expansion need not increase debt ratios in the longer term," the organisation concludes.

To be fair, both our retiring and our new Reserve Bank governor (who also go to all the international meetings) have told the government monetary policy has done its dash and we need to rely more on spending on infrastructure.

The question is how long it will take our politicians to realise that their survival in government is more likely if they improve our economic performance and improve their electoral appeal by returning to policies of the "sensible centre" and ensuring growth is more "inclusive" – as they say in Paris and Washington, but not Canberra.

Read more >>

The rules on how we conduct monetary policy

Something happened this week that occurs only about once a decade, an event that deserves much of the credit for our avoidance of a severe recession for 25 years and counting.

It was the announcement of a new agreement between the elected government, represented by the Treasurer, Scott Morrison, and the newly appointed governor of the Reserve Bank, Dr Philip Lowe, recorded in a "statement on the conduct of monetary policy".

The statement re-affirmed the government's willingness to allow the Reserve, our central bank, to set "monetary policy" - to manipulate the level of short-term and variable interest rates paid and charged in the economy, so as to influence the strength of demand - without reference to the wishes of the politicians.

The length of the period of continuous growth in the economy is measured from the end of June 1991, the last quarter of contraction during the severe recession of the early 1990s.

It's no coincidence that the era of central bank independence began just a few years later in 1993, first informally under the Keating government and then formally under the Howard government in 1996, at the time of the appointment of Ian Macfarlane as governor.

Handing control of interest rates from the pollies to the econocrats has been a huge success, though it's important to remember that, in the time since then, the economy contracted - got smaller - in the December quarter of 2000 and again in the December quarter of 2008, with unemployment rising significantly on both occasions.

That's why I always say it's been 25 years since our last severe recession. We've had two small recessions since then, though they were too short and shallow for anyone but economists to remember them.

But their very mildness is testimony to the success of the move to central-bank independence. The econocrats move interest rates up or down according to their best judgement on what's needed to keep the demand for goods and services as stable as possible.

The pollies were too inclined to let the approach of the next election influence whether rates should be going up or down.

Of course, another factor has contributed to the vastly improved management of our economy: all the "micro-economic reform" of the 1980s and '90s.

The floating of the dollar, the removal of import protection, the move to enterprise wage bargaining and myriad small acts of deregulation in particular industries have greatly increased the degree of competition within our economy, making it more flexible in its ability to cope with economic shocks and less inflation-prone.

So the managers of the macro economy have found it easier to keep the economy on an even keel, avoiding extremes in inflation or unemployment.

When we joined the rich-world fashion of making central banks independent, we adopted another new idea of making a target for the rate of inflation the main guide for decisions about changing interest rates.

While other countries set hard and fast inflation targets of zero to 2 per cent, we set a target that not only was higher - 2 to 3 per cent - but was also less hard and fast.

We were required to hit our target only "on average, over the cycle". So when you take the average of the inflation rate over a reasonable period, the result always has to be 2-point-something.

We were criticised for our target's fuzziness, but we've since won that argument. The others weren't able to achieve their "hard-edged" targets and had to modify them, whereas we've always achieved ours, even though we've been outside the range for 46 per cent of the time.

This week, in his regular testimony before a parliamentary committee - one of the conditions of accountability and transparency required in return for the Reserve's independence - Lowe argued that the target's flexibility meant there was no need to change it, even though it seems likely the world has entered a period of lower inflation.

This third version of the statement on the conduct of policy contained two minor changes.  "On average, over the cycle" became "on average, over time".

The two words mean much the same thing. How long is "over time"?  As the statement says, it means "the medium term". How long's that? We're not told, but I'd put it somewhere between five and 15 years.

The second change made clearer the link between monetary policy and the stability of the financial system.

In setting interest rates, the Reserve will take account of the need to ensure people can always borrow, lend and make payments, and ensure the failure of a particular financial institution doesn't cause any doubt about the stability of the others.

When the inflation target was first adopted, some people feared it meant the Reserve wouldn't worry about unemployment or growth. More than 20 years later, we know those fears were unwarranted.

The Reserve sees low and stable inflation as a precondition for achieving strong growth in employment and income.

And so it's proved. The Reserve has shown that the best way to keep unemployment low is to keep recessions as shallow and far apart as possible.

The flexibility built into the formulation of the inflation target is designed to keep inflation in perspective, absolving the Reserve of the obligation to crunch the economy whenever inflation pops its head above 3 per cent, or madly rev up the economy whenever inflation drops below 2 per cent.

Monetary policy is the primary "arm of policy" used to achieve "internal balance" - price stability and full employment or, more simply, low inflation and low unemployment.

It does need backup, however, from the other arm, "fiscal policy" - the manipulation of government spending and taxation in the budget - whose primary goal is "fiscal sustainability" - making sure public debt doesn't get too high.

There's much more to the story, but that's enough for now.

Read more >>

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.

Read more >>

Faster growth demands better chief executives

Sometimes I'm tempted by the thought that a major economic reform would be for the Business Council of Australia to disband, so the nation's big business chiefs had to spend more time doing their knitting.

For them to spend less time attending committee meetings to decide what the government should be doing to make life easier for them and their business, and more time working on ways to improve their company's performance.

It always surprises me that economist upholders of free markets and business defenders of private enterprise so easily fall into the view that the fate of our largely private-sector economy rests on the actions of politicians.

