Category: Economy

In the AFR today, John Kehoe writes about the power of lobbyists and crony capitalists who are killing faith in markets. He refers particularly to the US where ‘crony capitalism’ is sapping vitality out of the US economy. He adds that

‘If you analyse the very richest Australians, beyond lucky inheritance, many have built their enormous wealth in industries heavily influenced by government regulation. Media, gaming and real estate development dominate the c.v.s of the upper echelons of the BRW rich list.’

See link to John Kehoe’s article: http://www.afr.com/opinion/regulation-crony-capitalists-are-killing-faith-in-the-markets-20160104-glyr2q

I am also reposting an article I wrote in May this year for our policy series. It was entitled ‘Vested interests and the subversion of the public interest‘.

Over the past forty years, leading developed economies, most notably the United States have experienced an upsurge in inequality of income and wealth. Most of the benefits of economic growth have accrued to those in the top 1 per cent of the income distribution. Meanwhile, living standards for those in the bottom half of the income distribution have stagnated or even declined.

Piketty’s work, published in reports and academic journals, has documented these trends. His book, Capital, not only brought the issues to the attention of a broader public, but presented an analysis suggesting that worse is to come. Piketty argues that we are in the process of returning to a ‘patrimonial’ society, in which income from inherited wealth is the predominant source of inequality.

Piketty’s work has previously focused mainly on the United States, but the research presented in Capital points to similar trends in the United Kingdom. Although inequality has grown much less in France, the third country on which he has detailed data, Piketty argues that the same trend will emerge unless there is a substantial change in political conditions.

To the extent that there is a general trend of the kind described by Piketty, we would expect it to emerge first in the English speaking world, where the shift to market liberalism and financialised capitalism was earlier and more complete. And, indeed, a sharp increase in inequality may be observed in other English speaking countries including Canada and New Zealand.

Australia, on the other hand, looks like a counterexample. On most measures of inequality Australia looks more like France than like the rest of the English speaking world. Although Australia’s have experienced an increase in inequality on most measures, the general picture is one of broadly distributed improvements in living standards, as illustrated by Peter Whiteford’s contribution to a recent seminar on Piketty published by the Australian Economic Review (AER). As Whiteford notes:

Income growth was highest for the richest 20 per cent of the population, at close to 60 per cent in real terms, but even for the poorest 20 per cent, real incomes grew by more than 40 per cent between 1996 and 2007.

Other measures such as the Gini coefficient and the ratio of median to mean income tell a similar story. Inequality has increased over the period since the 1980s, but only modestly and with frequent reversals.

Turning to the top 1 per cent of the income distribution, evidence from tax data, presented by Roger Wilkins in the AER volume suggests that the share of income accruing to this group has risen, but not to the same extent as in other English speaking countries This is consistent with the observations of Piketty himself, who notes:‪

the upper centile’s [top 1 per cent] share is nearly 20 percent in the United States, compared with 14–15 percent in Britain and Canada and barely 9–10 percent in Australia.

Much of the credit for this comparatively benign outcome must go to the Labor government that held office from 1983 to 1997 and implemented a relatively progressive version of the market liberal reform agenda. Labor managed a reform of the Australian tax and welfare system that shielded low income Australians from the worst effects of the market liberal revolution that swept the English speaking world in the 1970s and 1980s.

In most countries, policies of financial deregulation, privatisation and microeconomic reform were accompanied by regressive changes to the tax and welfare systems. By contrast, Labor introduced broadly progressive tax reforms including a capital gains tax and a crackdown on tax avoidance.

Rather than treating welfare payments and tax policy as separate, the restructuring sought to integrate the two, taking account of the combined impact of means tests and tax policies to optimise the balance between efficiency and redistribution.

These changes weren’t sufficient to prevent growing inequality of income and wealth, and some of them were eroded over time. Nevertheless, in broad terms, a redistributive tax–welfare system was maintained under the succeeding conservative government, even as it was being eroded in other English-speaking countries.

Labor returned to office in 2007, just in time to make its next big contribution: the fiscal stimulus that allowed Australia to avoid the recession generated by the Global Financial Crisis in nearly every other country. In combination with previous successful pieces of macroeconomic management, such as the Reserve Bank’s handling of the Asian Financial Crisis in the 1990s, the result has been an economic expansion lasting nearly 25 years, unparalleled in Australia’s economic history, and scarcely equalled anywhere in the world. The strength of the labour market has encouraged a broad spread of prosperity not seen elsewhere.

Together these factors explain why Australia has avoided the drastic increases in inequality seen in other English speaking countries. On the other hand, although Australia’s a long way from the plutocracy that already characterises the United States, there is no room for complacency.

Australia’s relatively equal distribution of income and wealth depends on a history of strong employment growth and a redistributive tax–welfare system. Neither can be taken for granted. The end of the mining boom has inevitably resulted in slower growth which bears hardest on those at the bottom of the income distribution. And, as elsewhere, the political pressure to take burdens from the rich and shift them to the poor is never-ending.

Moreover, Australia has not proved itself immune to the political dynamic, noted by Piketty, by which increasing personal wealth allows the wealthy to dominate politics, then enact policies that protect their own wealth. The archetypal example is Silvio Berlusconi in Italy but the situation in the United States is arguably worse. The majority of members of the US Congress are millionaires, with not much difference between Democrats and Republicans.

Given the pattern of highly unequal incomes, and social immobility observed in the US today, we can expect inheritance to play a much bigger role in explaining inequality for the generations now entering adulthood than for the current recipients of high incomes and owners of large fortunes. Inherited advantages in the patrimonial society predicted by Piketty will include direct transfers of wealth as well as the effects of increasingly unequal access to education, early job opportunities and home ownership.

The move towards a patrimonial society already happening in the US is evident at the very top of the Australian income distribution. As in the US, the claim that the rich are mostly self-made is already dubious, and will soon be clearly false. Of the top 10 people on the Business Review Weekly (BRW) rich list, four inherited their wealth, including the top three. Two more are in their 80s, part of the talented generation of Jewish refugees who came to Australia and prospered in the years after World War II. When these two pass on, the rich list will be dominated by heirs, not founders.

The same point is even clearer with the BRW list of rich families. As recently as 20 years ago, all but one of these clans were still headed by the entrepreneurs who had made the family fortune in the first place. Now, all but one of the families are rich by inheritance.

So, Australians have no room for complacency. In an economy dominated by capital, and in the absence of estate taxation, there is little to stop the current drift towards a more unequal society from continuing and even accelerating.

On the other hand, Australia’s relative success in using the tax and welfare systems to spread the benefits of economic growth provides grounds for optimism elsewhere in the world. Australia’s experience belies the claim that any attempt to offset the growth of inequality must cripple economic growth. On the contrary, the evidence suggests that there is plenty of scope for progressive changes to tax policy that would partly or wholly offset the trends towards greater inequality documented by Piketty.

This article was first published on John Quiggin’s blog on 2 January 2016.

Let’s put aside the irony of a Liberal government, the preacher of the ills of ‘big government’, spending $45 million to reach its expensive Royal Commission tentacles into the operation of trade unions. Let’s put aside the obvious political nature of such a witch-hunt, designed to reduce the power of unions to negotiate on behalf of workers, a seek and destroy mission with the pincer-movement aim of a) benefiting employers at the big end of town, b) reducing unions’ capacity to contribute funds to Labor election campaigns and c) to discredit Labor MPs with union backgrounds. For now, putting these contradictions and political trickery aside, which are so wholly obvious to us but strangely not apparently obvious nor interesting to commentators in the mainstream media, let’s instead look at the Trade Union Royal Commission’s findings in relation to the lives of those people the commission paradoxically claim to represent the interests of; workers.

