Dog Days: Australia After the Boom (Redback)

by Garnaut, Ross

  Budget data was presented in new ways that allowed informed discussion of government finances. Forward estimates of revenue and expenditure were published from the mid-1980s. Early in the life of the Howard government a ‘Charter of Budget Honesty’ was introduced that required half-yearly release of budget estimates, with another such update to be made available by the secretaries for Finance and Treasury within ten days of an election being called.

  The reform agenda covered the corporatisation of many public enterprises (which were required to operate independently in a competitive environment) and eventually the sale of almost all commonwealth businesses. Some states followed suit with the privatisation of utilities. Privatisation was preceded by careful work on regulatory policy in transport and communications. This was open to scrutiny as a basis for public discussion, and provided the foundations for a subsequent extension of competition policy.

  The reform agenda included a large increase in investment in education, training, research and development. The proportions of Australians completing high school and tertiary education increased from below to above the average for developed countries.

  There were also changes in taxation and provision of public services to support more equitable access. Most important were Medicare and support for low-income families with children. (The latter was of immense social significance, although derided for falling short of Prime Minister Hawke’s election statement that after its introduction no Australian child would live in poverty.) The cost of these was partly covered by income and asset testing of social security payments.

  Labour-market reform in the early 1990s increased flexibility in setting wages and employment conditions. This was taken forward moderately by the Howard government in 1996, long before its step too far after the 2004 election.

  There was one major move away from economically rational policies in 1999, which in some ways was an augury of the end of the Reform Era: a cut in the capital-gains tax rate, which reopened old opportunities for tax avoidance.

  Most of the productivity-raising reforms were fiercely opposed by interests that stood to lose from them, by influential parts of the press and by majority popular opinion. Every one of the changes in isolation was politically difficult and offered an opportunity for rival parties to win short-term gains through opposition.

  THE HELPFUL MYTH OF BIPARTISAN SUPPORT

  A mostly helpful myth has developed that the Reform Era was characterised by bipartisan support for change. The reality is more varied and complex. The financial liberalisation can be fairly characterised as having had bipartisan support, most importantly from the shadow treasurer and later leader of the Opposition, John Howard. Cutting back protection had the active support of a minority of Liberal federal parliamentarians through the 1980s, but not comprehensive support until the elevation of John Hewson to the leadership after the 1990 election. Hewson accepted the recommendation in Australia and the Northeast Asian Ascendancy that Australia should remove all remaining protection by 2000. This provided political support for Prime Minister Hawke’s March 1991 Statement.

  By contrast, the Opposition made rejection of the government’s measures to expand the tax base, and to target pensions more tightly, central planks of its 1984 election platform.

  The reality was less complex when the Howard government took office in 1996. The Labor Opposition opposed moderate further steps towards a more flexible labour market in 1996. It gave support to cutting the capital-gains tax rate in half. It then opposed fiercely the government’s broader package of taxation reform incorporating a GST. Australia entered a period of policy populism in which bipartisan support was common for measures that favoured private and sectional interests, but rare for productivity-raising reform.

  REFORM REQUIRES A NEW POLITICAL CULTURE

  The quality of political leadership on both sides of the Parliament was crucial to the success of the Reform Era. From the beginning, the Hawke government sought to reorient Australian political culture. Hawke saw the disorganisation of the Whitlam Cabinet and its tendency to surprise the public with new policy announcements, and the social tension and conflict under Fraser, as causes of policy failure. He was determined to govern with order and without surprises, and with the support of as wide a spectrum of the community as possible. ‘Cooperation’ and ‘consensus’, ‘shared information’ and ‘shared understanding’ were guiding concepts.

  The Hawke government came to office with an ‘Accord’ with the trade union movement. The parties to the Accord were committed to close cooperation to achieve high employment and strong growth. It was understood that success would require incomes restraint in the early years, which was to be secured within a framework of fair distribution.

  A National Economic Summit Conference within the first two months of the new government brought together business, trade union and social welfare leaders, and provided them with the bureaucracy’s assessments of the economic outlook and policy choices as a basis for wider discussion.

  Successive speeches of the prime minister in his first year of office emphasised the importance of trade and financial liberalisation, and productivity-raising investment in education, research and development, while tying them to opportunities for a more internationally oriented economy that would take advantage of the growth of East Asia in general and China in particular.

  The breadth and depth of the agenda required the decentralisation of ministerial leadership. Here the prime minister’s leadership style suited the demands of the reform programme. In the presence of the relevant advisers in his office and often from his department, Hawke would discuss policy issues with ministers and lay out objectives for the portfolio in major speeches. The ministers would then be given considerable responsibility for carrying out the reforms, consulting regularly with the prime minister and his office, and taking submissions to Cabinet when proposals had been defined.