Econocrats are susceptible to that misconception because their model's assumption that business decisions are always rational leads them to conclude any inadequacy in businesses' performance must arise from perverse incentives created by misguided government intervention.

For their part, it's almost unknown for business leaders to explain their company's poor performance as anything other than someone else's fault. The failures of our hopeless government – any government – have long been the favourite excuse of less-than-successful chief executives.

An entire career in the private sector has inoculated me against any delusion that businesses are always rational and never perform at less that their best.

One common human failing you won't find in any economics textbook is managers' tendency to be so busy fixing problems they find easy to fix that they have no time to grapple with more important problems they're not sure how to fix.

We worry about the era of low productivity and low growth our economy – and every other advanced economy – seems caught in, and it's true there are "reforms" governments could make that would improve our performance – though they're not the reforms highest on the business council's list.

But the deeper truth remains that the nation's productivity is fundamentally determined by the performances of its many businesses. And if our business leaders took it into their heads to lift their companies' performance, the nation's productivity improvement and growth would be faster.

If you don't believe that, you must be a socialist.

A study by Deloitte Access Economics for Westpac assembles evidence that there's plenty of room for improvement in the performance of Australia's managers.

A report prepared for the federal government in 2009 used the methodology of the World Management Survey to rank the quality of our management sixth of 16 countries studied, behind Canada, Germany, Sweden, Japan and the US.

A paper by Nicholas Bloom and others, from Stanford University, finds that well-managed firms perform better than their peers and make a greater contribution to a nation's total-factor productivity.

Differences in how well-run businesses are help explain differences in productivity between nations. For instance, thanks in part to its successfully run businesses, the US has one of the highest total-factor productivity levels in the world.

Bloom and colleagues estimate that, across all countries, 29 per cent of the difference in productivity between the US – which has the highest management effectiveness scores – and other nations can be explained by how well businesses are run.

Using this finding, Deloitte Access estimates that, if the gap in management quality between Australia and the US were halved today, our productivity would rise to 80 per cent of the US level, up from its present level of 77 per cent.

Achieving such an increase today would lead to a 4.3 per cent increase in gross domestic product over its present level.

This represents an increase in GDP of about $70 billion, equivalent to about $3000 a person per year.

Such a boost would raise our ranking on the league table of GDP per person (adjusted for differences in the purchasing power of particular currencies) from 19th to 14th in the world – just the "metric" that so appeals to the top dogs on the Business Council.

Deloitte Access concludes from other research that fast-growing businesses "take an attitude that success is in their hands and nobody else's.

"High-growth firms perceive issues they cannot control – such as economic conditions and competition – as less of a barrier to success than [do] low-growth firms, placing greater concern on issues they can control, such as recruitment and cash flow …"

So "businesses' own decisions and strategies drive their success. The state of the economy and industry trends are clearly important factors affecting business profitability …

"But business success can come during any market conditions, and opportunities can arise in any industry, provided there's the right leadership to seize potential."

So that's what our over-paid and under-performing chief execs are getting wrong.

Read more >>

Banning new coal mines wouldn't cost the earth

If you want to shock and appal a politician, just suggest Australia join the United States and China in limiting the building of new coal mines.

Think of all the growth we'd be giving up, they protest. All the jobs that wouldn't be created. Some even argue we have a moral duty to sell more coal to the world. How else will the poor countries be able to develop their economies so they become as rich as we are?

Short answer: by relying more on other, less carbon-emitting forms of energy.

Surely the sooner we arrest global warming the better off we'll all be, rich and poor.

The goal of the moratorium on new mines is to hasten the process of decarbonising economic activity.

It's clear the world's growing commitment to action against climate change will see a decline in the demand for coal - the most emissions-intensive way to make electricity - so that much of our huge deposits of coal will stay in the ground.

It's true there's a lot more coal to be burnt before world demand dries up, but total consumption actually fell in 2014-15. Within that, China's consumption fell by 3.7 per cent.

The big fall in coal prices in recent years tells us the supply of coal now exceeds demand. With Australia accounting for 27 per cent of seaborne trade in coal, what happens if we expand our production capacity and start exporting more?

We push the world price down even further. Since the average cost of electricity from renewable sources is, as yet, higher than for coal-based power, this would worsen the comparison further, slowing the shift away from fossil-based electricity.

It would also lower the prices being received by our existing coal exporters, threatening employment in their mines. So a moratorium would benefit our pockets as well as the environment.

But how much would we lose by not building any more coal mines nor extending existing ones?

The Australia Institute set out to answer this question with help from modelling by Professor Philip Adams, of the Centre of Policy Studies at Victoria University, Melbourne.

The study found that, even with a ban on new mines, Australia's coal production would decline only gradually as existing mines reached the end of their economic lives. Existing mines and those already approved could still produce tens of millions of tonnes of coal into the 2040s, assuming other countries still wanted to buy them.

The modelling suggests the nation's economic growth would be barely affected, with the level of gross domestic product being just 0.6 per cent less than otherwise by 2040. Whether we did or we didn't, nominal GDP would roughly have doubled to $3 trillion by then.

Because coal mining is so capital intensive, the effect on national employment would be even smaller. By 2030, the level of employment would be 0.04 per cent lower than otherwise, but by 2040 this difference would have gone away.

Similarly, the value of our total exports of goods and services is projected to be only 1 per cent lower than otherwise by the final years of the period.

