Back to the future: Keynes can lift us out of stagnation

Every so often the economies of the developed world malfunction, behaving in ways the economists’ theory says they shouldn’t. Economists fall to arguing among themselves about the causes of the breakdown and what should be done. We’re in such a period now.

It’s called “secular stagnation” and it’s characterised by weak growth – in the economy, in consumer spending, in business investment and in productivity improvement. This is accompanied by low price inflation and wage growth, and low real interest rates.

Let me warn you: the last time the advanced economies went haywire, it took the world’s economists about a decade to decide why their policies of managing the macro economy were no longer working and to reach consensus around a new policy approach.

That was in the mid-1970s, when the first OPEC oil-price shock brought to a head the problem of “stagflation” – high unemployment combined with high inflation – a problem the prevailing Keynesian orthodoxy said you couldn’t have.

The Keynesians’ “Phillips curve” said unemployment and inflation were logical opposites. If you had a lot of one, you wouldn’t have much of the other.

The developed world’s econocrats lost faith in Keynesianism and flirted with Milton Friedman’s “monetarism” – which was just a tarted-up version of the “neo-classical” orthodoxy that had prevailed until the Great Depression of the 1930s.

That was the previous time the economics profession fell to arguing among itself. Why? Because neo-classical economics said the Depression couldn’t happen, and had no solution to the slump bar the (counter-productive) notion that governments should balance their budgets.

It was John Maynard Keynes who, in his book The General Theory, published in 1936, explained what was wrong with neo-classical macro-economics, explained how the Depression had happened and advocated a solution: if the private sector wasn’t generating sufficient demand, the government should take its place by borrowing and spending.

In the period after World War II, almost all economists – and econocrats – became Keynesians. Until the advent of stagflation.

Notice a pattern? We start out with neo-classical thinking, then dump it for Keynesianism when it can’t explain the Depression. Then, when Keynesianism can’t explain stagflation, we dump it and revert to neo-classicism.

Enter Dr Mike Keating, a former top econocrat, who thinks the present crisis of stagnation means it’s time to dump neo-classicism and revert to Keynesianism.

Why do economists have rival theories and keep flipping between them? Because neither theory can explain every development in the economy, but both contain large elements of truth.

So it’s not so much a question of which theory is right, more a question of which is best at explaining and solving our present problem, as opposed to our last big problem.

I think there’s much to be said for this more eclectic, horses-for-courses approach. There’s no one right model. Rather, economists have a host of different models in their toolbox, and should pull out of the box the model that best fits the particular problem they’re dealing with.

And much is to be said for Keating’s argument that we need a different economic strategy to help us into the 21st century. Got a problem with stagnation? The tradesman you need to call is Keynes.

Although the rich economies are in a lot better shape than they were during the Depression – mainly because, in the global financial crisis of 2008, governments knew to apply Keynesian stimulus - Keating sees similarities between the two periods of economic and economists’ dysfunction.

In this context, the key difference between the rival theories is their differing approaches to supply and demand.

Neo-classical economics assumes the action is always on the supply side. Something called Say’s Law tells us supply creates its own demand, so get supply right and demand will look after itself.

The modern incarnation of this is “the three Ps”. In the end, economic growth is determined by the economy’s potential capacity to produce goods and services, and our “potential” growth rate is determined by the growth in population, participation and productivity improvement (with the last being the most important).

By contrast, Keynesianism is about fixing the problem Say’s Law says we can never have: deficient demand. Insufficient demand was what kept us trapped in the Depression. Keating argues the fundamental cause of our present stagnation is deficient demand, and the solution is to get demand moving again.

Back in the stagflation of the 1970s, however, the problem wasn’t deficient demand. It was the supply side of the economy’s inability to produce all the goods and services people were demanding, thus generating much inflation pressure.

After realising that Friedman’s targeting of the money supply didn’t work, the rich world’s eventual solution to the problem was what we in Australia called “micro-economic reform” – reduced protection and government regulation of industries, so as to increase competition within industries and spur greater productive efficiency and productivity improvement, thus increasing our rate of “potential” growth.

Keating – who, with another bloke of the same name, played a big part in making those early reforms – insists they worked well and left us with a more flexible, less inflation-prone economy. True.

By now, however, assuming you can fix a problem of deficient demand by chasing greater competition and improved productivity just shows you haven’t understood the deeper causes of the problem.

But when Keating advocates a new economic strategy of demand management, he doesn’t just mean governments borrowing and spending a lot of money now to give demand a short-term boost.

He mainly means a new kind of micro reform that, by increasing the income going to those likely to spend a higher proportion of it, and by lifting our education and training performance to help workers cope with new technology, ensures demand strengthens and stays strong in the years to come.

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We could be among the world's climate change winners

In the dim distant past, politicians got themselves elected by showing us a Vision of Australia’s future that was brighter and more alluring than their opponent’s.

These days the pollies prefer a more negative approach, pointing to the daunting problems we face and warning that, in such uncertain times, switching to the other guy would be far too risky.

We’ve gone from “I’m much better than him” to “if you think I’m bad, he’d be worse”. Maybe they simply lack any vision of the future beyond advancing their own careers.

Management-types tell us we should conduct “SWOT analysis” – considering our strengths and weaknesses, opportunities and threats. But we’ve become mesmerised by the threats and incapable of seeing the opportunities. Such a pessimistic mindset is crippling us when we could be going from strength to strength.

Take climate change. It, of course, is a threat – to our climate, and hence to our comfort and our economy – but think a bit more about it and you realise that, for a country like ours, it’s also a new gravy train we could be climbing aboard.

The stumbling block is that responding to climate change requires change – and no one likes change, especially those who earn their living from the present way of doing things.

So, what more natural reaction than to resist change? Economists are always warning politicians not to try “picking winners”. In reality, they’re far more likely to resist change by spending lots of money trying to prop up losers.

Start by denying that change is necessary. Global warming isn’t happening, it’s just a conspiracy by scientists angling for more research funds.

Nothing new about heatwaves, bushfires, droughts, floods and cyclones – they’ve always existed. They’re becoming bigger and more frequent? Just your imagination.

What you’re not imagining is the ever-higher cost of electricity. But that’s just because those ideologues imposed a carbon tax and are making us subsidise renewable energy. Get rid of the taxes and subsidies and the cost falls back to what it was.

And those terrible wind turbines. They’re unnatural and unsightly, they kill rare birds and their noise endangers farmers’ health.

Renewable energy is unreliable because it depends on the wind blowing or the sun shining. You need coal for steady supply. With the greater reliance on renewables, where do you think the blackouts are coming from?

And renewable energy is so expensive. Coal-fired electricity is much cheaper. Plus, we’ve got all our chips stacked on coal. We’re world experts at open-cut coal mining. Our coal is much higher quality than most other countries'.

Coal provides jobs for 30,000 workers. There are towns desperate for jobs who’d just love another coal mine. And, of course, we’ve still got huge reserves of the stuff that’s of no value if it stays in the ground.

Some of these claims have always been untrue, some are no longer true and some are less true than they were.

Just this week, for instance, a report from the independent Grattan Institute has debunked the claim that “outages” are being caused by renewables, saying more than 97 per cent of outage hours can be traced to problems with the local poles and wires that transport power to businesses and homes.

While it’s true that power from existing coal-fired generators is dirt cheap, many of these are old and close to the end of their useful lives. They’re not being replaced by new coal generators because there’s too much risk that the demand for coal-fired power will dry up before the generators have returned the money invested in them.

The latest report from the CSIRO says the lowest-cost power from a newly built facility is now produced by solar and wind.

The cost of solar, battery storage and, to a lesser extent, wind power, has fallen dramatically over this decade, partly because of advances in technology but mainly because of economies of scale as China and many other countries jump on the bandwagon. These falls are likely to continue.

This has gone so far that the old arguments about the need for a price on carbon and subsidies for renewables are being overtaken by events.

Installation of renewable generation is proceeding apace, with all renewables’ share of generation in the national electricity market jumping from 16 per cent to 21 per cent, just over the year to December, according to Green Energy Markets.

So, as the economist Professor Frank Jotzo, of the Australian National University, has said, coal is on the way out. The only question is how soon it happens.

According to our present way of looking at it, this is disastrous news. But not if we see it as more an opportunity than a threat.

Professor Ross Garnaut, of the University of Melbourne, has said that “nowhere in the developed world are solar and wind resources together so abundant as in the west-facing coasts and peninsulas of southern Australia.

“Play our cards right, and Australia’s exceptionally rich endowment per person in renewable energy resources makes us a low-cost location for energy supply in a low-carbon world economy.

“That would make us the economically rational location within the developed world of a high proportion of energy-intensive processing and manufacturing activity.”

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Politicians, economists will decide if bank misbehaviour stops

In the wake of the Hayne report on financial misconduct, many are asking whether the banks have really learned their lesson, whether their culture will change and how long it will take. Sorry, that’s just the smaller half of the problem.