Using my own situation as a worker and union member as a representative case study, I note with alarm that the Prime Minister, Malcolm Turnbull, has proclaimed the findings of the Trade Union Royal Commission (TURC) as justification to fight an election over industrial relations. Clearly Turnbull thinks that there is a large enough problem in the trade union movement, a movement just as separate to the operations of government as a private company, that he’s pushing this problem to the top of his government’s agenda. The handful of bogey-man union officials who have been cited in the TURC findings as having acted not in the best interest of workers, are now the government’s enemy number one. As a union member, I don’t like to hear about my union funds being used to fund union officials’ extravagant lifestyles, nor do I appreciate reports of criminal activity, which appear to be almost entirely confined to rogue elements in construction unions. But, as a worker and a member of a young family, a woman, a parent to a young child who has childcare and then her whole education in front of her followed by a job search, a mortgage holder, a South Australian, a buyer of groceries, a daughter of aging parents, a wife to a husband who works in the manufacturing industry and a member of a society experiencing the scary and increasingly apparent effects of climate change, I must admit, the conduct of a few dodgy union officials in industries I don’t work in, whose conduct hasn’t been proven to adversely impact the conditions of workers they represent, is about as high on my list of ‘what is the government doing about this?’ priorities as the fate of Johnny Depp’s girlfriend’s court case over the illegal entry of small dogs.

And even if I did care deeply about the conduct of some dodgy union officials in the construction industry (which I don’t), I care a thousand times more deeply about those union officials having the freedom to do their job to help safeguard the safety of workers on construction sites. I’m pleased there are union officials stopping work when they see risks to workers, because it’s blatantly clear that if the union officials didn’t care, no one would. This is because it’s obvious that many construction employers care far more about the speed of their profit making than they do the safety and wellbeing of their employees. So if it wasn’t for the unions stepping in to insist on safety, far more accidents and deaths would occur. I would have thought a responsible government would be more concerned about safety on construction sites than the isolated actions of a few bad apple unionists. Especially after that very same government were so upset about the deaths of four insulation installers that they held a Royal Commission into a government program that funded the private companies whose unsafe work practices led to the tragic deaths of workers. Another Royal Commission aimed at hurting the Labor Party; do you see a pattern forming here?

I notice a day after the release of the TURC findings, the ABC News Radio poll asking ‘In your experience, are unions riddled with ‘deep-seated’ and ‘widespread’ misconduct?’, after 3,466 votes have been cast, found 74% said ‘no’.

This result suggests I’m not alone in my perception of the TURC findings as more of a political statement than the experience of union members.

As a worker, it would be wholly irrational for me to congratulate, or indeed vote for a government vowing to smash the power of unions. As a worker in an economy with stagnant wage growth, it would be counterproductive for me to encourage my government to give employers, who already hold an elephant-on-a-seesaw-unequal position of power in the Goliath-capital battle with David-the-workers, any more power to define my working conditions. Because let’s face it, not every employer wants to pay the minimum wage, without penalty rates, minimum entitlements and no chance of a pay rise. But enough employers do (take a look at 7-eleven) so that the entire wage structure of the country would be pulled down without unions pushing back against the floodgates. When former PM Tony Abbott said WorkChoices was dead-buried-and-cremated, workers always knew that it would only take a second-term Liberal government 5 minutes to resurrect the WorkChoices zombie from the grave; a zombie who’s bite is fatal to workers’ rights.

Therefore, if Turnbull wants to play this game and if he is really serious that dodgy union officials are the biggest threat facing our country, and his highest agenda item in an election, I echo Bill Shorten’s words on hearing Turnbull’s plans: BRING IT ON. And so say all of us.

Victoria Rollison is a political blogger, working in marketing and communications.

The Roosevelt Institute’s Chief Economist Joseph Stiglitz a Nobel Economics prize winner in his own right, has come up with a block buster report on the social and economic problems facing American society. This115 page report which was published as a book in November 2015 was put together with valuable assistance and input from a broad cross-section of people under the stewardship of Stiglitz. Notable economists such as Brad De Long and Robert Reich were among the consulting researchers.

Stiglitz’s team of researchers have revealed that the USA is in big trouble and at the heart of it are misplaced rules, laws and economic policies, based on faulty economic theory. If you combine this with an over-arching, pervasive, narrow minded neo-liberal ideology, then you have a recipe for economic and social disaster.

American neo-liberal ideology and orthodox economic thinking have produced income and wealth inequality of immense historical proportions. Lowly paid workers are in the majority whilst the greater percentage of income and wealth is transferred to an ever decreasing smaller number of people.

“Over the last 35 years, America’s policy choices have been grounded in false assumptions, and the result is a weakened economy in which most Americans struggle to achieve or maintain a middle-class lifestyle while a small percentage enjoy an increasingly large share of the nation’s wealth. Though these lived experiences and personal challenges are important, they are only the tip of the iceberg that is the crisis of slow income growth and rising inequality. To fully understand the scope of the problem, we must also examine the array of laws and policies that lie beneath the surface—the rules that determine the balance of power between public and private, employers and workers, innovation and shared growth, and all the other interests that make up the modern economy.” Dominant economic frameworks over the past 35 years—like “trickle-down” economics, and the idea that markets work perfectly on their own—paved the way for an onslaught of policies that decimated America’s middle class. This paper presents an evidence-backed alternative framework:

• Markets are shaped by laws, regulations, and institutions. Rules matter.
• The rules determine how fast the economy grows, and who shares in the benefits of that prosperity.
• Concentrated wealth can hurt economic performance. Under the right rules, shared prosperity and strong economic performance reinforce each other. There is no trade-off.
• A tentative, piecemeal policy response to help the neediest will not suffice. We must rewrite the rules of the economy with a focus on restoring a balance of power between the competing interests that make up the modern economy” p.7

What should and can Americans do to rectify this appalling predicament? According to Stiglitz and his researchers they must:-

1. Ensure that the financial sector becomes responsive to consumer needs, by removing hidden financial charges and fees. Bring in rules that penalises risky investments.
2. Make full employment the goal.
3. Introduce legislation to protect vulnerable workers. Allow workers to organise and strengthen their right to collective bargaining.
4. Change the tax system to make it fairer, by removing corporate welfare tax expenditures and raising taxes on capital gains and dividends. Introduce a financial speculation tax to deter short-term trading and encourage long-term investment.
5. Ensure some reasonable level in the remuneration of chief executive officers with ordinary salary/ wage earnings.

The most dramatic recommended changes were to:-

• Overhaul American social security, by introducing a universal Medicare and affordable health care.
• Expand Social Security with a supplemental public investment program modelled on private Individual Retirement Accounts, and raise the payroll cap to increase revenue.
• Invest in young children through child benefits, early education, and universal pre-kindergarten.
• Increase access to higher education by reforming tuition financing, restoring protections to student loans, and adopting universal income-based repayment.
• Expand access to banking services through a postal savings bank. Create a public option for the supply of mortgages.

The lessons learnt from the USA are there as a warning to Australia. Australians should be very careful now about allowing the present government to focus on deficit reduction via fiscal cutbacks, instead of new job creation. Full employment for anyone who wants to work is the keystone for any just and healthy society and should be the number one priority for any government. In addition, workers should be on guard where they have no union coverage or their union protection is whittled away by new industrial legislation that prevents unions from operating effectively in workplaces. Reducing deficits and worker protections during economic slumps will only impoverish workers, the unemployed and the poor and should be resisted vigorously by all ordinary Australians.