But our coal production is concentrated in NSW and Queensland, so the adverse effect on those state economies would be greater. By 2040, the level of gross state product would be, respectively, 1.3 per cent and 3.8 per cent less than otherwise, while the other states' GSP would be a little higher than otherwise.

Now, I trust that by now you've learnt to be cautious about accepting the results of modelling exercises, especially when they've been sponsored by outfits using the results to advance their cause, as is the case here.

The simple truth is that no-one knows what the future holds, and that's just as true for the econometric models economists construct.

Their models of the economy are more comprehensive and logically consistent than the model we hold in our heads. But relative to the intricacy and complexity of the actual economy, models are still quite primitive (this one doesn't have the official data to let it distinguish between steaming coal and coking coal, for instance).

Models are built on a host of assumptions, some based on economic theories about how the economy works and some about what will happen in the future.

The strength of this particular modelling exercise is that it's a lot franker about the model's limitations and about the specific assumptions.

It uses a dynamic "computable general equilibrium" model designed to capture the interrelationships between 79 industries, divided into states and regions.

The model takes account of "resource constraints" - it acknowledges that land, labour and capital are scarce; that everything you do has an opportunity cost.

This means that, unlike much "modelling" produced for the mining lobby, it doesn't assume that the skilled workers needed for a new mine just appear from nowhere rather than having to be attracted from jobs elsewhere, nor that when a new mine isn't built, all the labour and materials that could have been used sit around idle.

As is normal, the modelling starts by establishing a business-as-usual "baseline" projection out to 2040. For instance, real GDP is assumed to grow at an average annual rate of 3 per cent for the first five years, then 2.6 per cent for the remaining 20 years.

Once this baseline or "reference case" is established, the modellers impose the policy change (no new coal mines) and run the model again to see how this changes the baseline results.

That is, it's not a forecast, just an attempt to get an idea of the consequences of banning new coal mines.

The model's modest results make sense. The effects would be small because the coal industry is just a small part of the economy, because the phase-out would be gradual, and because other industries would expand to fill the vacuum it left.

Read more >>

Why the super tax changes mustn't be watered down

Everyone wants to know what achievements Malcolm Turnbull can point to after his first year as Prime Minister. Well, I can think of something: his reform of the tax breaks on superannuation – provided he gets it through without major watering down.

Why is it such a big deal? Because it ticks so many boxes. Because it makes the taxation of super much less unfair.

Note, I didn't say much fairer. It will still be an arrangement that gives the least incentive to save to those who find saving hardest, and the greatest to those whose income so far exceeds their immediate needs that they'd save a lot of it anyway.

A report by John Daley and others at the Grattan Institute, A Better Super System: Assessing the 2016 tax reforms, independently confirms the government's claim that the changes will adversely affect only about the top 4 per cent of people in super schemes.

That still leaves a lot of well-off people – including the top 4 per cent – doing very nicely out of super.

Remember this when Turnbull's backbenchers embarrass their leader and add to their government's signs of disarray by pressing for the changes, announced in this year's budget, to be watered down.

Whose interests did you say the Liberal Party represents? Why exactly does it claim ordinary middle-income voters can trust the party to look after their interests?

But back to the reform's many attractions. It would cut back one of the major loopholes that make tax paying optional for the well-placed but compulsory for everyone else; that allow very high income-earners to end up paying a lot less tax than they're supposed to.

A lot of the savings from reducing concessions to the high fliers (who, you should know, include me) would be used to improve the bad deal given to low income-earners and to make other changes but, even so, would produce a net saving to the budget of $770 million in 2019-20.

This saving would get a lot bigger over time.

So the super reforms would contribute significantly to reducing the government's deficits and debt, but do so in a way that spread the burden more fairly between rich and poor than the Coalition's previous emphasis on cutting welfare benefits.

A lot of well-off people have been using super tax concessions to ensure they leave as much of their wealth as possible to their children – a practice lawyers refer to euphemistically as "estate planning".

Wanting to pass your wealth on to your children is a human motivation as old as time. The question is whether it should be subsidised by other taxpayers.

If it is, rest assured it's a great way to have ever-widening disparity between rich and poor. In the meantime, it adds to (recurrent) deficits and debt.

The rationale for Turnbull's changes is the decision that superannuation's sole purpose is to provide income in retirement to substitute for, or to supplement, the age pension.

They fall well short of eliminating the use of super tax concessions to boost inheritance, but they make a good start.

This is the goal of the three main measures Turnbull wants. Reducing the cap on before-tax contributions to $25,000 a year will save almost $1 billion in 2019-20.

Capping at $1.6 million per person the amount that can be held in a retirement account paying no tax on the annual earnings. Any excess balance will have its earnings taxed at the absolutely onerous rate of 15 per cent – less dividend imputation credits. This will save $750 million a year.

Introducing a $500,000 per person lifetime cap on after-tax contributions, counting contributions since 2007, will save $250 million a year.

If those caps strike you as low, you're just showing how well-off you are. The huge majority of people will never have anything like those amounts.

They're set at levels sufficient to allow a comfortable retirement even for those anxious to maintain a high standard of living. Anything more and you're in estate planning territory – or you just want every tax break you can get because you're greedy.

The claim that starting to count contributions towards the $500,000 cap in 2007 (the time from which good records became available) makes it "retrospective" is mistaken.

The measure is prospective in that it applies to income earned after the day it was announced, not before.

Where contributions in excess of the cap have been made already, they won't be affected by the measure.

