The social sciences: so essential we neglect them

As I’m sure you’re only too well aware, today is the first day of the inaugural Social Sciences Week. Just as I’m sure you knew that someone somewhere in America declared a day last week to be Read a Book Day.

Why do people name days, weeks, months and even whole years after worthy causes? Perhaps because there are so many worthy causes, and they’re hoping to gain theirs a little more attention amid the tumult.

We just want to be sure our fellow citizens are aware of who we are and what wonderful things we do, the organisers tell you. And once they’ve got their higher profile, there just might be a message or two they’d like to get through to the government and keeper of the purse strings.

What lifts Social Sciences Week above the ruckus is that last year by some mischance one of its sponsors made me a member of their club – shades of Groucho Marx – thus converting me to the cause. You have been warned, dear reader.

But just what are the social sciences, I hear you cry. Glad you asked. The week is being sponsored by the associations representing sociologists, criminologists, anthropologists and political scientists, plus the Academy of Social Sciences in Australia (whose members include demographers, geographers, accountants, economists, statisticians, historians, lawyers, philosophers, educationalists, psychologists and specialists in linguistics, management and marketing) and the Council for HASS – humanities, arts and social sciences.

In short, social scientists study human behaviour in all its dimensions. Nothing of much importance, then.

Not being ones to boast, the social scientists would like you to know their former students pretty much run the world. They’ve produced the majority of ASX-listed chief executives. Probably just as true of the public service and politicians.

Add the arts and humanities, and most of the tertiary-educated workers in Australia have HASS degrees. Almost three-quarters of university students are in HASS courses. Most of the overseas students paying full freight for their degrees – and now constituting one of our top export earners – do HASS courses, particularly business courses.

But though the social sciences and humanities dominate the work of universities, they don’t dominate their leadership. That honour more often goes to academics from a STEM – science, technology, engineering and maths – background.

And ratios of students to academic staff are much higher for HASS than for STEM courses. Truth is, law and more particularly, business, are the milch cows of universities, used to cross-subsidise subjects considered more worthy.

And you thought STEM was the neglected, put-upon Cinderella of academia? You’ve been spun. Just as every pollie wants you to believe they’re the underdog in the election, so the academics compete to be seen as hard done by. In that comp, STEM is winning. Its trouble is a shortage of customers to justify all the money it gets.

When it comes to research funding, there’s a hierarchy of perceived worthiness. The research aristocrats are the medicos. Since they devote their lives to saving ours (sometimes without thought of reward), we bow down before them.

They get their own special source of federal research funding – the National Health and Medical Research Council – plus money from bequests, philanthropists and patients with say, diabetes, being asked to kick the tin for diabetes research.

The rest of academia fights for a share of the funding distributed by the feds’ Australian Research Council. Here STEM is the upper class, the social sciences come a long way back as the middle class, leaving humanities as the poor relations.

A study from 2012 found that HASS produced 34 per cent of university research, and accounted for 44 per cent of the fields of research judged worthy of research funding, but got just 16 per cent of the lolly.

In this year’s hugely competitive funding round, 423 STEM projects got up, but only 113 social science projects did. This isn’t so surprising since none of the research priorities nominated by the council falls into the social sciences.

It makes no sense. As Senator Arthur Sinodinos said while minister for industry, innovation and science, “the advancement of the Australian economy relies on robust research from physical science and social science alike.

“The social sciences ... provide valuable insight into how to turn a scientific discovery into an informed policy for the nation, and how to implement that policy to ensure effectiveness.”

Just so. The Medicare funding system we value so highly was designed not by any medico, but by two professors of health economics. The huge expansion of university places we’ve seen was made affordable to taxpayers by an economics professor’s discovery of the income-contingent loan, known as HECS.

If applied to research grants, such loans would allow increased funding for social science research without cutting the funding to STEM. That’s what social science can tell you that STEM can’t.

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A beautiful set of numbers gets you only so far

This week’s national accounts don’t leave any doubt that the economy grew strongly in the first half of this year. But whether it can sustain that growth rate is doubtful.

According to figures issued by the Australian Bureau of Statistics, real gross domestic product grew by 0.9 per cent in the June quarter and an upwardly revised 1.1 per cent in the March quarter, yielding growth of 3.4 per cent over the year to June.

For once, the bureau’s “trend” (smoothed) estimates tell the same story.

Annual growth of 3.4 per cent is well above the economy’s medium-term “potential” growth rate of about 2.75 per cent, suggesting we’ve started making inroads into our unused production capacity.

It also means we’ve now completed 27 years of continuous growth since our last severe recession of the early 1990s. (We had recessions too small to remember in 2000 and again at the time of the global financial crisis in 2008, but let’s not spoil the party.)

The figures vindicate the Reserve Bank’s steadfast forecast of growth returning to “a bit above 3 per cent” in 2018 and 2019.

This growth of 3.4 per cent from one June quarter to the next amounts to growth averaged over the whole of the 2017-18 financial year of 2.9 per cent – meaning that (contrary to what I was expecting) the government has comfortably exceeded its budget forecast of 2.75 per cent.

Where’s the growth coming from? Over the year, the biggest contributions came from consumer spending and government consumption spending (mainly the wages of people working in health and education), business investment spending and public investment in infrastructure.

Since the volume of imports grew a lot faster than the volume of exports, the external sector subtracted from growth.

It was, however, a financial year of two halves, with growth at an annualised rate of less than 3 per cent in the last half of 2017, but more than 4 per cent in the first half of this year.

Trouble is, no one sees the economy continuing to grow at an annualised rate as high as 4 per cent – not private forecasters or the Reserve Bank, nor even the government.

Why not? Because the biggest contributor to growth – whether over the year to June or in the latest quarter – has been strong consumer spending.

Consumer spending accounts for more than half of GDP. And its growth does much to stimulate growth in business investment spending, particularly non-mining business investment. (It’s when demand for your product threatens to exceed your production capacity that you expand your business.)

