Archives for posts with tag: global recession

How would we know if the labour market was ‘flexible’? One way is to look at how the jobs market responds to economic shocks. During the GFC, when the Howard Government’s labour laws were still in effect, the number of hours worked in Australia fell while the number of people in employment didn’t fall.

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Inspired by this analysis of the jobs crisis in the US, I thought I’d have a look at how Australia compares to the US and Europe.

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A new IMF Working Paper on the role of inequality in generating financial crises has some interesting findings:

[The paper] explore[s] the nexus between increases in the income advantage enjoyed by high income households, higher debt leverage among poor and middle income households, and vulnerability to financial crises. This nexus was prominent prior to both the Great Depression and the recent crisis. In our model it arises as a result of increases in the bargaining power of high income households.

The key mechanism, reflected in a rapid growth in the size of the financial sector, is the recycling of part of the additional income gained by high income households back to the rest of the population by way of loans, thereby allowing the latter to sustain consumption levels, at least for a while. But without the prospect of a recovery in the incomes of poor and middle income households over a reasonable time horizon, the inevitable result is that loans keep growing, and therefore so does leverage and the probability of a major crisis that, in the real world, typically also has severe implications for the real economy.

More importantly, unless loan defaults in a crisis are extremely large by historical standards, and unless the accompanying real contraction is very small, the effect on leverage and therefore on the probability of a further crisis is quite limited. By contrast, restoration of poor and middle income households’ bargaining power can be very effective, leading to the prospect of a sustained reduction in leverage that should reduce the probability of a further crisis.

John Howard’s biographer, David Barnett, has a piece in the Drum today arguing against the use of fiscal stimulus in recessions and against Keynesianism in general. Setting aside the philosophical and theoretical arguments he makes, I’d like to examine his empirical claim, namely that fiscal stimulus has not worked, and the somewhat peculiar methodology by which he comes to this conclusion.

Barnett writes:

“It hasn’t worked…. In Australia, unemployment has just gone up, instead of down. At 5.4 per cent it is more than a percentage point higher than it was when the Howard-Costello government went out of office. That is around another 130,000 people without jobs.”

He knows, or should know, that the appropriate comparison isn’t between what was and what is, but rather between what is and what otherwise would have been. To assess the efficacy of a particular course of action we need to know the counterfactual: what would unemployment be today if the government had not implemented its fiscal stimulus? Economists can and do differ about the answer to that question, but to evade it entirely by making a comparison between 2007 and 2010 and thereby imply that all other things remain equal is disingenuous at best.

Interestingly, though, Barnett seeks to establish a counterfactual of sorts by drawing a comparison with Canada. He praises the Canadian Government, saying “Canada did not stimulate. The Canadian government responded to the GFC by cutting back on its expenditure. Canadian exports rose”. Notice how he shifts the goal posts, using exports rather than unemployment as the metric to evaluate the efficacy of macroeconomic policy.

Nevertheless, his argument about Canada provides us with the opportunity to follow Barnett’s own chosen methodology by comparing 2007 (pre-crisis) unemployment with present unemployment and imputing the difference to a failing of public policy. To be clear, I think this approach is not particularly useful, but Barnett seems to be of the view that it is appropriate, so we will follow it.

If we follow this approach, we see that unemployment increased by a greater amount in Canada than in Australia, off a higher base, both in absolute terms and as a proportion of the labour force.

Unemployment rate – November 2007 Unemployment rate – October 2010 Number of additional unemployed people
Australia 4.5% 5.4% 141 700
Canada 5.9% 7.9% 417 500

So, on that measure, it certainly seems odd to suggest that a simple comparison of pre-crisis and post-crisis macroeconomic aggregates in Canada and Australia demonstrates the folly of fiscal stimulus.

But what if we accept Barnett’s suggestion that it is international trade that should be the barometer of policy success or failure? Well, our balance on goods and services (our exports less imports) looks pretty healthy to me:


Those of you who are not from Western Australia will be unaware of Paul Murray, and for that I envy you. Murray is like Paul Kelly without the sparkling wit and partisan neutrality. His stentorian prattlings fill the pages of the West Australian, managing to be at once infuriating and utterly boring.

Today he leads off his tedious screed with the following predictable quasi-secessionist burbling:

The productive parts of Australia gave Labor a big kick in the backside – but maybe not quite hard enough to dislodge it from office. Those parts reliant on Labor’s handouts – Victoria, Tasmania and South Australia – stuck firmly on the teat.

