How governments shift income from rich to poor

Everyone knows the gap between high and low incomes has grown. But much of what we think we know about why it’s happened, and what the government has been doing about it, is probably wrong.

For instance, many people imagine that the main thing governments do to reduce the gap between rich and poor is to raise much of their revenue via the most “progressive” tax in their arsenal, income tax. (A progressive tax takes a progressively higher proportion of tax from people’s income as incomes get higher.)

Sorry, that impression’s wrong.

Another strongly held perception is that, if the gap between high and low-income people is growing, it must be because of something the government is doing. For instance, stages two and three of the Turnbull government’s three-stage, seven-year tax plan are intended to make income tax significantly less progressive.

Sorry, it’s only partly true that growing inequality is caused by government policy.

Yet another misperception is that the inequality of incomes increases as each year passes.

These misunderstandings are what’s so great about the Australian Bureau of Statistics’ publication last month of its six-yearly “fiscal incidence study”, for 2015-16. It’s the most comprehensive guide to what’s been happening to income inequality and, in particular, how it’s been affected by government policies.

Professor Peter Whiteford, of the Australian National University, has written an excellent summary of the study’s findings.

The study allocates the federal and state taxes we pay between the nation’s eight million households, then allocates federal and state government spending to those households. (Some taxes, such as company tax, it can’t attribute to households. Nor some classes of government spending, such as spending on defence and law and order. But these omissions should roughly cancel out.)

So, on one hand, the study takes account not just of income tax, but also all the other, federal and state “indirect” taxes, most of which are “regressive” – they take a higher proportion of low incomes than high ones.

On the other hand, it takes account not just of government benefits in cash (pensions, the dole, family allowance), but also in kind - particularly healthcare (subsidised doctors and pharmaceuticals, free public hospitals, subsidised private insurance), subsidised aged care and childcare, plus pre-school, school, technical and university education.

So it starts with households’ “private income” – the money people earn from wages, profits, investments and superannuation payments – then subtracts the taxes they pay and adds the value of government benefits they receive in cash and kind to get their “final income”.

Get it? The difference between a household’s private income and its final income is the net monetary effect of all the things federal and state governments’ budgets do to the household’s budget.

It shows the extent to which government budgets redistribute income between high and low-income households.

Before we get to that, however, note that most economists believe the fundamental cause of rising inequality is changes in private incomes arising from globalisation and skill-biased technological change which, over many years, have caused the wages of high-skilled workers to grow much faster than those of low-skilled workers.

But the usual way to measure inequality is to compare not individual workers, but individual households, many of which contain two workers, plus dependent children.

It seems likely that, over the decades, the growing gap between high and low wages has been offset by the growing incidence of two-income families.

And note this: in more recent times – the six years between 2009-10 and 2015-16 - there’s been no increase in inequality.

Turning back to the effect of government budgets, the study shows they redistribute a lot more income than many people realise.

Get this: In 2015-16, the poorest 20 per cent of households (mainly pensioners) started with private income averaging just $168 week but, after taking account of their pensions and health and aged care benefits, their final income almost quintupled to $808 a week.

At the other end of the spectrum, the best-off 20 per cent of households (mainly two-income couples with good jobs) started with private income averaging $2863 a week, but had that cut to final income of $2168 a week, a loss of almost $700 a week.

How come? Well, on average they paid $714 a week in income tax and $178 in other taxes, but received just $16 in social security benefits and $192 in non-cash benefits, mainly school education.

Look now at the middle 20 per cent of households and, on average, their final income was only a little different from their private income because the taxes they paid were pretty much offset by the benefits in cash and kind (particularly education) they received.

See what’s happening? Government budgets are highly effective at transferring income from the top 40 per cent of households to the bottom 40 per cent.

And it’s not just progressive taxation that does this. Surprisingly, most of it’s done on the spending side of the budget.

The most common way of measuring inequality is the “gini coefficient”, where zero represents perfect equality between households and 100 represents one household getting all the income.

The study shows a quite high coefficient of 44.2 for private income being reduced to 24.9 for final income.

Now get this. Of this overall decline in inequality of 19.3 points, the progressive income tax scale explains only 4.5 points. And the regressive effect of other taxes reduces this by 0.8 points.

So the remaining 15.6 points of decline in inequality are explained by 8.1 points coming from governments’ cash social security payments, plus 7.5 points coming from the effect of governments’ benefits in kind, particularly health and aged care and education spending.

The first bit should be no surprise. As Whiteford reminds us, Australia’s system of social security payments is the most heavily means-tested in the world.

The big surprise is that our generally non-means-tested benefits-in-kind should do so much to reduce inequality.

My guess is that the high proportion of health and aged care benefits going to age pensioners does much to explain this.

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The taxes we pay come back to us - now or later

As we roll on to the federal election, there’s a surprising number of economic problems we should be discussing, but probably won’t.

For the longer term, the most important problem is the likelihood we’re not doing enough to meet our Paris commitment to reduce greenhouse gas emissions - which is, in any case, inadequate.

Linked with this is the appalling mess we’ve made of privatising electricity. Despite (and partly because of) Tony Abbott’s wrong-headed abolition of the carbon tax, this has left us paying power prices far higher than they need to be.

Linked with soaring electricity prices are soaring gas prices, caused by the gas companies’ gross overestimate of the amount of gas available for export through the many liquefaction plants they built. Absurdly, it would now be cheaper for local users to import gas from the world market.

The most pressing problem we should be discussing is the causes of the four-year-long run of weak growth in wages, which is not just crimping living standards but is by far the greatest threat to the holiest of holies: Jobs and Growth.

Then there are such minor matters as the way the burden of our years of weak growth has fallen mainly on youth leaving education, the way the “gig economy” threatens to undermine decent working conditions, the appalling run of seemingly respectable firms accused of cheating their employees and the terrible hash federal and state governments have made of TAFE.

The misbehaviour of the banks is being following by growing evidence of the misbehaviour of for-profit providers of childcare, aged care and before long, no doubt, disability services. What makes these people think they can mistreat their government-supported clients with impunity?

But if few of these problems are likely to get much attention from our campaigning politicians, what will? They’ll be arguing about their tax cuts being better than the other crowd’s.

With the budget still in deficit and the public debt still rising a decade after the global financial crisis, you’d think a decade of tax cuts is the last thing we could afford, but let’s do it anyway.

Why the obsession with tax? Partly because a government behind in the polls is trying to buy some popularity, partly because the more we obsess about tax the more our attention is drawn away from problems the government can’t or won't fix, but also because a lot of powerful and highly paid men (and I do mean mainly men) will not rest until tax has been “reformed” in a way that means they pay less and others more.

These well-off men are convinced they’re asked to pay far too much. They convince themselves of this by focusing on income tax and seeing it as a “burden” we have to bear without anything coming back our way.

In truth, we pay plenty of other federal and state taxes, which usually fall more heavily on the poor than the rich. And the taxes we pay come back to us as government benefits in cash (pensions, the dole, family allowances) and kind - particularly healthcare (subsidised doctors and pharmaceuticals, free public hospitals, subsidised private insurance), subsidised aged care and childcare, plus pre-school, school, technical and university education.

Every six years the Australia Bureau of Statistics conducts a “fiscal incidence study” in which it allocates the federal and state taxes we pay between the nation’s 8 million households, then allocates federal and state government spending to those households. (Some taxes, such as company tax, it can’t attribute to particular households. Nor some classes of government spending, such as on defence and law and order. But these omissions should roughly cancel out.)

The bureau published its study for 2015-16 last month. It found that, on average, households received $76 a week more in government benefits than they paid in taxes.

Break the households up by life stage, however, and you get a very different picture. For our 1.3 million single-person households aged under 65, the taxes paid by those under 35 exceeded benefits received by $171 a week. For those aged 35 to 54, this increased to $204 a week.

Why? Because most of them had jobs and were in good health, but none had children, meaning they got no family payments nor government spending on school education.

Our 1.4 million couple-only households aged under 65 are the big net contributors. For those under 35, their taxes exceeded their benefits by $480 a week. For those 35 to 54, it rose to $618 a week.

Our 2.5 million couples with dependent children paid a lot of tax, but also got back a lot of benefits, particularly family allowance, a lot of education spending and a fair bit of healthcare. All told, they paid just $42 a week more than they got back.