Growth in consumer spending is driven by growth in households’ disposable income. Household disposable income, in turn, is driven mainly by growth in wages. That’s real growth in wages – wages growing a per cent or so faster than prices are rising.

But this is just what’s not been happening over the past three or four years. And although Reserve Bank governor Dr Philip Lowe remains confident we’ll get back to heathly real wage growth eventually, he keeps warning the recovery will be a long time coming.

This gives us good reason to doubt that the rapid growth of the first half of this year will be sustained. But, before we get to that, how’s it been achieved so far?

The first part of the explanation is the extraordinarily strong growth in employment. As you may have heard (many times), employment grew by a calendar-year record of 400,000 in 2017, about double the annual average.

This week the new Treasurer, Josh Frydenberg, noted that 2017-18 saw jobs growth of more than 330,000 – the largest jobs growth in a financial year since 2004-05.

Notice the diminishing superlatives? If you use trend figures to break that into half years, you find 70 per cent of it occurred in the first half and only 30 per cent in the second. Hmmm.

While wage rises are the main source of increase in household disposable income, the secondary source is increased employment – more people earning income in more households.

To illustrate, total wages paid to households (“compensation of employees”, in the jargon) rose by 0.7 per cent in nominal terms in the June quarter, whereas average wages per worker rose by 0.1 per cent. Get it? Increased employment accounted for almost all the growth in total wages.

But that employment growth is not the main thing that kept consumer spending growing strongly despite weak growth in household income. The bigger factor was households cutting their rate of saving.

The ratio of household saving to household disposable income continued its fall, dropping from 2.8 per cent to 1.4 per cent (using trend figures). This is down from a peak of 9 per cent after the financial crisis.

Note, this means households added to their savings at a lesser rate, not that they reduced the amount of their savings.

This is what economists call “consumption smoothing”. If the growth in your income is weak, you reduce your rate of saving to avoid having to tighten your belt and consume less.

Nothing wrong with that. But there’s not much scope left for further cuts in the saving rate.

Dr Shane Oliver, of AMP Capital, offers this summary of the outlook for the economy: “While housing construction will slow and consumer spending is constrained, a lesser drag from mining investment [because it’s almost hit bottom] along with solid export growth provide an offset, and are expected to see growth of between 2.5 and 3 per cent going forward.”

I’m more optimistic than that. I hope the Reserve’s “a bit above 3 per cent” will be on the money.

But be clear on this: no matter how wonderful the latest figures look - and there are two more quarterly announcements to come before an election in May - strong growth in the economy isn’t sustainable until workers are back to getting their share of the benefits of national productivity improvement in the form of real wage growth of a per cent or two a year.

Until then, voters aren’t likely to be greatly impressed by "a beautiful set of numbers”.

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Punishing wrongdoers won’t fix our problem with banking

The other day I noticed a column I’d written in 1990 saying the banks’ abuse of their customers’ trust was getting them a bad name, so they should desist.

That was almost 30 years ago. It tells you the banks started playing up not long after the Hawke-Keating government deregulated them in the mid-1980s.

I was complaining about the way they’d offer new customers a better deal than their existing customers, then make no effort to tell their unsuspecting suckers they should change.

They’re still doing it, of course. But as the banking royal commission has informed us in the most gruesome detail, they’ve graduated to much worse than exploiting their customers’ loyalty and inertia.

Their policy of buying into every dimension of “financial services”, particularly “wealth management” – running superannuation funds, and giving people advice on where to invest their retirement savings – has opened an Aladdin’s cave of opportunities to charge fees and commissions, plus temptations to exploit the conflict been their interests and their customers’.

“Why don’t I get you to agree to put your money into an investment that pays me a higher commission, or that’s offered by another part of my bank, even though it wouldn’t be the right thing for you?”

Financial services are particularly susceptible to overcharging, not just because the sellers know so much more than we do, but because ordinary mortals find financial details extraordinarily dull and have great trouble making themselves spend their precious leisure time examining statements, closing old accounts and checking up on businesses they should be able to trust.

And now, of course, we’ve had Westpac making an “out-of-cycle” increase in mortgage interest rates, and are waiting to see whether the other big banks will use the chance to raise their own rates.

Will they be game to add further offence while they’re at the height of their unpopularity? I fear they will.

If I’m right, this will tell us a lot about how banking got to be in its present sorry state and how likely the royal commission’s proposals for reform are to change the banks’ bad behaviour.

The commission’s inquiry is nearing its end. Its interim report is due by the end of this month, with its final report due by February 1. So we’re likely to know its recommendations – and what each side proposes to do about them – before the federal election.

Is it reasonable to hope it won’t be too long before the banks' bad behaviour is a thing of the past? Yes and no.

The commission's being conducted by a former High Court judge and a lot of barristers. If these lawyers interpret “misconduct” to mean breaking the law, they’ll be focused on referring suspect banks and individuals for further investigation, tightening up the law and making sure the bodies supposed to be regulating the banks, particularly the Australian Securities and Investments Commission, get more resources and try a mighty lot harder than they have been.

If this is the way things shape - and provided punishments extend to fining or jailing individuals, not just imposing fines on businesses with the deepest pockets in the land – I think we can hope for a marked reduction in rule-bending and outright lawbreaking.

The problem is that the big four banks have been so focused on the game they’re playing that they’ve lost touch with reality – with how many customers’ lives they’ve been ruining; with the way the rest us have come to despise them.

When the spouses of bank chief executives and board members realise their other half risks a trip to the slammer, just watch them pull their heads in.

Trouble is, most of us haven’t been victims of illegal behaviour. It’s no offence to take advantage of customers who aren’t paying attention. It’s not against the law to raise interest rates out-of-cycle.

In other words, there’s a big economic dimension to the banks’ misconduct. Neglect that and we’ll still have much to complain of.

The strange thing about banking is that it’s ruthlessly competitive and uncompetitive at the same time. The banks’ bosses are obsessed by a game in which they compete to achieve the highest percentage increase in their profits and share prices.

It’s this competition that’s kept bankers in their bubble of unreality, urging their minions on with KPIs and commissions and bonuses, and turning a blind eye to the rule-bending they lead to.