The Anglo-American variety of neo-liberalism has been a dismal failure in the UK and the USA, where it has caused only hardship and poverty for the populace, Australia should take the right steps not to make the same mistakes.

[Wayne McMillan is a keen follower of current economic trends and policies. He has been studying Economics for over 30 years, he lives in Whalan NSW.]

Repost from 25/02/2015

Many will recall in the Monty Python film, the Life of Brian, an anti-Roman revolutionary played by John Cleese, but who reminds me of Joe Hockey, asks rhetorically about the Romans, ‘What have they ever given us?’  Expecting the answer ‘Nothing’, he is irritated when he is told that they provided aqueducts. Cleese’s character slowly concedes further points, until he asks ‘Apart from the sanitation, medicine, education, wine, public order, irrigation, roads, fresh water system and public health – what have the Romans ever done for us?’  And still someone chips in with another suggestion of what the Romans have done.

Clearly the Liberal Party holds a similar view to the anti-Roman revolutionary. Its platform says ‘That only businesses and individuals are the creators of wealth and employment’.

The Commission of Audit in its highly ideological report assumes also that government and ‘red tape’ must be cut back.

Like the John Cleese character, conservatives choose to ignore the great pioneering and continuing role of governments in our community and mixed economy – roads and railways, power, water and sewerage, law and public order, security, education, hospitals, galleries, museums and national parks.  I could go on!

In world terms, we have a small public sector in Australia. Including all levels of government, our public sector is less than 35% of GDP. The OECD average size of government is over 40% of GDP. In the successful northern Europeans countries such as Germany, the Netherlands and the Nordics, the public sector exceeds 43% of GDP. And they have taxes to pay for their successful public sectors.

Just think of what Norway has done in establishing its public Pension Fund. This fund now has $1 trillion in investment. The fund was established by the Norwegian government in the 1970s when Norway began to develop its oil and gas resources. If only we had done something similar to tax the super profits of mining companies in the recent mining boom. We would now have a stronger and more diversified economy. Instead we have companies like Rio Tinto returning $7.8 b to shareholders in a share buyback.

The successful economies of the world have all invested heavily in the public sector to enhance human capital in areas such as education, science, research and development, and innovation. But in the name of economy and reducing waste, we are reducing government funding in these areas. We don’t even have a Minister for Science.

No country has ever achieved greatness by cutting back on key government activities. This is not to say that the government sector should be large. But it should be effective and efficient.

Just look at some of the false economies that are part of the current political environment in Australia that would damage the public sector and the public interest.

• The government is considering cutting back the Australian Bureau of Statistics and possibly the five year census. But so much of ABS data is essential for good decision-making in both the public and private sectors.
• We have cut back on policy and administrative skills in commonwealth departments and more and more we contract it out to so-called independent and professional management companies that have little or no corporate memory. One consequence of the scaling back of government expertise was the pink-batts mess.
• The economists we see and hear so much of on TV are usually in the pay of big corporations and the banks. They are unlikely to give us an independent assessment in such areas as privatisation and superannuation. Cut backs in university funds have resulted in fewer intellectuals working in the public square.
• Late last year the former Assistant Commissioner of the Australian Tax Office warned in a letter to the Australian Financial Review that repeated efficiency dividends had seriously hurt the ATO’s ability to collect tax. In the recent budget, the ATO had its funding slashed by $189 million with more than 3,000 jobs to go. With corporate tax avoidance almost endemic what a strange time to be cutting back ATO staff.  My mother would have said it was ‘penny wise and pound foolish’. Economists would call it a false economy.
• The public sector is often more efficient than its private counterparts. For example, private health insurance firms have operating costs, including profit that are three times higher than Medicare.
• Comparing ‘apples with apples’ public hospitals are as efficient as private hospitals. Schools in the public and private sectors that enrol similar students turn out much the same results
• The derided ‘red tape’ is often the means to protect the public interest. No wonder private ideologues don’t like it.
• Governments can borrow much more cheaply than private corporations, but it is seldom mentioned.

We have been encouraged to forget that our prosperity is based on both public and private goods. To many people government has become ‘invisible’, except as a vehicle for welfare. Australians have lost sight of the contribution of the mixed economy, not only providing public goods, but also in ensuring that the forces of greed and short-sightedness don’t lead to economic collapse.

It is noteworthy that despite the continued denigration of government and the public sector, the three most trusted institutions in Australia are public institutions – the High Court, the ABC and the Reserve Bank. In the survey by Essential Research, there was not a private group in the top eight most-trusted groups and institutions in Australia. The three least trusted groups were business, trade unions and political parties.

There is a major and important role for governments to play. We need to assert the importance of the economic role of government in our mixed economy. We should stop apologising for government.

The article below by Professor Ray Markey was posted before the release of the recent Productivity Commission Report on penalty rates.

Following the release of the report, Professor Markey commented as follows:

‘The Productivity Commission report presents no new evidence for increased employment from reduced penalty rates. Mainly there are theoretical economic arguments and modelling based on it. Time use survey data is very selectively cited and dated anyway since the last survey was in 2006. It clearly shows that people prefer weekends for being with family and friends and does not refer to studies showing it is difficult to make up during the week for this weekend time being lost due to work. The one new argument in the report is very interesting, namely that the onus of proof about the impact of reduced penalty rates on employment should be reversed i.e. employers shouldn’t have to prove this is the case to get changes – clearly an admission of a lack of evidence.

It is tiring to hear penalty rates linked with productivity as the minister responsible, Senator Cash, did on radio this morning. It has nothing to do with productivity and neither the Productivity Commission nor the main employer submissions made this claim. Productivity increases would require increased output relative to inputs (labour). Reducing penalty rates will increase employer income and potentially profits, but it is inconceivable how it affects productivity positively. If the argument that employment will increase as a result of reduced penalty rates is true, it may have a negative impact on productivity. Cheaper labour costs certainly provide incentives for employers not to engage in innovation to increase productivity and this is the trap for low wage economies such as New Zealand, where they struggle with lower productivity than Australia and lower wages. Reducing penalty rates, therefore, is a distraction from the Prime Minister’s focus on an innovation agenda.’

In the current review of modern awards before the Fair Work Commission, employers are challenging the level of penalty rates. At the same time, the Productivity Commission says excessive penalty rates for Sundays reduce hours worked, mean unemployment is higher than it needs to be, and reduce options for businesses and consumers. It wants Sunday penalty rates in some sectors to be set at the Saturday rate.

A penalty rate for Sunday work was first implemented in Australia for working “unsocial” hours in 1919. The 1947 ‘Weekend Penalty Rates Case’ expanded penalty rates to Saturdays, while Sundays were set at a rate of double time. Later decisions specified that workers would need to be compensated for the loss of opportunity for family life and social time resulting from weekend work.

More than 60 years on, employers argue the world has changed. It has, but many of the arguments employers make are not supported by the evidence.

Myth 1: Given extended trading hours, it’s no longer abnormal for people to work weekends

Most employees still do not work unsocial hours. According to the Australian Work and Life Index, 38 per cent of workers work unsocial hours; only 32.2 per cent of workers work weekends and 18.9 per cent of workers work evenings after 9pm regularly. These figures include the 13.1 per cent of workers who work both evenings and weekends regularly.

Myth 2: It’s only young single people that work weekends.

While being single with no children is more common than other family types among these workers, they are not a majority: there are also many couples both with and without children, and sole parents.

Women are also more likely than men to work weekends. HILDA data indicates that only 22 per cent of male and 21 per cent of female weekend workers were dependent students; in other words, 78 per cent of all weekend workers were not dependent and pay their own bills.

Myth 3: The disadvantages of working weekends are only bad for those who work very long hours.