Skipping half a million single-parent households with dependent children (big net gainers) and a further half million couple households with non-dependent children (modest net payers), we come to the 1.8 million single or couple households aged 65 and over.

The couples got back $452 a week more in benefits than they paid in tax. That’s because they pay little tax, get a lot in pensions and get huge spending on health and aged care. Single retirees get back a net $576 a week, thanks to even greater spending on health and aged care.

So, younger working singles and childless couples are big net payers, couples with children roughly break even, and oldies really clean up. Just as well we all get old.

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Memo Canberra: it's not taxes, it's wages, stupid

With the season of peak political bulldust already upon us, and the media holding a microphone to all the self-serving and often stupid arguments the politicians are having with each other, here’s a tip: if you want sense about our economic problems and their solutions, turn down the pollies’ blathering and turn up the considered contributions from the econocrats.

Reserve Bank governor Dr Philip Lowe, in particular, has more pertinent things to say than Malcolm Turnbull, Bill Shorten, Scott Morrison and Chris Bowen put together.

The sad truth is the pollies main concern is to say the things they hope with get them elected, rather than to outline a convincing strategy to improve our economic wellbeing.

The media’s main concern is to sell us politics as entertainment – “Oh, the pollies had a terrible set-to this week; the side that’s ahead the polls had a bad week, while the losers had a good one, it’s getting sooo exciting” – not to hold politicians to account when they make wrong or dubious claims.

Predictably, the pollies have fallen to arguing about . . . tax cuts. Think of an election, think of bribing voters with tax cuts. The budget’s still in deficit, with the debt still high and rising, but blow that, let’s have a decade of tax cuts.

Both sides believe voters are as venal as pollies are self-serving. But, as always, the pretence that vote-buying tax cuts will do wonders for Jobs and Growth.  Yeah, right.

If Turnbull can con Labor into spending most of the time until the election arguing about tax, he’ll have pulled off a fabulous diversion from the most pressing source of voters’ present hip-pocket discomfort: weak wage growth.

It’s clear the parties’ focus groups are telling them the punters perceive the problem to be the “high cost of living”. With the consumer price index stuck at 2 per cent, that’s an obvious misconception.

It’s a misperception that favours the Coalition, the party that engineered the cuts in penalty rates, has a visceral class hatred of the unions and zero desire to shift the balance of industrial power back in favour of employees.

So who’s the one public figure pointing to the megafauna in the room? Lowe. He’s been talking about weak wage growth for months, seeing the problem as largely cyclical (temporary) and urging us to be patient.

Trouble is, as each quarter passes without any sign of the wage price index stirring from 2 per cent a year, that argument weakens. And in a recent speech he shifted ground, acknowledging that the “norm” for annual wage rises had shifted from 3 to 4 per cent to about 2 per cent, for reasons that are both cyclical and structural (lasting).

Cyclically, wages are weak because, at about 5.5 per cent, unemployment is still above the “conventional estimates” that full employment – the NAIRU, or “non-accelerating-inflation rate of unemployment” - is about 5 per cent.

What’s more, Lowe says, we may find that, like the US and other advanced economies, the NAIRU is now a fair bit lower than we’ve hitherto assumed.

True, Phil. But that’s a significant acknowledgement. What is it that causes the NAIRU to shift? Changes in the structure of the labour market.

In his search for structural explanations for our four-year absence of real wage growth, Lowe says part of the story is likely to be the way globalisation - greater trade between rich and poor countries - has changed the bargaining power of workers by effectively increasing the global supply labour.

But another important part of the story, he says, lies in the nature of recent technological progress. It’s no longer just a matter of firms installing the latest generation of better machines. It’s about software and information technology; intangible capital, not physical capital.

One thing this means is that some firms are much further advanced in applying and exploiting these advances than others. Lowe’s theory is that the lagging firms are trying to keep up by resorting to cost control, making them reluctant increase wages.

But though Lowe is the most thoughtful, pertinent and frankest of our public figures, even he is not yet prepared to voice the unthinkable: when globalisation and digitisation were changing the economy in ways that diminished the bargaining power of most of our workers, maybe this was just the wrong time for us to have been “reforming” wage fixing by shackling employees’ ability to bargain collectively.

Adequate real growth in wages is the key to adequate real growth in consumer spending and, by extension, business investment spending.

And, as Lowe reminds us, many households have taken on big mortgages under the implicit assumption that real wage growth will lessen the burden over time, as it always has. If that doesn’t happen, there’ll be trouble.

But not to worry. Tax cuts will fix everything.

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Economic growth doesn't have to wreck environment

Do you care about the natural environment and the damage our economic activity is doing to it? What if an official agency published some good news on the subject? Would you be interested? Would you be pleased?

Apparently not. Two weeks ago the Australian Bureau of Statistics published its “Australian environmental-economic accounts” for 2015-16, which contained what certainly looks like good news, but they attracted minimal interest from the media and environmental groups.

Perhaps had the news been bad there’d have been more interest. Instead, the bureau found that, in 2015-16, the Australian population grew by 2 per cent and the economy – measured by the quantity of goods and services produced during the year – grew by 3 per cent.

But our emissions of greenhouse gases grew by just under 1 per cent, while our consumption of energy increased by less than 1 per cent and our consumption of water actually fell by 7 per cent.

Get it? We increased our output of goods and services – the amount of our economic activity – but increased our inputs of some key natural resources by less. Our generation of a particularly pernicious form of waste, greenhouse gas emissions, also increased by less.

In other words, we improved the economy’s ecological productivity. Is that not worth noting?

Actually, those figures need to be examined a lot more closely before we pop too many champagne corks. But first, we need to remember why, whether the news they bring is good or bad, it’s worth taking a lot more interest in the annual “national environmental-economic accounts” than we have been.

Which raises a less conspiratorial explanation for our lack of interest in the environmental-economic accounts: because, as associate professor Michael Vardon, of the Australian National University, has pointed out, they’re still a work in progress, with not many people knowing of their existence and even fewer knowing how to extract from their raw numbers the message they’re sending about how much progress we’ve made on the path to ecological sustainability.

That the economy exists within the natural environment, and depends on it for the renewable and non-renewable natural resources we put into our production process, for the “ecosystem services” that grow our food, among many other things, and even for somewhere to dump all the material and airborne waste we generate, is undeniable.

Yet from the moment people started thinking about “the economy”, they viewed it in isolation from the natural environment that sustains it.

A hundred years ago, this seemed sensible. The world’s human population was a fraction of what it is today and we were much poorer than we are now, so it seemed human activity was having only a small impact on the huge natural world.

We knew little about soil erosion and salinity, the wider effects of fertilisers, damming rivers and overfishing, let alone that too much burning of fossil fuels and land clearing could change the climate.

Our economic national accounts and their bottom line, gross domestic product, rest on the happy assumption that we can measure the economy without reference to the natural environment that sustains it.

As greenies never tire of pointing out, GDP takes little or no account of the environmental costs that come with the economic benefits. It even counts spending to remedy environmental damage as another benefit.

Little wonder so many people have been looking for ways to bring the two sides into reconciliation, getting them into the same box, putting their measurement on a comparable basis, so economic benefits can be weighed against environmental costs.

Under the auspices of the United Nations Statistical Commission, the world’s official statisticians have been working to expand the long-accepted rules for measuring GDP, the “system of national accounts”, into a “system of environmental-economic accounting”, or SEEA.

Our bureau of statistics has been active in this project and in 2012 the official SEEA “central framework” was published by the UN. The bureau has been working on the huge task of carrying out and integrating all the physical and monetary measurements needed to put flesh on that framework for Australia.

Progress has been slow, especially because the government’s extraction of annual alleged “efficiency dividends” from the bureau's budget has reduced the work it can do.

But now let’s examine the news that we increased our ecological productivity in 2015-16, presumably leaving us better off both economically and environmentally.

First, this is a caution for all those environmentalists who keep repeating that, in a natural world of fixed size, it’s impossible for the economy to keep growing every year forever.

They’re right, of course, but the economic growth they’re thinking of – growth in the throughput of natural resources – isn’t the growth that GDP measures. Much GDP growth comes not from increased physical throughput in the economic machine, but from increased efficiency in the machine’s conversion of inputs (the greatest of which is not natural resources, but human labour) into outputs of goods and services, aka improved productivity.

