OUTLOOK FOR AUSTRALIAN POLITICS AND GOVERNMENT IN 2017

Talk to Australian Business Economists Annual Forecasting Conference

As a confirmed optimist who almost always obeys Monty Python’s injunction to always look on the bright side, I’m sorry to say I can’t think of many cheery things to say about the outlook for politics and government in Australia in 2017. Our political leadership has been in a bad way for the six or seven years since Labor decided it couldn’t stomach Kevin Rudd for a moment longer, and I don’t foresee it getting much better over the “forecasting horizon”.

The most hopeful prediction I can think to make is that federal parliament is likely to run most of its term (probably to late 2018, to get the Reps and Senate back into sync after the double dissolution, but May 2019 at the latest), with the next election being fought between Malcolm Turnbull and Bill Shorten. This would be the first time two leaders had faced each other for two elections in succession since 2001. This ought to be a sign of returning stability in federal politics - an end to the disposable leader syndrome - except that I’d also be expecting Shorten to beat Turnbull and thus give us yet another new prime minister.

I’m going to start by discussing Turnbull’s performance and prospects before I turn to Shorten’s and then look at the record and prospects for economic management and reform.

Turnbull the disappointing

I’m not telling you anything you don’t know when I say that, as prime minister, Turnbull has been surprisingly disappointing to all those - myself included - who held such hopes for him after the erratic and disturbing performance of Tony Abbott. And even to those who didn’t have high hopes for him. Apart from his pointing out that Abbott had been behind in the polls almost continuously since the disaster of the government’s first budget in 2014, Turnbull’s justification for overthrowing Abbott was the need to get on with reforms - particularly tax reform - and to have an articulate leader capable of explaining and justifying politically controversial changes with more than three-word slogans.

It hasn’t worked out like that. He’s turned out not to be particularly brave on the reform front, nor particularly good at explaining counter-intuitive policy proposals. I can’t think of any modern politician who’s smarter intellectually than Turnbull. Economists tell me he asks the most informed and penetrating questions when he turns his mind to a particular policy proposal. But he’s always had an EQ problem - suffering fools gladly (a key character trait of successful politicians), making other people like him and want to do his bidding. I think he’s a lot better at this than he was - concealing his temper tantrums, for instance; turning on the charm - but it turns out he lacks a good feel for politics. The most obvious example was his decision to deal with the problem of the micro-party preference whisperers in the Senate by changing the voting procedures and then cleaning out the micro-party ragtag by holding a double dissolution. He ended up with a much bigger and better organised number of minor-party Senators holding the balance of power.

Turnbull is always having “a bad week” in politics. Only some of the things that spoil his weeks are of his own making. But if you have too many such weeks, after a while the causes don’t matter. You’re expected to have more, and the media’s expectations tend to be self-fulfilling. I often bemoan the advent of politics as a life-long career, where people become political flag-carriers straight out of uni, and never have a career in the world outside politics. But Turnbull’s case - along with that of his father-in-law, Tom Hughes, and with John Hewson’s - makes me wonder whether it’s still possible for people to enter politics after a successful career elsewhere and be just as successful.

A lot of people explain Turnbull’s poor performance as happening because he’s allowed himself to become captive to his party’s hard Right. I think it’s more complicated than that. It’s true that, to get the votes he needed to defeat Abbott, Turnbull had to promise the Right in his party to persist with the most extreme of Abbott’s policies, particularly on climate change and the same-sex marriage plebiscite. Unusually, the National Party made him write those promises into its renewed Coalition agreement with the Libs.

Turnbull’s hope was that if he won the 2016 election convincingly - which looked quite plausible in the first months after he became prime minister - this would give him greater authority within the party, allowing him to mould it more to his liking and find ways of quietly softening policies such as the scepticism on climate change. But, as we know, it didn’t happen. He squeaked back with a one-seat majority and a worsened position in the Senate.

You’d usually expect greater discipline in a party teetering so close to defeat on the floor of the Parliament, but in Turnbull’s case it’s led to greater in-discipline. Apart from the Rudd-like behaviour of Abbott, supported by the two old fogeys Turnbull dropped from the cabinet, the hard Right has felt free to speak out whenever it thought Turnbull was in danger of going soft. The more Turnbull has pandered to these people, the more demanding they’ve become. And the more pressure Turnbull has felt under, the more he’s behaved like other politicians do, sticking to the day’s “talking points”, resorting to scare campaigns, criticising his political opponents rather than explaining his policies, and mouthing empty three-word slogans, such as Jobs and Growth.

But why is he being so indulgent? Why doesn’t he assert himself and be more like the leader he promised to be and many of us were hoping we’d get? Short answer: because he wants to stay prime minister. You need to remember that Turnbull’s party trick as a precocious youth was to introduce himself to people he met as a future prime minister. More significantly, you need to remember that when Turnbull was ousted by Abbott as opposition leader in 2009, he took his colleagues’ censure very hard and, for a time, contemplated quitting politics altogether. Although climate change and Turnbull’s support for Rudd’s carbon pollution reduction scheme where the advertised reason for Turnbull’s overthrow, the underlying reason was his arrogant treatment of his colleagues and failure to consult them. Today Turnbull is obsessed by ensuring his colleagues never creep up on him again. His government is highly consultative, and the policies it pursues are those the parliamentary party is comfortable with.

Like Rudd, Turnbull may have allies of convenience in the party, but he has no factional base nor any mates. The great majority of those sitting behind him neither like him nor trust him. This is what makes Turnbull so susceptible to discontent on the part of his followers. Having stayed on in politics and finally triumphed over the man who triumphed over him, he has one all-consuming desire: to stay on as prime minister. Is he willing to abandon his own long-held policy positions in favour of those his party is more comfortable with if that will prolong its willingness to retain him as leader? Yes.

That willingness, combined with the lack of an obvious replacement, is likely to keep him in the job until the next scheduled election in 2018-19. The qualification to that is the politicians’ obsession with the opinion polls, which come fortnightly. If Turnbull stays well behind in the polls for long enough, his followers will get restive and start talking about alternatives. If he’s still behind as the election approaches, those in seats with low margins will get panicky and - as was the case with the second coming of Rudd in 2013 - will switch from wondering who’s more likely to get them back to office to who’s likely to lose fewer seats (including their own).

If they reach that point, the man they’re most likely to turn to is Abbott - which would be yet another parallel with Rudd. Abbott is not popular with his colleagues, who see his regular interjections in the political debate as self-indulgent and contrary to the government’s interests. Nor is there ever in politics, or anywhere else, much enthusiasm for recycling failed leaders. Nevertheless, in recent times we’ve seen them recycle Rudd (a man I’m sure they all hated with a passion) and Turnbull (ditto). They do so when the polls make them desperate enough, and those are the only circumstances in which the Libs would turn back to Abbott. One factor counting against Abbott is that his personal popularity in polls has never been high. He became prime minister not because anyone much liked him, but because voters were so anxious to get rid of Labor, with its unending internal brawling.

But what makes me so sure Turnbull will lose the next election? Turnbull’s appeasement of his hard Right is the right strategy to hang on as leader of the party, but the wrong strategy to get it re-elected. There are a least two certainties about the Australian electorate’s preferences: its aversions to party disunity and to extremism. Turnbull has a problem with both. First, backbenchers going public to put pressure on him and, second, the hard Right’s obsession with fringe issues of little importance to the public, such as using any means to delay recognition of same-sex marriage and reform of section 18C of the Racial Discrimination Act.