  The exceptional quality of ministers in the Hawke Cabinet made the depth and breadth of the reform programme and the decentralisation of responsibility possible. Hawke used his own personal staff and department effectively. The Department of the Prime Minister and Cabinet comprised public servants of high quality, many of whom had backgrounds in policy departments. Its roles were to coordinate the prime minister’s relations with other departments on policy matters, to ensure that he had access to the advice that other departments were providing to their ministers, and to provide separate advice on important issues. Hawke used a small personal policy staff productively – in the early years, a chief of staff with deep experience in the Department of Foreign Affairs and the Treasury, and with confident access across the public service; one economic adviser on the main policy issues (the author until September 1985); one foreign affairs adviser; two political advisers to maintain contact with the caucus and party; and an effective media office. Other specialist policy officers were added later, including an adviser on the environment.

  There was also administrative reorganisation to support analysis and public education for reform. An Economic Policy Advisory Council (EPAC) continued the work of the Summit. An EPAC secretariat undertook research on reform issues, drawing on the resources of the public service and making papers available to the public. After the 1984 election, a Cabinet Committee on Long-Term Economic Growth was established, with a brief to develop a programme of far-reaching reform.

  Through the mid-1980s a political culture emerged in which it was possible to undertake massive change in policy with large implications for economic structure that inevitably imposed costs on some groups. Vested interests still sought sectoral advantage, but accepted there was no point in putting forward a policy that could not be supported by rigorous analysis on public interest grounds. The Business Council and the Australian Council of Trade Unions declined to support individual members’ positions that could not be defended rigorously on such grounds. Economic arguments for policy reform in the national
interest became familiar to the public. The treasurer, Paul Keating, quipped that the galahs in every pet shop were squawking about micro-economic reform.

  Sectoral business organisations, beginning with the National Farmers’ Federation, pursued their own objectives by stressing the contribution that the changes they were seeking made to the public interest. They reduced demands that could not be defended credibly in this framework. Different political groups watched over the intellectual quality of contributions by others to the public discussion; to make a case, an interest group required not only a supporting argument from an economist, but also a credible and logical argument that could stand up to professional scrutiny.

  When the government proposed new steps in reform, these were already familiar to many in the community, so that there was a base for wider public education, and opposition was constrained by knowledge. It seemed that a new political culture had made the search for more productive ways of doing things an integral part of Australian life.

  CHAPTER 3: THE GREAT AUSTRALIAN COMPLACENCY

  ‘There is a good chance that Australians are about to receive the biggest economic shock of the last several decades,’ I said to the Australia Unlimited Conference in May 1999. ‘The evidence is gathering, and may soon be too strong to be denied, that Australians in 1999 are living through the third period in the century since Federation of sustained economic prosperity.’ Prime Minister Howard liked the remarks and referred to them many times inside and outside Parliament over the next few months.

  Three years later, my opening address to the first Economic and Social Outlook Conference at the University of Melbourne told a story of Australia’s victory late in the twentieth century over the inward-looking policies that had held us back from Federation until the 1980s. ‘The greatly improved economic performance of Australia through the period of internationally oriented reform,’ I said, ‘provides a basis for an optimistic view of Australia’s 21st-century prospects.’

  I wasn’t unqualifiedly optimistic: ‘Australia is likely to experience all three of continued economic reform, equitable distribution and strong economic growth, or none of them.’

  The prosperity kept growing. It is still present in the latest data available as this book goes to print in October 2013. But the sources of growth changed suddenly from the turn of the century. We gave up reform and found that we had given up productivity growth as well. Executive pay, profits and wages grew at an accelerated rate and employment kept expanding because fortuitous and temporary events sheltered us from what would otherwise have been the consequences of the end of productivity growth.

  This turned out to be an unfavourable environment for reform-oriented political culture. The easy success in the economy went along with a decline in public support for rational economic policy. Interest groups became more overt and effective in applying pressure to the policymaking process. These developments made productivity-raising and stability-enhancing reform in the public interest a historical relic. Everything that interest groups demanded in the way of new policy and everything that governments did on the economy was still described as ‘reform’, but few of the proposed changes had much prospect of getting us to do things more efficiently.

  By 2004, I was drawing attention not to the surprise of continued strong growth, but to the vulnerability of the growth that Australians were now taking for granted. ‘So there is a considerable chance,’ I said in my Melville Lecture in December, ‘that the current vulnerability to large external or domestic shocks will continue … We would be wise to reduce vulnerability in the period ahead … It would help if fiscal policy were now tightened considerably.’

  From 2004, I was describing the period following the Reform Era as the Great Australian Complacency. In my presentation to the Economic and Social Outlook Conference in March 2005, I noted that both the reform and the rapid productivity growth of the 1990s had stopped.