This is why Westpac has moved to protect its profit margin by passing a small increase in its costs on to customers, even though our banks are already among the most profitable in the world. And this is why its competitors are likely to follow suit, whatever their customers think.

It’s the lack of price competition at the retail level that makes it possible for the banks as a group to raise their prices whenever they see fit. The others could hang Westpac out to dry, but it’s a safe bet they won’t.

It’s only effective measures to increase price competition that will stop the banks overcharging us. There are no easy answers. But the banks are so influential that, to date, neither the two parties nor their bureaucratic advisers in Treasury, the Reserve Bank and the Australian Prudential Regulation Authority have shown much enthusiasm for the challenge.

That’s what we must hope all the voter anger generated by the royal commission is about to change.

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How to damage Australia: don’t collect good data

You don’t have to be very bright to see that as we enter the information age, realise decisions need to be evidence-based, and glimpse the huge potential of “big data”, we need the Australian Bureau of Statistics to be at the top of its game. But you do have to be brighter than our econocrats and politicians.

They’ve been cutting the bureau’s funding every year for more than a decade – meaning both parties have been at it – in the name of increased efficiency. The Orwellian annual “efficiency dividend”, cutting up to 2.5 per cent off running expenses, is a flowing fount of false economy.

According to the bureau’s boss, David Kalisch, it has suffered a reduction in real resources of more than 20 per cent over the past decade. Meanwhile, funding from big users of its data – which now accounts for between 10 and 20 per cent of its total funding - has increased only slightly.

The majority of its social statistical collections are only possible through user funding, with budget funding devoted predominantly to its economic and population stats.

The cutbacks have obliged the bureau to “prioritise”. It has reduced or stopped a number of statistical collections, with Kalisch admitting it hasn’t undertaken a survey of the way Australians use their time, nor a survey of mental health, for more than a decade.

“If the [bureau] continues to be subject to efficiency dividends over the next decade, at the same trajectory as it has for the past decade, some of the core information currently taken for granted by governments, business and the community may no longer be available,” he told a conference last month.

“Our capacity to continue producing all of the detailed statistics around our labour market, industry activity and population would increasingly be at risk.”

It oughtn’t be necessary to remind politicians, bureaucrats, marketers, academics, journalists and ordinary citizens just how heavily we rely on our national statistical office for reliable, objective information about a hundred dimensions of what’s actually happening around us, including to the natural environment.

The bureau’s data inform “fiscal and monetary policy settings, social support programs and infrastructure spending . . . many pertinent public policy debates, such as housing affordability, income and wealth inequality, cost of living, energy prices, the quality of life in our cities and regions, education and health outcomes, needs-based school funding, immigration policy and much more,” Kalisch told a conference of economists.

That’s not to mention that official data are “key to the effective functioning of our democracy, with population data helping establish fair electoral boundaries and our official statistics informing choices by voters and political aspirants”.

But it’s not just that we’d be much more poorly informed if government spending cuts robbed us of any of the information we presently collect. Our economy, society and natural environment keep changing, meaning we need to measure more than we do at present, as well as improving the way we measure things because they’ve changed from what they were.

Kalisch says globalisation and the digital economy introduce new measurement challenges. Over the past 15 years, the services sector has grown at an average rate of 6 per cent a year, meaning it now accounts for 63 per cent of gross domestic product [and a much higher proportion of total employment].

Measuring services is more difficult – conceptually and empirically – than goods. Good measurement of two key industries – health and education – is particularly important.

“Policy-makers and service providers are confronting wicked [difficult or impossible] problems across social policy and the environment that require a more sophisticated evidence base,” he says.

The bureau was an early public sector adopter in using computers, but in 2013 Kalisch’s predecessor blew the whistle on its “fragile ageing statistical infrastructure”. In 2015 the government agreed to provide most of the additional funding to build new systems.

In 2016 the bureau struck trouble with its first go at having many people complete their Census forms online. At the start of the filing period, the system was offline for nearly two days.

It was a “teachable moment”, but the bureau “owned the process errors, has reflected upon the learnings from this experience" and has revised its operating arrangements across the bureau. As proof it has learnt its lesson, Kalisch points to its trouble-free conduct of the same-sex marriage postal survey.

And all this before we get to big data. Any fool can see its huge potential for improving our evidence base at relatively low cost. But it takes a bit more brain to see that if we barge on with little attention to the public’s concerns over privacy and Big Brother governance, we could derail the whole show before we even get going.

Just the right time to cut the funding of the national statistical agency and decide we can afford to do stats on the cheap.

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EMPLOYMENT IS STRONG, WAGES ARE WEAK, GROWTH IS SO-SO. WHAT’S GOING ON IN THE ECONOMY?

Wollongong

I’m sure you’ve heard people talking about “the new normal”. It means that things have changed from the way they used to work, and the change isn’t temporary, it’s permanent. What’s normal has changed. Often it’s implied that the new normal isn’t as good as the old normal. If you translate that from the way ordinary people talk to the way economists speak, it’s saying that the way the economy is working at present isn’t a passing period of “disequilibrium”, it’s the new and lasting “equilibrium”. The change we’ve seen isn’t “cyclical” (temporary) it’s “structural” (lasting).

In the 10 years since the global financial crisis of 2008, which precipitated the Great Recession – the worse recession since the Great Depression of the 1930s – the economies of the developed world, including ours, have been behaving very differently to the way they behaved in earlier decades. The question is: is the world economy still recovering from the financial crisis and the deep recession - is the problem essentially cyclical - so it’s just a matter of waiting until the old normal is restored, or have deeper, longer-lasting, changes in the structure of the economy been at work, meaning the economy will stay the way it is and won’t be returning to the way it used to work?

Now, get this: No one knows the answer to that question. Economists are still arguing about it because it’s too soon to tell. My guess, for what it’s worth, is that it will turn out to have been a bit of both. Some of what we’re seeing at present will turn out to have been temporary – just the recovery from the Great Recession taking a lot longer than we expected – but also that the world we get back to will, to some extent, be different from what we were used to.