The plan truth is that, over the past decade or two, the Liberal Party rank and file and its parliamentary party have drifted to the Right, away from the centre ground where elections are won or lost. There are a lot of quite Right wing members of the parliamentary party and, if there are many moderates, they keep very quiet and seem to have done nothing to exert a countervailing influence against the hard-liners.

The hard Right is a mixed bag of often conflicting values: social conservatism, libertarianism and populism - combining xenophobia and a desire to return to our glorious manufacturing past. For as long as it takes most Americans to become thoroughly ashamed of their spoilt-child president, Trump’s triumph will encourage the Australian Right to be more outspoken about their extreme views and racial hatreds. The Coalition’s (correct) belief that One Nation is attracting more of its voters than Labor’s will add to its nervousness and drift towards more extreme policies. Many on the Libs’ hard Right have convinced themselves the party is out of touch with voters, but this just serves to demonstrate how out of touch they themselves are with mainstream voters.

I’ll be surprised if this rightward drift is rewarded at the ballot boxes. The more the Coalition sees its task as preventing regional voters drifting to One Nation, the more it risks losing moderate voters in the cities. After all, polling shows a majority of Liberal voters support such things as same-sex marriage and climate action. Another problem is that the Coalition is turning itself into the party of the elderly, of little attraction to younger voters, with its resistance to same-sex marriage, its defence of fossil fuels and hostility towards renewable energy, its defence of negative gearing and unwillingness to tackle housing affordability, its desire to raise university fees and its ever-harsher treatment of the young unemployed, not to mention the income tax system’s continuing biases on the basis of age rather than income level.

The public is too alienated by the way the modern political game is played for many people to take much interest in the detail of policy arguments. They have little interest in fact-checking. What they do is gain general impressions from the totality of events going down. They rely on their assessments of the rival politicians’ character - whether they seem competent, sincere and genuine. They like to feel they know what a leader and his party stand for. And that is Turnbull’s big problem. He’s been in politics a long time, everyone knows what he believes in and everyone knows he doesn’t actually believe many of the things he’s now saying. What’s more, he’s not a good liar. This is the sort of man Australians want as their leader? I doubt it.

Shorten the overachiever

 Bill Shorten is not a particularly attractive figure. He’s not particularly tall or good looking, nor is he obviously likeable. His union background doesn’t help - though it hasn’t damned him the way the Coalition hoped it would. His personal popularity in the polls has never been high, making him - like Abbott - someone who’ll win government only when the electorate is desperate to toss the incumbents out.

At the last election Labor knew it was unlikely to be returned to office after just one term in the wilderness, the more so after Turnbull won the Liberal leadership and was initially riding so high in the polls. Labor also knew that, unlike the Abbott opposition facing the unpopular Gillard government, it wouldn’t be able to get away with the degree of obstructionism and negativity Abbott resorted to. So, with so little to lose, Labor did something unusual, even laudatory: rather than make itself a small target, it made itself a big one, going into the election with some big and controversial “positive policies” - such as its superannuation reforms, crackdown on tax-dodging multinationals, and reform of negative gearing and the capital gains tax discount.

So, although neither side could resist the temptation to resort to scare campaigns, last year’s election campaign was about rival policy issues. That Shorten, against all expectations, went within a whisker of winning, shows two things. First, how politically inept both Abbott and Turnbull turned out to be in government. Second, how dogged Shorten provide to be in opposition. He’s an overachiever - he never gets disheartened, just keeps plugging away.

Politicians react to past failures, either their own or their opponents’. They’ll learn a surprising number of lessons from Turnbull’s surprisingly poor showing. It will be a long time before a government is tempted to think it could improve its position by holding a double dissolution. Similarly, it will be a long time before it’s tempted to hold a long campaign - or assume a “boring” campaign would work in the incumbent’s favour. The supposed potency of two favourite bogeymen was disproved - the union bogeyman and the negative-gearing bogeyman. The government’s tough proposals to curb the superannuation concessions of high income earners annoyed the richest part of its support base (and the hard Right of the parliamentary party) but didn’t seem to cost it many votes. And the high voter disapproval of company tax cuts suggests Turnbull’s Jobs and Growth package would have cost him more votes than it won. Finally, the effectiveness of Labor’s Mediscare means it will be a long time before the Coalition again proposes any health spending reforms that involve reducing bulk-billing or other cost-shifting to patients. This is a pity because, as a careful reading of any federal or state intergenerational report makes clear, the growing cost of hospitals, doctors and drugs is by far the greatest single threat to balanced budgets in coming years.

Shorten’s surprisingly good performance at the last election is my first reason for expecting him to stay as Labor leader until the next election. My second is that Labor’s new practice of giving its rank and file a say in the leadership vote makes the hiatus involved in changing leader mid-term a high price to pay. My third reason is there’s no obvious alternative leader. Tanya Plibersek may look a good prospect, but she hasn’t yet had the blowtorch on the belly. But, again, the qualification: should Turnbull’s Coalition get ahead in the fortnightly polls and stay there for months, the mutterings against Shorten would start up. The days of gratitude or loyalty in politics are long gone.

Prospects for economic management and reform

It’s a good thing that primary responsibility for day-to-day management of the macro economy long ago passed to the central bank and monetary policy, because the Abbott-Turnbull government has shown little enthusiasm for taking up the challenge. This is despite regular public requests from Glenn Stevens and now Phil Lowe that fiscal policy take more of the burden at a time when monetary policy’s potency has been greatly reduced by high household indebtedness. What they - and the IMF and the OECD - want is for the government to get on with balancing the recurrent budget while increasing its spending on worthwhile infrastructure projects.

Abbott and Hockey did have a red hot go at getting the budget back on track in their first budget of 2014. Had all its measures been implemented and persisted with, it would have got us back to surplus in time, mainly because of all the fiddling with indexation arrangements, no doubt at Treasury’s instigation, which would really have built up over 10 years. But little thought was given to the fairness with which the pain was shared between high and low income-earners and this, combined with the blatant breaking of election promises, caused the budget to be summarily rejected by the public and the Senate. The new government’s high standing in the polls collapsed and never recovered until Abbott was overthrown by Turnbull.

After than setback in the polls, the government lost interest in budget repair.  Abbott’s second budget, in 2015, was devoted almost wholly to attempting to restore the government’s popularity, with reform of childcare payments, paid parental leave and tax breaks for small business. Its next budget, Turnbull’s first, was devoted to letting down gently the government-created expectation of major tax reform. It contained various tax measures, the most notable of which was the largely unfunded 10 year phase-down of the company tax rate. This is certain to get through the Senate to the extent that it goes to small and medium businesses, but I think a flow-through to big business is unlikely.

The government has essentially given up on speeding the budget’s return to surplus. Though last year’s budget did contain various measures to increase tax collections, these seem to have been intended to partially cover the cost of its proposed company tax cut, not positively improve the bottom line. And, despite all the fuss it makes about getting spending cuts through the Senate, these are intended only to offset the cost of new spending measures, not make more than a nominal dent in the bottom line. Its only policy to reduce the budget’s structural deficit is to rely on bracket creep by delaying across-the-board tax cuts. But this hasn’t worked because price and wage inflation have been so weak.