So it is conceptually possible for GDP to grow while the use of natural resources doesn’t, or even declines. If that happens, it’s good news all round.

Second, these relationships are far too complex for it to make sense to look just at the change over a period as short as a year. The accounts show that, over the nine years to 2015-16, our population grew by 16 per cent and real GDP by 28 per cent, while energy consumption increased by only 6 per cent and water consumption decreased by 2 per cent.

Emissions of greenhouse gases decreased by 13 per cent relative to 2006-07. But generation of material waste seemed to be growing at about the same rate as GDP. Not good.

Finally, we need to know a lot more about the factors driving these changes, and whether they’re lasting or temporary, before we can conclude we’re making ecological progress.

And remember we need our consumption of fossil fuel energy to be falling rapidly if we’re to make the contribution we should to global efforts to halt global warming.

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Things I've learnt in 40 years as an economics editor

Fortunately, I made the greatest misjudgment of my working life while I was still at university in Newcastle. I concluded that economics was hopelessly unrealistic and boring, whereas accounting was practical and fascinating.

The most disillusioning moment of my working life came soon after I heard that I’d passed the last exam to become a chartered accountant. For years I’d told myself that, once I was qualified, I’d be confident, capable and contented as an auditor.

Nothing changed. I had to admit to myself I neither enjoyed being an accountant nor was much good at it. A year or so later I washed up at The Sydney Morning Herald to offer my services as an over-aged graduate cadet, at a much lower wage.

The news editor who hired me said he didn’t imagine I’d last, but it was worth a try. It was only at the man’s wake a year or two ago that his widow explained what he meant. Knowing I was an accountant, he’d tried to persuade Fairfax to pay me more than a cadet’s wage, but failed.

The editor soon suggested I try my hand at economic journalism. “Accountant, economist – pretty much the same thing, surely?” I bit my tongue and took his advice. Smartest move in my working life.

This month is the 40th anniversary of my appointment as the Herald’s economics editor – surely some kind of record. I’ve been writing for The Age for much of that time.

My survival is owed to a great extent to the trouble I had recovering all the economics I was supposed to have learnt at uni – and to the many hours people who ultimately became professors, Treasury secretaries and Reserve Bank governors spent on the phone with me, explaining the facts of economic life.

Whatever I learnt I immediately explained to the readers. For all those years I’ve seen my role as explaining how the economy works, why economists take the attitudes they do and what the government is seeking to achieve with its policies.

Four decades as an opinion writer leave you with a lot of strongly held opinions. In the early years I preached the prevailing gospel of economic reform; lately I’ve been more like a theatre critic, helping readers decide whether they agree with particular policies.

And, like many old journos, these days I don’t have much faith in either side of politics.

Economic life – and that’s what economics is, the study of “the ordinary business of life” – has changed hugely while I’ve been in this job. All the deregulation and privatisation of the Hawke-Keating years have greatly increased the degree of competitive pressure facing our businesses – from imports and other businesses – much of which they have passed through to their employees.

It’s a long time since anyone thought of Australia as The Land of the Long Weekend.

The world changes more frequently than it used to. The value of our dollar now changes by the minute; the Reserve Bank reviews the level of interest rates once a month. Jobs – even full-time, permanent jobs – have become less permanent.

Much of this change stems not from governments but from the rapid pace of technological change and globalisation (itself to a large extent the product of advances in telecommunications and information processing).

Our standard of living has risen greatly over the years, and we’re surrounded by gadgets that do amazing tricks, though it’s no longer certain that children will end up richer than their parents. Youngsters stay much longer in education, but will have to work until they’re 70.

Home loans have become much easier to get, but infinitely harder to afford.

Pay rises have to be bargained for – often less via unions than directly with the boss - and, over the past four years, have become tiny to non-existent. Rises used to be doled out several times a year by a bench of judges in Melbourne.

My enthusiasm for my topic – for my 43rd federal budget, for instance – is undiminished. Why? Because I keep learning more economics and because the economy, and economic fashions, keep changing.

One “learning” I've acquired is that, while economics - the business of producing and consuming, earning and spending – is and always will be vitally important, it needs to be kept in its place. An economics-obsessed nation isn’t likely to be a happy, fulfilled nation.

Malcolm Turnbull now portrays himself as the great champion of “aspiration”. He’s right. All of us should aspire to something better. But there are plenty of goals more worthy and likely to be more satisfying than gaining a higher income.

What would be wrong with aspiring to make life better for others rather than ourselves?

It’s the same with that great god, economic growth. It’s a good thing to grow. But why must the economy grow bigger rather than better?

I aspire to an economy where bosses are less obsessed with earning more and less convinced that being tough on their employees and customers is the way to get there. Why are they so sure making more money under those conditions will make them happy?

I aspire to an economy where bosses (and politicians) calm down and realise that working with an engaged and satisfied staff to give customers value for money is a more genuinely rewarding way to work and live. I can’t believe such an economy would do badly.

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Economists: male, upper class, out of touch

Could there ever be a shortage of economists? And if there were, would that be a bad thing?

At the risk of being drummed out of the economists’ union, it wouldn’t be a big worry of mine.

What I do find of concern is the decline in the number of students studying economics at school and university, as outlined by the Reserve Bank’s Dr  Jacqui Dwyer in a recent speech.

Why should people study economics? Well, as the world’s greatest female economist, Joan Robinson – a contemporary of Keynes – famously said, “the purpose of studying economics is not to acquire a set of ready-made answers to economic questions, but to learn how to avoid being deceived by economists.”

Too true. But Dwyer offers a more positive sales pitch: “Economics is relevant to us all. Every day our lives are affected by economic decisions – ones we make personally and ones that are made by others.

“Economics is about how individuals and societies choose to allocate their limited resources to meet their needs and wants. It’s about how we respond to incentives, make trade-offs, weigh up costs and benefits – and how we decide what is efficient and [sometimes] what is fair.”

I’ve been known to find fault with the performance of economists on the odd occasion, but Dwyer is dead right to say economics “contains some powerful concepts and useful frameworks”.

At its best, economics “can help us better understand the choices involved in many personal decisions we make, and better understand the economic conditions and policies that affect our lives”.

If economics is relevant to daily life, and economic literacy brings benefits to society, how widely is it studied at school and university? Short answer: much less than it was.

Dwyer says that year 12 enrolments in economics have fallen by about 70 per cent over the past 25 years. In NSW the decline has been greater, beginning in the early 1990s when economics was displaced by the introduction of business studies, a subject Dwyer diplomatically refers to as “less analytically demanding”. The name of a Disney character comes to mind.

In 1991, economics was the third most popular subject choice in NSW, surpassed only by English and maths. It was taught in nearly all high schools. These days, it’s taught in less than a third of NSW government schools (many of them selective schools) and a little over half of non-government schools (particularly independent schools).

Back in the day, there were roughly equal numbers of males and females, whereas today males outnumber females roughly two to one. Dwyer says this gender imbalance is worse even than for the STEM subjects – science, technology, engineering and maths.

“So over the course of a generation, there has been a pronounced fall in the size and diversity of the economics student population at Australian high schools,” Dwyer says.

At university, Dwyer’s figures are, on their face, better news: the number of economics enrolments have been fairly constant since the early 1990s, falling only slightly since 2001.

But this isn’t so reassuring when you remember that, over the 15 years to 2016, total under-grad and post-graduate enrolments have grown at the average rate of more than 3 per cent a year.


The average annual rate of growth in enrolments has been about 3.6 per cent for banking and finance, 2.75 per cent for management and commerce, and even about 2.5 per cent for STEM, but a small negative for economics.

It’s not known whether this decline represents reduced demand for economists in the job market. But for those who are economically literate, a clue is that graduate starting salaries are higher for economics students than for those taking business-oriented subjects.

I wonder if the apparent decline in economics is partly just the unis’ greater marketing emphasis in naming their degrees. “Finance”, for instance, is actually a specialisation within economics. And banking, management, commerce and accounting are so theory-light that many such degrees would be beefed up intellectually with a fair bit of economics (as was my own commerce degree).