Employers argue that the adverse effects associated with working weekends are only relevant to those who work very long hours, and that the days and times themselves are no longer relevant, either because people no longer engage in the activities which previous decisions attempted to protect, or because these activities can be made up on other days and at other times.

But those who work on weekends do so at the sacrifice of time with friends and family, time which cannot be simply made up through time spent at other times during the week. This is particularly acute on Sundays, which remain a time for spending time with family. In spite of claims to the contrary, the differentiation between Saturdays and Sundays remains relevant in modern Australian society.

In general, the recompense of penalty rates is the key reason for willingly working weekends; with far fewer doing so to meet their own flexibility needs. However, the experience of the Work Choices era, and the importance and power of employer expectation, does suggest that many employees would not, in the absence of penalty rates, be able to avoid weekend work due to fear of losing their jobs, and indeed employees being forced to work weekends for no extra pay seems the most likely consequence of removing penalty rates.

Myth 4: Those who work in industries that pay penalty rates are not low paid.

Many workers on penalty rates are among the low paid. According to the Australian Work and Life Index, 37.8 per cent of workers who work weekends only and receive penalty rates rely on these to meet household expenses. This increases to 48.8 per cent for those working both evenings and weekends, and 52.2 per cent for Sundays only.

Myth 5: Reducing or eliminating penalty rates would increase employment.

The empirical evidence for increased employment as a result of reducing penalty rates is non-existent. Employer arguments have been based essentially on economic theory, which is merely hypothesis in the absence of empirical confirmation. What may be relevant in terms of the impact of wages on employment is that none of the available empirical evidence suggests minimum wages have a significant effect on net employment, a point reiterated by the Productivity Commission.

While some studies do suggest a substitution effect, this would be a matter of balancing one set of employed workers against another — older workers versus youth. However, a number of studies suggest no effect at all, and some suggest a positive effect.

Given the evidence, it is difficult to see any benefits likely to accrue from the abolition or reduction of penalty rates for employees, employment levels or greater availability of services to the public.

Professor Ray Markey is Director of the Centre for Workforce Futures.
This article was originally published on The Conversation on 2 December 2015.

Every year, the International Tax Review nominates its ‘Global Tax 50’ — the people and organisations who are most influential in improving tax systems around the world. Two years ago, David Bradbury made the list, for being “a vocal and proactive voice on a variety of tax issues”.

One of Bradbury’s award-winning reforms was tax transparency — laws that required the tax office to report the tax paid by firms with total income above $100 million. The Liberals didn’t like the change, and voted against it at the time. After winning government, they set about trying to repeal it — first by warning of kidnap risk, and then by suggesting that it might embarrass some firms if the public knew how little tax they paid.

Farcically, the government said that it wouldn’t pass its own multinational tax package unless the parliament agreed to wind back secrecy. In effect, Scott Morrison was holding a gun to his own head, but the Greens fell for it. On the last day of parliament for 2015, the Greens Party agreed to amendments that kept two in three private companies out of the tax transparency net.

This week’s release of tax transparency data has shown the value of letting the sunlight in. The 1300 economic groups covered by the report had a combined taxable income of $170 billion, and contributed $40bn in tax towards funding Australia’s schools, hospitals and roads.

Worryingly however, the tax office report also reveals that one in four of these companies paid no tax despite earning over $100m in revenue. In the energy and resources sector, 57 per cent of multinational firms paid no tax, while in the banking and financial sector the figure was 45 per cent. The companies concerned will no doubt want to explain these figures further to their customers and the Australian community.

Tax transparency matters because without it, we have no way of knowing if big companies are paying their fair share. There are plenty that do, and their contribution deserves acknowledgment.

More importantly, though, it is clear some firms don’t. When companies are paying tax at a fraction of the standard rate, Australians should ask why. At a time when the government is talking about raising the GST to 15 per cent — a decision that would hit low-income Australians hardest — it is right that we should look closely at whether all taxpayers are making a fair contribution.

While Labor has supported the Government’s baby steps on multinational tax, we don’t believe they are enough. We are particularly concerned about the government’s unwillingness to address the practice of companies loading debt into Australia to artificially inflate their tax deductions.

Thanks to the ongoing corporate tax inquiry — particularly the work of Labor senators Sam Dastyari and Chris Ketter — we know that some big companies are transferring money into their Australian arms and dressing this up as a loan, even though it’s really just shifting money from one pocket to the other. In paying back these artificial loans, companies can send their profits overseas while pocketing a tax deduction at the same time.

That’s the problem Labor’s package zeros in on. By moving to a worldwide gearing ratio approach, companies would only be able to claim deductions against the average amount of debt they owe to banks around the world.

Labor’s plan is grounded in careful OECD work, and costed by the Parliamentary Budget Office. By closing loopholes, we recognise that Australia needs a tax system that rewards the productive, the innovative, the resilient, the clever and the competitive. Not a tax system that rewards those willing to push the envelope the furthest.

We need a plan to win investment from the world, yes. But this plan should work because big firms think it is worth buying into Australia — not because our government thinks they have to cut special deals that sell us out. A plan that leverages the ingenuity of the Australian workforce, the strength of Australia’s institutions and the quality of Australia’s infrastructure.

Our plan for winning investment from the world should not be premised on how big a tax break companies can get here, because that is not a competition we’re ever going to win. If we want to join the countries at the top of the global league table, we need to invest in growth, not engage in a race to the bottom with our tax loopholes.

In recent weeks the OECD has handed down the final set of deliverables for its Base Erosion and Profit Shifting Action Plan. This plan has been more than two years in the making and lays out a comprehensive 15-point agenda to close the loopholes that have opened up in the tax net due to changing technology and an increasingly global business environment.

The 15 items on the action plan tackle everything from the taxation of intangible goods to hybrid instrument rules and the creation of a multilateral tax instrument to allow more rapid co-ordination of rules between OECD countries in the future. Australia is making progress in some of these areas — for example, the effort to extend the GST to digital downloads, which was supported by both Labor and Liberal state and territory governments. But there is still a lot of work to do.

The Treasurer has the OECD’s blueprint, and Labor’s costed proposals. He must now choose between his regressive measures and our progressive proposals. Unlike a 15 per cent GST, closing multinational tax loopholes won’t impede growth, worsen inequality or make housing less affordable. There should be no more excuses and no more delays when billions of dollars in tax revenue are potentially at stake.

Andrew Leigh is the Shadow Assistant Treasurer. This article first a appeared in the Business Spectator on 17 December 2015.

This second article, in response to the release of the Government’s Mid-Year Economic and Fiscal Outlook (MYEFO) on Tuesday 15 December, focuses on the Government’s fiscal strategy. It is a companion piece to another article that focussed on the Government’s economic strategy and what the Government expects that economic strategy to achieve.

As had been well telegraphed in advance, total budget receipts are now expected to be $33.8 bn lower over the next four years of the forward estimates than expected last May in the 2015-16 Budget. This reduction in receipts mainly reflects lower than forecast commodity prices impacting on company profits and a weaker outlook for wage growth. On the other hand, and consistent with the Government’s tight fiscal strategy, spending decisions have been more than offset by other decisions to reduce expenditure elsewhere in the Budget.

In sum, the budget deficit (technically known as the “underlying cash deficit”) as projected in MYEFO shows a small deterioration of about $2 bn., or ¼ per cent of GDP for the current financial year, resulting in a projected budget deficit for 2015-16 of $37.4 bn., equivalent to 2.3 per cent of GDP. In the following three years, however, the projected deterioration in the budget deficit increases to around ½ per cent of GDP.