You can’t answer those questions until you know whether the politicians and their economic advisers have learned their lesson and whether their culture will change.

Why? Because the game won’t change unless the banks believe it has changed, and that will depend on whether governments (of both colours) and their regulators keep saying and doing things that remind the banks and others on the financial-sector gravy train that the behaviour of the past will no longer go undetected and unpunished.

One of Commissioner Hayne’s most significant findings was that almost all the misbehaviour he uncovered was already illegal. Which raises an obvious query: in that case, why did so much of it happen?

Hayne’s answer was “greed”. That’s true enough, but doesn’t tell us much. Greed has been part of the human condition since before we descended from the trees. But greed has been channelled and held in check by other factors – particularly by social norms that disapprove of it and find ways to censure people who aggrandise themselves are the expense of others. In old times, social ostracism was enough.

So, since banks and other financial outfits haven’t always been willing to exploit their customers the way they have recent decades, the question is: what changed?

One explanation is that the economy’s become a bigger, more complex, more impersonal place, where the exploiter and the exploited don’t know each other. Where the exploitation is carried out by four of the biggest, most sprawling and intricate computer systems in the country.

Where I can spend my obscenely large pay cheque without seeing the faces of the people I’ve ripped off flashing before my eyes. Indeed, in my suburb, all of us get huge pay cheques. And I don’t feel guilty; some of them get much bigger cheques than me.

But another part of the explanation must surely be that things started changing after the triumph of “economic rationalism”, the introduction of microeconomic reform, and the deregulation of the financial sector in the second half of the 1980s.

In the highly regulated world, there was less scope and less incentive to mistreat customers. Competition was limited and there was little innovation. Deregulation was intended to spur competition between the banks and give customers a better deal.

I’m not saying bank deregulation was a bad idea. It did bring innovation (we forget that banking and bill-paying are infinitely more convenient than they were) and you no longer have to live in a good suburb to get a loan from a bank.

And the banks do compete far more fiercely than they used to. It's just that they compete not on price (as the reformers assumed they would) but on market share and which of the big four achieves the biggest profit increase.

In this they’ve behaved just as you’d expect oligopolists to behave.

In the meantime, economic rationalism sanctified greed (the “invisible hand” tells us the market leaves us better off because of the greed of the butcher and the baker) and economists invented euphemisms such as “self-interest” and “the profit motive”.

Then, after economists got the bright idea of using bonuses and share options to align management’s interests with shareholders’, big business elevated “shareholder value” to being companies' sole statutory obligation.

Now, however, when Hayne says the banks gave priority to sales and profits over their customers’ interests, everyone’s rolling around in horror.

And politicians and econocrats are feigning surprise that financial regulators, long given a nod and wink to dispense only “light” regulation of the players (and denied the funding to give them any hope of successful prosecutions), did just as they were told.

Unless the econocrats and their political masters are willing to accept the naivety that marred bank deregulation, the harm ultimately done to bank customers – ranging from petty theft to life-changing loss – and the system’s susceptibility to political corruption, the banks’ culture won’t change because the will to change it won't last.

The existing prohibitions on mistreatment of customers need to be made more effective, as proposed by Hayne but, above all, the law needs to be policed with vigour – including adequately resourced court proceedings – so the banks realise they have no choice but to change.

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The economy isn’t in trouble, but let’s cut interest rates anyway

Rather than merely acknowledging that the next move in interest rates is as likely to be down as up, I think the Reserve Bank should get on with cutting them. But not for the reason you may imagine.

There are plenty of people – many of them in the media – silly enough to believe a fall in interest rates is always good, and a rise always bad. They have a mortgage-centred view of the universe.

They forget that lower rates are bad news for people living off their savings – or saving for a home deposit.

More particularly, they forget that central banks use interest rates to keep the economy on an even keel. Judged the conventional way, central banks cut interest rates when they judge the economy to be weak or weakening.

So, even for those with mortgages, a cut in rates is no reason to celebrate. They’ll be paying less interest, sure, but only because, in the econocrats’ judgement, there’s now a greater risk they’ll lose their job, be put on a short working week, or go for year or two without a pay rise.

Is that what you’re hoping for? I’m not. Nor do I think it’s our certain fate. The biggest risk we face is talking ourselves into a downturn – for no better reason than it would be something new to talk about.

Telling ourselves that a fall in house prices – something we’ve experienced many times before and lived to tell the tale – is the start of an avalanche.

Or, when Reserve Bank governor Dr Philip Lowe moves from saying the next move in rates is up, to saying the chances are evenly balanced between up and down, leaping to the conclusion he’s really saying a cut is imminent.

It isn’t. It isn’t because, as he made plain in a speech on Wednesday – and reiterated in the statement on monetary policy on Friday – he remains confident the economy has slowed a bit, but no worse. His revised forecast is for the economy to grow by an above-trend 3 per cent this year.

And a rate cut isn’t imminent because he said it wasn’t. “[The board] does not see a strong case for a near-term change in the cash rate. We are in the position of being able to maintain the current policy setting while we assess the shifts in the global economy and the strength of household spending.”

He also said that “what we are seeing looks to be a manageable adjustment in the housing market”.

So a rate cut isn’t imminent. According to Lowe, a cut would require “a sustained increase in the unemployment rate”. Which, judged by conventional standards, is good news. It means he believes the economy will continue plugging on.

But my point is different. Lowe is pursuing a conventional, business-as-usual approach to managing the economy because he assumes nothing fundamental has changed.

His conventional thinking is that it’s weak wage growth that’s driving the economy’s relative stagnation. It hasn’t occurred to him it’s the other way round: the economy’s stagnation is the cause of weak wage growth.

I think it’s clear the phenomenon of “secular (that is, long-lasting) stagnation” – exceptionally low inflation, low wage growth, low real interest rates, low business investment, low productivity improvement and low economic growth – applies to our economy as well as to the United States and the other advanced economies.

Every symptom on that list applies to us (bar the long-past mining investment boom). And stagnation isn’t a bad way to describe our position, where growth over the 10 financial years since the global financial crisis has averaged less than 2.6 per cent a year and only one year (2011-12) has been above trend.

One thing that’s become clear in America and other advanced economies is that secular stagnation – the causes of which economists are still debating – has caused conventional estimates of the NAIRU (“non-accelerating-inflation rate of unemployment” – the lowest rate to which unemployment can fall before wage and price inflation begin to worsen) to be far too high.

In those countries, unemployment has fallen well below where the NAIRU (sounds a bit like the island) was thought to be, without any sign of price inflation or excessive wage growth.

The same can be said of us. The Reserve estimates our NAIRU to be “about 5 per cent”. Our actual unemployment rate has been at 5 per cent or so for some months, while the latest reading for underlying inflation is 1.75 per cent and for the wage price index is 2.2 per cent.

So, we’re at the supposed NAIRU without the slightest sign of inflation pressure. Indeed, underlying inflation has been below the 2 to 3 per cent target range since the end of 2015, and Lowe is forecasting it won’t get up into the target range until the end of next year.

This suggests that, in our newly stagnant world, the true NAIRU is a lot lower: 4.5 per cent, maybe 4 per cent. And since, as Lowe reminds us, the RBA’s objectives include “delivering on full employment”, he should be trying harder to get unemployment down to the true NAIRU.

How? By using the one instrument available to him: cutting interest rates to loosen a monetary policy that’s tighter than it needs to be.

Until recently, Lowe’s best reason for not lowering rates was a desire to avoid adding fuel to the boom in house prices (“asset-price inflation”). But now that constraint has lifted, there’s no reason to hesitate.

You could argue that, with households already so loaded with debt, a rate cut may not do much to boost consumer spending. But it probably would lower the dollar, which would improve our industries’ price competitiveness internationally, encouraging them to hire more workers. We’ve got little to lose.

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Bank royal commission the start of re-regulation

If you think the banking royal commission’s damning report means you’ll never again be overcharged or otherwise mistreated by a bank, you’re being a bit naive. If you’re hoping to witness leading bankers being dragged off to chokey, you’ll be waiting a while.

But if you think that, once the dust has settled, we’ll find little has changed, you haven’t been paying attention.

I think we’ll look back on this week and see it as the start of the era of re-regulation of the economy. The time it became clear our politicians were no longer willing to give big business an easy ride, to assume it would only ever act in the best interests of its customers and that nothing should ever be done to displease the big end of town, for fear this would damage the economy.

And I’m talking about a lot more than banking, superannuation and insurance. Many other industries have been treating their customers or employees badly, and they too will find governments getting tough with wrongdoers.

Why the change of heart? Because, in so many cases, the 30-year experiment with deregulation, privatisation and outsourcing is now seen to have ended badly.