One strange fact is that of the many fewer unis still offering economics, more than half of those that do are in NSW and the ACT.

But the biggest cause for concern are the signs of diminishing diversity among uni students of economics. The proportion of females has fallen to about a third. And well over half of uni economics students are in the top quarter of socio-economic status, with only about 10 per cent in the bottom quarter. It’s similar, but not quite so extreme, for high school economics students.

If you rank the relevant uni degrees according to the proportion of students from high socio-economic status families, economics comes well ahead of banking and finance, then management and commerce, which is well ahead of STEM.

Oh, dearie me. This may explain a lot.

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Sorry Scott, it's not clear the economy now has lift-off

It’s been the week of an economic miracle. Three months’ ago we were told the economy’s annual growth was a pathetic 2.4 per cent, but this week’s news is it’s now a very healthy 3.1 per cent. And wasn’t Treasurer Scott Morrison cock-a-hoop.

This is the vindication of everything he’s ever told us. It’s the proof the government’s plan for Jobs and Growth  is working a treat.

Last calendar year saw the strongest jobs growth on record, with more than 1000 jobs created on average every day.

Like a favourite footy team, Australia has “climbed back to the top of the global leaderboard”, growing faster than all seven of the biggest rich countries.

“Importantly,” he said, “today’s results validate our budget forecasts and confirm the strengthening economic outlook we presented in the budget just a few weeks ago.”

Sorry to rain on ScoMo’s parade, but each of those happy claims is misleading.

The national accounts for the March quarter, issued by the Australian Bureau of Statistics this week, showed that real gross domestic product grew by 1 per cent during the quarter and by 3.1 per cent over the year to March.

Trouble is, initial quarterly national accounts come in two kinds: “not as bad as they look” and “not as good as they look”. Three months’ ago they were the former and now they’re the latter.

For the past two years they’ve had an almost perfect pattern of implausibly weak one quarter and implausibly strong the next. The problem is that it’s almost impossible for the bureau to measure the economy’s growth from quarter to quarter with any accuracy.

This is why sensible people – which excludes the media, the financial markets and many macro-economists – take the bureau’s advice and focus on its “trend” (or smoothed) estimates.

Three months’ ago they showed annual growth of 2.6 per cent (since revised up to 2.7 per cent) and now they’re showing 2.8 per cent – which is probably as close to the truth as we’re likely to come.

What ScoMo says about employment growth in 2017 is perfectly true and genuinely impressive. About three-quarters of the extra 400,000 jobs created were full-time – one in the eye for those supposed experts who depress our youth by telling them the era of good jobs is over.

But 2017 is receding into history. And in the first four months of this year, the average rate of job creation has slowed from more than 1000 a day to nearer 600.

As for our economy growing faster than the bigger developed countries’ economies, it’s not hard when our population’s growing faster than theirs. Our population grew by 1.6 per cent over the year to March, which explains why growth of 3.1 per cent in the economy turned into growth of 1.5 per cent per person.

As for the latest figures validating the budget’s optimistic forecasts out to 2019-20 (let alone its power-of-positive-thinking projections out to 2028-29), that’s a big call.

The budget forecasts growth in real GDP in 2017-18 of 2.75 per cent. You may think growth of 3.1 per cent over the year to March puts achieving that forecast beyond doubt, but you’d be bamboozled by the different ways of measuring growth.

It’s 3.1 per cent “through the year” from March 2017 to March 2018, whereas the budget forecast is for a “year average” of 2.75 per cent (that is, the whole of 2017-18 compared with the whole of 2016-17).

By my figuring, and assuming no further revisions, real GDP will need to grow by another 1 per cent in the June quarter for the budget forecast to be reached – which is possible, but unlikely.

Similarly, the budget forecasts that the increase in the wage price index will quicken to 2.25 per cent through the year to June 2018. But the figures for the March quarter showed it treading water at 2.1 per cent.

Turning to the detail, about half the 1 per cent growth in real GDP came from a surge in the volume exports, though increased imports cut the contribution of net exports (exports minus imports) to 0.3 percentage points.

Trouble is, part of the surge was explained by a catch-up after production problems in the middle of last year, and part by a new natural gas export facility coming on line, suggesting exports are unlikely to continue growing so strongly.

Growth in public sector spending contributed 0.4 percentage points to the overall GDP growth in the March quarter, with strong public consumption spending (probably mainly the roll-out of the national disability insurance scheme) in the quarter, plus state government spending on transport infrastructure explaining the strength of public investment spending in earlier quarters.

New housing construction made a small contribution to growth in the quarter, but it’s clear the housing boom is waning and so is likely to make little further contribution.

Business investment spending made only a small contribution to quarterly growth, with a fall of 6 per cent in mining investment (and 16.4 per cent over the year) largely offsetting the 3.6 per cent growth (and 14 per cent over the year) in the much-bigger non-mining investment.

So business investment is slowly recovering from the end of the resources boom as we’ve long hoped it would, but the biggest worry in the accounts is the lack of good news on the single most important driver of GDP growth, consumer spending.

It grew by a reasonable 2.9 per cent over the year but, after strengthening in the December quarter, grew by a pathetic 0.3 per cent in the March quarter.

And that required a further fall in households’ rate of saving, from 2.3 per cent to 2.1 per cent of their disposable income, with that rate down from a peak of 10 per cent after the global financial crisis in 2008.

With household debt already so high, not many families will want to borrow more to boost their consumption. And the falls in Sydney and Melbourne house prices mean no encouragement to consume from the "wealth effect" - the higher value of my home means I can afford to spend.

The big problem is the absence of real growth in wages to drive consumer spending. It may or may not come.

Apart from ScoMo’s boundless optimism, there’s no certainty we’ve now achieved lift-off.

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FISCAL POLICY AND THE BUDGET

UBS HSC Economics Day, Sydney, Thursday, June 7, 2018

I want to talk to you about the budget last month and fiscal policy, but do so in the broader context of the use of economic policies to manage the economy and deal in particular with the economic issues of growth, unemployment and inflation.

Right now we’re experiencing below trend growth, inflation is below the Reserve Bank’s target range of 2 – 3 pc, and though unemployment, at 5½ pc, isn’t far above the NAIRU – the non-accelerating-inflation rate of unemployment – estimated by the RBA and Treasury to be about 5 pc, it’s falling only very slowly, despite last calendar year’s record growth in total employment of 400 thousand – about double what we usually get, with about three-quarters of those extra jobs being full-time.

So despite the below-trend growth – just 2½ pc – compared with our estimated trend (or “potential”) growth rate of 2¾ pc – we’ve had very strong growth in employment, but very slow improvement in unemployment. Why has jobs growth been surprisingly strong? Mainly because the accelerated roll-out of the national disability scheme created many more jobs in the health and community care sector, and because increased state government spending on infrastructure increased employment in the construction sector. So, it seems to be explained mainly by increased government spending. Why have all those extra jobs done so little to reduce unemployment? Because the growth in employment has largely been matched by growth in the size of the labour force, for two main reasons. First, our high rate of population growth through increased skilled immigration. And second, because of a big increase in the rate of participation in the labour force, particularly by women.

What’s the biggest problem in the economy right now? What’s the biggest reason economic growth has been below-trend for the past four years? Weak growth in wages.  Wages have been growing only fast enough to match the low rate of increase in prices – about 2 pc a year. So, for about the past four years, we’ve had no real growth in wages. This does much to explain the below-tend growth in consumer spending and in real GDP, since consumer spending accounts for more than half the growth in GDP.

Budget forecasts for the economy

But if we can believe the economic forecasts contained in the budget, all that is coming to an end. They say wage growth has already begun to accelerate and will reach the previous normal rate of 3½ pc a year within three years, 2020-21. Largely as a consequence of this, the economy is expected to accelerate to its medium-term “trend” (“potential”) growth rate of 2¾ pc in the financial year just ending, then reach an above-trend 3 pc in the coming year, 2018-19, and stay there for at least another three years. This will bring unemployment down very slowly to reach the NAIRU of 5 pc by June 2022. The inflation rate will soon return to 2½ pc, the centre of the target. Let’s hope this optimism proves justified, but I wouldn’t count on it.