But what are these changes we’re seeing in all the developed economies? The first is slower rates of growth in the economy. Part of this slowdown is explained by slower rates of improvement in productivity – the annual improvement in the economy’s efficiency that allows output to grow faster than inputs. Then there’s less inflation pressure, meaning lower rates of inflation, lower nominal interest rates (because the nominal interest rate reflects the real interest rate plus the expected inflation rate) and lower nominal wage increases (because of lower inflation).

The story for Australia is similar to, but somewhat different from, the stories for the US, Canada, Britain, Europe and Japan. So it’s likely that what’s happening in Australia is explained partly by local factors and partly by international factors.

Australia’s story is that, unlike almost all the other developed economies, we escaped a severe recession after the GFC. Not, as many people believe, because of the resources boom, but because of the immediate and liberal application of fiscal and monetary stimulus by the Rudd government and the Reserve Bank. But though we escaped a recession, it remains true that, in only one financial year (2011-12) of the 10 since then has our rate of growth exceeded our long-term average rate of 3.25 pc. All the others have been well below that – most recently about 2.5 pc.

Like the other rich countries, Australia has also experienced a protracted period of low inflation, with the inflation rate being below the Reserve Bank’s inflation target of 2 to 3 pc since the end of 2014. For the past year it’s been just below 2 pc.

The wage price index has been slowing since the end of 2014 and has been about the same as the inflation rate for most of that time. So wages have been keeping up with inflation, but there’s been little or no growth in real wages for about four years. This is so, even though Australia’s rate of improvement in the productivity of labour has been reasonably healthy during the period. Wages used to grow by between 3 and 4 pc a year. There’s no precedent for such a long period of weak wage growth. The consequence of this absence of growth in real wages is, of course, weak growth in household income, and therefor weak growth in consumer spending, which accounts for more than half of GDP. This is true even though households have been reducing their rate of saving, so as to keep their consumption growing.

In recent years, total employment (full-time plus part-time) has been growing by about 200,000 workers a year, but in the last calendar year, 2017, it grew by almost 400,000, or 3.3 pc, with about three-quarters of those jobs being full-time. This is a wonderful performance, which has given a boost to household income and to the budget’s collections of income tax. But how did it happen, when the economy’s growth has been below par?

And there’s another question: this rate of jobs growth is a record for calendar years, so why did it cause the unemployment rate to fall only from 5.7 pc to 5.5 pc? Mainly because the participation rate rose by 0.8 to 65.5 pc – a near record rate – as many of the new jobs were taken by people (“discouraged workers”) re-joining the labour force. But the size of the labour force grew strongly also because of a high rate of immigration. So a big increase in the supply of labour was met by a big increase in the demand for labour, meaning only a small fall in unemployment.

But where did that strong demand come from if the growth in the economy wasn’t particularly strong?  More than half the growth in jobs came from just two industries: “health and social assistance” in particular, but also construction. This suggests that a lot of the growth may have come from public sector spending, particularly the continuing roll-out of the national disability insurance scheme and from state government spending on infrastructure. A disproportionate share of the jobs went to women, which fits with the disability roll-out.

But how can the weak wage growth be explained? This is one area where we need to remember wages are weak across the developed world, though they are at last strengthening in the US. Another thing to remember is that lower nominal wage growth isn’t a problem to the extent that it’s a product of lower inflation. That is, what matters is the growth rate of real wages. But it’s here that Australian economists have divided between those seeing the weakness as cyclical and temporary and those seeing it as structural and lasting.

The econocrats in the Reserve Bank and Treasury see the problem as temporary; it’s taking a long time, but be patient and wage growth will get back to normal. They note that while our economy escaped the worst of the global financial crisis, the resources boom was a huge shock to the economy (even if a favourable one), so it’s not surprising we – and particularly the WA and Queensland economies – are taking a long time to recover from its ending and the sharp and protracted fall in mining construction activity. The officials say it’s clear that the demand for labour is strengthening, so it can’t be long before this higher demand starts pushing up the price (wages).

On the other side of the debate, some economists argue that globalisation (the greater freedom with which firms can move their businesses to countries were labour in cheaper), digitisation (which is reducing the need for semi-skilled workers) and the deregulation of wage-fixing arrangements have weakened the ability of workers to bargain collectively with employers (via unions) and allowed employers to pay wages lower than otherwise and make higher profits than otherwise.

Budget forecasts for the economy

Although the debate about the causes of the weakness in wage growth is unresolved, the economic forecasts contained in the 2018 budget brought down by Scott Morrison on May 8 make the optimistic assumption that wage growth has already begun to accelerate and will reach the “old normal” of 3.5 pc a year with in 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 2.75 pc in last financial year, 2017-18, then reach an above-trend 3 pc this year, 2018-19, and stay there for at least another three years. This will bring unemployment down very slowly to reach the NAIRU (non-accelerating-inflation rate of unemployment) of 5 pc by June 2022. The inflation rate will soon return to 2.5 pc, the centre of the target. Let’s hope this optimism proves justified, but I wouldn’t count on it.

Now let’s turn to how the two arms of macroeconomic management – monetary policy and fiscal policy - have been responding to this story of so-far disappointingly weak growth in wages and GDP.

The monetary policy “framework”

Monetary policy - the manipulation of interest rates to influence the strength of demand - is conducted by the RBA independent of the elected government. It is the primary instrument by which the managers of the economy pursue internal balance - low inflation and low unemployment. Monetary policy is conducted in accordance with the inflation target: to hold the inflation rate between 2 and 3 pc, on average, over time. The primary instrument of MP is the overnight cash rate, which the RBA controls via market operations.

Recent developments in monetary policy

Because of the five consecutive years of below-trend growth since 2011-12, the Reserve Bank cut its cash rate from 4.25 pc to 1.5 pc between the end of 2011 and August 2016. In the two years 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 last financial year, 2017-18, 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 this 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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Inequality not as great as claimed, worse than others admit

This week the Productivity Commission issued a “stocktake of the evidence” on inequality in Australia. Its findings will surprise you. But it wasn’t as even-handed as it should have been.

