Is Australian privatisation making the economy less efficient?

Australian Competition and Consumer Commission chairman Rod Sims has stated that in his view many Australian privtisations have made the economy less efficient and led to prices in those markets being higher, not lower.

Privatisation is a supply-side policy and takes two broad forms, one is removing rules from a market (called deregulation) and the other is where government owned corporations are moved to private ownership (denationalisation). Denationalisation is usually accompanied by the breaking up of the monopoly power of the organisation concerned by allowing new firms in to compete with it. A classic case is in telecommunications where Telstra in Australia and BT in the UK had monopolies on providing phone services before privatisation.

The aim of privatisation from an economists perspective is to move the market back to one where increased competition drives down costs and so increases allocative and productive efficiency. Allocative efficiency is provided by firms trying to better meet the wants of consumers. 

Successful privatisations lower the barriers to entry (often through deregulation and denationalisation together). In addition to the efficiency gains there are also improvements in productive capacity, increasing the level of Aggregate Supply. 

Governments have another motive in privatisations. They want to raise money. They can use the money to cut taxes (popular) or reduce government deficits or debt. Rod Sims is accusing the government of putting this motive in front of the others and as a result harming the interests of consumers.

A classic case is the sale of Medibank health insurance. The Abbott government shamelessly allowed premiums charged by health insurance companies to rise quickly prior to privatisation to make the potential profits look more attractive and drive up the share price.

The Sydney Morning Herald covers the story here

This article has interest to both IB and VCE students. IB students will recognise it as an example of how poorly planned privatisations can create private monopolies and work against consumer interests and failing to deliver the hoped for gains. VCE students can use it as an example of supply-side policy and a legitimate criticism of such policies in Australia.

Headline inflation down, underlying inflation up

Yesterday the June quarter inflation figures showed that the CPI in Australia was running at an annual rate of 1%. That is well below the RBA target of 2- 3% on average over the business cycle. There is a wide expectation of further interest rate cuts, if not at the August meeting of the RBA certainly by the end of the year.

The figures, which are summarized below by the ABS, do disguise a rise in underlying inflation (that is with volatile items removed) has risen to 1.5% (from 1.4%). Underlying inflation does give a better picture of what is happening in the economy, but is still very low. Indeed these are the lowest recorded inflation figures for 17 years.

The question of the next move in monetary policy is dominating the press. Many argue that the RBA must lower interest rates to boost Aggregate Demand to avoid deflation and possible recession. However others, such as former RBA Board member Professor Warwick McKibbin, argues that moving rates to near zero (or zero in Japan) did nothing to help other economies as changes in rates at such low level has no significant effect on saving and investment incentives. 

The danger of very low rates lies in reducing retirement incomes and further distorting the housing market.

The ABC cover the story here

The article is of direct relevance to VCE students who must be aware of Australian inflation movements, the influences on the figures and the monetary policy response. IB students will find this useful as an example of inflationary pressures and policy response, they should also look at the use of inflation targets and pros and cons of monetary policy in a situation of low inflation/rates where 'conventional monetary policy' is ineffective.

Despite everything we know Australia can't shake protectionist instincts

Australia was built on the foundation of protectionism. In the early years of the colony and Federation large tariffs were placed on imports and Australian producers thrived. The practice continued until the 1980's without serious challenge.

The result of Australian protection was exactly as economic theory predicted. Short-term advantage and long-term harm. By the 1980's Australia was uncompetitive, produced low quality goods and vested interest groups from industry and trade unions demanded more not less protection.

Great progress was made after the Hawke government began to dismantle barriers and the benefits were seen in lower prices and greater variety for consumers. Australian industry competed or died. Short-term pain, but long-term gain.

It is particularly disappointing then that politicians revert to protection whenever it is easier to do so than dealing with the root cause of uncompetitiveness. We saw it when the carbon-tax was repealed in the 'why should we suffer' argument that let the rest of the world disadvantage itself by doing the right thing.  Now we see it with steel and shipbuilding.

The Productivity Commission has described the insistence on building the new Australian submarines in Australia using Australian steel as adding 30% to the costs of the project. The only justification is to keep jobs in Australia. They point out that this isn't the only areas that are getting regular, although often disguised, protection, with agriculture particularly benefiting.

The people paying the extra $15bn cost of the submarines are the taxpayer, (so much for reducing the deficit too), generally the consumer pays the extra price.

The ABC covers the story here

This article is useful for VCE students as it represents examples of current trade and supply side policy. It also represents a significant charge on government expenditure and so influences the Budget. IB students will be able to use this as an example of (shameless) protectionism and an illustration of the pros and cons of undertaking such a policy.

'Remove dole payments after sixth months' call presumes a cause

A Queensland LNP MP is calling for unemployment benefits to be ceased to people under 45 after six months. The aim is to reduce government spending so it can be given to those with large superannuation funds instead - a reason sadly beyond our remit here.

The MP suggests that if somebody knows they will cease to get unemployment benefit then they will indeed get a job. This is of course assuming that those who are unemployed are voluntarily unemployed.

Since the 1980's governments have worked to improve incentives to work through supply-side policies. This has included lowering marginal income tax rates, so that people keep more of what they earn, making working more attractive. Governments have also reduced the real value of unemployment benefits to again make work more attractive relative to unemployment.