Sorry to be the bearer of bad tidings, but the era of major microeconomic reform is over. That’s, first, because the electorate has no stomach for it. Polling shows strong majorities against company tax cuts, higher GST, reduced penalty rates, reduced protection and all privatisation. And, second, because no party or politician of either side shows the desire or the ability to carry major reform to fruition. The era of explaining and defending controversial policy proposals ended with the departure of Keating and Howard. The third reason times have changed is that the reform push has degenerated into rent-seeking by big business. All the reforms business pushes involve direct benefits to them, plus the assurance that this will do wonders for the wider economy, including workers. Sorry, people are too cynical to believe in trickle-down economics.

What we will continue to see, however, is occasional instances of limited, specific reforms, most of them motivated by budget pressures. If the company tax cut for big business fails to go through this time, but Trump’s big cuts in America’s corporate tax rate do become a reality, the pressure on us to reciprocate may intensify, but even that I wouldn’t regard as a certainty.

I believe we have seen a few worthwhile reforms from the Turnbull government: the new diverted profits tax trying to extract more revenue from multinationals, and the reduction in superannuation tax concession to high income-earners. An important point to note here is that they happened because Labor had made the first move in proposing similar measures (plus the further big hikes in tobacco excise, which the government simply copied). Once Labor had committed itself, the government became confident it could adopt similar measures without its opponents rallying any losers against it. The government also went close to doing something on negative gearing, but in the end decided not to, to give it some product differentiation with Labor. It’s easy for outside observers to underestimate how much the behaviour of governments is influenced by the behaviour of the opposition.

Let me finish by saying that the area of economic reform where the government’s performance has been most egregious is on policy to ease our transition to a low-carbon economy and honour our commitments at the Paris conference. Leaving aside Abbott’s role in our policy regression, Turnbull’s disservice to the nation was to swear off introducing a carbon intensity scheme the moment his hard Right party members, led by the now departed Cory Bernardi, expressed their disapproval. This scheme had been carefully worked up by people of goodwill hoping to provide Turnbull with a face-saving way of returning to a form of carbon pricing, which would help ease the transition from coal power to renewables and do it with only a small increase in retail electricity prices. Since then, Turnbull has done nothing but dig himself in deeper, in the process creating great uncertainty in the power industry, something that could easily end up adding to blackouts and price rises.

Read more >>

Don't worry, climate change is just imaginary

As we've sweltered through this terrible summer – and lately, as bushfires have raged – what a comfort it's been to know that climate change doesn't exist and isn't happening.

Or, if it does exist, it's not caused by anything humans have done, so there's nothing we can do about it.

Or, if it is caused by humans burning fossil fuels for the past 200 years, let's say we've got a policy to deal with it, go to international conferences and make pledges to act, then come home and not do much about it.

That way, we'll have all bases covered: something to calm the consciences of those still silly enough to believe climate change is real, but not enough to annoy the party's many climate change deniers, nor our generous donors in the coal industry.

And, just to make you feel better, let me remind you of the big win the deniers have had. The Coalition's leading, longest-standing and most articulate supporter of action on climate change has changed sides.

Malcolm Turnbull, the man who lost his job as party leader because was so keen to see action he supported the Labor government's emissions trading scheme, is now keen to ensure it never happens again.

The squeakiest wheels in the party want him to demonise renewable energy, blaming it for all the blackouts and price rises?  Introduce new government subsidies for coal while making the future for power generation so uncertain no one's game to invest in anything?

Sure. Whatever it takes.

(Don't worry, Malcolm, I'm sure all the people inside and outside the Liberal fold who were so pleased when you became Prime Minister – me included – will learn to accept your need to abandon everything we know you believe and start doing Tony Abbott impressions.)

It's the easiest thing in the world for people to imagine that whatever's been happening lately is much bigger and more terrible than ever before.

Trouble is, the scientists keep confirming our casual impressions.  A report this month prepared by top climate scientists for the independent Climate Council, is all bad news.

They say all extreme weather events in Australia are now occurring in an atmosphere that's warmer and wetter than it was in the 1950s.

"Heatwaves are becoming hotter, lasting longer and occurring more often," they say.

"Extreme fire weather and the length of the fire season is increasing, leading to an increase in bushfire risk."

This fits with the findings of the latest biennial CSIRO and Bureau of Meteorology State of the Climate report.

According to the bureau's Dr Karl Braganza, Australia is already experiencing the effects of climate change, with record-breaking heat now becoming commonplace across the country.

"Australia experienced its three warmest springs on record in 2013, 2014 and 2015," he says. "Temperature and rainfall during this period is critical to southern Australia's fire season.

"We've already seen an increase in fire weather and a longer fire season across southern and eastern Australia since the 1970s.

"In these regions the number of days with weather conducive to fire is likely to increase.

"Whilst the observations show us increased rainfall in some parts of Australia, we have also seen significant seasonal decline, such as in the April-October growing season, where an 11 per cent decline in rainfall has been experienced in the continental southeast since the mid-1990s.

"The changing climate significantly affects all Australians through increased heatwaves, more significant wet weather events and more severe fire weather conditions.

"Some of the record-breaking extreme heat we have been seeing recently will be considered normal in 30 years' time."

Oh, good.

Of course, none of this is having any effect on agriculture. It must be a great comfort to our farmers to know that, by order of Barnaby Joyce and the National Party, climate change is a figment of the climate scientists' imagination.

This is good news, since I read that reliable rainfall and predictable temperature ranges are critical to agricultural production, and these are the very factors affected by a changing climate – if it was changing, which it isn't.

A new CSIRO study, led by Dr Zvi Hochman, has found that Australia's average yields from wheat-growing more than tripled between 1900 and 1990 thanks to advances in technology, but have stalled in the years since then.

The study found that, since 1990, our wheat-growing zone had experienced an average rainfall decline of 2.8 millimetres, or 28 per cent per cropping season, and a maximum daily temperature increase of about 1 degree.

Australia's "yield potential" – determined by climate and soil type – which is always much higher than farmers' actual yields, has fallen by 27 per cent since 1990.

So all the efforts farmers have made to improve their yields with better technology and methods have served only to offset the effects of climate change, leaving them no better off.

"Assuming the climate trends we have observed over the past 26 years continue at the same rate, even if farmers continue to improve their practices, it is likely that the national wheat yield will fall," Hochman says.

He says these findings would be broadly applicable to other cereal grains, pulses and oilseed crops, which grow in the same regions and season.

But not to worry. They're only scientists. What would they know that our pollies didn't want to know?

Read more >>

Reserve Bank chief gently reproves Turnbull’s failings

Reserve Bank governor Dr Philip Lowe's economic policy to-do list for 2017 contains a lot more implied criticism of the Turnbull government's weak performance than it has suited some in the national press to report.

It's true that, in his speech last Thursday, Lowe was clear in his support for a cut in the company tax rate and, by implication, the government's plan to cut the rate from 30 per cent to 25 per cent over 10 years, at a cumulative cost to revenue of $48 billion, and then a continuing net cost of $8 billion a year.