Any tax change is likely to affect the future tax consequences of actions taken in the past. That doesn't make it retrospective.

To say "I had planned to do things in the future to reduce my tax which now won't be effective" is not to say the changes are retrospective.

Sometimes politicians announce changes well before they take effect, to allow people to "get set". But it's common for them to make tax changes that take effect from the day of announcement, precisely to stop people getting set. That doesn't make the change retrospective, either.

As Daley says, "the proposed changes to super tax are built on principle, supported by the electorate, and largely supported by all three main political parties.

"If common ground can't be found in this situation, then our system of government is irredeemably flawed."

Read more >>

TALK TO BSL FORUM ON YOUTH UNEMPLOYMENT

Melbourne, Monday, September 12, 2016

Last week I got an email from Peter, a 23-year-old who’s been unemployed and on the dole for the past six months. As required by Centrelink, he applied for 20 jobs a month, from which he got just three interviews and no job offers. “I’m finding it hard to get work”, he says, “because I’d like to work in a computer shop . . . but it’s either ‘you don’t have enough experience’ or ‘you don’t have the qualifications’. Really annoys me. It’s not that I want to be a bludger, I’d gladly take part-time and earn some small money . . . or full-time work if I could.”

Something funny has been going on in the labour market since the global financial crisis in 2008. Funny peculiar, I mean; it’s not exactly amusing. Until then, the overall rate of unemployment had been falling steadily since an uptick after the introduction of the GST in mid-2000. After the financial crisis, unemployment jumped, but then fell back reasonably quickly as we realised we’d escaped being caught up in the Great Recession as the other advanced economies had been - and pretty much still are.

But then our economy went for some years growing at below-trend rates and the overall unemployment rate began creeping up. Only since early last year has the economy been growing a bit faster and has overall unemployment fallen from a peak of 6.2 per cent to its present 5.7 per cent, which does seem to be a plateau.

The peculiar thing is that the youth unemployment rate - for those aged 15 to 24 - has followed roughly similar trends, but in a more exaggerated way. That’s particularly true since the GFC.  When overall unemployment jumped after the crisis, youth unemployment jumped by a lot more. It didn’t fall back as far after the crisis subsided, and it rose faster when the economy’s growth was inadequate. When growth picked up more recently, youth unemployment did fall back faster than overall unemployment, but now while the overall rate seems to have plateaued, the youth rate is actually rising.

So, while the overall rate fell to a low of 4.1 per cent before the GFC, the rate for youth’s lowest point was 8.7 per cent. And today, while the overall rate seems to have plateaued at 5.7 per cent, the youth rate is up at 13 per cent - which is a widening of the gap between the two of about 60 per cent. It’s also well over a quarter of a million young people (276k).

I want to give you my explanation for that widening gap, but first let me describe some other dimension of the youth unemployment problem. There is quite a bit of variation between regions and within states. Using the most recent figures, for January, and rounding to whole numbers, NSW’s worst regions are the Hunter Valley (22 per cent) and the Mid-North Coast (20 per cent). Victoria’s are Melbourne West and Geelong, both on 18 per cent.

Turning to long-term unemployment, nearly 17 per cent of those youths unemployed at present have been so for more than a year, meaning there are about 45,000 Australians who’ve been looking for work without success for a year or more. Here, too, the improving trend before the GFC has since reversed.

And in line with the worsening in youth unemployment has been a rise in youth under-employment - people with part-time jobs who’d prefer longer hours - including, no doubt, plenty who’d prefer a full-time job. The most recent figures, for May, show the youth under-employment rate is nearly 20 per cent. That’s more than a third of a million young people (360k).

So why is it that, even though we congratulated ourselves in 2009 for having escaped the Great Recession, we’ve seen this worsening in youth unemployment? Well, the first point I’d make is one retiring Reserve Bank governor Glenn Stevens has often made. The fact is we didn’t escape recession at that time. We did have a recession - when sensibly measured as a period of falling growth and sharply rising unemployment - but exceptionally deft economic management ensured it was a shallow and brief recession. It wasn’t anything like the severe recessions we experienced in the early 90s and, before that, the early 80s.

But one of the ways employers contributed to the shallowness of that post-GFC recession was by minimising layoffs and using other, seemingly gentler ways to reduce their payrolls. There was, for a time, a lot of resort to four-day weeks and, for much longer, what’s euphemistically known as “natural attrition” - not replacing people who leave, and skimping on, or skipping entirely, the annual entry-level intake.

In the years since then when, until recently, growth hasn’t been all that strong, particularly in the “non-mining” part of the economy, many employers have persisted with low levels of recruitment at the entry level.

The trick, of course, is that this solution suits the interests of older, established workers, but does so by shucking off most the burden of adjustment onto young people, particularly that year’s crop of education leavers. How much concern for their welfare? Not a lot.

We do hear a lot about the trouble some older people find in regaining employment should they lose their jobs. It’s a genuine problem and one we should care about.

But the unemployment problems of the old seem to attract a lot more public attention - and sympathy - than the similar problems of the young.

Research by the Brotherhood using the HILDA survey - finds those aged 55-and-over account for just 8 per cent of the unemployed, whereas those aged under 25 make up more than 40 per cent.

So unemployment is concentrated among the young. And, as Stephane and his OECD colleagues have reminded us, the sad truth is it’s concentrated among the less educated and less skilled.