Now let’s look at the secondary arm of macroeconomic management – fiscal policy. But, since the main policy arm - monetary policy – is the main arm used to achieve internal balance (ie low inflation and low unemployment), we need to say a little about monetary policy, since it’s been the main arm responding to this story of so-far disappointingly weak growth in wages and GDP.

Recent developments in monetary policy

Because of the five consecutive years of below-trend growth since 2011-12, the Reserve Bank had cut its cash rate 1.5 pc by August 2016. In the 21 months since then, it has left the rate unchanged – a record period of stability. It’s not hard to see why it has left the official interest rate so low for so long: the inflation rate has been below its target range; wage growth has been weak, suggesting no likelihood of rising inflation pressure; the economy has yet to accelerate and has plenty of unused production capacity, and the rate of unemployment shows no sign of falling below its estimated NAIRU of 5 pc. The RBA governor, Dr Philip Lowe, has said that, though the next move in the cash rate, when it comes, is likely to up, with the economy in its present weak state the Reserve is in no hurry to make that move.

Fiscal policy “framework”

Fiscal policy - the manipulation of government spending and taxation in the budget - is conducted according to the Turnbull government’s medium-term fiscal strategy: “to achieve budget surpluses, on average, over the course of the economic cycle”. This means the primary role of discretionary fiscal policy is to achieve “fiscal sustainability” - that is, to ensure we don’t build up an unsustainable level of public debt. However, the strategy leaves room for the budget’s automatic stabilisers to be unrestrained in assisting monetary policy in pursuing internal balance. It also leaves room for discretionary fiscal policy to be used to stimulate the economy and thus help monetary policy manage demand, in exceptional circumstances - such as the GFC - provided the stimulus measures are temporary.

Recent developments in fiscal policy

Until the financial year just ending, the Coalition government (and the Labor government before it) has seen the growth in the economy being repeatedly less than forecast, meaning the government has made slow progress in returning the budget to surplus and halting the rise in its net debt. Even so, it has focused on the medium-term objective of fiscal sustainability, not the secondary objective of helping monetary policy to get the economy growing faster. The long period of policy stimulus has come almost wholly from lower official interest rates.

In the year to June 30, 2018, however, the underlying cash budget deficit is now expected to be lower than expected this time last year – $18.2 billion, rather than $29.4 billion - thanks mainly to the strong growth in employment (more people earning wages and paying taxes), an improvement in export commodity prices and higher company tax collections for other reasons. Combined with the forecast that the economy will now return to above-trend growth, this means the deficit for the coming year will be $14.5 billion (0.8 pc of GDP), $7 billion less than expected a year ago. In the following year, 2019-20, a tiny surplus is expected, with ever-larger surpluses in the following two years to 2021-22.

This forecast improvement in the budget balance means that, when expressed as a proportion of GDP, the federal government’s net debt is now expected to peak at 18.6 pc in June 2018, and then fall back to less than 5 pc by June 2029. Again, it will be a great thing if it happens. It also means the budget balance is expect to continue improving despite the budget’s centrepiece, a plan for tax cuts in three stages (July 2018, July 2022 and July 2024) over seven years, with a cumulative cost to the budget of $144 billion over 10 years. This is possible because of plan’s slow start, with its cumulative cost in the first four years being just $14 billion.

Whichever way you measure it, the “stance of fiscal policy” adopted in the budget is too small to be either expansionary or contractionary, and so is neutral. This is true even though the immediate tax cuts could be expected to increase consumer spending.

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How we could revive faith in democracy

How much is our disillusionment with politicians, governments and even democracy the result of our pollies’ 30-year love affair with that newly recognised mega-evil “neoliberalism”?

To a considerable extent, according to Dr Richard Denniss, of the Australia Institute, in the latest Quarterly Essay, Dead Right.

I’m not sure I’m fully convinced by his argument, but it’s a thought-provoking thesis that’s worth exploring.

Like “globalisation” in the 1990s, neoliberalism has become the all-purpose political swearword of the 2010s. Anything economic that you don’t approve of can be condemned as neoliberalism.

But Denniss provides some more specific attributes. “The intellectual core of neoliberalism is the idea that the profit motive of companies, combined with consumers’ ability to choose the product that suits them best, will result in the best possible social and economic outcomes,” he says.

Implicit in this is the belief that government intervention in markets is always suspect and should be reduced to a minimum, just as taxation is an onerous “burden” which must be reduced if we are to prosper.

Dennis argues that neoliberalism hasn’t just involved much deregulation, privatisation, outsourcing of government services and cuts in government spending, it’s also changed our culture – the way we think about politics and political issues.

Its focus on the individual has sanctified selfishness, releasing people from the restraints of solidarity with the rest of the community and legitimating the lobbying mentality. We’re all free to press our own interests on the government, and if that means I extract more than you do, that just proves I worked harder than you.

But the greatest cultural change, according to Denniss, is the belief that economic issues outweigh all other considerations. “The trick of neoliberalism was to convince the public that it is the economic dimension of big issues that we must focus on,” he says.

“Past generations . . . did not see the need to delay all significant debates about the shape and direction of their society until tax and industrial relations policies were optimised according to specific principles understood by a tiny proportion of the population.”

Denniss says we no longer talk about the inherent value of educating our children, but of the increase in skills and productivity that their education will bring to the economy.

A big part of this is the obsession with maximising the growth of the economy – or, in Malcolm Turnbull’s more enticing packaging, Jobs and Growth.

“After 27 years of continuous economic growth, it is inconceivable that the thing Australia needs most is to ‘grow our economy’ some more.

“What we really need is to rebuild trust in our institutions and confidence in our country. We need to debate far more specific and important national goals, and then show ourselves that when we work together we can make things better. We have done it before and other countries are doing it right now.”

What if Australian parliaments stopped trying to fix the industrial relations system or the tax system for a few years, and focused instead on things that Australians really care about?

“For 30 years Australians have been told that what is good for gross domestic product is good for the economy, and hence for the country. But that is like saying that the more money a family earns, the happier the children will be.

“It is the shape of our economy that determines our wellbeing, not its size. Spending $1 billion subsidising the Adani coalmine will create economic activity [and jobs], but so will spending that money promoting Australian tourism or improving Sydney’s pubic transport.

“The important question isn’t whether a project will ‘create activity’, but whether a project will make Australia a better place or not.”

Like waiters in a restaurant, says Denniss, politicians and bureaucrats are not there to tell us what we must order, but to show us the menu and explain the specials.

So one of his proposals is to replace the Productivity Commission with a national interest commission, to provide both governments and the public with broad advice on the advantages (as opposed to benefits) and disadvantages (as opposed to costs) that, say, a major project or a universal basic income, might entail.

The opposite of the narrow economic agenda of neoliberalism isn’t a progressive economic reform agenda, Denniss says, it’s the re-establishment of a broad debate about the national interest.

“After 30 years of hearing that politicians, government and taxes are the things that ruin the economy, it is time for the public to hear and see that politicians, government and taxes are the foundations on which prosperous democratic nations are built.”

There are dozens of popular things that state and federal governments could get on with that would make Australians happy, make Australia a nicer place to live and, most importantly, show the Australian public that the decisions made by parliament do make a difference.

Such as? “Bans on political donations, the establishment of strong anti-corruption watchdogs, reform to parliamentary entitlements, higher taxes on annual incomes over $1 million, closing loopholes that allow companies to pay billions in dividends and nothing in tax, legalising marijuana, banning poker machines, and preserving all existing parks from property development.”

The world is full of alternatives and choices, Denniss concludes. “Neoliberalism’s real power came from convincing us that we had none. We do, and making them is the democratic role of citizens – not the technocratic role of economists, nor that of any self-serving elite."

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Turnbull changes tune for a lower-taxes election

Q: When is a move to increase tax collections not a move to increase taxes? A: When it’s an “integrity” measure.

The overwhelming purpose of this year’s budget has been to portray the Turnbull government as committed to lower taxes – not like those appalling Labor Party people, who want to whack up taxes everywhere.

Hence Scott Morrison’s seven-year plan to cut personal income tax at a cumulative cost of $144 billion over 10 years.

The government’s determination to push on with cutting the rate of company tax for big business is further proof of its commitment to lower taxes.

Trouble is, Malcolm Turnbull’s true conversion to the Down, Down Taxes Down party is rather recent.