Last among the four items on Lowe's to-do list was "rebuilding our fiscal buffers", by which he meant getting the budget back into surplus.

Our former good record of successive surpluses and negligible net government debt "provided us with a form of insurance", he said.

"It meant that when difficult times did strike last decade, fiscal [budgetary] policy had the capacity to play a stabilising role. We had options that not all other countries enjoyed."

Note to the government's media cheer squad, Treasury revisionists and Professor Tony Makin: this leaves little doubt about Lowe's rejection of your minority view that fiscal policy is ineffective in stabilising the economy during downturns.

Lowe went on to say that the task of returning the budget to surplus is complicated by our simultaneous "need to make sure that our tax system is internationally competitive".

"One example of this complication is in the area of corporate tax, where there is a form of international tax competition going on in an effort to attract foreign investment," he said.

"Like other countries, we face the challenge of responding to this, while achieving a balance between recurrent spending and fiscal revenue."

Since Labor is using its senators to oppose passing the government's tax cuts to big businesses, one Australian newspaper headlined this "Reserve Bank chief slams Labor on company tax block". Some slam.

I'm unpersuaded by the need to cut the company tax rate at a time when many multinational companies have already found ways to pay far less than 25 per cent, but that's for another day.

A point to note, however, is that whereas the government argues cutting company tax would do wonders for "jobs and growth", Lowe's argument is more negative: if we don't do it while other countries are doing it we'll lose foreign investment – and, presumably, jobs and growth.

Not nearly such an attractive selling proposition.

Another point worth noting is Lowe's implication that the budget needs to achieve balance in spite of the huge cost of cutting company tax.

Maybe we should headline this: Reserve Bank chief slams Coalition's failure to show how company tax cut will be paid for, and so not further delay our return to surplus.

Note, too, Lowe's reference to "achieving a balance between recurrent spending and fiscal revenue" (my emphasis).

This isn't the first time he's quietly taken issue with Treasury's longstanding practice of exaggerating the size of budget deficits by lumping spending on capital works in with recurrent spending – unlike the state governments.

Borrowing part of the cost of building infrastructure that will deliver economic and social benefits for 30 or 50 years is in no way "living beyond our means".

And, indeed, one place higher on Lowe's to-do list than achieving budget surplus in spite of company tax cuts is the task of "providing adequate high-quality infrastructure to help our citizens be as productive as they can be and enjoy a high quality of life".

He notes we've got a strongly growing population which, if we fail to invest in sufficient infrastructure, including transport infrastructure, can "impair our ability to compete and be as productive as we can be".

It's surprising how many people are great advocates of high immigration levels, but won't countenance the increased spending and borrowing needed to provide the additional infrastructure – roads, public transport, hospitals, schools – used by all the extra people.

Then they wonder why our productivity performance is weak.

Which brings us to the first item on Lowe's to-do list: "reinvigorate productivity growth".

"There is no shortage of things that could be done to lift our performance. The challenge is that most of these ideas require difficult political trade-offs." Just so.

Lowe's second issue on the list is "how best to capitalise on the opportunity that the economic development of the Asian region provides".

I'd have thought the answer was obvious: our business people should sit round waiting until our hopeless politicians provide them with tax incentives sufficient to induce them to get off their arses.

Read more >>

Now the transition phase is ending, wages can start rising

This year should see the end of the economy's protracted "transition" back to business as usual. You beaut.

Resources booms - or any other booms - are nice, but the subsequent busts are always hard. We'll know the bust is over when the fall in investment in mining construction - which began in late-2012 - tails off at the end of this year.

According to Reserve Bank governor Philip Lowe, we've already come 90 per cent of the way.

As a matter of simple arithmetic, the removal of this "negative contribution" to quarterly growth in gross domestic product will leave the figures a lot stronger.

This will be a triumph for the managers of our macro economy, particularly at the Reserve Bank.

Back in 2014, some of the biggest names in Australian economics were predicting that, in the absence of major reform leading to a huge boost in our productivity, we'd end up in recession.

To get back to normal we needed not only a big fall in our exchange rate from the heights it reached during the boom, but a period of weak wages growth to ensure the fall in the nominal exchange rate became a fall in our real exchange rate, thus yielding a lasting improvement in the international price competitiveness of our export and import-competing industries.

This is the bit the big-name economists didn't believe we'd pull off.

But we have. Which serves as a reminder that the weak wages growth we've experienced since mid-2012 isn't just some random bit of bad luck for workers, but a key part of the process by which the economy gets back to normal.

The economist who's long made a close study of Australia's commodity booms, past and present, and the problems they've caused when they bust, is Dr David Gruen, now deputy secretary, economic, of the Department of Prime Minister and Cabinet.

In a speech he gave last week, Gruen reviewed the progress of our transition phase.

He started by reminding us of just how big an "economic shock" to our economy the resources boom has been. The size of the improvement in our terms of trade (export prices relative to import prices) makes it easily the biggest sustained boom in our history.

Since their peak in September 2011, however, they've deteriorated by more than 30 per cent.

The boom in mining construction saw it increase from less than 2 per cent of GDP to a peak of about 9 per cent in 2012-13.

This resulted in something like a quadrupling in the mining industry's stock of physical capital, and a tripling in its production capacity, in the space of a decade.

"The largest investment was in liquefied natural gas production capacity, with Australia on track to overtake Qatar as the world's largest sea-based exporter of LNG," Gruen said.

The economic activity and employment that accompanied the investment boom caused a significant re-alloc​ation of labour across industries, but this has now been largely unwound as mining projects reach completion.

The improvement in the terms of trade caused sustained growth in real income per person (much of it coming in the form of lower prices for imports and overseas travel).

Since their peak in 2011, the terms of trade have subtracted from income growth by so much that, even with reasonable improvement in the productivity of labour, real gross national income per person has been falling.

"This is reflected in gradually falling real average earnings per hour over the past four years - for the first time in living memory," Gruen said.

With an end to the trend deterioration in the terms of trade now in prospect - they've been improving for the past three quarters - it shouldn't be long before real incomes start growing again, with the size of that real growth strongly influenced by the rate of improvement in labour productivity.

It's important to note that the unusual ease with which overall real wages have adjusted to, first, the boom and then the bust, is explained by the way relative wages in particular industries (relative to the economy-wide average wage) have behaved in a textbook-like fashion.

As the resources boom gathered strength from 2004, strong demand for labour in the resources, construction, and professional services sectors saw wages strengthen relative to those in other sectors.

Relative wages in healthcare and manufacturing stayed close to the economy-wide average, while relative wages in retail trade, and accommodation and food services, grew more slowly than the average.

But then, as the resources boom receded after 2011, wage growth in the resources, construction, and professional services sectors slowed to less than the average, enabling wages in other sectors to catch up somewhat.

Gruen expects this pattern to continue as the resources investment downswing runs its course.

"This sort of relative wage adjustment didn't occur in the [commodity booms of the] 1970s or early 1980s, and the result was significant increases in unemployment - an outcome we've succeeded in avoiding during the latest episode," he said.

So how come the big-name economists' forebodings proved misplaced?

I think they underestimated the extent to which the micro-economic reforms of the 1980s and '90s, combined with the improved "frameworks" for the conduct of macro-economic management, have made the economy more flexible - better able to roll with punches from economic shocks; less inflation-prone and unemployment-prone - and hence easier to keep growing at a reasonably stable pace.