Its report forcefully dispels the myths of the Left – that inequality is great and rapidly worsening – but is much more sotto voce in telling the Right there’s still a problem and that the reason it’s not as bad as some think is that governments have taken corrective actions the Right usually disapproves of.

This has allowed the conservative commentators of the national press to greet the report with great glee. One in the eye for their ideological opponents. Inequality? Nothing to see here.

The report looks at three different measures of economic inequality – the distribution of income, consumption and wealth – over a long period: the 27 years from 1988-89 to 2015-16. It focuses on the experience of households rather than individuals, and eliminates the effect of inflation.

The report concludes that inequality has risen only slightly over the period. Measured by the Gini coefficient – where zero means perfect equality and 1 means one household has everything – the distributions of both income and consumption have risen slightly.

The distribution of household wealth (mainly owner-occupied housing and superannuation savings) is most unequal of the three. It, too, has become a bit more unequal over the period.

But, particularly for income, inequality increased during the resources boom of the mid-noughties, then decreased in the years following the global financial crisis of 2008.

Over the 27 years, the disposable income of all households rose at an average rate of about 2.2 per cent a year in real terms.

The annual incomes of households in every decile (10 per cent group), from the bottom to the top, increased. It won’t surprise you that average incomes in the top two deciles rose by more than the economy-wide average. The top decile’s average income rose by more than 2.5 per cent a year.

It will surprise you that average incomes in the bottom decile rose at the same rate as the economy-wide average. So it was households between the bottom 10 per cent and the top 30 per cent whose incomes rose by less than the national average.

Many people would be surprised by all this. Why? Because they hear what’s happened in America and assume it must be pretty similar here. Wrong.

The report notes that our progressive income tax and highly means-tested welfare payments do a lot to equalise household incomes (as I’ve written recently in this column).

Our income inequality in 2015 was about average for the rich countries. In 2017, our wealth inequality was eighth lowest among 28 rich countries.

Australians’ chances of moving between higher and lower income groups – a rough measure of equality of opportunity – “compare favourably with many other developed countries”, the report says.

It tells us that, at 9 per cent of Australians – 2.2 million people – our rate of poverty (measured as people with incomes below half the median income) is no higher than it was 27 years ago.

But if all these truths tell you we don’t have much to worry about, you’ve been misled. The report is much less up-front in reminding us of the qualifications to its findings.

It leaves the strong impression that, if inequality hasn’t increased much, and isn’t as great as in some other countries, there’s no great problem. This implies the inequality we started with was fine.

As Professor Peter Whiteford, of the Australian National University, has noted, the report does too little to remind us that all the averaging involved in Gini coefficients and decile groups rolls households who’ve gained together with households who’ve lost and tells us little has changed.

For instance, the report downplays the issue of the huge increase in the incomes of the top 1 per cent of households. Their extreme gains are averaged with the more modest gains of the next 9 per cent to give a rise in the incomes of the top decile that’s high compared with the rest of us, but not greatly so.

Since the increase in inequality occurred during the resources boom, the report notes quietly that, contrary to what conservative politicians keep telling us, “[economic] growth alone is no guarantee against widening disparity between rich and poor”.

True. Then we’re reminded that this increase in inequality went away in the long period of weak growth following the financial crisis.

So what does the Productivity Commission want us to conclude? Let nature take its course? Don’t worry about increasing inequality because the next recession will fix it?

The report’s fine print acknowledges the truth that a country’s degree of inequality is greatly influenced by its economic institutions (such as its tax system and the rules of its welfare system), by government policy changes, and by the public’s attitudes to inequality.

I happen to agree with the commission’s value judgement that the growing gap between the top 1 per cent of incomes and middle incomes isn’t of as great concern as the gap between the bottom and the middle.

But I don’t accept another implicit value judgement that not much more could be done to reduce income and wealth inequality (presumably, for fear the rich would stop wanting to get richer) and that, at the bottom end, the government should limit its intervention to assisting those poor people whose disadvantage has become “entrenched”.

In other words, don’t acknowledge that poverty is being kept high by successive governments’ refusal to lift the freeze on real unemployment benefits.

The report proudly informs us that the bottom decile’s income has kept pace with the economy-wide average, but does little to explain how this amazing truth came about.

The chief suspect is the Rudd government’s increase in the base-rate of the age pension, a boost so big it seems to have more than offset the adverse effects of the real dole freeze and the bipartisan policy of moving disabled and sole-parent pensioners onto the much lower dole.

Still think there’s nothing to see here?

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Digital disruption is stopping retail prices from rising

I’ve heard of the gap between perception and reality, but this is ridiculous. According to the experts, increased competition among supermarkets, department stores and other retailers is holding down prices in a way we’ve rarely seen before.

This fits with the consumer price index, which showed prices rising by just 2.1 per cent over the year to June. Over the past three years, the annual increase has averaged even less: 1.8 per cent.

What it doesn’t fit with are the complaints we keep hearing about the high cost of living. I read it’s got so bad parents are raiding their kids’ piggy banks to help make ends meet.

How can the experts’ reality be reconciled with the people’s perceptions? It’s simple. With a few glaring exceptions – electricity prices, for instance – the cost of living isn’t rising much.

No, the reason many people are having trouble making ends meet is because their wages aren’t growing much either. We’re used to wages rising a bit faster than prices, but that hasn’t been happening for the past four years.

Modern politicians seek popularity by reinforcing our perceptions, whether they’re right or wrong. If you doubt that, just listen to the soothing noises Prime Minister Scott Morrison will be making between now and the election.

Unfortunately, our tiresome econocrats remain committed to determining the reality and correcting misperceptions. Last week Reserve Bank deputy governor Dr Guy Debelle gave a speech which departed from the official talking points and revealed a truth which must not be spoken: the digital revolution is squeezing many retailers’ profit margins and forcing them to cut costs so rising prices don’t cost them customers.