  Despite the stagnation of productivity, economic growth had continued for several years after the turn of the century because our banks were borrowing at unprecedented rates in international markets to lend for housing and consumption. We would have to return to the hard work of reform or face the even harder reality of falling living standards when international markets called a halt to our growing debt, and commodity prices reverted to something closer to the levels of the late twentieth century.

  ‘As a community we accepted the excellent economic performance as evidence that we had changed enough,’ I said in that same presentation in early 2005.

  Our community has never been comfortable with the application of professional economic analysis to policy choice – so-called ‘economic rationalism’ – but for a while, from 1983 to the turn of the century, had been persuaded of its necessity. Now Australians have reverted to their traditional preference for having popular politics in command of resource allocation and economic policy-making. The links were forgotten between earlier economic reform and the contemporary prosperity.

  Economic analysis was banished to the periphery of many areas of policy-making. Endorsement by business interests and economists hired to argue a case for politically preferred policies again became more important than transparent analysis … The return to populism in economic policy-making has had bipartisan support at federal level …

  The Great Complacency began to be challenged only from 2013, after more than a year of declining employment relative to population, through public discussion of the end of the China boom. Over the next couple of years, we will learn what has replaced it.

  The story of the Great Australian Complacency is as important as the story of the Reform Era. Like the Reform Era, the Great Australian Complacency has its origins in the relationship between the state of the economy and ideas about how the economy works; in political leadership and the dynamics of electoral competition; in the wider political culture’s resistance to or support for sectional pressures for policy change; and in the preparedness of people in the independent centre of the polity to make personal efforts in the public interest, along with the quality and effectiveness of those efforts.

  THE GST AND THE END OF THE REFORM ERA

  The Australian economy grew more slowly during the Asian Financial Crisis of 1997–98. It would have entered recession but for the falling dollar and the decision of the Reserve Bank not to raise interest rates despite the inflation coming from a falling dollar.

  The introduction of the GST was part of a larger set of taxation changes in 2000 that increased consumer and business uncertainty, even though the ‘compensation’ for the tax exceeded what it brought in by a full percentage point of GDP (the equivalent of $15 billion today). Australian GDP fell in one quarter and remained subdued for a year.

  For want of a better one, this book applies the standard definition of a recession: two successive quarters of declining output. This definition sets a low bar for avoiding recession in Australia because of our growing population. Real output per person can fall for several quarters without attracting the label of recession.

  The Howard government was under electoral pressure at the time the GST was introduced in mid-2000. The Coalition had won government in 1998 with a minority of the two-party preferred vote, and was well behind in the opinion polls leading up to the 2001 general election. It loosened fiscal policy beyond the massive overcompensation of the tax package itself, including through incentives for home ownership and ending indexation of the petrol excise. The new incentives for home ownership contributed to a boom in house prices, which emerged at the same time as similar developments in other English-speaking countries and Spain. The effects of the cut in petrol excise gradually accumulated over time until by 2013 it exceeded $5 billion dollars per annum. The 2001 election also gave rise to tax cuts and social security increases.

  WE SHOULD HAVE SAVED MORE

  After the year of subdued growth, economic output bounced back to over 3 per cent and mostly ov
er 4 per cent for the next several years. The higher growth was concentrated in housing and consumption. Household savings fell to near zero, despite large increases in income. The boom in domestic spending was accompanied by a large increase in the terms of trade from 2003, as China’s demand for resources gathered steam. As the extra revenue arrived, governments spent most of it in the form of tax cuts and increased transfer payments and other expenditure. This added to the debt-funded boom.

  The government maintained a surplus of about 1.5 per cent of GDP for several years. This was about the rate during the boom years of the late 1980s, which had turned out to be insufficient for stabilisation – and the early 2000s was a much bigger boom. The current account deficit rose to its highest ever share of GDP at around 6 per cent, despite export prices rising to historically high levels. This was funded to a considerable extent by offshore wholesale borrowing by the banks. High domestic spending and firm monetary policy caused the real exchange rate to rise markedly, which brought to an end the vigorous growth in services and manufactures exports that had been a feature of the Australian economy since the beginning of the Reform Era.

  While Australian incomes and employment were growing strongly, import prices were falling due to the rising dollar and cheaper consumer goods from China. Prices for domestic products increased by about 4 per cent per annum from early in the new century to 2013, making a massive cumulative contribution to the decline in international competitiveness.

  Australia had entered a domestic expenditure boom and rising real exchange rate, fuelled by foreign debt and high terms of trade. This set of economic changes had much in common with those in the early 1890s, late 1920s, early 1970s and late 1980s that had preceded collapse, followed by long periods of high unemployment and sluggish growth.