In particular, they underestimated the way the moves to a floating exchange rate, an independent central bank and decentralised wage-fixing would help us cope with our periodic commodity booms.

In their enthusiasm to urge more micro reforms on us, they failed to realise how much we'd benefited from those we'd already made.

Read more >>

Shorten's New Year's resolution: practice what I preach

People are always complaining that our politicians – on both sides – are "out of touch". They're too high and mighty to understand the things that are annoying ordinary people in ordinary life.

This is a big part of the reason almost one person in four voted for a minor party in last year's election. The political establishment just doesn't get it.

But one of our pollies does claim to have got the message. Wading through all the usual guff in the start-of-the-year speech Bill Shorten gave last week, I came upon a passage so surprising I thought it worth recording.

"Restoring ... faith in the system is the threshold challenge for politics today. Rusted-on supporters and deep tribal loyalties are not what they once were," he said.

"There is one certainty in 2017: people are disengaged from politics and they're distrustful of politicians.

"To many Australians the political system is broken – and more than a few don't trust us to fix it.

"I say 'us' because virtually everyone in this room [at the National Press Club] is considered part of the problem, part of the political class.

"Rightly or wrongly, fairly or unfairly, we are seen as members of the same insider club, letting down the rest of Australia.

"This sense of alienation isn't a local curiosity – it's a global phenomenon. Strong enough to take Britain out of Europe – and put Donald Trump in the White House.

"And in these unusual times, politics-as-usual doesn't cut it any more.

"Yes, we are an adversarial democracy, built on the clash of ideas – I honour that. My job, as Leader of the Opposition, is to oppose what I believe is wrong. My job ... is to put positive ideas forward.

"But this year I am going to remind myself as often as possible: people first, politics last. I can't guarantee I'll always get that right – but I'm certainly going to try.

"Because Australians are sick to their core of the petty schoolyard bickering, he-said she-said, the tit-for-tat.

"They're not opposed to genuine debate about the future – but they are over the smallness of so much of the national political conversation ...

"Mind you, that counts for nothing if [scandals over politicians' expense claims make] people think we are acting in our own interests, instead of theirs."

Wow. But this column is no free ad for Team Shorten. I wanted to record it because it was so true, but also to help the man stick to his New Year's resolution.

Actually, it shouldn't surprise that Shorten "gets" all that. Our politicians aren't "out of touch" because that's why their parties (and sometimes, we taxpayers) spend thousands every year conducting focus groups with ordinary voters.

I bet that some of the phrases Shorten used were lifted straight from Labor's market research. Someone in the group blurts out some pithy opinion, everyone else says "Yeah, that's right!" and the researcher writes it down for future use.

As the "political class" knows, the punters love having their own opinions fed back to them. I'd also bet that both parties' rival researchers tell them much the same things about what voters like and dislike.

But if the pollies know how much we hate the way they carry on, why do they keep doing it?

Because some of the things they do still work, even though we hate them. Because they want to win the next election at all cost, and so are willing to do things that bring them immediate advantage, even though they add to the long-term fouling of the collective political nest.

Because many of the unconvincing things they say are intended to shore up the faith of the party faithful, not persuade the rest of us.

Because both sides are afraid that if they're the first to stop behaving badly, the other side will wipe the floor with them. Economists call this a "collective action problem", which can only be fixed by some outside authority imposing a solution on both sides.

Back to Shorten's resolution. It would certainly be a big change to Labor's behaviour since its success at last year's election left Malcolm Turnbull with such a tiny majority.

Labor has followed a sneaky strategy of giving the appearance of co-operation and positivity while quietly seizing opportunities to frustrate the government's program, making it look impotent and unstable.

To keep same-sex marriage alive as an issue for the next election, it has blocked Turnbull's plebiscite, using the excuse that the gay community wanted to avoid the risk of an abusive debate.

Were it less self-interested it would have advised gays that few great social advances come without pain, and that failing to take advantage of the public's present mood of approval risked having to wait many years for what they want so badly.

Just to make life hard for the government, Labor has ignored its principles and sided with Liberal dissidents and rich superannuants claiming Turnbull's super reforms were "retrospective" and sided with asset-rich oldies opposing Turnbull's reform of the age pension means test.

And now, it seems, Labor's preparing to side with elite private schools objecting to the government redirecting some of their lolly to more needy students.

What were you saying about voters being sick of rival politicians playing tit-for-tat, Bill?

Read more >>

Real energy problem is our secret gas parity-pricing policy

Malcolm Turnbull wants us to believe he's an energy magician, able to pull off a "policy trifecta" of eliminating blackouts and greatly reducing our emissions, all without much increase in the price of electricity and gas.

The main trick magicians use is to direct the audience's attention away from the place where they're doing their sleight-of-hand. That's what Turnbull's up to.

He wants to shift the blame for blackouts away from the feds and onto the states, while doing exactly the same for the big jump in gas prices.

He wants to blame our problems on a too-fast shift to renewables, to justify a new subsidy for new coal-fired power stations.

But the main thing he – and the gas industry – desperately wants to stop us noticing is that the leap in gas prices is a consequence of long-standing federal government policy and has nothing to do with the states' reluctance to let the gas producers frack all over their farmlands.

The balance of supply and demand for natural gas on our eastern seaboard was fine – and would still be today, were it not for the feds' earlier decision to allow foreign investors to build (too many) liquefaction plants near Gladstone in Queensland.

As the feds understood full well, once you can liquefy natural gas you can ship it overseas. And once you do that you've taken the relatively tiny, closed eastern Australian gas market and opened it up to the huge East Asian gas market, where prices are much higher.

The inevitable consequence was a leap in the price of gas on the eastern seaboard – plus a huge windfall gain to our eastern gas producers.

Now do you see why the gas industry and federal politicians of both stripes keep repeating the economic lie that the problem has been caused by the states' bans on fracking, and could be solved by lifting them?

No amount of increased gas supply on our part would be sufficient to lower the East Asian price of gas, which means no new producer of coal seam gas would be prepared to sell it to local consumers and manufacturers for anything less than they could get by selling it to Japan or China.

Unless, of course, the federal government obliged them to.

I don't object to the policy of export-parity pricing but, like its predecessors, the Turnbull government wants to keep the policy a deep, dark secret because it's so much harder to defend a super-rational policy in these days of populist indulgence than it was when Malcolm Fraser did something similar to petrol prices.

Turnbull wants to keep the super-rational policy, but shift the blame for its economic and political consequences to others.

Had he the courage, he could oblige the gas industry to use its windfall profits to compensate the household and business losers for losses arising from an implicit government policy change.

Turnbull blames South Australia's blackouts on its excessive enthusiasm for renewable energy which, pending the development of storage arrangements, has a problem with intermittent production.

He doesn't admit his parity-pricing policy is contributing. It was expected that gas-fired power generation would ease the transition from coal-fired to renewable generation.

That's because gas-fired power stations emit far less carbon dioxide and can be turned on and off as required to counter renewable energy's intermittency.

Guess what? South Australia has a new and big gas-fired generator at Pelican Point, near Adelaide, but it's been mothballed.

Why? Because the operator had a long-term contract for the supply of gas at a price set at the pre-export-parity level, and decided it was more lucrative to sell the gas into the East Asian market.