Recent years have revealed many businesses breaking the law while government regulatory bodies fail to bring them to justice: firms paying their employees less than their legal entitlements, firms taking advantage of foreign students and others on temporary work visas, private providers of vocational education inducing youngsters to sign up for inappropriate courses, irrigators illegally extracting water from the Murray-Darling river system, private inspectors certifying high-rise apartment blocks later found to be seriously defective, and many more.

Big business may have power and money, but customers and employees have votes. And when voters experience mistreatment at the hand of business – or just read about the mistreatment of others – they tend to blame the politicians, who were supposed to ensure such things happened only rarely.

Commissioner Kenneth Hayne has found that almost all the misbehaviour by banks and other institutions he uncovered was already illegal.

He makes the point that “the primary responsibility for misconduct in the financial services industry lies with the entities concerned and those who managed and controlled those entities”.

But, he adds, “too often, financial services entities that broke the law were not properly held to account.

“The Australian community expects, and is entitled to expect, that if an entity breaks the law and causes damage to customers, it will compensate those affected customers. But the community also expects that financial services entities that break the law will be held to account.”

And when the Australian community realises this hasn’t happened, who does it blame? Who does it seek most to punish? The government of the day. Even though the genesis of the policy problem lies in decisions made by governments long gone.

Do you see now why the worm has turned on deregulation?

Former Labor and Coalition governments’ naive faith that “market forces” would oblige businesses to do the right thing has proved badly misplaced. In their scramble for higher profits and pay, seemingly respectable businesses have taken advantage of their greater freedom, knowingly breaking the law whenever they thought they wouldn’t be caught.

And now the chickens have come home, who’s most at risk of losing their jobs? Not the bosses of offending businesses, not the regulators asleep at the wheel, but the government of the day. That’s the rough justice of democracies. Voters hit out at those they have the power to hit – those they elect.

It was business that had the fun, but it’s politicians in most immediate danger of paying the price. Do you really think they’ll be going easy on their former business mates who’ve been dudding them behind their backs?

But what’s a threat to the government is an opportunity for the opposition. Competition between the two parties will ensure the Hayne commission’s recommendations are acted on.

And, whichever side wins the election, the next term will see a tightening of the regulation of many industries beside financial services.

Commissioner Hayne was highly critical of the two main financial regulators, the Australian Securities and Investment Commission and the Australian Prudential Regulation Authority. Why did they allow so much wrongdoing to get past them?

Partly because they succumbed to the ailment threatening all regulators: “capture” by the industry they were supposed to be regulating. They allowed themselves to become too matey with the industry, seeing its point of view more clearly than the interests of its customers.

But there’s more to it. During the decades in which politicians and some economists convinced themselves that the more lightly businesses were regulated the better they’d serve the rest of us, the regulatory authorities were left intact more for appearances than function.

They soon got the message that their political masters – from either side of politics – wanted them to go easy on business. Both sides went for years reinforcing the message by repeatedly cutting the regulators’ funding.

But all that’s changed. The politicians, claiming to be shocked by the regulators’ dereliction, are now pumping in taxpayers’ money as fast as they can go. Life won’t be the same for big business.

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Hey pollies: weak wage growth won't fix itself

The economy’s prospects are threatened by various risks from overseas – about which we can do little – and by continuing weakness in wage growth – about which the two sides contesting the May federal election have little desire to talk.

In his major economic speech last week, Scott Morrison gave wages only a passing mention: “by focusing on delivering a strong economy we create the right environment for wages growth, which we are now beginning to see, and more will follow”.

Actually, you need a microscope to see any improvement. The microscope shows that most of it is explained by the Fair Work Commission’s hefty 3.5 per cent increase in minimum wage rates last June.

(And why was it so generous? To offset the effect on pay packets of its earlier decision to phase down Sunday penalty rates.)

Not, however, that Bill Shorten has had a lot more than Morrison to say about the causes and cure of weak wage growth. Presumably, Shorten fears that anything he says about changes to wage fixing will be used to feed yet another scare campaign about him being a patsy for a union takeover.

Two or three years ago, I was happy to entertain the view still publicly espoused by the Reserve Bank (and still happily hidden behind by Morrison) that the wage problem was simply cyclical: wages are taking longer than expected to recover from the ups and downs of the resources boom but, be patient, they’ll come good soon enough.

Sorry, that possible explanation gets harder to believe as each quarter passes without any sign of nominal wage growth moving ahead of weak inflation, so as to give employees their rightful share of the improvement we’ve achieved in the productivity of their labour.

(And thus – ScoMo please note - giving the boost to real household disposable income, then consumer spending and then business investment spending, that has always been the greatest single contributor to “delivering a strong economy”.)

No, as years pass without the cycle restoring real wage growth, it becomes easier to believe the problem arises from some deeper issue with the structure of the economy.

The most popular structural explanation – best espoused by Professor Joe Isaac, an eminent labour economist – is that the “reform” of wage fixing went too far in shifting the balance of industrial bargaining power in favour of employers.

Isaac’s various proposals for reforming the reform – including restoring unions’ right of entry to the workplace, reducing the rigmarole before workers can strike, and restoring permission for industry-wide bargaining – would no doubt have crossed Labor’s mind for serious consideration should it win the election.

But another noted labour economist, former top econocrat Dr Mike Keating, has his doubts. He says he has no great objection to Isaac’s wage-fixing reforms, but doubts they’ll get wages moving because the structural problem is much deeper.

As argued in detail in his book with Professor Stephen Bell, Fair Share, and many articles and blogs, Keating sees our wages problem in the much broader context of the malaise of “secular stagnation” that’s been gripping the US and other advanced economies for at least a decade.

Keating reminds us that wage growth has been weak in most of the advanced economies for several decades, accompanied by rising inequality.

The distribution of earnings (that is, wages, rather than income from all sources) has become more unequal, Keating argues, mainly because of technological change and, to a lesser extent, globalisation.

Technological change has been “skill-biased”, with strong growth in high-skilled employment, and reasonable growth in unskilled jobs, but a decline in middle-level jobs, where routine jobs are being done by computers.

The result is a change in the structure of employment, one which increases earnings inequality. If so, it’s not a problem that could be fixed by higher wage-rates.

Keating says we’ve been slow in Australia to see what’s increasingly been realised overseas and by the international economic agencies: income inequality is bad for economic growth (mainly because the high-paid save rather than spend a higher proportion of their incomes).

But Keating’s more fundamental policy response to the problem of technology-driven weak wage growth and increased inequality is enhanced education and training, to help workers adjust to the challenges posed by new technologies, as well as spur the adoption of those technologies.

He’d give priority to early childhood learning and life-long learning through the TAFE system. He's happy to note this would require us to pay more tax rather than less – another thought the pollies don’t want us thinking about right now.

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Rates of tax tell us nothing about economic success

When Leigh Sales of 7.30 asked Scott Morrison what evidence he had to support his claim that the economy would be weaker under Labor because it would impose higher taxes, he replied “I think it’s just fundamental economics 101”. Sorry, don’t think so.

The belief that an increase in taxes must, of necessity, discourage work effort, saving and investing is regarded as a self-evident truth by the well-paid. Similarly with the converse: a decrease in taxes must, of necessity, encourage work effort, saving and investing.

But since no one particularly enjoys paying taxes – and some people really hate it – they would think that, wouldn’t they.

It’s a simple, all-purpose, no-need-to-explain argument against me being asked to pay more tax and in favour of me paying less. What’s not to like?

Just that it misrepresents what economics teaches.

It’s true that some economists emphasise the “deadweight loss” involved in imposing taxes. In principle, a tax distorts an individual’s choices, causing them to do things they otherwise wouldn’t.

This distortion of choices is said to be “economically inefficient”, in that it fails to produce the allocation of economic resources – land, labour and capital – that maximises the “utility” (satisfaction) the community derives.

The degree of allocative inefficiency differs for different taxes, with some said to involve greater deadweight loss than others.

By this logic, one of the worst taxes is conveyancing duty (which discourages people from moving house) and the best is a poll tax (everyone pays the same dollar amount each year which, being impossible to avoid, doesn’t change behaviour).

One thing often not mentioned in economics 101 is that tax on the unimproved value of land (such as council rates) and inheritance taxes score well.

But these calculations are based on theory and assumptions. The first of their limitations is that they ignore the benefits that flow when the taxes are spent. When they’re spent on government provision of “public goods” (goods or services that would be undersupplied if their provision was left to the private sector) they increase allocative efficiency.

You shouldn’t have to go beyond first year economics to learn that changes in the price of something have two effects: an “income effect” and a “substitution effect”.

People who believe an increase in income tax (which is a price) discourages work, and a cut in income tax encourages it, are focusing on the substitution effect and ignoring the income effect.

It’s true that a higher rate of income tax should discourage work by reducing the monetary benefit you get from it, relative to the benefit you get from not working. That is, from enjoying more “leisure”. It thus should encourage you to substitute leisure for work – that is, work less.

 By contrast, lowering the tax on work should encourage people to substitute work for leisure – work more.