Debelle says that, since 2015, the price of the typical food basket (excluding fruit and veg, and meals out and takeaway) has actually fallen a fraction. Fruit and vegetable prices have risen, but by only a third of their average rate over the past 25 years.

The prices of alcoholic drinks have risen more slowly since 2015, and non-alcoholic drink prices have fallen a bit.

The prices of consumer durable items, including fridges and furniture, have been falling since 2015, meaning they’ve hardly increased over the past 25 years.

The prices of audio-visual equipment – including TVs, computers and phones – have fallen significantly over the past 25 years and particularly the past three.

If you’re finding this hard to believe, there are two main explanations. The first is that, because bad news interests us more than good news, big price rises stick in our minds, but small price falls don’t. Nor do we notice when prices stay unchanged for long periods.

The second is that every new TV, computer or phone does better tricks than the previous model. The new model may cost more than old one, but when the official statisticians allow for the value of the improvement in quality, they almost always find that the underlying price has fallen. Again, this is something we should notice, but usually don’t. Our perceptions play us false.

If we’re having trouble affording the new whiz-bang, big-screen, digital, internet-connected TV, that’s not the higher cost of living, it’s us straining for a higher standard of living.

When we confuse the two we’re deluding ourselves. We’re not getting better off, we’re just having to pay more.

Debelle says changes in the cost of imported goods used to be passed straight on by wholesalers and retailers. But over the past decade or so retailers have become reluctant to pass on higher import prices.

This is only partly because consumer spending hasn’t been growing as strongly as it used to. Debelle finds evidence that net retail margins have been declining.

Cost-cutting means the productivity of labour in retail is rising faster than in other industries, with the savings used to keep prices down rather than fatten profits.

What’s been happening in recent years is intensifying competition between retailers. One cause is the advent of “category killers” such as Bunnings, Officeworks and JB Hi-Fi. These are giving department stores and smaller retailers a hard time.

The buying-power of the many chains of liquor stores now owned by Coles and Woolworths is keeping prices down and putting great pressure on independent stores.

We’ve also seen large foreign retailers setting up bricks-and-mortar operations in Australia. In clothing, these include H&M, Zara, Topshop and Uniqlo.

The biggest bricks-and-mortar disrupter, of course, is Aldi supermarkets. Aldi seems to have taken market share from independent IGA stores, while forcing Coles and Woolies to avoid losing customers by lowering their prices.

Then there’s online shopping, which exposes our retailers not just to competition from big overseas businesses but between themselves.

Online sales still make up only about 5 per cent of total retail trade, but they’re growing rapidly, increasing by 50 per cent over the year to June.

Last year local retailers trembled over the impending arrival of Amazon, but so far it hasn’t had a big impact. Not directly, anyway. Maybe the locals have taken evasive action by keeping their prices low.

Smart phones have made it easier for people to comparison shop – even while in someone else’s store.

And I believe the internet increases the emphasis on price competition, rather than the emotive advertising and marketing big business prefers.

Digital disruption is bad news for the workers in disrupted industries – including journos – but don’t let anyone delude you: it’s almost always good news for consumers.

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Weakening dollar looks a lot worse than it is

Oh dear. While the pollies have been playing their games, the dollar has been falling and there’s even talk in the market of it going below US70¢. Is this a worry? Short answer: naah.

At the local close on Friday the Aussie was at US72.8¢. That’s down from a recent peak in January of almost US81¢. Is that a bad thing?

Depends who you ask. You can find plenty of people who’ll tell you a low dollar is bad and a high dollar is good. But most manufacturers, farmers and miners will tell you the opposite. The lower the better, they say.

Truth is, a fall in the dollar has some advantages and some disadvantages; a rise in the dollar has the opposite set.

A lower dollar has the disadvantage of making imported goods – and overseas holidays – more expensive. It will add to inflation. But it has the advantage of making our export and import-competing industries more internationally competitive on price.

An Australian item priced in Aussie dollars will be cheaper for foreigners to buy; an Australian item priced in US dollars will now bring more Aussie dollars to an Australian exporter. And overseas-produced goods and services will be more pricey relative to locally produced.

Since our inflation rate is unusually low, and our economy should be growing faster, that doesn’t sound like a bad deal to me.

But that’s just the first part of the story. Because a fall sounds bad and a rise sounds good, many people assume a falling dollar must be happening because we’ve stuffed up.

As we’ve seen, wrong on the first count. And most likely wrong on the second. The exchange rate is a relative price – the value of our currency relative to the value of another country’s currency. In this instance, the Yankee dollar.

Any change in that rate of exchange could be explained by happenings on either side of the Pacific – or a bit of both.

At present, however, all the action’s on the American side. The US economy is growing strongly, with President Trump stimulating an economy already close to full employment by cutting company and personal taxes.

So higher inflation is a significant risk. The US Federal Reserve has already raised the US official interest rate from about zero to about 2 per cent (significantly, higher than our 1.5 per cent), and may well raise it further if it gets more concerned about inflation.

A strongly growing economy, with rising interest rates attracting more capital inflow, is an economy with an appreciating currency. In recent times the greenback has been rising in value not just against the Aussie but almost all currencies.

A fact too few people realise is that, though the Aussie has fallen against the greenback (and the currencies of a few developing countries that shadow the greenback), it hasn’t changed much against most other currencies.

We don’t realise that because we’ve long had the bad habit of regarding the Aussie’s value against the greenback as the exchange rate rather than just one of many.

Economists, however – and particularly those at the Reserve Bank – know not to take such short-cuts. They focus on our “effective” exchange rate – the rate against a basket of our trading partners’ currencies, with each country’s currency weighted according to its share of our two-way trade (exports plus imports).

This is the trade-weighted index, or TWI (pronounced “twy”). Since our trade with the US is less than most people assume, the US dollar’s direct weight in the basket is just a bit over 10 per cent.

So whereas since January the Aussie has fallen by almost 10 per cent against the greenback, it’s fall against the TWI has been a more modest 4.4 per cent.

Which is why the country’s economic managers are neither greatly worried nor greatly excited by the dollar’s movements in recent times.