Last week Turnbull had the effrontery to argue that now gas-fired power had become uneconomic, we needed to fill the gap by subsidising new-generation "clean" coal-fired power stations.

Small problem. They're hugely expensive, only a bit less emissions-intensive than existing coal-fired stations, can't easily be turned on and off, and would supposedly still be operating 60 years later.

If there's a case for subsidising any fossil fuel-powered generators the obvious candidate is the gas-fired plants the feds' export-parity pricing policy has rendered uneconomic.

So great is the coal industry's hold over the Coalition that, not content with subsidising increased supply of coal from Adani and others at a time when coal is a sunset industry, Turnbull is now making up excuses to subsidise increased demand for coal by local electricity producers.

Economists are always telling politicians not to try picking industry winners. In reality, the politicians are far more inclined to back known losers.

Read more >>

Let's do our sums on mining's economic contribution

With Malcolm Turnbull desperate to keep burning coal for electricity, just how important is the mining industry to our economy? Short answer: not nearly as much as it wants us to believe, and has conned our politicians into believing.

Because people like me have spent so much time over the past decade and more banging on about the resources boom, we've probably left many people with an exaggerated impression of the sector's importance.

It's true that, thanks to a quadrupling in the value of its physical capital, mining now accounts for about 7 per cent of our total production of goods and services (gross domestic product), compared with less than 5 per cent in 2004, at the start of the boom.

But 7 per cent ain't all that much, and if you measure mining by how much of our workforce it employs, it's even less: 2 per cent.

That's just 230,000 people, about as many as are employed in the arts and recreation.

It compares with 300,000 workers in agriculture, 400,000 in financial services, 800,000 in accommodation and food services, 900,000 in manufacturing, almost a million in education, a million in construction, another million in professional services, 1.2 million in retailing and 1.5 million in healthcare.

Still think the economy revolves around mining?

How can an industry account for 7 per cent of our production but only 2 per cent of our jobs? Because it's so "capital intensive" - it uses a lot of expensive equipment, but not many humans.

Because it employs so few people directly, the industry is always paying "independent" economic consultants to estimate how many people it employs "indirectly" as dollars earned from mining are spent in other parts of the economy.

This is always a good way to impress judges - who know a lot about law, but little about economics - when you're trying to persuade them to let you despoil the environment.

It's true that money earned from mining has a "multiplier effect" when spent. But it's just as true of money earned from any other industry. Or money spent by the government.

Normally I'd be happy to defend an industry against the idea that it didn't contribute much because its capital intensity meant it directly employed few workers.

That's because what matters most is how much income the industry earns from its production. When that income is spent - by employees, suppliers, tax-receiving governments or profit-earning shareholders - jobs will be created somewhere in the economy.

In the case of mining, however, there's weakness in the argument. Our mining industry is about 80 per cent foreign-owned - mainly by BHP Billiton, Rio Tinto and Glencore - which, in econospeak, adds a huge "leakage" to the "circular flow of income" around our economy.

(Another leakage is that most of the heavy equipment the miners and natural gas producers use is imported.)

If most of the profits made by our (highly profitable) mining industry don't belong to us and end up being spent in some other economy, this greatly reduces the economic benefit we get.

Which makes it doubly important the mining companies are paying a fair rate of tax on their earnings in Oz.

Here, the industry often pays "independent" economic consultants to write reports showing what huge amounts of tax it pays.

But these usually rely on the legal fiction that the minerals royalties the miners pay to state governments are a tax. In economics, a tax is something you pay the government for nothing specific in return (if you are paying for something specific, it's a "user charge").

Royalties are a user charge. The miners are buying access to valuable mineral deposits owned by us. Royalties are levied on different bases but, overall, they're probably charging less than the minerals are worth.

So the miners shouldn't expect brownie points for paying for the minerals we hand over to them. The Rudd government did try to ensure we taxed their profits more fairly and adequately but, as you recall, the miners objected and so Tony Abbott abolished what was left of the tax.

But, whatever their profits, they're paying 30 per cent of them in company tax, right? Right in theory but, as we've realised, in practice not so much.

Our big foreign mining companies are heavily into minimising the tax they pay by moving profits offshore, claiming to do their "marketing" in Singapore, where the tax rate is lower.

All of which makes you wonder how well we do from our foreign-dominated mining industry, considering all the environmental and economic disruption we have to put up with.

But it's worse than that. Our politicians, state and federal, are so desperate to create the temporary appearance of progress and jobs that mining projects bring - and, no doubt, to say thanks for the generous political donations the miners make - that they often use the offer of hefty subsidies to attract them.

The subsidy comes in the form of governments building railways, ports and other infrastructure on the miners' behalf. (Not to mention the federal government's exemption of mining from paying the diesel fuel excise, worth billions a year.)

Take the Indian Adani company's proposed Carmichael coal mine in central Queensland, which is so huge it would lower the world price of coal, to the disadvantage all existing Australian coal miners.

Queensland's Newman government was so keen to use the project as proof of progress it offered Adani a "royalty holiday". Now the Turnbull government is offering a $1 billion-plus concessional loan in the name of developing Northern Australia.

Both the miners and the politicians indignantly deny the industry receives any subsidies. But that's not what the West Australian and Queensland treasuries say in their submissions to the Commonwealth Grants Commission, revealing how poor the mining companies keep them.

If the nation is ahead on the mining deal, it ain't by a lot.

Read more >>

Australians of the Year utterly out of step with the rest of us

How moving it was to watch Malcolm Turnbull presenting the Australian of the Year awards last week. What impressive people they were. Made me proud to be an Aussie.

I can't help liking Turnbull. At a show like that he's all we could hope for in a Prime Minister. He looked the part and spoke it well. He was completely at ease, someone we can be proud to have represent us to the world.

In his introduction he said all the right things. The "extraordinary finalists" for the various awards – Young Australian, Senior Australian, Local Hero and Australian of the Year – "light the way for us – shining examples of our best selves".

"Generous and compassionate, selfless, never daunted by seemingly impossible odds, brilliant, curious, entrepreneurial, innovative, building bridges to reinforce the mutual respect which secures our harmony and diversity.

"They include First Australians and those who have dedicated their lives to working with them" – such as the wonderful Sister Anne Gardiner, who's spent her life serving the Tiwi people on Bathurst Island.

"They include migrants and refugees who have fled horrors barely imaginable ...

"Yet, however much we celebrate the remarkable, peaceful and diverse nation that we have built together, we always strive to be better. Our Australians of the Year have always shown us how ...

"Respect for women, respect for each other, in all our magnificent diversity, is the foundation on which our harmonious society depends, is the platform which enables every Australian to realise their full potential."

And yet I confess that in the days since that proud night I've suffered a bad hangover. It seems our One Day of the Year has moved from April 25 to January 26.

We celebrate these "shining examples of our best selves" for one night and day before we revert to being far from our best selves for the rest of the year. We hunt up a handful of people who remain "selfless" so we don't feel so bad about the self-seeking lives the rest of us lead?

Far from retaining a strong sense of community, of helping each other and working for the greater good, we live in an era of every person for themselves, where the material almost always gets priority over the social, where our ambitions centre on personal advancement rather than making the world a better place.