Go back to his previous pre-election budget, in 2016, and he was busy increasing taxes to help pay for his 10-year phase-down in company tax.

If you remember, that budget copied Labor’s plan for four years of huge increases in tobacco excise, introduced the Coalition’s version of Labor’s major cutbacks in super tax concessions to high-income earners, introduced its own version of a tax on multinational tax avoiders and a “tax integrity package” establishing a tax avoidance taskforce.

Turnbull also explored the possibility of doing something to match Labor’s plan to curtail negative gearing, but finally decided that doing nothing would make easier to portray Labor as the high-taxing party.

Coming to last year’s budget, the government stuck with its company tax cuts, but still needed revenue. ScoMo announced a new tax on the five major banks and, from July 2019, an increase in the Medicare levy from 2 to 2.5 per cent of taxable income, to cover the rapidly rising cost of the National Disability Insurance Scheme.

This budget included another tax integrity package, which extended the special reporting requirements on payments to contractors and improved the “integrity” of GST payments on property transactions.

Now this year’s budget. This time a “black economy package” involving “new and enhanced enforcement” and further extension of reporting requirements on payments to contractors.

That’s not to mention a once-off draw-forward of duty on tobacco, “better targeting” of the research and development tax incentive, “ensuring individuals meet their tax obligations” and “better integrity over deductions for personal super contributions”.

All told, these “integrity measures” are expected to raise almost $10 billion over four years – though remember that when the tax man (or Centrelink) estimates that a new crackdown on the crackdown will raise $X billion, we have no way of knowing whether that guess proved to be too high, too low or spot on. Hmmm.

That $10 billion compares with the first-four-year cost of the personal tax cuts of $13.4 billion. But something the media has judged far too conceptual to adequately report is the decision not to go ahead with the 0.5 percentage point increase in the Medicare levy.

Deciding not to do something you hadn’t yet done adds to zilch, doesn’t it? Not if you’ve ever heard of opportunity cost. Nor if you know how budgets are constructed. The change of tune worsens the budget bottom line by $12.8 billion over four years – almost doubling the budgetary cost of the actual tax cuts.

It’s not hard to see why Turnbull lost his enthusiasm for securing the funding of the disability scheme. Bit hard to claim to be the champion of lower taxes when, with the other hand, you’re putting ’em up. (Just as long as the punters don’t notice your third hand adding to the tax system’s “integrity”.)

Equally debatable is ScoMo’s claim to be the scourge of bracket creep. Since the disaster of its first budget cured the government of any real desire to cut government spending, its main strategy for returning the budget to structural surplus has been to sit back and wait for bracket creep to do the job for it.

Had the government been travelling better in the polls that might still be its budget-repair strategy, rather than throwing the switch to fanciful fiscal forecasts.

But with bracket creep pushing up tax bills every year since the last tax cuts in 2012, beware of ScoMo playing a three-card trick: cuts that should be regarded as the partial restoration of past bracket creep being packaged as protection against future creep.

As ScoMo’s three-step, seven-year tax plan now stands, the huge proportion of taxpayers still earning less than $87,000 a year would get a tax cut of $10 a week to compensate them for all the bracket creep they will have suffered during the 16 years to 2028-29.

Don’t get me wrong. I think we should be paying higher taxes to cover the ever-better public services we unceasingly demand. The actions of both sides of politics say they agree with me. It’s just their words you shouldn’t believe.

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We have debts to pay before we give ourselves tax cuts

How much should we worry about leaving government debt to our children and grandchildren? A fair bit, though not as much as some people imagine.

The central claim of this year’s budget is that we can have our cake and eat it.

We can award ourselves personal income tax cuts worth $144 billion over 10 years, but still halt the growth in the federal government’s net debt at $350 billion by the end of June next year, and then have it fall away as the proceeds from successive, ever-growing annual budget surpluses are used to pay off the debt.

I’ve devoted much space to explaining how Treasurer Scott Morrison was able to conjure up this seeming fiscal miracle, by staging the tax cuts over seven years and by resorting to overly optimistic forecasts and projections.

So how worried should we be by the possibility that the debt will keep growing despite ScoMo’s unbounded optimism?

Well, the first thing to remember is that the federal government isn’t like a household. A household or family has to be careful about how much it borrows because it has a finite life. Eventually, the kids leave home and mum and dad die.

Of course, many families borrow amounts that are several multiples of their annual salary to buy the home they live in. They’ll take 20 or 30 years to pay off their mortgage, but few people regard this as terribly worrying.

Why not? Because the home they buy provides them with a flow of service for as long as they need it to: somewhere to live. It saves them having to pay rent.

Buying your home is an investment in an asset and, provided the family can fit the mortgage payments within their budget, no one would accuse the family of “living beyond its means”.

It would be living beyond its means, however, if it was regularly spending more on living expenses than its after-tax income.

By contrast, the government has an infinite life. It provides services for about 9 million households, who pay taxes that are usually sufficient to cover the cost of those services. As the people in those households die, their place is taken by others.

If the households aren’t paying enough tax to cover the government’s spending, the government can always increase taxes. How many households do you know that can solve their money problems by imposing a tax on other households?

This is why it’s a mistake to imagine the rules that apply to your family also apply to the government. The government’s power to raise taxes means there’s never any shortage of people willing to lend it money.

Even so, there are some valid analogies between households and governments. A government can rightly be said to be living beyond its means if it’s not raising enough tax even to cover its day-to-day expenses.

This happens automatically when the economy turns down, and isn’t a bad thing: it helps to prop up the 9 million households when times are tough. But when the economy improves, the government needs to ensure its income exceeds its ordinary spending so the debt incurred isn’t left to burden people who gained no benefit from it.

And, just as a household shouldn’t be said to be living beyond its means because it’s borrowed to buy a home, so a government that’s borrowed to build worthwhile infrastructure – roads, rail lines, airports etcetera – shouldn’t be thought to be living beyond its means.

Why not? Because, like a house, that infrastructure will deliver a flow of services for decades to come.

If the children and grandchildren who inherit that debt also inherit the infrastructure it paid for, they don’t have a lot to complain about.

So, how much of the net debt can be attributed to living beyond our means while the economy’s been below par, and how much to investing in infrastructure that’s a valuable inheritance for the next generation?

This year’s budget statement four proudly informs us that the financial year just ending is expected to be the last in which the government will have to borrow to fully cover its “recurrent” spending to keep the government working for another year.

The government had to begin borrowing for recurrent expenses (including “depreciation” - the cost of another year’s wear and tear on the physical assets the government uses in its recurrent operations) from the time of the global financial crisis in late 2008.

Updating the figures provided in last year’s statement four allows us to calculate that the cumulative recurrent deficit over the 10 years is roughly $200 billion, although you’d have to add interest costs to that.

In principle, the rest of our total net debt of about $340 billion by the end of this month has been incurred to build infrastructure, which will deliver a flow of services to the present and future generations extending over many decades.

So we need be in no hurry to pay off that part of the debt – it will do our offspring no harm.

But two qualifications. First, though economic theory indicates no level to which it’s prudent to borrow – it’s a judgment call – it is prudent to borrow less than the full cost – say, 80 or 90 per cent – of the infrastructure we build each year.

Second, it’s likely that a fair bit of the federal government’s spending on capital works has been selected more for political than economic and social reasons, and so won’t deliver much in the way of valuable services to the next generation.

If so, we should probably regard it as more in the nature of consumption or recurrent spending, and so pay for it ourselves rather than lumber our kids with it.

All of which says, yes, there is a fair bit of the total debt we should be getting on with paying off – and do so before we start awarding ourselves big tax cuts.

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Why we're going slow on climate change

Every time I go to the Byron Bay Writers’ Festival I’m asked the same question: since there’s no policy issue more important than responding to global warming, and we’re doing so little about it, why do I ever write about anything else?

I give the obvious answer. Though I readily agree that climate change is the most pressing economic problem we face, if I banged on about nothing but global warming three times a week, our readers would soon lose interest.

But even as I make my excuses, my Salvo-trained conscience tells me they’re not good enough. Even if I can’t write about it every week, I should raise it more often than I do.

I’m still combing through the budget’s fine print, but I’ve yet to remark that its thousands of pages make almost no mention of climate change.