The theory is often expressed in terms of 'search costs'. Lowering income tax rates and reducing unemployment benefit makes the cost of 'searching' for new work more costly (in an opportunity cost sense) and so workers will therefore accept a new job more readily, probably one which does not match their ideal job, but it gets them back to work. This would be seen as an increase in economic efficiency.

There are a couple of issues with the MP's proposal. Firstly there is the tricky issue of involuntary unemployment (caused by structural or cyclical factors). The proposal will strand those who genuinely cannot find work. They will most likely have to move on to other benefits because their income is so low, meaning the savings to government will be minimal anyway.

Secondly there is the impact on the distribution of income. The unemployed are, by definition, the lowest income earners and this proposal makes them even worse off. The people who would benefit from the MPs proposed use of money saved would be from the higher income deciles, those with large superannuation savings. The effect on the distribution of income would be to make it more unequal (a higher gini co-efficient).

The New Daily covers the story here

This story has application to the goals of macroeconomic policy and their conflicting nature (equity vs efficiency). Both IB and VCE students can use this as an example of policy.

If you needed proof confidence is important, look no further than the UK

The decision of the UK to leave the European Union (EU) was widely predicted to be an economic disaster. Therefore we shouldn't be surprised that businesses and consumers have reacted to the move based on the uncertainty this situation has created.

A survey recently published survey shows there has been a sharp slowdown in orders, which will work through the economy to mean lower output. The slowdown is the worst since the Global Financial Crisis.

Both Consumption spending and Investment spending, both components of Aggregate Demand (AD) are partly determined by household and firms confidence (sentiment). Put simply if households are worried about future income they will spend less and save more now. Firms will not invest as much if they are uncertain about future prospects. Brexit has handed out one huge dollop of uncertainty and households and firms are reacting exactly as economic theory predicts.

The effect is to reduce both Consumer and Investment spending and AD will fall.

 

The diagram shows the result of a fall in business and consumer confidence. Inflationary pressure is reduced and this may well lead to the Bank of England having to cut interest rates and engage in more quantitative easing as the UK inflation rate is already well below target. Also with lower output UK economic growth will falter and the possibility of recession and higher unemployment will mean the government might have to allow the budget deficit to increase. 

The Bank of England has already indicated that they will take an accommodating stance  and the new British Chancellor (Treasury minister) has said the aim of returning the government budget to balance by 2020 will be abandoned. 

The BBC report on this story here

VCE students can use this to apply their knowledge of budgetary policy and note the link to monetary policy for the 'policy mix'. For IB students this is an excellent example of fiscal and monetary policy operation using the AD/AS model to analyze the consequences and responses. Not that there will be both discretionary and automatic responses from fiscal policy.

Transfer pricing. Is it a crime?

A leading authority on corporate accounting has said that the Australian government might be loosing a billion dollars a year in lost tax due to the way multinational firms operate.

When firms operate in more than one country they can often decide where to report their profits by using transfer pricing. Not surprisingly when given this option firms decide to report their profit in the country with the lowest tax rate.

The example of Starbucks is well known. Starbucks sell coffee in many countries. However they report a lot of their profits in Switzerland. This is because the Swiss subsidiary of Starbucks sells the coffee to other Starbucks companies at a high price. The Starbucks in other countries therefore make very little profit on the coffee. 

Of course the coffee never really enters or leaves Switzerland. The Swiss company simply handles the processing of invoices. Starbucks benefit from the low Swiss profit tax and overall the Starbucks corporation gets to keep more of its profits.

George Rozvany goes further by saying the big four accounting firms assist multinational companies in this legal, but unethical practice. This is a different point, but the way the accounting firms operate is certainly open to criticism.

The implications for Australia is that they are losing tax revenue. With most governments running budget deficits that's a pressing issue. 

Is transfer pricing unethical? That's a good question. Many think it is, but if it was banned in Australia would this lead to lower overseas investment and so affect growth and employment adversely?

When talking about the benefits of free trade and the free movement of people and capital, we also have to consider some of the costs.

The ABC cover the story here

This story has direct relevance to Australian Budgetary policy, It also applies to International Trade and Fiscal policy for IB students.

Australian May Unemployment

With all the election hype the unemployment figures for May were released last week and little attention was paid to them. They show an interesting trend.

The full figures are given below in the link, but as can be seen employment is up (very slightly) and unemployment down, although the unemployment rate stayed at 5.7%.

What you should notice is that employment is rising at a slower rate. The figures are now clear, each month is seeing a smaller rise in employment. We can see confirmation of this in the number of job vacancies, which fell from 172,600 to 169,400. It might not seem much, but that is the worst fall since 2013. It means that fewer new job opportunities are arising.

So far this is not causing a huge crisis. This is because the participation rate is falling and decreased by 0.1 points to 64.8% last month. A lower participation rate has resulted in fewer job seekers per vacancy than there would have been. The number of unemployed people today per vacancy stands at 4.2, but if the participation rate had stayed at its November level that would now be 4.5 people per vacancy.

 

The moral of this story? The headline figures can look okay, but looking deeper allows us to see that the outlook is not as good as it was and there may yet be an unemployment problem for Australia around the corner.

The full ABS figures for May are here

The figures on Australian unemployment are of direct relevance to VCE students. However the relationship highlighted in this article between the participation rate, vacancy rate and unemployment rate is relevant for IB and VCE students. It shows how there are always more questions to ask about data.