If our politicians – of both stripes – are so keen for us to be "generous and compassionate" as well as "respectful" and part of a "harmonious society" why aren't they setting a better example?

What's generous and compassionate about sending social security recipients bills for "debts" owed to Centrelink that you haven't checked properly, then making them prove they don't owe that much with payslips and other documents from past years that you hadn't warned them to retain?

What's "respectful" about treating invalids, the aged, and young workers down on their luck in such a way? What's Australian about denying point blank there's any problem with what you're doing?

Why when you've gone out of your way to honour the place of First Australians do you, the very next day, curtly brush aside their request that the white majority run to the huge inconvenience and expense of changing the date of Australia Day? Respect, eh?

Do we honour the work of the Sister Annes because they salve our consciences? Thank God they're willing to put themselves out, because the rest of us ain't.

Some of us – including many in Turnbull's own electorate – are the children or grandchildren of "refugees who have fled horrors barely imaginable".

Much worse, apparently, than the way we've been treating refugees on Nauru and Manus Island.

Turnbull is right to say we've built a highly successful multicultural society.

Lately it's been fraying at the edges, however, with intolerance of people with unfamiliar religious practices – women's head coverings; halal – fears that all Muslims are terrorists, fears we're being overrun by Asians, and downward envy of government help for disadvantaged Indigenous people.

But it's not just that our political leaders fail to set an example, it's that too often they seek partisan advantage from our moral weaknesses. Rather than seeking to calm our fears of foreigners they compete to pander to them. Let's protect ourselves from the resurgent One Nation by aping its rhetoric, even its policies.

As for respect being "the platform which enables every Australian to realise their full potential" it's sentimental claptrap – especially coming from a government that seems to have set its face against funding the nation's schools on the basis of student need rather than established privilege.

It's schools and pre-schools that should be "the platform which enables every Australian to realise their full potential".

The most worrying message we got from the latest bad news on NAPLAN and PISA testing of students is the wide gap between our best and worst students and the large minority of kids the system is failing.

As Peter Goss, of the Grattan Institute, has demonstrated, we can go most of the way to needs-based funding quickly and without extra spending, provided we're prepared to shift funding from the less-needy to the more-needy.

But that would require Turnbull to exhibit the undaunted, entrepreneurial and bridge-building character traits he so admires in others.

Read more >>

Lord save us from being governed by bankers

With Our Glad Berejiklian – the archetypal girl who works harder than the boys – replacing pin-up boy Mike Baird as Premier of NSW, should the citizens of other states be envious? Don't be too sure.

True, Berejiklian, like Baird before her, came to public office from a job in banking, rather than a post-uni career as a political apparatchik, though she did spend time as a ministerial staffer. Baird didn't even have that.

Politics is becoming a priesthood – a lifetime calling, culminating in elected office – with ever fewer politicians having spent most of their lives working in a normal job with normal people.

I doubt we're better governed under this development.

One thing making NSW different from other states is that, until Baird's resignation, it was a state governed by former bankers: premier, treasurer and Treasury secretary Rob Whitfield, shipped in after a 29-year career as a deal maker at Westpac.

With Baird gone, NSW may seem one banker down. Except that Berejiklian's successor as Treasurer, Dominic Perrottet, was a solicitor specialising in "banking restructuring".

I suppose one good thing about having a government dominated by bankers is they can be relied on to keep the budget shipshape. They'd be the last pollies to send us bankrupt.

Indeed, Berejiklian's proudest boast is that the NSW government (narrowly defined) is now debt free.

But is that the highest achievement of a government? You'd expect bankers to know better than to regard an institution like NSW without any debt as a joy to behold.

What about all the infrastructure the state still needs? Why boast about having no debt at time when debt is exceptionally cheap and governments' size and taxing powers make them ideally placed to borrow?

Though the fashionable fatwa against debt is atypical of bankers, what it does reveal is a weak grasp on the tenets of economics.

It's a mistake to imagine bankers and economists think alike. That's been my greatest reservation about the financially virtuous Baird government and my greatest fear about its Berejiklian successor.

Its only leading light who can be counted on to have a better grasp on the ways the powers and obligations of governments differ from those of a business is the secretary of the Premier's Department, Blair Comley, a former top federal Treasury officer.

Historically, state governments have had responsibility for owning a lot of profitable businesses, which have been government-owned only because they're natural monopoly networks – electricity, gas and water – as well as managing huge service-delivery organisations: public transport, roads, hospitals, schools and prisons.

This has led to the common notion that running a state government is pretty much about running a collection of businesses. The main thing you need is efficiency.

Sorry, wrong.

First, where governments deliver services with "public good" characteristics – services whose supply would be insufficient if customers had to pay market prices – the quality of the service, reflecting the multiple objectives in supplying it, is just as important as the cost of supplying it.

Second, when you're owning – or selling – a profitable business, profit should never be maximised at the expense of the wider community. You have to take an "economy-wide" perspective.

I fear a banker-dominated government is too likely to adopt a simple, business approach towards an endeavour that that has much wider objectives and obligations; to see the state budget as akin to a business's profit and loss account – as an end in itself rather than just a means to an end; to imagine that maximum benefit to the state's finances equals maximum benefit to people of the state and their economy.

Every instinct of a deal-making banker tells them the object of the exercise is to privatise a business for the highest price possible, this being in the best interests of taxpayers.

You do this by packaging the business up with government-conferred competitive advantages.

But this comes at the disadvantage of taxpayers-as-customers of the business, any present or potential private competitors, and business customers of the privatised business.

Rod Sims, boss of the Australian Competition and Consumer Commission, has been highly critical of the NSW government's privatisation of its ports which, of course, enjoy a degree of geographic monopoly.

I supported privatisation of NSW's electricity "poles and wires" mainly because ownership of a key natural monopoly presented the government with too much temptation to look the other way while its trading enterprises fattened their profits by gouging their customers.

Damaging the state's economy in the interests of improving the state government's finances is something only an ill-educated banker could think was a good idea.

Read more >>

Think you're pretty sharp? Try this simple quiz

It's the last (unofficial) holiday weekend of summer before the new year really gets down to business on Monday. So let's have some fun. Try yourself on this simple quiz.

Q1: Linda is 31 years old, single, outspoken and very bright. At uni, she majored in philosophy. As a student she was deeply concerned with issues of discrimination and social justice, and also participated in anti-nuclear demonstrations.

Which of these two is more likely: that Linda is a bank teller or that Linda is a bank teller and is active in the feminist movement?

If you went for a feminist bank teller - sorry, wrong.

Q2: As an investor you're trying to decide between buying shares in three listed companies when you notice that one of them's been chosen as company of the year by a business magazine. Would that make it best bet of the three?

Q3: You're trying to decide which super fund to put your savings in, so you look up the figures to see which one had the highest returns last year. Would it be the best bet?

If you answered yes to those questions you're likely to be disappointed.

Q4: The instructors of fighter pilots found that pilots who were praised when they'd flown well always performed worse the next time, whereas those who were criticised for performing badly always performed better the next time.

The instructors concluded that criticism was more effective than praise. Were they right?

If you answered yes - sorry, wrong.

Q5: You flip an unbiased coin and it comes up five heads in a row. Which is more likely from the sixth throw: heads or tails?