Even the federal government’s latest, 2015 “intergenerational report” peering out to 2055, devotes only a few paragraphs to “environment” and avoids using words starting with c.

I fear that history won’t be kind to the present generation – and particularly not to people with a pulpit like mine.

We’ve known of the scientific evidence for human-caused global warming since the late-1980s. Since then the evidence has only strengthened. And by now we have the evidence of our own senses of hotter summers and autumns and warmer winters, plus more frequent extreme weather events.

And yet as a nation we procrastinate. Our scientists get ever more alarmed by the limited time we have left to get on top of the problem, and yet psychologists tell us that the harder the scientists strive to stir us to action, the more we turn off.

Our grandchildren will find it hard to believe we could have been so short-sighted as to delay moving from having to dig our energy out of the ground to merely harnessing the infinite supply of solar and wind power being sent to our planet free of charge.

What were we thinking? Did an earlier generation delay moving from the horse and buggy to the motor car because of the disruption it would cause to the horse industry?

The biggest mistake we’ve made is to allow our politicians to turn concern about global warming into a party-political issue, and do so merely for their own short-term advantage.

The initial motives may have been short term, but the adverse effects have been lasting. These days, for a Liberal voter to worry about climate change is to be disloyal to their party and give comfort to the enemy.

Apparently, only socialists think their grandkids will have anything to worry about. The right-thinkers among us know the only bad thing our offspring will inherit is Labor’s debt.

Global warming used not to be, shouldn’t be and doesn’t have to stay a right-versus-left issue. In Europe it’s bipartisan. Margaret Thatcher was a vocal fighter for action on climate change, and the Conservative Party is anti-denial to this day.

If you remember, John Howard went to the 2007 election promising an emissions trading scheme. The big debate in that campaign was whether Labor’s rival plan was better because it started a year earlier.

The econocrat who designed Howard’s scheme, Dr Martin Parkinson, was the same person the Rudd government appointed to develop its scheme. The Department of Climate Change was a virtual outpost of Treasury. Indeed, I know of few economists who aren’t supporters of putting “a price on carbon”.

At the time, the Libs’ strongest supporter of action on climate change was a Malcolm someone. I wonder whatever happened to him?

As Liberal opposition leader, Turnbull was offering bipartisan support for Rudd’s emissions trading scheme when he was thrown out by Tony Abbott, who quickly changed his views to become leader of the party’s then-minority of climate change deniers.

I don’t doubt there are many, many Liberal voters who accept that global warming is real and would like to see the Coalition acting more decisively, but feel obliged to keep a low profile and let Dr John Hewson do the talking for them.

The fossil-fuel industry is no doubt generous in its support to any party willing to help it stave off the evil hour, but the attitude of business generally is different.

Initially, it accepted that the move to renewable energy was inevitable. In which case, the government should just get on with it, reducing uncertainty by making the rules for the transition as clear and firm as possible.

But when the Libs succumbed to the deniers, business savoured the temporary relief of doing nothing. Now, however, the electricity and gas industries are in such a mess that business is back to demanding certainty in the inevitable move to renewables.

The Coalition, unfortunately, is utterly incapable of agreeing to anything meeting that description.

Which brings us to the mystery of the seemingly denier-packed National Party. How any farmers or people from country towns can doubt the reality of climate change is beyond me. The National Farmers’ Federation certainly doesn’t.

But we can’t put all the blame on short-sighted politicians and crony capitalism. If enough of us did more to voice our disapproval, the pollies would change their tune PDQ.

And we’d have a more convincing story to tell our grandkids when they want to know what we did in the climate war.

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Fortunately, Turnbull's tax cap is just window-dressing

The Turnbull government’s solemn pledge to cap the growth in tax receipts at 23.9 per cent of gross domestic product is a political gimmick to which no government committed to economic responsibility would bind itself.

So it’s good we can be confident that, should the Coalition remain in power in the years to come, it will ditch its solemn pledge the moment it becomes politically inconvenient.

Why can we be confident? Because this very budget ditches two earlier solemn pledges to “bank” any unexpected improvements in tax collections or government spending and to get the budget balance back to a surplus of at least 1 per cent of GDP “as soon as possible”.

As the independent economist Saul Eslake has noted, this budget gives away about 40 per cent of the revenue windfalls Treasury discovered.

For more reason to doubt the strength of the Coalition’s commitment to keeping its commitments, remember the way its determination to fix the debt and deficit “crisis” evaporated after its first attempt to do so in the 2014 budget caused its standing in the opinion polls to plunge.

What political imperative required ScoMo to ditch his earlier budget-repair commitments in this year’s budget? The government’s still well behind in the polls, but must face an election within a year, so is offering personal income tax cuts worth $144 billion over 10 years to bolster its claim to be a low-taxing party, unlike Labor.

Its latest solemn commitment to cap tax receipts at 23.9 per cent of GDP – which the government’s rosy projections say will be reached in 2021-22 - is also intended to boost the credibility of the Coalition’s claim to be a low taxer.

Where does the magic number of 23.9 spring from? The budget papers don’t bother to say. But the government has been waving this figure around without committing to it since its first budget, which says it’s “the average tax-to-GDP ratio of the years following the introduction of the GST and prior to the global financial crisis (from 2000-01 to 2007-08 inclusive)”.

That is, it’s quite arbitrary. There’s no science to it. The government could have picked any other run of years to average.

Note that in none of those eight years did the ratio actually hit 23.9 per cent. Rather, it ranged between 23.3 per cent and 24.3 per cent. Indeed, it exceeded 23.9 per cent in five of the eight years.

Is this starting to worry you? Only in the government’s medium-term projections do tax receipts move in smooth curves as a percentage of GDP. In real life, they bounce around from year to year.

The budget papers don’t bother to spell out the rules by which the cap would work (another sign of lack of commitment), but it seems it would apply prospectively.

If your forecast for the coming financial year was that receipts would exceed the cap, you’d have to use that budget to begin tax cuts big enough to prevent the cap being breached.

Of course, if the economy had up a head of steam and you breached the cap in spite of your tax cuts, you’d need to have bigger tax cuts the following year, and keep cutting taxes every year until the boom finally turned to bust.

Getting worried yet? In such circumstances, the more you kept cutting taxes, the more you’d be feeding the boom, making it more inflationary.

So, rather than using the budget and its “automatic stabilisers” (the biggest of which is what economists call “fiscal drag” and punters call bracket creep) to help stabilise the economy as it moves through the business cycle by acting to counter the cycle, you’d be acting “pro-cyclically”, the most damaging thing you can do with a budget.

Of course, the Reserve Bank wouldn’t be sitting idle while the treasurer was throwing tax-cut fuel on the inflationary fire. It would be seeking to counter the wrongly timed budgetary stimulus by jacking up interest rates. In the jargon, monetary policy would be at war with fiscal policy. Great idea.

Is this improbable scenario ringing any bells? It’s what actually happened under treasurer Peter Costello in the first stage of the resources boom. And it explains why, had such a cap existed at the time, it would have been breached four years in a row, despite annual tax cuts.

All these worries before you get to the question of whether the Coalition would have either the political courage or the wit to restrain its spending to fit within a cap on tax collections.

Nothing in its sorry history, nor its latest “guarantee” to continue to fund “the essential services that Australians expect and are entitled to receive”, suggests it would have such courage.

A party making no promises on the extent of its tax raising is more to be believed.

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Bracket creep lives to fight another day

An Australian newspaper’s headline on the morning after the budget was SCOMO STOPS THE CREEP. The nation’s most ponderous political pundit intoned that the Treasurer would “eliminate bracket creep for the middle class”.

The man himself claimed his tax-cut plan “ran a sword through bracket creep”.

Sorry, yet another of Scott Morrison’s attempts to mislead us in a most misleading budget. He’s exploiting the public’s hazy understanding of what bracket creep is and how it works.

If you’re not paid to be treasurer, you can be forgiven for imagining that bracket creep occurs when pay rises or other increases in your income push you into a higher income tax bracket, causing you to pay more tax.

At present, the middle, 32.5¢-in-the-dollar bracket starts at incomes of $37,000 a year and runs to $87,000. Morrison plans to raise this upper bracket limit to $90,000 in July this year, then to $120,000 in July 2022, then $200,000 in July 2024.