In the modern technologically-driven workforce, there are many fewer jobs for people who quit school early and for those who don’t acquire post-school trade or tertiary qualifications. What unskilled jobs remain tend to be casual and occupied by uni students or young mothers.

In 2008, according to the Brotherhood’s figures, 45 per cent of the unemployed had failed to complete year 12, with another 20 per cent having gone no further than year 12. That’s almost two-thirds.

Governments can’t be blamed for the employment practices of businesses, but they can be held accountable for their punitive treatment of the young unemployed - even if they are reflecting the adult world’s lack of sympathy for youthful job seekers. Oldies seem convinced that the young’s only problem is that they don’t want to work and so need to be starved back to the grindstone.

The dole has been allowed to fall way below the age pension so that it’s now less than $280 a week for a single adult. The “youth allowance” is even lower. Now the government wants to deny the $4.40 a week “energy allowance” to new entrants, as a cost-cutting measure.

Why young voters cop this crappy deal so meekly I don’t know.

Read more >>

Our youth jobs report card: what's up with you people?

It's surprising how many of our politicians, economists and business people fail to see that our preference for looking after high-achieving young people and not worrying too much about the stragglers is a recipe for much more than social injustice and unfulfilled lives.

The earlier we identify and help kids at risk of doing poorly in education, training and employment, the more we help the community as well as the kids.

It's a social and economic investment. Neglect it and we lose much more later, as people spend more of their life on benefits and add little to the productivity of our workforce.

On the face of it, a report card on our performance, Investing in Youth: Australia – to be released by the Organisation for Economic Co-operation and Development at a forum hosted by the Brotherhood of St Laurence in Melbourne on Monday – gives us a pass.

Our education system "performs well overall, and school completion rates have been rising in recent years".

The labour market situation of youth in Australia is "quite favourable by international standards". Our youth unemployment rate is [a bit] "below the OECD average".

But this is not so terrific when you remember that "Australia was hit much less heavily by the Great Recession than most other countries".

"After continuous decline in youth unemployment rates since the early 1990s, rates have started rising again, while youth employment has fallen."

But the report focuses not on youth unemployment, but on NEETs – the share of youth (people aged 15 to 29) who are "not in employment, education or training". And, at 11.8 per cent, the share of NEETs was higher in 2015 than it was before the global financial crisis in 2008.

That's well over half a million young Australians out of education and work. About a third of those are looking for work, but the other two-thirds aren't.

The first factor driving the high proportion of NEETs is low educational attainment. Quelle surprise.

Youth with, at best, a year 10 certificate, account for more than a third of the NEETs. And their risk of being in that state is three times as high as for those with tertiary education.

Worse, "many NEETs lack foundational skills (numeracy and literacy) and non-cognitive skills, which are important prerequisites for labour market success," the report finds.

But there's hope if we bother helping. "Recent research demonstrates, however, that non-cognitive skills, like cognitive skills, remain malleable for young people through special interventions."

Get this: the risk of being NEET is 50 per cent higher for women, and women account for 60 per cent of all NEETs.

So the biggest single explanation of why so many NEETs aren't looking for work is that many of them are young mothers with a child below the age of four. And don't assume they're all sole parents on welfare.

The report adds that NEET rates are substantially higher among Indigenous youth, who represent 3 per cent of the youth population, but 10 per cent of all NEETs.

And the likelihood of being NEET is substantially higher for youth with disabilities.

In case you're tempted by visions of all those lazy loafers out surfing, or with their feet up watching daytime television, the report says NEETs "tend to exhibit higher rates of psychological stress and lower levels of life satisfaction" than other youth.

In its own ever-so-polite way, the report notes our less-than-stellar performance. The completion rate for vocational and educational training certificates and apprenticeships "remains low by international standards".

That's one way to acknowledge the awful stuff-up we've made of VET.

Australia has a wonderful, very flexible, market-based network of employment service providers that "cover, however, only about 60 per cent of NEETs, leaving around 200,000 youth unserviced". Oh.

"Young jobseekers' participation in training programs increased over the last years, but this trend came to a halt with the recent expansion of Work for the Dole", we're told.

"Given strong evidence on positive employment effects of training, including for disadvantaged jobseekers, Australia should continue promoting training program participation as an effective way of moving young jobseekers into stable employment."

Translation: what's up with you people?

The report praises our Youth Connections program and its effectiveness in improving educational attainment for youth at risk of dropping out of school – before noting it was phased out in 2014.

"The recent tightening of eligibility criteria for unemployment benefits may create additional incentives to actively look for work, but it also bears the risk of pushing the most disadvantaged youth into inactivity and possibly poverty," we're told.

Translation: you mean Aussie bastards.

Read more >>

Economy steams on for another quarter

Just about everyone who doesn't look at the numbers - which is most people - is convinced the economy is "slowing", suggesting disaster may be just around the corner.

How do they know it's slowing? Because almost all the economic news is bad. They don't notice that most of the bad news comes from somewhere else - Britain, Europe, Japan, China, even the US.

And people who warn that the economy is slowing always sound wiser and more knowing than people who say it seems to be going OK and will probably stay OK.

Of course, if you do look at the figures you find little sign the economy is slowing. Indeed, the national accounts we got from the Bureau of Statistics this week show that real gross domestic product grew by 3.3 per cent over the year to June.

Three months earlier, the figures tell us, real GDP grew by 3 per cent over the year to March. Before that we had growth of 2.8 per cent over the year to December and 2.6 per cent over the year to September 2015.