Q6: Which is the more likely birth order in a family of six kids: B B B G G G or G B B G B G?

In the first case the sixth throw is just as likely to be another head as a tail. In the second, the two birth orders are equally likely.

Q7: Which would you prefer, an operation with a 90 per cent success rate, or a different one with a 10 per cent failure rate?

Answer: Have another think about the question.

Apart from the investment questions (which I threw in to please the business editor) all those questions come from best-selling business writer Michael Lewis' latest book, The Undoing Project.

It's the story of two Israeli-American academic psychologists, Daniel Kahneman and Amos Tversky, who demonstrated how wide of the mark is the assumption of conventional economics that we're all "rational" - coldly logical - in the decisions we make, thus giving a huge push to the new school of behavioural economics.

A lot of their experiments involved our understanding of maths. Don't feel bad if you failed many of them. Most of us do, even people good at maths.

The moral is, however much or little people know about maths, particularly the rules of probability, we have trouble applying this to our daily lives because we let our emotions distract us.

Q1 was about the rules of probability. Linda certainly sounded like a feminist, but a lot of bank tellers aren't feminists so, statistically, there was a higher probability that she was a bank teller than a bank teller and a feminist.

All that guff about her interests at uni engaged our emotions and distracted us from the simple probabilities.

The questions about investment choices and fighter pilots were about a key statistical regularity most of us haven't heard of, called "reversion to the mean".

The performance of companies, super funds or fighter pilots in any year is a combination of skill and luck. We're always tempted to attribute good luck to high skill.

The luck factor is random, so a performance that's way above average is likely to have been assisted by luck, just as a really bad performance is likely to have been worsened by bad luck.

If good luck and bad luck average out over time, an outstandingly good performance is more likely to be followed by a performance closer to the average than by another rip-snorter. Similarly, a really bad performance is more likely to be followed by one not so bad.

Note that we're only accounting for the luck factor in performance, so a policy of always predicting reversion to the mean gives you a slight advantage in the forecasting stakes, not a sure thing.

The pilot trainers were observing reversion to the mean, but falsely attributing it to their own efforts in awarding praise or criticism.

Sadly, this has left many of the world's bosses suffering the delusion that criticism works better than praise.

The questions on coin tosses and baby order were about the "law of large numbers", which says that if events have equal probability of occurring, eventually they'll occur an equal number of times.

We all know that if you toss a coin enough times you'll get a roughly equal number of heads and tails. And we all know the numbers of boys and girls being born are almost equal.

Trouble is, you need thousands of samples to be sure of getting that result. By expecting to see equal numbers in a sample as small as six, we've turned the statisticians' law of large numbers into our own imaginary "law of small numbers".

Remember, probability theory applies to independent events, where what's gone before has no effect on what happens next.

Humans are pattern-seeking animals, but sometimes we go too far and see patterns that aren't real. Five heads in a row, or three boys followed by three girls, may look unlikely but, because the law applies only to large numbers, are perfectly consistent with a random draw.

Whether it's heads or tails, boy or girl, the safest bet remains 50/50. In the case of the five heads in a row, no one told the coin its duty was to make its sixth toss a tail.

Read more >>

Heartless government sools computer onto needy citizens

Of the loads of films I saw last year, the most memorable was Ken Loach's I, Daniel Blake. I go to the movies for escapist entertainment, not to give my emotions a good workout but, even so, it left a lasting impression.

It was the story of a 59-year-old carpenter in Newcastle, England, whose cardiologist told him not to go back to work for a few months after he'd had a heart attack on the job.

What we saw was Blake's mistreatment at the job centre he went to for social security payments at the height of the Cameron government's austerity spending cuts.

It was run like an assembly line, with "clients" processed as fast as possible, with a complete lack of flexibility or consideration.

Nothing Blake said was listened to, but at his first sign of frustration he was rebuked for his utterly unacceptable behaviour and threatened with removal by security guards. He was repeatedly threatened with the "sanction" of having his dole suspended for such crimes as being late for his appointment.

He got nowhere when he visited the centre, had to hang on for ages when he phoned, and was always being told to fill out forms online. Small problem: he didn't have a computer and didn't know how to use one.

Sorry, online forms are "mandatory".

Why would a government treat its citizens so badly? Well, reading between the lines you saw the centre had been handed over to a private business. It probably underquoted to get the contract and had turned the centre into a sausage machine in the hope of saving enough on staff to make a profit.

I thought of Daniel Blake when I read of the way the Turnbull government is using an "automated debt recovery program" to harass former users of Centrelink.

It's using a computer program to go back several years, checking Centrelink benefit payments against records from the Tax Office, to look for apparent overpayments and demand the money be repaid.

Trouble is, the exercise is hugely prone to error. Eligibility for social security benefits is assessed on a fortnightly basis, whereas tax information is annual. The machine merely divides the annual figures by 26 and often gets the wrong answer.

Where the same employer's name has been recorded differently, the machine treats them as separate businesses, sometimes calculating "debts" that are thousands of dollars out.

The machine may send its demand to an old address, even though failure to respond within 21 days is taken as acceptance that the figure named is correct, and the trigger for debt collectors to be called in, with the addition of a 10 per cent "recovery fee".

The many leaks from appalled Centrelink staff suggest they've been discouraged from correcting obvious errors before the machine-generated demands are sent out, and discouraged from helping people in person, rather than just telling them to use the website.

It's clear this is a fishing expedition. You make what you know may often be erroneous claims for repayment, shift the onus of proof onto people with few records or resources, give them a scare, then sit back and see how much you rake in.

I confess to feeling much empathy for people struggling with the many digital tentacles of the ironically named MyGov website. I'm an accountant but I still struggle with its online tax return.

Its requirement for you to supply your spouse's income sets up a Catch 22 where neither you nor your spouse can submit a return without saying something you know isn't true.

This year I'm stuck on a section of the return which, when I try to save it and move on, just says ERROR. OK, what's the error? Doesn't say. But I know what it's thinking: that's for us to know and you to find out.

So far I've spent ages searching the site for the answer, to no avail. I'm waiting for the time and courage to do battle with the Tax Office's phone system - assuming that's still permitted.

Back on the Centrelink debacle, I've been amazed by the way the Centrelink boss, the junior minister, Alan Tudge, and the senior minister, Christian Porter, have each denied there's any problem.

Really? This is the way bureaucrats and politicians get their names into the history books for contributing to their government's demise.

So far they've mainly been picking on young people on the dole, but now they're moving on to invalids and age pensioners. Really? Courageous decision, minister.

What on earth is motivating them? Partly it's that, having made so much fuss about debt and deficit while in opposition, the government is having enormous trouble getting the budget deficit down.

It lacks the courage to tackle the big sources of rent-seeking by business interests, but is confident it can get away with cracking down on the tiddlers in social security.

It's worse than that, however. Porter and Tudge are from the Liberals' hard Right. You can see from their speeches and remarks they have little sympathy for people poor enough to need social welfare, and every sympathy for their own class, groaning under the weight of a tax rate of supposedly "almost 50 per cent".

Their sacred mission is to prevent the need for higher taxes by ensuring none of their department's "clients" get away with a dollar more than they're supposed to get.

Read more >>

Have a touchy-feely holiday break from the economic grind

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

Read more >>