At the moment, about 53 per cent of taxpayers have the last part of their income falling in that 32.5¢ bracket. But by the time he’s finished, he expects almost three-quarters of people to be in it.

Get it? Someone on $87,000 could see their income rise by 130 per cent before they were pushed into a higher tax bracket.

This is the basis for ScoMo’s claim to be pretty much killing off bracket creep. But it’s not as true as he wants you to believe.

Why not? Because chapter two of the The Idiot Politician’s Guide to Income Tax  explains that you can suffer from bracket creep even if you don’t get pushed into a higher bracket. If that wasn’t true, people on the top, 45¢-in-the-dollar tax rate wouldn’t suffer from bracket creep – and I assure you we do.

How can it happen? It happens because everyone’s income is taxed in slices, and the rate of tax on each slice gets progressively (note that word) higher.

At present, the tax rates start at zero for the first $18,200 of annual income, then 19 per cent for the next $18,800, 32.5 per cent for the next $50,000, 37 per cent for the next $93,000 and 45 per cent for everything over that total of $180,000.

By the time ScoMo’s three-step, seven-year plan is intended to be in place in July 2024, however, it will be zero for the first $18,200 of annual income, then 19 per cent for the next $22,800, 32.5 per cent for the next $159,000, and 45 per cent for everything over that total of $200,000.

Ignoring the complication of the low-income tax offset, at that time someone on $41,000 would pay an average rate of tax on the whole of their income of 10.6¢ in the dollar, whereas someone on $200,000 would pay an average tax rate of 28¢ in the dollar.

Guess what? As the incomes of people at the bottom of the new, huge 32.5¢ bracket rose over time, their average rate of tax would rise from 10.6¢ in the dollar towards 28¢. And that would happen without them being pushed into a higher tax bracket. As an economist would say, their marginal tax rate would be unchanged at 32.5¢.

How can this happen? People’s average tax rate rises because, as their income increases, a smaller proportion of it is taxed at less than their marginal tax rate, while a higher proportion is taxed at their (higher) marginal rate.

For someone who, in 2024, is on $41,000 a year, 44 per cent of their total income would be taxed at zero, while 56 per cent would be taxed at $19¢ in the dollar.

By the time that person’s income has increased to $200,000 a year, however, only 9 per cent of their income is tax at zero, and 11 per cent at 19¢ in the dollar, leaving the remaining 80 per cent taxed at 32.5¢ in the dollar.

So the correct way to understand what economists call “fiscal drag” and punters call “bracket creep” is that it happens because people’s average rate of tax increases as their incomes rise.

What is true, however, is that actually moving into a higher (marginal) tax bracket accelerates the rate at which your average tax rate rises.

Bracket creep is an inevitable consequence of our “progressive” income tax. The term progressive means that as your income rises, the proportion of your income paid in tax gets progressively higher.

But what does most to make an income tax scale progressive is an initial zero-rate bracket. Say some crazed treasurer of the future decided to introduce a tax scale with just a single positive tax rate of 32.5 per cent. That would be still be a progressive tax scale provided it had a zero-rate bracket (a “tax-free threshold”) to start with.

Only if the 32.5 per cent tax rate started at an annual income of $1 would such a tax be a true “flat-rate” tax. Economists would say such a tax was neither progressive nor “regressive” (where the proportion of income tax paid declines as incomes rise) but “proportional”.

When you have a progressive tax scale, as every rich country does, the only way to (largely) eliminate bracket creep is to index each of the bracket limits to some measure of price or wage inflation no less frequently than once a year.

Except for a minor change in the 2016 budget, our tax scale has been unchanged since July 2012. Consumer prices have risen by more than 12 per cent since then, and the wage price index by 14 per cent. That’s a fair bit of bracket creep.

So what are Morrison’s plans for raising the bracket limits? The zero bracket would be unchanged, the 19¢ in the dollar limit would rise by 11 per cent, the 32.5¢ limit would rise first by 3 per cent, then a cumulative 38 per cent and then 130 per cent. The top, 45¢ bracket would rise by 11 per cent.

Whatever ScoMo’s objectives are, fixing bracket creep isn’t one of them.

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We'll get a very clear choice at the election

The federal election campaign could be as soon as August and no later than May. So which side is shaping as better at managing the economy?

Sorry, I won’t be answering that question. If you’re smart enough to choose to read this august organ, you’re smart enough to make up your own mind – which you probably already have.

The partisan or tribal approach to politics – if my side’s proposing it, it’s what I prefer – is a common way of economising on thinking time.

But I’m paid to scrutinise the propositions coming from both sides, so let me offer some pointers to help those who do want a better understanding of the choice available.

The first point is one that will be forgotten from the moment the election’s called: the main instrument used to manage the economy through the ups and downs of the business cycle is interest rates (“monetary policy”).

So the day-to-day management of the economy is done not by the politicians in Canberra, but by the econocrats at the Reserve Bank in Sydney. Neither side has shown the least indication of wanting to change this.

It means that, apart from making decisions affecting the activities of particular industries (the banks, the live meat export trade) or such minor concerns as the natural environment, the elected government’s main means of influencing the broader economy is via its budget: the taxes it raises, the things it chooses to spend on, and the gap – the deficit or surplus – it leaves between the two (“fiscal policy”).

It’s now clear the election campaign will focus on taxes and government spending. Rather than sticking to the usual approach of making itself a small target against an unpopular government by saying “me too” to most of the government’s policies, Labor is making itself a big target, with various policies the Coalition has opposed.

So in this campaign we’ll be given a wider choice than usual, with each side conforming more than usually to their left versus right stereotypes. Labor will be promising to spend more on health and education than the Coalition, offering bigger tax cuts than the Coalition (in the first few years, anyway), and promising to reduce deficit and debt faster than the Coalition.

Against this, Malcolm Turnbull has used the big tax cuts announced in the budget to position the Coalition as the low spending, low taxing side, compared to Labor’s big spending, big taxing alternative.

This glosses over the Coalition’s own record on tax and spending, but there is some truth to the characterisation.

Remember, however, that neither side is promising anything but a temporary fix to bracket creep, because neither side is confident of its ability to contain the growth in government spending. So it’s probably closer to the truth to say that, however much Labor taxes and spends, the Coalition will do a bit less.

But how on earth can Labor promise to spend more, tax less and improve the budget balance faster?

Thankfully, we won’t be hearing much of the “Where’s the money coming from?” cry because Labor has a not-so-secret weapon: it has already announced policies to increase tax collections by reducing negative gearing and the capital gains tax discount, further reducing superannuation tax
concessions, taxing family trusts, ending cash refunds of unused franking credits, raising the top income tax rate by 2 percentage points to 49 per cent, and abandoning the cut in the rate of company tax for big businesses.

These measures should increase taxes by about $30 billion over four years and almost $200 billion over 10 years. They’ve been costed by the Parliamentary Budget Office, so there’s also likely to be less campaign argy-bargy over the costing of promises.

Labor has matched the government’s $530-a-year tax cut for middle and above-middle income-earners and raised it to $928. But it’s still considering whether to match the second step of lifting the 32.5 per cent tax upper bracket limit from $90,000 a year to $120,000 in July 2022. It’s unlikely to match the third step of lifting that limit to $200,000 in July 2024.

This tells us that neither side is particularly generous to genuinely low income-earners, and both have an exaggerated impression of where the middle is.

The big difference between the sides emerges for people earning more than $90,000 a year (which is almost 60 per cent higher than the median income), to whom the Coalition is offering much bigger tax cuts – while Labor would actually raise the tax rate on incomes above $180,000, as well as aiming most of its reductions in tax breaks at high income-earners.

So Labor would make income tax more redistributive, whereas the Coalition would make it less so. If that doesn’t offer voters a real choice, I don’t know what would.

But all is not as clear-cut as it sounds. For a start, both sides are engaged in a tax-cut bidding war while the budget is still in deficit with a rising debt. Both sides are relying on the government’s quite optimistic forecasts and projections in the budget. What if they don’t come to pass?

Also, what politicians promise and what they can get passed by Parliament are two different things. As Phillip Coorey of the Financial Review has revealed, the likely composition of the Senate after the election – fewer, but more conservative cross-benchers - should make it easier for the Coalition than for Labor to get its policies into law.

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