They see the TWI as simply as being around the bottom of the band in which it’s been moving for the past few years. No biggie.

For someone planning an overseas holiday, it’s not good news if you’re off to the States. But doesn’t make much difference if you’re going to Britain, Europe, N’Zillund or Bali.

But could the Aussie fall a lot further against the greenback? It could, and that’s what economic theory would lead you to expect. But I don’t recommend making currency bets on the basis of economic theory.

As a Reserve Bank assistant governor admitted recently, if she knew how to forecast the exchange rate with any accuracy she wouldn’t be here, she’d be on her private island.

Even so, should the dollar end up falling below US70¢ in coming months, I can’t see the Reserve getting too worried. As I say, a bit more inflation would do little harm and a boost to our export industries would be handy.

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“Lags”: one reason economists keep getting it wrong

I’m compiling a short-list of the main things economics teaches us. One is: economic developments take longer to affect the economy than you’d expect. Economists call these delays “lags”. That there are so many of them – and their lengths keep changing – does a lot to explain why economists’ forecasts are so often wrong.

Last week Dr Luci Ellis, an assistant governor of the Reserve Bank, gave a prestigious lecture at the Australian National University devoted solely to the problem of lags.

Ellis says a lag occurs in any instance where time passes between when an activity is initiated and when it has its impact. “Almost all economic phenomena involve lags,” she says. And she’s divided them into three types.

The first is “process lags” – the time it takes for any production process to be finished. The time it takes to build a house, for instance.

This includes the time it takes to make a decision (say, about whether to build the house). Particularly where decisions are made by governments or big businesses, this can take some time. You may have to gather information, do analysis, prepare documents, convene meetings and complete review processes before you’ve decided.

Economists often compare the strengths and weaknesses of the two main instruments they use to manage the macro economy: monetary policy (the manipulation of interest rates) and fiscal policy (the manipulation of government spending and taxation in the budget).

An important difference between the two is that decisions to change interest rates can be made quickly and easily. The Reserve Bank board meets monthly, decides, has lunch and then announces its decision.

By contrast, decisions to change taxes or government spending require a lot more preparation and debate by the cabinet. Then there can be a delay of weeks or months before legislation is passed by parliament and put into effect. Sometimes the firms affected have to be given notice to prepare for the change.

The trick is, once decisions have taken effect, changes to taxes and government spending usually affect the economy more quickly than do changes in interest rates, for which the lags are “long and variable”. The full effect of a rate change could take up to three years.

Another example of decision lags is the local government approval process for building projects, which can take months.

An important case of process lag is known as the “hog cycle”. A farmer takes his pigs to market, discovers prices are high, so decides to grow more pigs.

Trouble is, this takes a few years. And pork prices have fallen back long before the pigs are ready. But when they are, the farmer still has to sell them – which depresses prices even further.

Hog cycles occur in many industries where the long delay between deciding to produce something and getting it finished means demand and supply for the product are never in sync. This causes prices to boom when demand exceeds supply, then bust when supply exceeds demand.

It’s happening now with new apartments. Demand has fallen off, but buildings begun a year or two ago are still adding to supply, putting downward pressure on prices.

The hog cycle – the long lag between rising mineral commodity prices on world markets and our new mines and gas plants finally coming on line – does much to explain the wringer the resources boom and bust has put our economy through over the past decade and a half.

Ellis’s second category is “stock-flow lags”. A stock is the amount of something at a particular point in time – say, the money in a bank account at June 30. A flow is the amounts flowing in and out of the account during a period of time. The difference between the stock at the start of a year and the stock at the end of the year will be the flows in and out.

This is important in housing, where the number of newly built homes in a year is a small fraction of the stock of all existing homes (especially after you allow for the homes that were knocked down during the year).

So if the stock of homes has fallen far short of the number of homes needed, it can take longer than you’d expect to make up the gap.

Historically, macro-economics has tended to focus on flows and ignore stock levels. But Ellis says “if you aren’t taking stocks and flows seriously you probably don’t have a realistic model of the economy”.

Her third category is “learning lags”. This is the time it takes individuals – or the whole economy – to realise economic relationships have changed and to change their behaviour accordingly.

These lags can vary because some people are quicker on the uptake than others. But also because how long it takes before you can conclude a change has occurred depends on many factors: the “noisiness of the data” (the way monthly or quarterly statistics jump around for no apparent reason) and how open you are to changing your views about how things work.

This takes us to the common case of economists having to decide whether some problem is “cyclical” (temporary) or “structural” (lasting).

Ellis says our knowledge that lags often vary in length should make us slow to conclude that the economy’s structure has changed, but human nature seems to push us the other way. It’s too easy to convince ourselves “this time is different” when usually it isn’t.

The big debate between economists at present fits this pattern: is the weakness in wage growth just the product of longer lags than we’re used to in the recovery phase, or has there been some change in workers’ bargaining power that needs correcting?

Whatever the answer, you see how ubiquitous lags are in the economy, how their length can change, how they contribute to the ups and downs of the business cycle, and how hard they make it to be sure where we are now, let alone where we’re headed.

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THE DISRUPTED ECONOMY

Uni of Newcastle Boardroom Lunch, Sydney Business Chamber, Thursday, August 23, 2018

I’m pleased to be invited back with fellow alumni of the university to talk about the disrupted economy. But though, as someone working for a newspaper, I’m only too well aware of just how disruptive digital disruption can be to whole industries and the people working in them - with, no doubt, much more disruption to come – if you’ve come today hoping for confident, detailed, spine-tingling predictions about which industries are next and how many thousands of jobs will be lost, I’m sorry to disappoint you.

Rather, I’m going to do roughly the opposite and give you the antidote to all the frighting predictions about how our world will be turned upside down and how disastrous it’s going to be. I’ll give you seven things to beware of.