During all that time we've had people confidently telling us the economy is "slowing". What's more, within a week they'll have forgotten this week's good news from the national accounts - as they did all the other times - and be back telling us the economy is "slowing".

The good thing about the national accounts is you can always find something that's not looking too hot - provided you ignore all the things that are going OK.

This time you can say that, since the economy grew by 1 per cent in the March quarter, but by only 0.5 per cent in the June quarter, it must be "slowing".

But you have to be an amateur to believe the accounts can be taken so literally.

They're too subject to lumpiness (big transactions, such as the purchase of jumbo jets, which happen irregularly rather than smoothly from quarter to quarter), to error (such as a big transaction getting into the wrong quarter) and to frequent revision (there's a lot more statistical guesswork in the first estimate of growth during a quarter than people imagine, mainly because a lot of the figures needed are collected only yearly) for them to be treated as God's truth.

You could also say that growth in consumer spending of just 0.4 per cent in the quarter was surprisingly weak but, again, we shouldn't be too literal. Growth of 2.9 per cent over the year is pretty healthy.

Actually, if you're looking for something that really is "slowing" you'll find it not in the national accounts, but in the monthly job figures. They show that employment hasn't grown as strongly this year as it did in the last half of last year, meaning the rate of unemployment seems to have stopped falling and plateaued at 5.7 per cent.

This tells us there's been some instability in the normally fairly stable relationship between growth in the economy and growth in employment.

It would be more worrying if growth in the driver of that relationship - the economy - weren't holding up so well, and possibly increasing. This being so, employment should start behaving more normally in time.

The real growth in GDP over the year to June of 3.3 per cent was generated by, in descending order of contribution, growth in: the volume of exports of 9.6 per cent (with extra help from a 0.5 per cent fall in the volume of imports), consumer spending of 2.9 per cent, public consumption spending of 4.4 per cent, public infrastructure spending of 13.9 per cent, and home building of 8.3 per cent.

All of which was reduced by a negative contribution to growth of 2.2 percentage points from the 13.8 per cent fall in business investment spending, as the continuing fall in mining construction activity swamped still fairly flat growth in non-mining business investment.

If those figures make you think the public sector - federal, state and local - has been spending like crazy, don't be misled. Public sector spending is lumpy, and June quarter spending was overstated (and business investment spending correspondingly understated) by state governments buying prisons and other facilities previously built by the private sector.

Here's some indisputably good news: the productivity of labour in the market sector improved by 1.5 per cent during the quarter and by 2.9 per cent over the year.

There's an old rule that one quarter's figure doesn't equal the start of a new trend. Remembering this, there are some encouraging figures in the accounts we can hope will turn out to be improving trends.

The most significant is that, after deteriorating for nine quarters in a row, our terms of trade - export prices relative to import prices - improved by 2.3 per cent in the quarter.

This means stronger growth in real gross domestic income (real GDP adjusted for the terms of trade) of 1.9 per cent over the year. That is, the international purchasing power of the goods and services we produce wasn't cut back this quarter the way it has been.

When export prices fall far enough, nominal GDP grows more slowly than real GDP. This is a problem for the Treasurer because the taxes we pay are levied on our nominal income and spending.

But the improvement in the terms of trade helped nominal GDP to rise by 1.3 per cent in the quarter and 3.4 per cent over the year. This is the strongest result in more than two years.

The final good news is proof the economy is now well advanced in making the much ballyhooed transition from mining- to non-mining-led growth.

Over the year to June, the mining sector contributed about a quarter of the overall growth of 3.3 per cent, whereas the (much larger) non-mining sector contributed about three-quarters.

Read more >>

Let's not blow our big chance for progress on climate change

Our attitudes to climate change are becoming like our attitude to death: we know we must face up to it one day, but right now we'd prefer to think about something else.

This may explain why the media's coverage of a potentially breakthrough report from the government's Climate Change Authority focused on environmentalists' criticisms of it rather than its actual content.

Similarly, why focus on the world's two biggest greenhouse gas emitters, China and the United States, using the G20 meeting in Hangzhou to ratify the Paris climate change agreement – thus encouraging other countries to do likewise and raising hope the deal will come into effect this year – when you can speculate about conflict over the South China Sea and foreign investment?

Forgive me, but I'd never make a card-carrying greenie, righteously condemning any proposal to act on climate change that's less than heroic – as both the Paris agreement and the climate authority's report on the policies we need to ensure we deliver on our commitment, most certainly are.

I've never believed that if you can't have it all, you're better off having nothing. Nor that if you make a less than perfect start, this precludes you from getting better over time.

Our commitment – reached when Tony Abbott was still in charge – is to reduce our emissions of carbon dioxide by 26 to 28 per cent on their level in 2005 by 2030.

This is less demanding than many other countries' commitments and, in any case, all the commitments aren't enough to achieve the stated goal of limiting global warming to below 2 degrees.

Although the climate authority was established by Julia Gillard, the Coalition has replaced most of its members with people not known for their deep commitment to environmentalism.

It's chaired by a former director of the National Farmers Federation, joined by, among others, a former Liberal chief minister and boss of a top industry lobby, and a former National Party minister.

When Abbott abolished Gillard's euphemistically named "price on carbon" – it was an emissions trading scheme, but initially with the price set by the government at $23 a tonne of carbon dioxide – he replaced it with a "direct action plan" consisting of a taxpayer-funded emissions reduction fund used to pay farmers and others to reduce their emissions.