Notwithstanding this projected deterioration in the budget deficit, the MYEFO continues to project an eventual return to a small budget surplus, equivalent to 0.2 per cent of GDP in 2021-22, a year later than previously projected in the May Budget. For a few more years after 2021-22, small budget surpluses are projected, but by 2025-26 this latest projection shows that surplus is back down to 0.2 per cent of GDP, after which the Budget is likely to slip back into permanent deficit if present policies are maintained. In other words, even if one accepts the authenticity of these latest projections, the extent of the planned fiscal repair would appear to be inadequate.

Furthermore, given the recent history of these projections for the Budget deficit, a first question is how credible is this latest one? The Treasurer tells us that fiscal repair is a long journey and we must be patient, but equally this journey could be characterised as the pursuit of a mirage that is forever on the horizon.

More seriously, the credibility of this projected fiscal repair strategy depends upon the underlying economic assumptions and the commitments under-pinning that fiscal strategy.

The economic projections have been revised downwards, as described in the companion article to this one. These revised economic projections probably do now present a more realistic view of the future economic outlook, given the Government’s economic strategy and noting the risks involved in any such projections.

As regards the credibility of the Government’s fiscal strategy, the key commitment reported in the MYEFO is to maintain strong fiscal discipline with

1. The expenditure to GDP ratio falling, with spending measures having to be more than offset by reductions in spending elsewhere in the Budget
2. A ceiling on taxation revenue equivalent to 23.9 per cent of GDP
3. A target of achieving budget surpluses building to at least a 1 per cent of GDP as soon as possible.

In principle, commitments of this kind can greatly help in maintaining the necessary fiscal discipline. They only work, however, if they are carefully calibrated so that they represent what can realistically be achieved, given the range of the Government’s other priorities and policy commitments. Equally if the fiscal commitments cannot realistically be met, nothing is achieved by them – instead the Government only ends up with broken promises and a loss of its economic credibility.

Judging by the nature and quality of the expenditure savings announced in the MYEFO, the Government may well find that it will continue to have difficulty in finding savings of sufficient quality to achieve its first commitment to a falling ratio of expenditure to GDP. Indeed, this mid-year review has already included some $20 bn. of savings which have so far been rejected by the Parliament. Now the Government is promising more of the same, with controversial measures which will reduce bulk billing for example. While administrative savings to improve compliance for welfare recipients and tinkering with the funding standards for aged care, even if acceptable, have a long history of under-delivering in practice.

The root of the problem is that the Government’s approach to achieving expenditure savings seems to be to remove funding from a lot of relatively small programs. This typically results in a loss of services, including from non-government agencies; a reduction in the quality of public functions such as the arts and culture, the environment, and numerous humanitarian causes; and various categories of people missing out, and often perceived as unfairly missing out. Instead a better approach to public expenditure control would be to focus on long-term improvements in the efficiency and effectiveness of programs, especially major programs such as health and education that involve very large expenditures.

In my article, “Fixing the Budget – Part Two” published in Fairness, Opportunity and Security, I outlined how this alternative approach to expenditure control might actually work. I used evidence from a number of sources, including other contributors to this blog, and showed that net expenditure savings ‘reaching around $20 bn. annually should be possible in the budget over the next four to five years, mainly from health and infrastructure, if genuine reforms were introduced’. These savings would not be front loaded and would require some time to be realised, but frankly that would be a good thing, given the present economic outlook.

Even these quite large savings, however, would not be sufficient to achieve a return to a sustained fiscal surplus. Realistically an increase in taxation revenue is unavoidable if we want to retain the government responsibilities and quality of services that the vast majority of us expect. Indeed, when we compare ourselves with other like-minded countries, such as New Zealand, we find that we expect the same of government but are only paying 15 per cent less in total taxation as a share of GDP. It is time that our politicians recognised this basic fact and shaped the future public debate about budgets accordingly, otherwise I fear that we are doomed to endless fiscal failure.

That brings us to the Government’s second fiscal commitment, that taxation revenue will be held to no more than 23.9 per cent of GDP. The MYEFO projections indicate that adherence to that commitment would allow taxation revenue to rise by about half a percentage point of GDP in 2028-19. It is very unlikely that additional revenue limited to half a per cent of GDP will be sufficient to repair the Budget on a sustained basis. Furthermore, it is likely that the States will demand some of that additional revenue and/or be responsible for raising it.

Accordingly the value of presently limiting taxation revenue to 23.9 per cent of GDP must be doubted. In addition, any such limit privileges those programs that are funded by way of taxation concessions, which are then often able to escape proper scrutiny. Whereas in reality there is no real difference between programs funded on the expenditure side of the budget and those which are funded by way of reduced taxation. In short, this limit on the share of taxation is therefore an imperfect constraint.

Instead the Government needs to approach the task of fiscal repair and tax reform starting from a consideration of its overall fiscal requirements. As argued above, this review should lead to a recognition that some increase in the overall revenue will be required. This increase could in turn then come from some change in the overall mix of taxation and/or a review of the various tax concessions, while still allowing some scope for moderate income tax cuts sufficient to offset the impact of bracket creep over the last few years.

The Government’s Mid-Year Economic and Fiscal Outlook (MYEFO) released on Tuesday 15 December outlines the Government’s economic and fiscal strategy and, equally important, what it expects that strategy to achieve. It is especially significant on this occasion, as it represents the first major economic statement by the still relatively new Turnbull Government. As such this statement allows us to put some more content into our assessment of what, in its short life so far, has principally been an “aspirational government”.

In this article I will discuss the Government’s economic strategy, as revealed in the MYEFO. In a second companion article I will discuss the fiscal strategy.

The Government’s Economic Strategy

According to its MYEFO the Government has an ‘integrated national plan for economic growth and jobs’. The Government is putting in place policies, which it hopes will ‘create a dynamic, competitive economy that rewards effort, incentivises innovation and sets Australia up to capitalise on the abundant opportunities in the fast-growing Asian region’.

The key elements of this strategy as stated in MYEFO are:

1. The recently announced National Innovation and Science Agenda
2. The free trade agreements concluded with China, Japan, Korea, and the Trans-Pacific Partnership
3. Record levels of infrastructure investment through the $50 bn. infrastructure package, which allegedly will increase the economy’s productive capacity
4. The Government’s response to the Financial System Inquiry, which is expected to strengthen Australia’s financial system further to meet new needs and support sustainable economic growth
5. Strengthening Australia’s competition frameworks, including working with the States ‘to unlock the benefits of choice and diversity in areas such as health and aged care’
6. ‘A comprehensive dialogue on how to create a “growth friendly” tax system,
7. A strengthening budget position.

Assessment of the Economic Strategy

On the Government’s own admission, the results that it expects from its economic strategy are less than impressive, at least by past standards. In the current financial year GDP is only expected to grow at an annual rate of 2½ per cent, and by 2¾ per cent in the next year. The economy is facing a difficult transition from the resources boom, but nevertheless the short-term outlook for economic growth is disappointing bearing in mind the extent of excess capacity.

Furthermore, the forecast   rate of productivity increase over these two years is only ½ and 1 per cent respectively – well under the normal rate of 1.5 per cent annual increase. And the forecast for non-mining investment, which should be an important part of the transition from the resources boom, has been revised down in the MYEFO to show a small fall in the current year, and a much slower rate of recovery next year.

Looking further ahead, the Treasury has now revised downwards its expectation for the economy’s long-run growth potential, with Treasury now believing that realistically potential output can only be expected to increase at an annual rate of 2¾ per cent. This rate of potential output growth compares very poorly with an average annual rate of economic growth of 3½ per cent over the 1990s and 2000s, let alone the 4¼ per cent and 5 per cent average growth rates experienced in the 1950s and 1960s respectively. Indeed, it was only in the period of stagflation from 1974-75 to 1982-83 that economic growth was as low as we are now being asked to accept as being the best that we can do.