Trouble is, the income effect works the opposite way. Increasing income tax reduces your after-tax income. If you don’t want your income to fall, you have to do more work, not less. Similarly, cutting income tax increases your after-tax income, encouraging you to work less.

The fact that the income effect and the substitution effect pull in opposite directions means economic theory can’t tell us whether or not tax increases discourage work. To answer that question you have seek out empirical evidence from the real world.

In doing so you’ll make up for theory’s implicit assumption that money is the only factor motivating people to work. If that’s what you think, you’ve got a lot to learn about human nature.

The empirical evidence says changes in the rate of income tax for “primary earners” – the main person a family relies on for income, who’s usually working full-time – aren’t great.

It’s only “secondary earners” - often women working part-time – whose hours of work are much influenced by increases or decreases in income tax.

This is pretty obvious when you think about it. The number of hours worked by full-time employees is set by their boss, whereas part-timers have some degree of control over the hours they work. Certainly, they decide whether they want to move from part-time to full-time.

Let me tell you: politicians’ motive for tax cuts is almost always more political than economic. If Morrison was really on about encouraging more work, his tax cuts would be aimed at working mothers, not the highly paid full-timers they are aimed at.

But there’s another empirical test of his confident assertion that high rates of tax discourage economic growth and low rates encourage it.

If that were true it should also be true that countries with high tax rates have low living standards, whereas countries with low tax rates have high living standards.

Try as they might, however, economists have never been able to find an inverse correlation between the level of taxes and a country’s rate of growth.

For a start, the poor countries have much lower rates of total taxation than the rich ones. Rich countries have high tax rates so they can enjoy the many benefits of being rich: the welfare state, good public infrastructure, good health care, good education and much else.

The Organisation for Economic Co-operation and Development regularly publishes figures for their 35 member-countries’ rates of total taxation (federal and state) as a percentage of gross domestic product.

Its latest figures, for 2017, show its rich-country members ranging from 46 per cent for France and Denmark to 23 per cent for Ireland. Sweden is on 44 per cent, Germany on 37.5 per cent.

The average for the whole OECD is 34 per cent, with us on about 28 per cent and the United States on 27 per cent (but with a much bigger budget deficit).

If they don’t tell you all that in economics 101, ask for your money back.

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Unhealthy, unhappy lives aren't fair exchange for higher incomes

In his Australia Day address, social researcher Hugh Mackay said that "the Australia I love today – this sleep-deprived, overweight, overmedicated, anxious, smartphone-addicted society – is a very different place from the Australia I used to love".

He identified three big changes: the gender revolution, increasing disparity in wealth, and social fragmentation.

He approves of the first, but laments that we’re "learning to live with a chasm of income inequality" and that social fragmentation means Australians are become "more individualistic, more materialistic, more competitive".

The third big change, he said, posed the biggest challenge – preserving social cohesion.

Earlier this month, the playwright David Williamson lamented that, since the advent of neoliberalism, "the world has become a nastier, more competitive, more ruthless place".

"There’s no perfect society, but I don’t think it needs to be as brutal as it is now."

As we move on from our officially required season of national navel-gazing – "yes, but what does it mean to be Australian?" – these concerns are worth pondering.

Economists object to being blamed for every ill that’s beset our country in the past 40 years. Where’s the proof that this economic policy or that has caused a worsening in mental health, they demand to be told.

It’s true that few developments in society have just a single cause. It’s also true there’s little hard evidence that the A of “microeconomic reform” caused the B of more suicides, for instance.

But there’s a lot of circumstantial evidence. After all, the specific objective of micro reform was to increase economic efficiency by making our markets more intensely competitive. The economists’ basic model views us as individuals, motivated by self-interest, and the goal of faster growth in the economy is aimed at raising our material standard of living.

And if some of our problems stem from changing technology – pursuing friendship via screens, for instance – can economists disclaim all responsibility when one of their stated aims is to encourage technological advance in the name of higher productivity?

Economists assume that economic growth will leave us all better off. Most take little interest in how evenly or unevenly the additional income is shared between households.

The Productivity Commission’s recent and frequently quoted report, finding that the distribution of income hasn’t become more unequal, refers to recent years, not the past 40. And the report averages away the uncomfortable truth that the incomes of chief executives and other members of the top 1 per cent have increased many times faster than for the rest of us.

Sometimes what’s happened since the mid-1980s reminds me of the old advertisement: are you smoking more, but enjoying it less?

Our real incomes have grown considerably over the years – even for people at the bottom – and economic reform can take a fair bit of the credit. It can take most of the credit for the remarkable truth that, unlike all the other rich countries, we’ve gone for 27 years without our least fortunate experiencing the great economic and social pain of recession and mass job loss.

But though most of us are earning and spending more than ever, there’s evidence we’re enjoying it less. Our higher material living standards have come at the cost of increasing social and health problems.

Is that so hard to believe when the key driver of our higher incomes is more intense competition between us?

Economists generally take little interest in social and health problems, regarding them as outside their field. But though problems such as loneliness, stress, anxiety, depression and obesity were with us long before the arrival of neoliberalism, they seem to have got worse since the mid-1980s.

Last year, Dr Michelle Lim, a clinical psychologist at Swinburne University, and her colleagues produced the Australian Loneliness Report, which found that more than one in four Australians feels lonely three or more days a week.

It’s most common among those who are single, separated or divorced. Compared to other Australians, the lonely report higher social anxiety and depression, poorer psychological health and quality of life, and fewer meaningful relationships and social interactions.

Turning to increased stress, it’s an inevitable consequence of living in bigger, faster cities and working in more competitive workplaces. Our bodies respond to stressful events with a surge of adrenaline, which increases our reaction speed and helps ensure our survival.

Trouble is, our bodies aren’t designed to cope with repeated stressful events and adrenaline rushes. Our readiness for fight or flight doesn’t decline, and we remain permanently aroused, which damages our health, making us more at risk of a heart attack or getting sick in other ways.

If more "jobs and growth" and the higher incomes they bring are intended to make us happier, maybe governments would do better by us if they switched their objective from increasing happiness to reducing unhappiness.

For instance, if the banks are now being criticised on all sides for putting profits before people, why are governments – facing an epidemic of obesity and diabetes - so respectful of the food and beverage industry’s right to continue fatten its profits by fattening us and our kids?

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Give economists a PC and they start making more sense

Economies turn down and back up, but one of the biggest, long-running economic stories of our time is the way the digital revolution is disrupting one industry after another. So let me tell you how it’s changing the academic study of economics.

You probably imagine the economic research carried out in universities is terribly theoretical and impractical. It used to be, but not anymore.

You can trace the progress of academic economics by looking at who’s been awarded the Nobel memorial prize in economic sciences from about 2001 onwards, and what they did to deserve it. Of course, there’s usually a long delay between when you make your seminal contribution and when you get your gong.

Until the turn of the century, the prize usually went to people elaborating on orthodox neo-classical theory, particularly by shifting to mathematical reasoning.

It may surprise you that the man who wrote the most popular introductory textbook of the post-war years, Paul Samuelson, was also the individual who did most to turn economic reasoning from words and diagrams to equations.

The development of the first mathematical “econometric” models of the macro economy was another important advance.

It was about 30 years ago that the frontier of economic research took a more realistic turn by shifting to the study of “imperfect competition”, where the idealised assumptions of the simple neo-classical model of markets were critically examined.

In 2001, for instance, the prize was shared by three American economists – George Akerlof, Michael Spence and Joseph Stiglitz – for their demonstration that, rather than being perfectly shared by everyone in a market, information is usually asymmetric – with sellers knowing more than buyers – and, rather than being costless, is expensive to acquire.

Another example: Paul Krugman got his gong in 2008 for demonstrating that there’s more to international trade than just each country pursuing its “comparative advantage”, as mainstream theory assumes.

It was about 40 years ago that the psychologist Daniel Kahneman (gonged in 2002) and the rebellious economist Richard Thaler (2017) began formulating behavioural economics, an advance on the neo-classical assumption that all decision-making is rational. Robert Shiller got his in 2013 for his study of non-rational behaviour in financial markets.

But recent studies of articles in the world’s top economic journals (mainly American) have shown that, since about the turn of the century, theoretical papers have largely been replaced by empirical studies of particular relationships in particular markets (competition between male and female drivers in Japanese speedboat races, for instance).

This shift from deducing conclusions from assumption-based theory to examining the relationships between real-world variables, to see how the theory measures up, is a big improvement. But why has it happened?

I give most credit to the information revolution. Computerisation has hugely increased that number of “data sets” of business information waiting to be discovered and subjected to statistical tests by academic economists checking hypotheses or just looking for interesting relationships.

All of which is easily done using programs on your personal computer, rather than waiting your turn for time on the main-frame. And it fits with economists’ modern addiction to using stats and maths for “academic rigour”.