First is, beware of futurists – supposed experts who speak with great confidence and specificity about what the future holds. Their forecasting record is even worse than economists’. Humans have an insatiable desire to know what the future holds, which gives us an unquenchable appetite for the output of all manner of soothsayers and witchdoctors. We keep forgetting the simple truth: no one, but no one, knows what the future holds. It follows that people who claim to know should be viewed with scepticism. If they’re genuine experts – scientific experts - their predictions will be hedged about with qualifications. Practitioners of futurology, however, are part of the entertainment industry. There’s great demand for their product and they know that the more confident they sound about their predictions, the more they’ll please their audience.

Second, beware of believing that “this time is different”. It’s always possible that this time really will be different, but just remember that people say that every time – during every boom in the economy or the sharemarket or the property market – and it almost never is. This is relevant to the proposition that digital disruption will be bigger and faster and more devastating to employment than we’ve ever seen, because the installation of labour-saving technology has been occurring continuously since the start of the Industrial Revolution more than 200 years ago, and in all that time we are yet experienced technology-caused mass unemployment. This time it may be different, but a betting man or woman would say the greatest likelihood is it won’t be.

Third, beware of believing urban myths. Futurology teems with confidently asserted, seemingly scientific predictions that are so widely repeated they take on the status of accepted facts. In the 1980s, when I first joined the debate about the employment effects of computerisation and the future of work, one of the assumed facts was that each word-processor that firms installed would replace the jobs of, I think it was, 12 typists. But where did this factoid come from? A Harvard study? A presidential report? Few of the people who repeated it ever knew – or bothered to inquire. But someone traced it back to an advertising claim made by a firm selling word-processors.

One current widely quoted factoid is that 40 per cent of Australian jobs are at high risk of automation in the next 10 to 15 years. Hear that one before? The origins of this one have been traced. CEDA commissioned some engineers to take the figures in a study of the American job market and simply modify them for Australia. The American study was made by some entrepreneurial academics at Oxford. But when economists examined the Oxford study – as some Australian and OECD economists did – they found the methodology rough and unconvincing. The OECD study said a more believable estimate for Oz was not 40 per cent but 13 per cent.

Another widely quoted factoid is that “today’s 15 year-olds will likely navigate 17 changes in employer across five different careers”. Heard that one before? I’ve seen it quoted in formal reports and footnoted, without being able to trace its supposedly academic origins. People who tell us how dramatically the world of work is going to change and how much education and training need to change in anticipation of that change say our youngsters need to be taught, among other things, the skill of “critical thinking”. I agree. So let’s apply a little critical thinking to that factoid. Did you note how remarkably numerically specific it is? That’s suspicious. Next, ask yourself how easy it is to believe those remarkable numbers? 17 different employers; five different careers. But the key question we should always ask of futurology is: how would you know? Do you have a time machine? I find it impossible to imagine how you could take all the children born 15 years ago, peer into each of their working lives over the next 55 years and decide how many jobs and careers they’ll have. And do it with such accuracy it could be summarised in two numbers, 17 and five. It’s literally in-credible. The one thing to say for it is that cramming that many employers and careers into just 45 years wouldn’t leave much time for unemployment.

Fourth, beware of assuming that whatever machines can do for us, we’ll want them to do for us. Futurists make themselves expert on what’s coming next from such things as artificial intelligence. What they don’t know much about is human nature. But leave out the human factor and your predictions about how our world will change stand a high chance of being off-beam. Take the confident predictions a decade or two back that, by now, we’d all be working from home. It’s certainly technologically possible, even cheap and easy to organise. But it’s happened to only a limited extent. Why? Because it doesn’t suit many bosses, and it doesn’t suit many workers.

Or, take the long-established move to online financial markets for shares, bonds and currencies. In principle, this means financial traders could be spread around all the cities and towns of Australia with decent internet links. In practice, almost all the traders remain crammed into two or three streets of the Sydney CBD. One of the unexpected features of the knowledge economy is that more and more of the nation’s GDP is being produced in the CBDs of Sydney, Melbourne, Brisbane and maybe Perth. Why? Because knowledge transfers better when people are face-to-face.

To take a more prosaic example, it will soon be technologically possible for cafes and restaurants to be manned by robots rather than people. But I don’t see much of it happening. Why not? Because few people would enjoy eating in such impersonal circumstances. Let me make my own futurist prediction. I think it won’t be long before many firms bring their overseas call centres back on shore. Why? Because so many of their customers hate it.

Fifth, beware of assuming that what you see is all you get. What everyone sees with computerisation, automation, digitisation and the rise of AI (artificial insemination) is all the jobs being destroyed. Non-economists assume that’s the end of the story. Economists earn their living by knowing that it’s not. You have first to remember that some new jobs – not all that many - are created by the workers needed to sell, distribute, maintain, replace and modify all the robots. Much more significantly – but much harder to see – is the realisation that the instillation of labour-saving equipment – including robots – doesn’t destroy value, it increases it. That’s why it happens. It doesn’t reduce productivity, it increases it. And increased productivity equals increased income. Ideally, that increased income is manifest in higher wages for those who remain in the industry and lower prices for the industry’s customers. Failing that, the extra income stays in the hands of the owners of the firms in the industry. But wherever the gains from higher productivity end up, when they are spent somewhere in the economy they create new jobs. This is why economists say that new technology doesn’t destroy jobs, it “displaces” them. It reduces employment in the industry applying the new labour-saving technology, but increases employment in many other, often utterly unrelated industries – usually in the services sector and, if our experience over the past 30 years is any guide, particularly jobs suitable for women. This is why 200 years of labour-saving investment have yet to create significant levels of technological unemployment and why overall employment has continued to grow almost every year.

Sixth, beware of forgetting what economists, in their pompous way, call the “policy reaction function”. This is just a fancy way of saying there’s what the market does, and then there’s what the government does in response to what the market’s done. If it doesn’t like the outcomes the market has produced – or, more likely, if too many voters don’t like those outcomes - it will intervene to correct those outcomes.

Finally, beware of assuming from all I’ve said to put future technological disruption into a more realistic context that I think nothing much will change, or that there’s nothing to worry about. I think a lot will change and there’s a fair bit to worry about.  But these are things you can ask me about now.

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