In short, on its own evidence the results expected from the Government’s economic strategy, as outlined above, are disappointing, at least compared to past performance of the economy. While the individual elements of that strategy may appear reasonable, it equally seems reasonable to query whether the strategy as a whole is adequate to the task.

For example, the National Innovation and Science Agenda contained a number of useful new initiatives, but most of the money came from switching money from other science related programs, and arguably a lot more money is really needed to become an advanced economy that produces as well as uses leading edge technologies.

Similarly, the free trade agreements have been massively over-sold. Their principal focus has been on achieving improved market access, but that of itself does not improve productivity and economic growth potential. Instead, more attention is needed on how to extract productivity gains by switching resources to more productive activities.

In the case of infrastructure investment, every parrot in the pet shop is calling for more infrastructure investment. But most of this investment is not subject to proper cost-benefit analysis, which helps explain why such analysis is never publicly available. An informed guess suggests that more than half of the Government’s $50 bn. infrastructure package would be better not spent.

Finally, one can be sceptical whether strengthening Australia’s financial system, giving people greater choice and lowering taxes will really make much difference to Australia’s rate of productivity growth or employment participation – the key drivers of economic growth. It is not that these elements of the Government’s economic strategy are without merit – in particular, ensuring financial stability and the integrity of the financial system is critical. Rather these sorts of initiative are unlikely to lift the rate of economic growth to the levels that Australians are used to and to which they aspire.

Instead a bolder economic strategy is called for which would focus much more on:

1. Achieving a major increase in skills, involving a substantial increase in investment to more than replace the cuts made in recent years
2. A stronger focus on making the best use of our skills as the key to enhancing future productivity growth. This would require a renewed management focus on achieving improvements in the organisation of work, a principle source of innovation, and less focus on cost cutting, which at worst can lead to lower productivity
3. Much more carefully targeted infrastructure investment, based on the introduction of proper pricing signals. As all conservatives should understand, pricing something for nothing is bound to lead to over-demand. Instead future infrastructure investment should be in guided by what will deliver the greatest economic returns, having regard to the value that users are prepared to pay for, and not in response to political whims.
   

Conclusion

Australia does face a difficult task adjusting to the end of the resources boom. It is being helped in this regard by the accompanying decline in the exchange rate and lower interest rates. But relying only on such market mechanisms is unlikely to achieve the results that Australians expect. The Government could and should do more to improve the supply-side of the economy, principally by improving the education and skills of the workforce, the way in which those skills are then used, and the quality of infrastructure investment, of which far too much is wasted on politically selected projects.

In his statement on innovation, Malcolm Turnbull said ‘the internet and the technology it enables means we are now part of the truly global market place. It means there are few barriers to entry for Australian businesses, no matter where they are located, right across Australia and they can sell their products and services to just about every corner of the globe.’ 

The internet is the bedrock for innovation today. But unfortunately, Malcolm Turnbull, as our former Minister for Commerce, damaged the internet. He introduced an internet censorship scheme at the instigation of the copyright cartel. He presided over a pervasive data retention scheme that has imposed a heavy burden on the whole communications sector.

But the biggest problem is the ‘claytons’ NBN.

In this blog on 10 September 2015, Rod Tucker, Laureate Emeritus Professor at the University of Melbourne, commented ‘The NBN; why it’s slow, expensive and obsolete’.

In The Conversation five days later Rod Tucker commented further ‘Under Turnbull the NBN budget has blown out as much as $A18 b. and on current projections is four years behind the original schedule.’ 

Paul Budde in his blog BuddeBlog on 29 September 2015 said ‘When the NBN was launched in 2009 one of the goals was to get the country into the top ten of the international ladder. Now in 2015 we have dropped to 42^nd position.’

In this blog on 2 November 2015, Mark Gregory, a Senior Lecturer in the School of Electrical and Computer Engineering at RMIT University said ‘The decision by the Coalition government that was implemented by Turnbull in 2013 to adopt the obsolete FTTN technology for a significant percentage of the NBN will, in future years, be seen as economic madness. … The NBN is likely to be the most expensive lemon in Australian history. … ‘

For further elaboration of these comments, see ‘Malcolm Turnbull and the NBN mess’ in this blog on 3 November 2015.

And the criticism of Malcolm Turnbull’s stewardship of the NBN is gathering pace.

In the SMH on 11 December 2015, under the heading ‘Malcolm’s mess: how the Coalition’s NBN came unstuck’, Hannah Francis describes the mess that we now have with the NBN.

Malcolm Turnbull is right that the internet is the key technology that enables us to be part of the global market. But the high cost, slow and second-rate NBN which is now being rolled out is going to be a major handicap.

But there may be more to come. In the AFR on 4 December 2015, Andrew Clark said ‘the Turnbull government is in discussions with large telecommunications companies about selling large chunks of the government-owned NBN, including its huge hybrid fibre cable, copper and fixed line networks. A combination of the government’s dire fiscal position and criticism of the progress of NBN is fuelling the decision to engage in what would in effect be the biggest privatisation since the Howard government offloaded Telstra.’

Could this be an attempt to bury the NBN debacle before the final bills come in?

Godwin Gretch was an error of judgement without serious national consequences But the errors of judgement on the NBN have profound national consequences.

In all this sorry mess Jason Clare has gone missing in action.

The Prime Minister and his government are welcoming us to the ideas boom. Showing a great sense of timing the innovation statement was made almost at the same time that Atlassian was listing on the NASDAQ. The Statement points to Atlassian as being valued at over US$3 billion. Today the company is valued at close to US$6 billion making billionaires out of its founders Mike Cannon-Brooks and Scott Farquhar and millionaires out of many of their co-workers.

Perhaps it is true that there has never been a more exciting time to be an innovator in Australia. But as the Atlassian example demonstrates, becoming an overnight sensation has taken them 14 years of effort.

With the long running resources boom having passed its peak and commodity prices tumbling, Australia needs to make a transition to a different kind of economy that will be driven by services and high value added manufacturing. Success in these areas is based on innovation.

Prior to the recent change in Prime Minister there was no great sense of confidence that the transition could be made without Australia going through a rough period with low or even perhaps negative economic growth. Part of the reset brought about by Malcolm Turnbull’s government has been to build confidence in Australia’s ability to compete and succeed in the emerging global economy whose features are being redrawn by waves of disruptive technological change, new businesses, new business models and new supply chains.

The innovation statement has been well received with the main quibbles being about its size compared to the opportunities and challenges ahead and the feeling that some are being left out – the statement is primarily perceived as being about start-ups and new business formation and heavily based on STEM skills which doesn’t leave much of a role for the humanities.

For the old hands there is a bit of sense of déjà vu. Haven’t we lived through a number of high profile innovation statements over the last 20 years but in some way the challenges remain the same. For example, the one put out by the Keating Government in December 1995 spoke about Australia adding value to the IP we create. Even more notable was the innovation statement of the Howard Government in January 2001 Backing Australia’s Ability which provided $2.9 billion over 5 years.

The question arises: what is different this time? Is there really something new going on or is this just another worthy effort that will be forgotten in 5 years?

The Innovation Statement

There is about $1.1 billion in initiatives over 4 years provided in the innovation statement. The initiatives are spread across 25 individual measures.

The National Innovation and Science Agenda focuses on four points:

1. Culture and capital
2. Collaboration
3. Talent and skills
4. Government as an exemplar

As pointed out, the Agenda comes on top of the investment of around $9.7 billion in research and development in 2015-16.