As part of their greater interest in empirical evidence rather than what theory tells us should be the case, economists have started doing something they long believed was impossible: economic experiments – including searching out “natural experiments”, such as the famous study of two nearby cities in different US states, where one state raised the minimum wage and the other didn’t.

By the standards of real mathematicians, economists’ maths isn’t that fancy, but it’s more advanced than used by others in the social sciences. Economists have made more progress in moving from finding correlations to establishing causal relationships than the psychologists have – which probably means they get more research funding.

It also means there’s less resistance from international journals to publishing research about that uninteresting and unimportant place called Australia. I’m told doctoral students come to Oz because they’ve heard we have good data sets.

The risk, however, is that research projects are chosen because good data are available, rather than because the questions being answered are important to our understanding of how the economy works and to finding better solutions to our economic problems.

We don’t want academic economists losing interest in their theory, we want them using their empirical evidence to improve it. Making it more realistic and thus more reliable in its predictions about what happens if you do X, or whether policy A or policy B is more likely to improve things.

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You'd be surprised what's propping up our living standard

It’s the last lazy long weekend before the year really gets started, making it a good time to ponder a question that’s trickier than it seems: where has our wealth come from?

The question comes from a reader.

“Australia has been without a recession for 25 or more years, the economy seems booming to me, just by looking around: employment, housing prices, explosive building in major capitals, etc. Where is the wealth coming from? Mining? Other exports? Because the resources have to come from somewhere,” he writes.

That’s the first thing he’s got right: it’s not money that matters (the central bank can create as much of that stuff as it sees fit) it’s what money is used to buy: access to “real resources” – which economists summarise as land (including minerals and other raw materials), labour and (physical) capital.

But here’s the first surprise: of those three, when you trace it right back, probably the most important resource is labour – all the work we do.

The first complication, however, is the word “wealth”, which can mean different things. It’s best used to refer to the value of the community’s assets: its housing, other land and works of art, the equipment, structures and intellectual property owned by businesses (part of which is represented by capitalised value of shares on the stock exchange), plus publicly owned infrastructure (railways, roads, bridges and so forth) and structures.

To get net wealth you subtract any debts or other liabilities acquired in the process of amassing the wealth. In the case of a national economy, the debts we owe each other cancel out, leaving what we owe to foreigners. (According to our national balance sheet, as calculated by the Australian Bureau of Statistics, at June last year our assets totalled $15.4 trillion, less net liabilities to the rest of the world of $3.5 trillion.)

But often the word wealth is used to refer to our annual income, the total value of goods and services produced in the market during a year, as measured by gross domestic product (which in the year to June was $1.8 trillion).

The people in an economy generate income by applying their labour to land and physical capital, to produce myriad goods and services. Most of these they sell to each other, but some of which they sell to foreigners. Why? So they can buy other countries’ exports of goods and services.

Only about 20 per cent of our income comes from selling stuff to foreigners and only 20 per cent or so of the stuff we buy comes from foreigners. This exchange leaves us better off when we sell the stuff we’re better at producing than they are, and buy the stuff they’re better at than we are.

Much of what we sell to foreigners is minerals and energy we pull from the ground and food and fibres we grow in the ground. So it’s true that a fair bit of our wealth is explained by what economists call our “natural endowment”, though it’s also true that we’re much more skilled at doing the mining and farming than most other countries are.

Speaking of skills, the more skilled our workers are – the better educated and trained – the greater our income and wealth. Economists call this “human capital” – and it’s worth big bucks to us.

How do the people in an economy add a bit more to their wealth each year? Mainly by saving some of their income rather than consuming it all. We save not just through bank accounts, but by slowly paying off our mortgages and putting 9.5 per cent of our wages into superannuation.

It’s the role of the financial sector to lend our savings to people wanting to invest in the assets we count as wealth: homes, business structures and equipment and public infrastructure. So if most of our annual income comes from wages, most of our savings come from wage income and our savings finance much of the investment in additional assets.

But because our natural endowment and human capital give us more investment opportunities that can be financed from our savings, we long have called on the savings of foreigners to allow us to invest more in new productive assets each year than we could without their participation.

Some of the foreigners’ savings come as “equity investment” – their ownership of Australian businesses and a bit of our real estate – but much of it is just borrowed. These days, however, our companies’ (and super funds’) ownership of businesses or shares in businesses in other countries is worth roughly as much as foreigners’ equity investments in Oz, meaning all our net liability to the rest of the world is debt.

Naturally, the foreigners have to be rewarded for the savings they’ve sunk into our economy. We pay them about $60 billion a year in interest and dividends, on top of the interest and dividends they pay us.

The main thing we get in return for this foreign investment in our economy is more jobs (and thus wage income) than we’d otherwise have, plus the taxes the foreigners pay.

People worry we can’t go on forever getting wealthy by digging up our minerals and flogging them off to foreigners. It’s true we may one day run out of stuff to sell, but our reserves – proved and yet to be proved – are so huge that day is maybe a century away (and the world will have stopped buying our coal long before we run out).

A bigger worry is the damage we’re doing to our natural environment in the meantime, which should be counted as reducing our wealth, but isn’t.

But mining activity accounts for a smaller part of our high standard of living than most people imagine – only about 8 per cent of our annual income.

Most of our prosperity – our wealth, if you like – derives from the skill, enterprise and technology-enhanced hard work of our people.

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More jobs for older workers than ever before

“Too old, too senior, too experienced, too expensive – heard ’em all. Ours is a society which does not value age and lived experience. Over 50? It’s the scrap heap for you.”

I can’t remember where I saw that quote, but I bet you’ve heard those sentiments many times. The media are always bringing us stories about people who, having lost their job in late middle age, find it very hard – even impossible - to get another one.

It’s understandable that people experiencing such treatment get pretty bitter about it. And it’s not surprising the media and the politicians take their complaints so seriously. The federal government has appointed successive age discrimination commissioners, and instigated various schemes offering subsidies to employers willing to hire older workers.

All of which is just as likely to increase prejudice as reduce it. The more public figures bang on about the prevalence of age discrimination, the more they risk sending a message to employers that if everyone else is ridding themselves of older workers, why aren’t they?

And if older workers weren’t sub-standard, why would the government find it necessary to subsidise their cost?

It would be silly to deny that some employers are prejudiced against older workers – just as some are prejudiced against young workers (an injustice the media are far less eager to tell us about).

But it’s just as silly to leap from the truth that some proportion of older workers has trouble finding re-employment to the outlandish claim that every worker over 50 is headed for the scrap heap.

I don’t know the true extent of discrimination against older workers, but I’m pretty sure we’ve been given an exaggerated impression of it, with many older workers caused to worry unnecessarily.

If there was any truth to the notion that everyone over 50 is headed for the scrap heap, we should be seeing a sharp decline in the rate at which people over 50 are participating in the labour force.

But we’re not. Indeed, the reverse is happening. The statistical truth is that the participation rates of older age groups are higher than they’ve ever been – a point Reserve Bank governor Dr Philip Lowe made in a little-noticed speech last year.

The ageing of the population – and, more particularly, the retirement of the baby-boomer bulge – means the proportion of older people working should have declined. Remarkably, it’s increased.

There was a time when early retirement was all the rage. As soon as you could retire, you did. And a lot of workers were retired involuntarily.

But those days are long gone. The age at which men and women are retiring keeps rising. In the 1980s and ‘90s, less than one worker in 10 was over 55. Today it’s almost one in five.

Since 2000, the “participation rate” for men aged 55 to 64 has risen from 60 per cent to about 67 per cent. The rate for women has been rising since the early ‘80s – from 20 per cent to 60 per cent.

For men aged 65 and over, the participation rate has risen since 2000 from 10 per cent to almost 20 per cent. (Read that again if it didn’t sink in.) For women in the same age group, participation has gone from a per cent or two to about 10 per cent.

The big news is that older people are staying longer in the workforce than ever before, but the story we’re being fed is that employers are discriminating against older workers wherever you look.

How has this remarkably under-reported truth come about? Partly for negative reasons. The higher cost of homes has caused people to take on mortgages later in life, meaning some people have higher levels of mortgage debt as they approach retirement and don’t want to stop working until it’s paid off.

The knowledge that we’re living longer – combined with the super industry’s unceasing efforts to convince us we haven’t saved enough – has prompted some people to delay their retirement.

Governments have lifted the age pension age to 65 for women, and are now phasing the age for both sexes up to 67. They’ve also raised the age at which you may access your superannuation savings.

But then there are the positive reasons. The present generation of older workers is much healthier than earlier generations.

And we’re living longer. Which makes it hardly surprising we’re working longer. Of course, another factor that’s helping is greater acceptance by employers of “flexible work practices” – including allowing workers to shift from full-time to part-time. That is, there’s been a rise in semi-retirement.

Then there’s the fact that more and more people work in the services sector, in jobs that tend to be less physically demanding.

But perhaps the biggest factor is the delayed effect of the trend for most mothers to return to the workforce after childrearing. Now more of them are still working decades later.