This was combined with a "safeguard mechanism" designed to prevent gains from the purchased reductions being undone by increases in emissions elsewhere in the economy.

Under the safeguard, about 140 large businesses that each have plants with direct emissions of more than 100,000 tonnes a year have been given an emissions "baseline" they must not exceed.

Many experts have criticised direct action as inadequate to achieve our new commitments, especially considering the government's budget pressures.

The greenie evangelists are calling on the government to confess the error of its ways, repent its manifold sins, scrap its evil direct action plan and replace it with measures so politically painful as to prove it is truly born again.

The climate authority's proposals are a little more conscious of politicians' aversion to losing face. They thus have a good chance of being accepted.

Whatever it says, the government must know its present arrangements are insufficient to meet its international commitments without hugely increased cost to taxpayers.

That's particularly true since, as the authority points out, the Paris agreement itself requires countries to review and improve their commitments over time.

The authority avoids the trap of proposing the government scrap what it's doing and start again from scratch. Rather, it shows how the government can build on its existing policies to strengthen its efforts.

Rather than proposing restoration of an emissions trading scheme, or the imposition of some economy-wide carbon tax, the authority takes the less economically virtuous but more practical approach of choosing between price-based and regulation-based measures, depending on the circumstances of particular industries.

That's why its report is titled Towards a Climate Policy Toolkit.

Since electricity generation is by far the greatest emitter of greenhouse gases, the authority proposes that the industry's present baseline under the safeguard mechanism be replaced with an "emissions intensity scheme", whose baseline would be reduced to zero between 2018 and "well before 2050".

In practice, this would require fossil fuel-based generators to subsidise renewable generators, eventually causing almost all generation to be from renewables. It would raise retail electricity prices somewhat, but by far less than under the Gillard scheme.

For other industries covered by the safeguard mechanism, their emissions baselines should decline in line with our Paris commitments.

Elsewhere, the authority wants the government to impose emissions reduction standards on new vehicles, continue and strengthen household appliance standards and building codes, and tighten regulation of emissions from landfill waste.

This toolkit approach minimises the risk of hip-pocket opposition from consumers. Building on existing arrangements rather than starting again is attractive to business groups.

The proposals not only build a bridge for the government to move to policies more adequate to the challenge we face, they build a bridge to a bipartisan climate change policy because the authority's proposals fit well with those Labor took to the election.

And bipartisan policy provides just the certainty needed for business to stop arguing the toss and accept that, since our move to a decarbonised economy is now inevitable, it should get on with adjusting.

Read more >>

Morrison's unplanned plan to fix the budget

Scott Morrison can use scare tactics in seeking greater support for his task of getting the budget back on track, but he'll do better by spreading the needed sacrifice more fairly. That means holding the line on his superannuation reforms against his own backbenchers.

Morrison isn't alone in fearing that our completion of 25 years of continuous economic growth has left many of us complacent, unaware of the tough measures we needed to put up with to make this success possible and, equally, the further discomfort needed to keep it going.

There's truth to this, no doubt. But I doubt that scare tactics are the way to puncture that complacency and win wider acceptance that we all need to take some pain for the greater good.

Morrison's claim in his latest speech that, given a host of dire but unstated assumptions, federal gross debt could reach a trillion dollars in a decade, is an easy way to get a headline but is unlikely to make anyone more amenable to unpopular budget measures.

Does the man not realise that, after decades of dishonest dealing with voters by both sides of politics, no politician has the credibility to have such extreme claims believed – or even remembered?

More fundamentally, do Morrison and his Treasury advisers not realise that their practice of exaggerating the budget deficit by refusing to distinguish between capital and recurrent spending – by, in effect, claiming that failing to pay for long-lived public infrastructure fully in the year of construction is financially irresponsible – is wearing thin and robbing them of support from the more economically literate?

The truth, if the budget papers are to be believed, is that the recurrent budget is already close to balance – which is not to say we shouldn't now aim for a period of recurrent surpluses so as to liquidate the part of our accumulated debt arising from earlier recurrent deficits.

No, a better way to win public acceptance of unpleasant budget measures is to demonstrate that the burden of restraint is being spread fairly between the bottom, middle and top income-earners.

The biggest single reason the Coalition has, from the beginning, met such resistance to budget repair from the public – and, therefore, the Senate – is its blatant lack of concern for fairness.

Remembering our tightly means-tested welfare system, to start from the premise that the budget has a spending problem, but not a revenue problem, is to pre-ordain that your savings measures will focus on spending programs benefiting the bottom and middle, while ignoring the "tax expenditures" favouring the top.

The Coalition's first term is testament to the truth that making budget repair conditional on achieving smaller government – lower government spending without any increase in taxation – is a recipe for failure on both.

Ostensibly, Morrison's talk of "the taxed and taxed-not" and repetition of his mendacious claim that "you don't encourage growth by taxing it more" suggest he's learnt nothing about the compromises he himself must make if he's to succeed in repairing the budget.

But things have changed, as witness Morrison's weasel-word acceptance of the need for measures to "protect the integrity of our tax base".

This year's (still unpassed) budget was aimed not at budget repair but at tax reform. To this end it nicked Labor's plan for further huge increases in tobacco tax, introduced convincing measures to greatly increase taxes paid by multinationals and cut back and redistributed superannuation tax breaks for high-income earners.