The measures that have received the most media attention are those relating to start-ups. These range from new tax breaks for early stage investors who will receive a 20% non-refundable tax offset based on the amount of their investment as well as a capital gains exemption, to reform of the insolvency laws, to the establishment of two funds designed to assist start ups: the new $200 million CSIRO Innovation Fund and the new Biomedical Translation Fund to co-invest $250 million with the private sector.

Less attention has been given to the additional commitments for building world-class research infrastructure. These measures are important and give greater long term funding certainty. Over the next decade $520 million will be provided to the Australian Synchrotron, $294 million to the Square Kilometre Array radio telescope project while the National Collaborative Research Infrastructure Strategy will receive $1.5 billion.

Other measures involving financial commitments are included but arguably of greater importance are the changes that have been introduced in the governance of innovation. One of the key concerns has been the tendency for instability in support arrangements for innovation and science and the lack of real priority accorded to these areas. An important goal should be to ensure that all arms of government are singing from the same hymn sheet and that the music is not changed mid stream.

A Cabinet Committee for innovation and science will be established chaired by the Prime Minister. A new independent statutory authority, Innovation and Science Australia, is also being established supported by a chief executive officer accountable through the Industry Minister to the Cabinet Committee. One of its first jobs will be to review the R&D Tax Incentive to improve its effectiveness and integrity.

Importantly, the innovation statement makes clear that the Government will be open to adapting and changing course if things don’t work.

The Ghosts of Innovation Statements Past

Australia has had quite a number of innovation statements over the last 20 years or so. Rather more, if we take into account the introduction of the 150% R&D Tax Concession in 1985,the Cooperative Research Centres program in 1991 and various attempts to kick start a venture capital sector.

There has been a longstanding recognition that while Australia performs reasonably well in terms of its support for public sector research in the universities and bodies like CSIRO, the return on such investment when measured in terms of the creation of technology intensive businesses based on Australian developed ideas has been less impressive.

The 1995 Keating Government statement on innovation provided about $400 million over four years for a range of measures designed to strengthen Australia’s innovation and science capability. Like the recent innovation statement, the measures supported both the commercialisation of ideas and the science base itself. About $64 million was earmarked for major investments in science facilities. At the time the Australian government was spending about $3.5 billion on support for R&D.

Perhaps as a case of history repeating itself, the then leader of the Opposition claimed the Keating innovation statement was full of ideas stolen from Coalition policy. Perhaps in innovation policy there is something to be said for being a rapid adopter. It has considerable historical precedent.

The next major innovation statement came in January 2001 in the form of Backing Australia’s Ability delivered by the then Prime Minister John Howard. In the statement the government committed $2.9 billion over 5 years to a range of innovation and science initiatives.

The initiative for the statement came from the Innovation Summit held in 2000 in response to urging by the Business Council of Australia who at the time were seeking the restoration of the 150% R&D Tax Concession. While they did not get the answer they were looking for, the government did introduce a wide ranging set of spending commitments in innovation and science. One of the more important, accounting for $736 million, was the doubling in ARC grants to match the earlier decision to double NH&MRC grants.

Reflecting the increasing awareness of the importance of new developments in communications and IT for future economic growth, the National ICT Authority was established.

Two further innovation statements much closer to us in time should be mentioned. Both in their own ways reflected the thought that eco-systems are increasingly important to success.

First, the Gillard Government ‘s “A Plan for Australian Industry and Jobs – Industry and Innovation Statement” of February 2013 which set aside $1 billion for the establishment, amongst other things, of a number of industry precincts.

Second, the Abbott Government’s Industry Innovation and Competitiveness Agenda of October 2014 which allocated about $200 million to a number of measures including the establishment of 5 growth centres which was its centre piece. The language around the statement was in terms of improving collaboration between industry and researchers and lifting commercialisation.

The Business Council of Australia played an important role in preparing the ground for the growth centres initiative.

What is different this time?

While a case can be made that over an extended period the basic objectives of lifting Australia’s innovation performance and building the science base have remained, and hence a lot of the surrounding political rhetoric sounds similar, the reality is that the circumstances facing Australia and the global economy in which it is placed have changed a lot requiring policy settings themselves to change.

What are some of these realities to which policy makers have had to respond?

By and large, Australia has not been a leader in the formulation of policies for innovation and science. Individual initiatives have achieved international recognition (eg the CRC program) but on the whole these have been notable exceptions. As the globalization process has progressed so has Australians awareness of what other countries are doing in these fields. Notable examples in recent times have been the set of innovation policies introduced by the UK Government which have strong echoes in Australia’s recent decisions. The Growth Centres owe a lot to the Catapult Program and the tax breaks for early stage investors to the Seed Enterprise Investment Scheme.

Governments in Israel and Singapore have placed a huge emphasis on creating an environment supportive of start-ups. Again, Australian policy has drawn on their experiences as knowledge of them increased.

The potential impact that a more successful approach to encouraging start-ups can bring has been brought home by some spectacular examples such as that with Atlassian which have received very wide media exposure. Start-ups are no longer seen as an interesting but relatively small phenomenon. Much of the growth in the market value of listed enterprises in China is associated with companies like Baidu, Alibaba and Tencent – all IT based companies of recent origin.

Successful policy generally requires that it is running with the grain of economic developments rather than against it. Australia is now starting to see enough examples of successful tech-based start-ups to break through the recognition gap both of entrepreneurial inclined young people and parts of the capital market. A serious effort will be made to support the needed cultural change in terms of the toleration of the risk of failure. While the direction of earlier innovation statements was broadly right, important parts of the underpinnings for success were lacking. The innovation statement has the powerful advantage of building on underlying momentum and giving things a strong additional push.

It is not perhaps something the media has picked up on, but the fact that the Turnbull innovation statement includes important supporting governance arrangements is different from previous experience and gives greater confidence in steadier and more predictable policy making. Turning support on and off is highly disruptive.

People are always important and on this occasion it is notable that key people such as the Chief Scientist, Alan Finkel, the CEO of CSIRO, Larry Marshall, and the Chair of Innovation and Science Australia, Bill Ferris, all have a strong background in new business creation and financing.

All things considered, a case can be made that this time it may well indeed be different.

What lies Ahead?

Innovation and science are now seen on both sides of the political divide as crucial to the successful transition of the Australian economy and to lifting productivity. Hopefully that will result in a workable, if not a high, degree of bipartisanship.

The innovation statement makes it clear that close attention will need to paid to the initiatives that have been taken to ensure that any shortcomings are addressed and that initiatives that are failing to meet their objectives are closed down. As in most areas of policy, a more evidence-based approach is needed.

While the focus of this statement is on start-ups (although it is recognized that some important things have been done to give greater certainly to longer term investments in the research infrastructure), at the end of the day start-ups are by no means the whole innovation story. Attention will need to be continued to be directed to improving the innovation performance of existing businesses. Non science elements such as design should perhaps be given greater attention as they are in successful innovation based economies.

The innovation statement is a valuable start and a strong expression of direction. This is not to be underestimated as we know that industry policy is about 90% psychology. But it should not be seen as the last word on innovation and science, especially at a time of very raid change. More will almost certainly have to be done if Australia is to be globally competitive.

In a difficult fiscal environment there will no doubt be times when parts of government are tempted to ensure innovation and science programs bear there share of the savings burden. This will be a real test of the new governance arrangements and will be a real indicator of whether things this time really are different.

David Charles is a Director of Insight Economics. He was formerly Secretary of the Department of Industry and Commerce from 1985 to 1990. He co-founded the Allen Consulting Group in Melbourne. 