Oldies are always expounding on the supposed shortcomings of the younger generation. But there’s one respect in which oldies set youngsters a bad example: they’re champions at feeling sorry for themselves – even when the facts don’t back them up.

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Positions vacant: economists (women preferred)

Never in the field of economic conflict was so much analytical effort devoted to so few... as in Reserve Bank governor Philip Lowe’s one-man crusade to save the economics profession.

This latter-day Lord Kitchener wants more young Australians studying economics at high school and university, then enlisting as economists in the holy war against economic inefficiency.

His message: Your country needs you. Opportunity cost is being flouted on every hand, yet we have just 3000 professional economists fighting the tide of economic illiteracy.

Young women, in particular, should look at themselves in the mirror and ask the hard question: what good reason have I not to become an economist? Why should I squander my life on any lesser calling than the orderly regulation of mammon?

And let’s have no weak excuses that you know nothing about being an economist – what kind of people they are, what they do, where they work, how hard it is to find a job. Not forgetting a question that could cross the mind of someone with the right stuff to be a dismal scientist: how well does it pay?

Field marshal Lowe has had his people working night and day scouring data bases far and wide to answer all such questions. Rochelle Guttmann (ably assisted by James Bishop, a mere male) does so in the subtly titled paper, Does It Pay to Study Economics? taken from my rapidly dwindling pile of unused reports, seasonally adjusted from 2018.

According to the 2016 census, fewer than 3000 people work as economists, even though there are 73,000 people with post-school qualifications in economics. What’s worse, only about two-thirds of people working as economists actually hold a qualification in economics.

But this is misleading. It’s not nearly that bad. For a start, the 3000 excludes about 2000 academic economists, who are classed as university lecturers. More significantly, to be classed as holding a qualification in economics, you must have that word in the name of your degree.

This is silly. In the day, the title of your degree said as much about which uni you went to as about the subject you majored in. Economics majors at Melbourne or UNSW walked away with a BCom, whereas accounting majors at Sydney got a BEc.

Little wonder people holding an “economics” degree are more likely to work as an accountant than as an economist. And you can forget the notion that a third of working economists are unqualified academically.

Returning to the recruiting drive, the authors make two observations about the huge disparity between those having done an economics degree and those getting a job as an economist.

First, it probably shows it’s hard for someone with an economics degree to actually get a job as an economist (ie, S > D). But it probably also shows that an economics degree is generalist in nature and provides a breadth of skills that allows you to work in a broader range of jobs compared to other degrees.

Get this: “80 per cent of economics graduates work in high-skilled white-collar occupations”.

More than a third of economists (narrowly defined) work in public administration, well over a quarter in private-sector professional services and about 15 per cent in financial services. But people with economics degrees work in a broader range of occupations and industries than people with degrees in most other fields.

Whether you’re talking economists or people with economics degrees, more than 60 per cent of them are men. Lowe believes – as does his teenage daughter, apparently – this disparity must be corrected. (The daughters of powerful men are far more influential than is commonly understood.)

Now to the question no economist would regard as sordid. Figures from the Australian Tax Office say economists have hourly earnings that put them in the top 3 per cent of earnings by occupation.

Graduates with economics degrees typically have higher full-time earnings than other graduates. They’re comparable with STEM (science, technology, engineering and maths) degrees, and higher than for business and other social science degrees.

Guttmann and her male sidekick say the labour market tends to pay the highest wages to people with the skills, abilities and knowledge that are in shortest supply [relative to employers’ demand].

So which skills make economists well-paid? Apart from their knowledge of economics, economists have skill in maths that’s way above the average for other skilled occupations, and above-average analytical skill, for reasoning and problem solving (which is what brings the big bucks).

Looking for the catch? You’ve found it. If you’re weak on maths, you might be happier as a journo.

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Squaring the world's waste circle ain't that easy

If you think we’ve been standing still – even going backwards – on reconciling the economy with the natural environment, that’s not wholly true. While our refusal to get real on climate change drags on, we’ve started our journey to the nirvana of a “circular economy”.

Never heard the term? Heard of it, but not sure what it means? Really? It’s the great intellectual fashion statement of 2018.

And, since it has more merit than I suspect many of its advocates realise, we must hope it doesn’t fall out of fashion long before it’s done any good.

Governments around the world are doing things about it. Mainly, saying what a nice idea it is, writing reports and designing “road maps”.

The Organisation for Economic Co-operation and Development has taken up the cause in its RE-CIRCLE project. And no lesser bunch of worthies than the World Economic Forum (the Davos brigade) is enthusiastic.

Here in Oz, last year saw a favourable report from a Senate committee. The Victorian, South Australian and NSW governments have recently signalled their support, with the latter issuing a “circular economy policy statement” in October.

Some of my information comes from an explainer by the Victorian Parliamentary Library, written as recently as October. Circularity is hot, hot, hot.

The explainer explains that, as presently organised, market economies are linear. You take natural resources, process them into many and varied goods – from food to fancy electronic gizmos – which you and I consume before eventually disposing of them. Then we take more natural resources and start the process again.

In contrast, the goal of a circular economy is to keep natural resources in use for as long as possible, extract the maximum value from them while in use, then recover and regenerate products and materials at the end of their serviceable life.

Get it? The ultimate goal is to “decouple” economic growth from the consumption of natural resources.

The OECD points out that, over the last century, global use of raw materials grew at almost twice the rate that the population grew.

To minimise the – to some extent irreparable - damage that economic activity does to the natural environment, we need to ensure it involves less net use of natural resources.

The idea that natural resources should be recycled is one Australians – and people throughout the rich world – happily embraced ages ago. Almost all of us divide our garbage between recycling and the rest before we put it out.

But the concept of a truly circular economy requires us to go a lot further than that. We need to repair the durable products we use rather than throwing them out and buying another.

But that means changing the design of those products from disposable to repairable – and upgradeable. It means making much greater use of recycled materials in the manufacture of “new” products, as well as doing something sensible about all that packaging.

In my limited reading of all the circular economy bumf, I haven’t seen it explained that the basic problem arises from the first law of thermodynamics, which says that matter can be transformed from one form to another, but can be neither created nor destroyed.

In other words, something has to happen to all the natural resources we use to produce and consume. They don’t cease to exist, they just change form. They turn into multiple forms of waste, which we dispose of down the sewer and in landfill.

One important form of waste created by the economic process – particularly if it involves burning fossil fuels – is the emission of greenhouse gases. For more than 200 years we couldn’t see this happening, so we didn’t think it was a problem.

Now we know the gases hang around in the upper atmosphere, trap the earth’s heat from the sun like the roof of a greenhouse, and raise the earth’s temperature.

When you consider how much trouble we’re having agreeing on a solution to that small part of our waste problem, don’t kid yourself dealing with the rest of the waste will be a simple matter of everyone seeing the light and doing the right thing with a bit of encouragement from the government.

What worries me about the circular-economy push is not the objective – it’s dead right - it’s the naivety of those doing the pushing. They want to radically transform the economy, but haven’t seen the need to consult any economists about how you might go about it.

All the governments know better, of course, but they seem to have decided that, as long as it stays on the level of appealing to people to Do The Right Thing, it could keep the greenies diverted without doing much harm.

No one seems to have asked the obvious question: just why is the economy presently linear not circular? Answer: because all the powerful economic incentives push us in that direction.

Because the resources the environmentally aware care about – natural resources – are relatively cheap, whereas the resource they don’t think about, but everyone else does, labour, is relatively dear.

Why do you think the nation’s local councils have been taking most of our recycling and shipping it off to China? Because processing that stuff in a rich country like ours is uneconomic.

Why have the Chinese been taking it? Because their wages were low enough to make processing profitable (that is, economic).

Why have the Chinese now stopped taking it? Because their economic success has raised wage rates and made it no longer profitable.

So, how on earth could we make our economy circular?

Ask economists to figure out a plausible way of reversing our incentive structure. That's the kind of job they do when asked.

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We are too busy for our own good

Years ago, I took a sabbatical and we lived a few months in California and a few in the backblocks of New Zealand’s South Island. I’d just got used to how impatient shop assistants were if you couldn’t immediately spit out exactly what you wanted to buy, when we moved back Down Under and I was expected to wait politely while the person ahead of me in the queue passed the time of day with the lady behind the counter.

We’re not yet as bad as America, but there’s no doubt life in big cities such as Melbourne and Sydney is a lot faster and more furious than it used to be – and still is in quieter parts of the state.

We have to move faster in the big cities, of course, because we have so much to do, so much to fit in. Or so we imagine. We blow our horns at other motorists who slow us down as we hurry to our next commitment. (When did we become a nation of horn-blowers? Yuck.)

And that brings me to your summer break. Did you – or are you still – enjoy the chance to take it easy, get up late, stay in bed reading, potter about, read the paper, avoid doing much?