Even its $6-a-week tax cut for the top quarter of taxpayers is insufficient to prevent income tax increasing through continuing bracket creep, let alone give back proceeds from the creep that occurred under the Coalition's previous two budgets.

These tax increases were made to help cover the initial costs of the 10-year phase-down in the rate of company tax, of course. Over its life, however, the tax package looked to be "budget negative".

But here's the trick: Morrison looks a lot more likely to get his various tax increases through the new Senate than his cut in company tax.

If so, he'll end up doing a lot to improve the budget balance, and doing it in a much fairer way than all the collected penny-pinching in his $6 billion "omnibus bill", as revealed by Jessica Irvine.

But the perception of greater fairness, as well as the saving to the budget – both initially and in subsequent build-up – will be hit hard should the revolt by a few government backbenchers over the super changes succeed in letting a handful of rich Liberal supporters off the hook.

Read more >>

Combatting climate change: let's try Plan D

Just as they say there's more than one way to skin a cat, so there are a lot of ways to reduce greenhouse gas emissions and "decarbonise" the economy. We've tried three ways so far, and now we may try a fourth.

The Rudd government tried to introduce an emissions trading scheme in 2009, but it was blocked in the Senate when the Greens joined the Tony Abbott-led opposition in voting it down.

When the Greens came to their senses, the Gillard government introduced a carbon tax in 2012, which it preferred to refer to euphemistically as "a price on carbon".

When Abbott came to power in 2013, he abolished the carbon tax and replaced it with "direct action" - using an emissions reduction fund to pay farmers and others to cut their greenhouse gas emissions.

But this week the government's Climate Change Authority recommended that the fund be supplemented by imposing an "emissions intensity scheme" on the nation's generators of electricity, so we could be sure of achieving the commitments the Abbott government made at the Paris climate conference last year.

Confused? Let me explain how an emissions intensity scheme would work and how it differs from its three predecessors. I think, given all the circumstances, it would be an improvement.

All four approaches are "economic instruments" which seek to use prices - rather than simple government laws about what we may and may not do - to encourage people to change their behaviour in ways the government desires.

Direct action just involves paying people to do things, whereas the other three are more sophisticated schemes, designed years ago by economists, to change market prices in ways that discourage some activities and encourage others.

Historically, economists have debated the relative merits of carbon taxes and emissions trading schemes, even though they are close relations.

If you look closely, however, you find that Julia Gillard's "price on carbon" was actually a hybrid of the two. It started out as a carbon tax because the government fixed the initial price at $23 a tonne.

But the plan was that after a couple of years, the price would be set free to be determined by the market, thus turning it into a trading scheme.

An emissions trading scheme - also called a "cap and trade" scheme - involves the government setting a limit on the total quantity of carbon emissions it's prepared to let producers emit, then requiring individual producers to acquire a permit for each tonne of carbon they let loose.

Producers who discover they're holding more permits than they need are allowed to sell them to (trade them with) producers who discover they're not holding enough.

The government would slowly reduce the number of permits it issued each year. This reduction in the supply of permits relative to the demand for them would force up their price.

The higher cost would be reflected in the retail prices of emissions-intensive goods and services, but particularly the prices of electricity and natural gas.

This, in turn, would encourage businesses and households to use energy less wastefully, as well as encouraging producers to find ways of reducing emissions during the production process.

The third scheme economists have invented, the emissions intensity scheme (a class of "baseline and credit" schemes), has similarities with emissions trading schemes.

The government takes the total emissions of an industry - in this case, the electricity industry - during a year and divides it by the industry's total production of electricity during the year, measured in megawatt hours, to give the industry's average "emissions intensity" - C0₂ per MWh.

Those producers within the industry whose emissions intensity exceeds this "baseline" must buy "credits" to offset their excess emissions, from those producers whose intensity is below the baseline, or face government penalties.

In practice, this would mean brown and black coal generators having to buy offset credits from combined-cycle gas, wind and solar generators, benefiting the latter at the expense of the former.

The Climate Change Authority recommends that the intensity baseline be reduced each year by a fixed percentage until it reaches zero "well before" 2050.

If the scheme began in 2018 and was to reach zero by, say, 2040, the baseline would have to be reduced by 4.5 per cent a year (100 divided by 22).

So the absolute size of the reduction in emissions required would be high in the early years, but get smaller over time.

A great political attraction is, whereas the other schemes raise the price of every unit of electricity, the intensity scheme just shifts costs between different parts of the industry, meaning the average price increase should be small.

There would be some price rise, however, because the production costs of renewable generators are higher than those for fossil-fuel generators, and the scheme would increase the proportion of renewable energy in total production.

Just how high the price had to go would depend to a big extent on the effects of further economies of scale and further advances in technology in reducing the average cost of producing renewable energy.

An economic advantage of the intensity scheme is that it wouldn't be open to trading permits with other countries' emissions trading schemes (especially the European Union's, where the carbon price has collapsed) nor to dodgy emissions credits from developing countries.

The main economic drawback of an intensity scheme is that, by not doing a lot to raise the price of electricity, it wouldn't do much to encourage businesses and households to reduce their demand for electricity.

To counter this, the authority proposes that generators needing to buy offset credits be allowed to meet their requirements by purchasing "white certificates" from existing state government schemes which offer incentives to firms that do things to reduce their power use.

Let's hope the new approach brings some action.

Read more >>