One useful outcome from the Council of Australian Governments (COAG) meeting on 11 December, was its acknowledgement of the “emerging budgetary pressures across all levels of government, particularly in the health sector.” This acknowledgement must be the critical starting point for any serious consideration of tax reform.

Quite naturally it was equally acknowledged that government expenditures must be efficient. However, the understandings reached at both the Treasurers’ meeting and at COAG, seemed to be that action on the revenue side of government budgets could also not be avoided.

Prior to these two meetings the principal direction for tax reform under consideration seemed to be to increase the GST revenue by some combination of increased tax rates and/or base broadening by removing some of the presently untaxed expenditures. Interestingly the meetings agreed to widen the scope of the options to include:

• Further consideration of the States own revenue raising efforts, and
• Granting the States access to the personal income tax revenue

The implications of each of these three strategies for raising additional revenue will be examined below.

State Government Revenue Raising Capacity

Many State taxes are inefficient and ideally would be removed. The States do, however, have two major tax bases – land taxes and payroll taxes – from which revenue can be efficiently raised without much if any damage to economic activity and development. This is because:

• Land is the ultimate immovable factor of production; increased taxation of land will not lead to any land being withdrawn and redeployed elsewhere; while
• Payroll taxes may appear to be a tax on employment, but in fact payroll taxes are not very different from a value added tax, as wages account for over half of value added, and therefore the incidence of payroll taxes (in terms of who finally bears their cost) is likely to be broadly similar to the GST.

With a good deal of justification, the Australian Treasurer, Scott Morrison, argued that the States need to improve their revenue raising efforts with both these taxes before the Australian Government would agree to augment the States’ revenue further. In particular, the States have competed with each other to exempt businesses from their payroll tax and to lower the rates. As a result this tax is now raising much less revenue relative to wages than it used to when it was passed over to the States by the McMahon Government more than 40 years ago. In addition, the coverage of the State land taxes is typically very low, with most properties exempt, so again the States could do more to help themselves before asking the Australian Government to increase its revenue raising effort.

The GST

As I argued in my posting on this blog (dated 10 December), “Ultimately the problem for the Australian government in relying heavily on the GST to raise extra revenue is that [under present arrangements] the proceeds only flow to the States”. So if the Australian Government wants to share the benefits of that extra GST revenue it necessarily would have to make offsetting cuts to the other main form of financial transfers to the States – namely the tied grants paid to the States by the Australian Government. Other things being equal, the bigger the increase in the GST revenue passed over to the States, the bigger the likely cuts by the Australian Government in its tied grants.

For the most part, however, these tied grants are closely related to the Australian Government’s own responsibilities and reflect its own priorities. Furthermore, the politics are not straight forward either, as there would be many interest groups who would be most concerned if the Commonwealth were to withdraw from funding their preferences.

Indeed, a relatively recent and interesting example, of these problems occurred when the Keating Government agreed with the States on a separation of road funding responsibilities. Instead of the previous shared responsibility for road funding, under this reform the States became solely responsible for all road funding other than designated National Highways, which were the sole responsibility of the Commonwealth. Immediately the States started lobbying to have more of their roads transferred to the Commonwealth as designated national highways. Then shortly after the Government changed in 1996, the National Party succeeded in abandoning this separation of responsibilities so that it could get back into its traditional business of doling out money to rural constituencies for their roads.

In addition, the States have a further concern about their reliance on funding from the GST. This is because the GST has not proved to be the “growth” tax that was expected when it was introduced. First the coverage of the GST is just under half of total consumption, and household expenditure on the other excluded consumption items, notably private spending on health, education and financial services, is growing faster. Second, over the last decade household savings rates have increased (albeit from a zero base), and consequently household consumption expenditures have grown more slowly than incomes; although with currently falling incomes this might be about to change.

Sharing Income Tax and GST Revenues

Given these difficulties with relying heavily on an increase in the GST to remedy government budgets, it is perhaps not surprising that another revenue raising option was proposed to assist in meeting all governments’ future fiscal challenges. This latest strategy would involve:

1. The Australian Government increasing the GST and keeping some or all of the additional revenue
2. The States obtaining some or all of the extra revenue that they are seeking by gaining access to a share of the income tax, and
3. Some or no cut to tied grants depending upon how much revenue is raised for the Commonwealth to retain and relative to the States by 1 and 2 above.

On the face of it, this proposal represents a neat pragmatic solution to some of the various political problems involved in relying mainly on an increase in the GST to resolve future budget problems. In particular, it is easy to see why it would appeal to the States as it would seem to provide a stronger growth in their future revenue, while from the Australian Government’s point of view it would most probably require less reduction in its tied grants.

On the other hand, this strategy would involve for the first time in more than seventy years, two levels of government sharing the major sources of revenue – the principal taxes on expenditure and income.

This revenue sharing would completely contradict the principles of responsible and accountable government. It would most probably result in a return to the annual wrangle between the Australian Government and the States over their respective revenue shares. Furthermore, whenever there was a perceived deficiency in State government services, the States would be able to claim that they had insufficient revenue and needed a bigger share of either the GST or the income tax. In other words, the States would be able to argue that they should not be held accountable for poor State government services. Instead the States could blame the Australian Government on the grounds that the Australian Government was preventing State governments from accessing sufficient revenue.

Most importantly, if fiscal policy is to retain its effectiveness for counter-cyclical purposes the Australian government must retain its flexibility to unilaterally set and change the income tax rates – reducing them to ward off recessions and increasing them in a boom. Furthermore, with interest rates testing new lows there is a risk that monetary policy may be less effective in future and that reliance on fiscal policy will therefore need to increase; indeed the evidence from a number of countries is that monetary easing since the GFC has mainly resulted in increasing asset prices, but has not produced the hoped for increase in real activity.

In this context it also should be remembered that experience suggests that tax variations are much more effective in moderating fluctuations in economic activity than variations in government expenditures. Essentially history shows that consumers respond more quickly to variations in income tax, and that there are especially long lags before decisions to invest in more infrastructure start to impact on the economy. In addition, it is easier to make temporary variations in tax rates which can subsequently be reversed, whereas many form of government expenditure are difficult to reverse after the economy recovers.

The use of the income tax to moderate fluctuations in economic activity means that the revenue from this source is more variable than other revenue sources. Furthermore, this is still true even if tax rates are not varied, although in that case the variations in income tax revenue would be less.

A key issue would be whether the State budgets could cope with this amount of volatility in one of their key revenue sources. A risk with any sharing of income tax revenue is that the States could spend up in the boom years and return cap in hand to the Australian Government seeking extra revenue in the lean years. Of course, any development along these lines would be the opposite of what would be required by a counter-cyclical fiscal policy.

Conclusion

In brief, the options for the Australian Government and the States to share tax bases, and especially the income tax, would represent a triumph of pragmatism over principle. Such a triumph of pragmatism is not unknown in Australian policy development – indeed some may consider it part of the Australian policy genius.

In the present instance this pragmatism may help resolve some difficult political problems, but in terms of effective federalism arrangements it would represent a major step backwards. Not only would there be no clear assignment of many expenditure responsibilities, but if governments also share their revenue bases the accountability for financing all State government services would also be muddied.

It would be particularly strange for a Liberal Government to adopt revenue sharing along these lines, as historically the Liberals have been more concerned about separation of roles and responsibilities of the different level of government than Labor. And any national government must be concerned about any weakening of its capacity to meet one of its greatest responsibilities – to ensure economic stability and growth.

Thus effective tax reform would still seem to be some way off. The end result will almost certainly represent a compromise involving a mix of options, including measures that were not on the COAG agenda, such as broadening the income tax base by reducing concessions.