Or did you rush about, keeping busy, trying to fit in as much fun as possible, keep the kids entertained?

In other words, did you really get a break, or were you as busy as ever, just doing a different list of things?

When I was young, annual holidays were almost synonymous with being bored. There was never anything much to do apart from go for a walk. My big sisters sat on their beds reading – they had eiderdowns, I remember – so I hung around them doing the same. They fed me issues of a little children’s magazine called Sunny Corner, continuing the adventures of Milly-Molly-Mandy. (I’ve had a weakness for chick-lit ever since.)

I became a bookworm at an early age partly because everyone else at home was reading books but mainly because there was nothing else to do. And, in my very religious family, reading was allowed on Sunday between going to meetings. Even comics.

And that brings me to weekends. Do you see them as a chance to do a lot of pleasant things you can’t do during the week? Do you start with a list of great things to do, but end with a lot of the pleasures you’d hoped to achieve not crossed off?

Sometimes I think being so busy at the weekend is a form of greed. Of having eyes bigger than your stomach. I doubt it’s much of a recipe for the good life.

But have you noticed how, when you try to tell a friend how exceptionally busy you’ve been, they invariably counter that they’ve been busy, too? No one wants to admit to being unbusy.

Even the retired claim to be terribly busy. Everything’s relative, I guess.

In his latest book, Australia Reimagined, social guru Hugh Mackay reflects on the “culture of busyness”, about which he has many reservations. “No matter how we try to dress it up, disguising it as a virtue or a badge to be worn with pride, relentless busyness is a health hazard – yet another contributor to our epidemic of stress and anxiety,” he says.

“For too many of us, holidays have been compressed into ‘short breaks’, the pleasure of walking or running in the open air has been swapped for a quick burst at the gym, the therapeutic joy of aimlessness has been overwhelmed by the need for everything to have both a purpose and an outcome.”

A sane person would regard excessive or sustained busyness as a warning signal, he says. “No time to read? No time to walk? No time to play? No time to nurture a neglected relationship over a cup of coffee? Surely there’s something awry in a life like that.”

Sometimes we keep ourselves busy because we feel we need to be – and be seen to be – busy, especially at work. Many bosses keep themselves busy making the easy decisions so they can put off the really hard ones.

Sometimes we’re busy because we’re not as efficient as we should be. Sometimes we’re busy at work because it’s better than being at home with our not-so-loved ones. Sometimes we keep busy because it leaves us no time to think about the meaning of our lives.

Mackay says our addiction to busyness has three adverse consequences. First, we’re becoming a sleep-deprived society.

Second, we’re becoming afraid of stillness, solitude and inactivity.

Third, busyness can both distract us and insulate us from the needs of the people around us. Busyness “decompassions” us, he concludes.

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How canny treasurers keep the tax we pay out of sight

We can be sure that tax and tax “reform” will be a big topic (yet again) this year, but what will get less attention is how behavioural economics explains the shape of the existing tax system and makes it hard to change.

I read that this year we may attain the economists’ Holy Grail of replacing state conveyancing duty with a broad-based annual tax on the unimproved value of land under people’s principal residence.

Economists regard taxing homes whenever they change hands as highly economically inefficient because it discourages people from moving when they need to move, whereas taxing the ownership of land as highly efficient because it’s hard to avoid and is naturally “progressive”, hitting the rich harder than the poor.

Holy grails are, however, wondrous things, but almost impossible to attain. Economists have been preaching the virtues of such a switch for at least the past 30 years, with precious few converts (bar, in recent times, the ACT government).

Why have state politicians been so unreceptive to such a patently good idea? Because politicians instinctively understand what most conventional economists don’t: the wisdom of Louis XIV’s finance minister’s declaration that “the art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing”.

Or, to put it another way, because conventional economists don’t know enough behavioural economics – the study of how the world actually works thanks to human fallibility, rather than how it would work if we were all as rational as economic textbooks assume us to be.

A central element of the political economy of taxation is that what the punters don’t notice they don’t worry about.

And to every revenue-hungry state treasurer (which is all of ’em), the great virtue of conveyancing duty is that when you’re buying a place for $1 million and someone presents you with a tax bill for $40,000, it looks a relatively small amount and the least of your worries right now.

By contrast, when you open your mail one day and find the government demanding to be paid, say, $5000, you tend to get resentful. Because we’ve spent all our lives in a market economy, we’re used to the notion that, if you want something, you have to pay for it.

And with the converse: you don’t shell out good money without getting something you want in return. Annual land tax breaches that rule: you write a cheque for five grand and just post it off into the void. (This was also part of the reason the old “provisional tax” was so unpopular.)

Behavioural economists demonstrate empirically what politically astute treasurers know instinctively: you greatly reduce the hissing if you can whip the tax away without it being seen. This is why, when introducing the goods and services tax, Peter Costello wrote into the act the requirement that retail prices be quoted inclusive of the tax, without the tax being shown separately.

Of course, for wage earners, personal income tax has worked that way for decades. The pay office extracts an estimate of the tax you’ll have to pay and sends it to the taxman before you even see your pay.

After a while, you pretty much forget you’re paying tax on much of what you buy and are being paid much less than you’re earning. Which also demonstrates the wisdom of a saying familiar to treasurers: a new tax is a bad tax; an old tax is a good tax.

We object loudly to almost all proposals for new taxes – land tax on the family home, a road congestion tax and many more. We spent 25 years working up the courage to impose a value-added tax on “almost everything we buy” (during which time we copied the Kiwis’ crafty idea of renaming it the more innocuous “goods and services tax”).

But here’s the trick: once the new tax has been passed and taken effect, it takes only a year or two for us to accept it as part of the furniture. Behavioural economists call this quirk of human nature “status-quo bias”.

And, of course, just about the oldest tax of all is what Malcolm Fraser used to call “the secret tax of inflation” aka bracket creep.

It’s the tax increase you have when you don’t like tax increases.

Our “revealed preference” (not what we say, but what we do) is that bracket creep's our favourite tax.

Which is why treasurers of both colours give us so much of it.

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Japanese speedboats tell us how women and men compete

What would an economist know about Japanese speedboat racing? Why would they want to know? Ah, that would be telling.

It’s a spectator sport that’s hugely popular in Japan, but little known elsewhere – perhaps because it’s so Japanese. That’s to say, odd to Western eyes. Even its fans admit it’s more mesmerising than entertaining.

It’s been going only since 1952, but is held most days in 24 locations across Japan. These “stadiums” are built on lakes, rivers or the sea, with others on artificial concrete ponds in the midst of cities. The course is just a 600-metre-long oval.

Each race consists of six boats going just three times round the course, and lasts less than two minutes. But they string it out by having a practice race, and then individual 150-metre time trials before the race.

The boats are quite small, with a detachable engine. They get off to a flying start, with boats that jump the gun, or pass the starting line more than a second late, being disqualified.

As you can see from YouTube, much of the skill comes from manoeuvring into the best position at the start. But being first round the first turn is also important, and usually means you’ll win. What we’d call sledging is another competitive tactic.

All the boats are identical and owned by the stadium, being issued to each competitor for each race at random. Same with the engines. Each driver – all of them professional - gets a short time to tune their allotted engine for better performance. You’re allowed to supply your own spark plug, but that’s all.

Drivers crouch down in the straight to give less resistance, but then stand up, using their body to slow the boat for the turn. They crowd so close together on the turns it’s amazing more of them don’t collide.

Why do so many Japanese get so excited about all this? Sorry, didn’t I mention it? Speedboat racing is one of the few sports in Japan on which it’s legal to gamble.

Extensive statistics are kept on the past performance of drivers, boats and engines to help the punter with their bets. All the race preliminaries are there to give the punters more information before they place their bets.

But why would any this be of interest to economists? Well, as you may know, economists are great believers in competition, and are curious about how it works.

In this case, however, there’s another attraction. Japanese speedboat racing involves competition between men and women. Better, competition between men and women in the same races, but also all-male and all-female races.

There is great controversy over whether men and women are equally competitive or women are, in general, less competitive. And, if less competitive, whether this is innate or is learned behaviour.

Many people’s answer to these questions is based on their beliefs (and some use social media to tear into those who say things than conflict with their beliefs) but these days, surprisingly, academic economists search for empirical evidence to shed light on such controversies.

Which means academic economists spend their days searching for good “data sets” of empirical information to which they can apply their statistical tests and reach conclusions about issues of interest.

Guess what? In speedboat racing those meticulous Japanese have produced a fabulous data set with which to compare the competitive behaviour of men and women.

The more so because, though men outnumber women by more than seven to one, they all receive their one-year training at the same college and are treated equally in the race, being randomly assigned to races. In mixed-sex races there’s usually one woman and five men.

Such a “natural experiment” with real drivers competing professionally for big money is far more persuasive than some lab experiment where student volunteers compete for tiny amounts.

Two economics professors, Alison Booth of the Australian National University, and Eiji Yamamura of Seinan Gakuin University in Japan, have examined more than 140,000 individuals’ racing records in a study.

They found that women’s race times are slower in mixed-sex races than in all-women races, whereas men’s race times are faster in mixed-sex races than in men-only races.

In mixed-sex races, they found that men were more aggressive – as shown by lane-changing – in spite of the risk of being penalised if they contravene the rules, whereas women followed less aggressive strategies.

So the same woman performs relatively worse in mixed-sex races compared with single-sex races, while for the average male racer the opposite is true.

This shows that female competitive performance – even for women who have chosen a competitive career and are very good at it – is enhanced by being in a single-sex environment rather than in a mixed-sex, in which they are a minority.

But they found no difference between the genders on number of disqualifications. So while male racers do more lane-changing than females, the men are no more likely to be caught.

“We suggest that gender-differences in risk attitudes and confidence may result in different responses to the competitive environment, and that gender-identity is also likely to play a role,” the authors say.

According to the “gender-identity hypothesis”, a society’s prescriptions about appropriate models of behaviour for each gender might result in individuals experiencing a loss of identity should they deviate from the relevant code.

The gender imbalance in mixed-sex races may trigger awareness of gender-identity for both men and women, and this may go some way to explaining each gender’s different behaviour in mixed-sex races to same-sex races.

“For example, a man’s gender-identity may lead him to consider being defeated by women to be more dishonourable than by men, and he will try to avoid it,” the authors conclude.

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In the pursuit of happiness, extroverts get a head start

When Bob Hawke famously said economists were in the happiness-raising business, he wasn’t wrong. But he didn’t endear himself to the profession, which these days prefers to think of itself as in the incentives business.

A few economists study happiness, but for the most part they leave it to psychologists – who prefer to call it by the more scientific sounding “subjective wellbeing”. How satisfied you feel with your life or, as I prefer to think of it, how fulfilled you feel.

One finding we got last year from the world of happiness research is that people with certain types of personality tend to be happier than the rest of us.

Social psychologists have put decades of work into studying personality, and are widely agreed on the “big five” personality traits: conscientiousness, agreeableness, neuroticism, openness to experience, and extroversion.

Conscientiousness refers to being industrious, orderly and dependable. It’s about the way we control, regulate and direct our impulses. Conscientious individuals avoid trouble and achieve success through planning and persistence.

Agreeableness refers to co-operation and social harmony. Agreeable people value getting on with others. They're considerate, friendly, generous, helpful and willing to compromise their interests with others’ interests.

The trait psychologists call neuroticism would be better labelled by its inverse: emotional stability. So it’s one on which you’d like a low score. Neurotics have a tendency to often experience negative feelings such as anxiety or depression – or always getting angry. They can be moody and irritable. People who score low on neuroticism are less easily upset and less emotionally reactive. They tend to be calm and emotionally stable.

Openness to experience refers to being intellectually curious, imaginative, creative, inventive and insightful. Less open people prefer familiarity over novelty and tend to be conservative and resistant to change.

Extroversion refers to being outgoing, talkative and bold. Extroverts want to engage with the outside world. They tend to be enthusiastic, action-oriented, assertive and want to draw attention to themselves (some of them wear loud ties or go everywhere in sneakers).

Although surveys often show us to be wildly overconfident about our own capabilities – a recent survey shows 65 per cent of Americans think they’re more intelligent than the average person, for instance – a study last year by Stefano Di Domenico of the Australian Catholic University and others has found we’re quite accurate in assessing our own personality.

You give yourself a score out of 10 for each of the five factors, where 5 is average, 1 is very low and 10 is very high.

I’ve written before about the benefits of being an optimist – which, fortunately, about 80 per cent of us are. Unsurprisingly, optimists are happier than pessimists.

Optimists score well on four of the big five personality traits – emotional stability, extroversion, agreeableness and conscientiousness – with only openness being of limited relevance.

But last year’s big news about the effect of personality on happiness concerned the benefits of extroversion. Psychologists have long known that extroverts rate highly in measures of wellbeing. And they’re less likely to suffer from depression, anxiety or other mental health problems.

So much so that some studies seem to be encouraging us to act in more extroverted ways in the hope of becoming happier. Fake it till you make it.

A study by Dr Luke Smillie, of the University of Melbourne, and others has found it’s not that simple.

Their randomised control trial confirmed that people told to “act extroverted” did become happier. But it turned out that those who were naturally extroverted benefited the most, whereas those who were relatively introverted didn’t seem to benefit at all.

This - and other evidence – suggests that our personality has a bigger influence on how happy we feel than many have assumed. That is, how happy we are with our lives is less susceptible to our conscious control than we thought.

Smillie (who must be terribly tired of hearing the words “nominative determinism”) and colleagues say that’s not as bad as it sounds, however. Our personality may shape our lives, but it also changes. “Personal change may not be easy,” they say, “but we now know personality is not ‘fixed’.”

Research suggests personality is most likely to change between the ages of 20 and 40, but can occur at older ages.

This fits my own experience. When I first became a journalist, I dreaded having to phone people I didn’t know. But I must have become more extroverted over the years because, when I try to tell people I’m actually quite shy, they just laugh.

In any case, I think it’s possible to be more extroverted in some aspects of your life – some “domains”, as psychologists say – and less in others. Just ask my wife.

Smillie & Co say they’re not meaning to imply you need to be extroverted to be happy. Scoring well on other character traits will get you there.

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In poor countries income does trickle down

Try this test of your economic literacy: has world poverty decreased or increased since 1990? If you said decreased, congratulations. You’re smarter than the average bear.

If you were sure it had increased, you’re the victim of a news media gone overboard in indulging your preference for bad news over good.

A lot of bad things are happening in the world, but also some really good things, and we immiserate ourselves when we fail to give them the notice they deserve.

In October the Word Bank issued a report announcing that world poverty had fallen in the two years to 2015. But since this was the continuation of a longstanding trend, the media took little notice.

So let me give it the fanfare it deserves. World poverty has been falling continuously – and rapidly - for the past quarter century. In 1990, 36 per cent of the world’s population lived in extreme poverty, but by 2015 this had fallen to 10 per cent – the lowest in recorded history.

This means the number of people living in extreme poverty has fallen by a billion, from almost 2 billion to 736 million. And that really does make it “one of the greatest human achievements of our time”.

The World Bank defines extreme poverty as living on less than $US1.90 a day, which has been adjusted for the US dollar’s differing purchasing power in different countries in 2011.

But how did this great achievement come about? It’s the result of rapid economic growth in the developing countries over the past three decades, particularly in China (and its trading partners in east Asia) and India (and other south Asian countries, including Bangladesh).

These countries have made no herculean efforts to redistribute income from the rich to the poor, they’ve just grown a lot over a sustained period. Which makes the fall in poverty in these countries a fabulous advertisement for the benefits of market economies and freer trade between countries.

And it’s a reminder that, in poor countries at least, a fair bit of the income generated by economic growth does trickle down to those at the bottom. Low-income households also benefit as more of the country’s income is spent on increasing primary education and spreading access to electricity, decent water and sanitation.

Actually, lower-income households in Australia have benefited from our 27 years of continuous economic growth, with their incomes growing quite strongly in real terms. That’s because of employment growing faster than the working-age population, wages growing faster than prices (until five years ago) and pensions (but not the dole) being indexed to wages.

But real wage and pension growth occur because of government policy. And since, in truth, tax cuts for companies and high income-earners do little to boost the economy and employment, their benefits don’t trickle down to any great extent.

Back to the point. Though the rate of extreme poverty has fallen in all the world’s regions since 1990, it’s fallen only a bit in Sub-Saharan Africa, while its population has continued growing strongly.

This means the Sub-Sahara now accounts for more than half the 736 million people remaining in extreme poverty, with south Asia accounting for a further quarter. It’s been largely eliminated in east Asia and the other regions.

If India’s present strong economic growth continues, its share of world poverty will fall away. The World Bank projects that, by 2030, Sub-Saharan Africa will account for nearly nine out of 10 of the world’s extreme poor.

Globally, poor people live overwhelmingly in rural areas and have lots of children. Judge poverty not by people’s income but by their access to education, electricity, water and sanitation, and the proportion in rural areas is even higher.

Note that the World Bank’s austere “international poverty line” of $US1.90 a day is an absolute measure of poverty. You work out the value of goods needed to barely stay alive, then adjust it for inflation over time, ignoring what’s happening to the incomes of the better-off.

By contrast, in rich countries like ours we measure relative poverty: how are real incomes at the bottom (often defined as half the median income) travelling relative to those around the middle and at the top?

So absolute poverty falls whenever low incomes grow faster than inflation whereas, for a fall in relative poverty, the real incomes of the poor need to grow at a faster rate than everyone else’s.

This, by the way, explains why absolute poverty in China and India can fall even while income inequality – the gap between rich and poor – increases. As it usually has.

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