I don’t want to talk about his election “analysis” today, such as it is, but instead the WA hard-done-by-ism that underlies the quote above.

I am a bit sick of hearing about how WA pays more than its fair share and about how it’s the productive part of the country and the ‘Eastern states’ are just a big rust belt.

Do you own the ore?

I don’t understand what makes West Australians, particularly anyone other than the 79 600 people who work in mining, feel some sort of proprietorial pride at the mineral wealth under the ground in the State’s far north. I speak as someone born in Perth who lived there for 27 of my nearly 28 years. I never felt as if I had done something special to deserve any greater share of revenue from iron ore than, say, Tasmanians or Northern Territorians.

Cross subsidy was OK when the money went the other way

WA has spent most of federation living off transfers from the more populous states. Lang Hancock didn’t discover iron ore until 1952, and then he spent twenty years trying to get the West Australian iron ore and steel industries off the ground. Then there was a long term decline in global commodities prices, reflected in our terms of trade, that meant that WA still received a slight subsidy. In fact, let’s have a look at how things stood in 1993-94, when the Commonwealth Grants Commission undertook a review of intra-federation financial transfers.

Here are the fiscal transfer relativities from 1993-94, adjusted to include the Medicare Agreements. A relativity of less than 1.0 means that the State or Territory received less revenue in grants or other transfers than it would have done if the money had been evenly divided among states according to population. In other words, it received “less than its fair share”, in Paul Murrayesque terns. Conversely, a relativity greater than 1.0 means that the State received “more than its fair share”.

State/Territory 93/94 relativity
New South Wales 0.852
Victoria 0.836
Queensland 1.093
Western Australia 1.119
South Australia 1.222
Tasmania 1.481
Northern Territory 4.785
Australian Capital Territory 0.867
Australia 1.000

Well, look at that. Those ‘unproductive States’, Victoria and New South Wales, were subsidising Western Australia.

What has happened since? Well, of course, there has been a spike in global commodity prices, driven by increasing demand from China and India. As a result, WA has been able to raise more of its own revenue (from mining royalties, stamp duty and payroll taxes) and hasn’t had to rely on transfers from other states. Here’s what WA’s relativity has looked like over the past decade:

Year WA’s relativity
00/01 0.98
01/02 0.98
02/03 0.98
03/04 0.97
04/05 1.03
05/06 1.03
06/07 1.00
07/08 0.95
08/09 0.86
09/10 0.78

In the early part of the decade, WA’s relativity was very close to 1.0, meaning that it received very close to what it would have if the national pool of money was divided by population. In the middle part of the decade, the State received slightly more than its “fair share”. Since then, WA’s relativity has come down. The Grants Commission calculates the States’ shares based on a five-year rolling calculation that includes the States’ revenue from other sources. That means that in the 04-07 period, when mining was in full swing, WA’s royalties hadn’t yet been fully factored in. Now they have, and WA’s share has fallen accordingly.

Now, perhaps West Australians don’t think it’s fair that they should receive less than their (somewhat crudely determined) ‘fair share’. I personally find it a bit hypocritical that a State that has spent most of its existence being subsidised by NSW and Victoria now regards the fiscal equalisation system as unfair.

Note that NSW and Victoria still pay more than their “fair share” too. Tasmania, the ACT and South Australia receive slightly more than an equal proportion per citizen. The Northern Territory receives a lot more than an equal proportion, because it has less capacity to raise its own revenue and has a big population of extremely disadvantaged Aboriginal people.

Some states receive less than other states, per head of population, because of the principle of ‘horizontal fiscal equity’. It sounds horribly wonkish, but really it just means that all citizens should have a reasonable expectation of receiving the same quality of services, no matter the State they happen to live in. Funds are redistributed across the federation to allow this to occur. The principle that is in use to distribute GST funds is:

State governments should receive funding from the Goods and Services Tax revenue such that, if each made the same effort to raise revenue from its own sources and operated at the same level of efficiency, each would have the capacity to provide services at the same standard.

Is that really a controversial suggestion? Would Murray and his ilk prefer that we have an American style system of fiscal disparity, in which being born into a poor area means going to a poor school and attending a poor hospital? Would they really suggest that rather than transferring some of its windfall mining gains to poor Aboriginal kids in the Northern Territory, the West Australian Government should keep all the money for itself? Perhaps they would.

Now, I need to make one thing clear: I am very aware that there is a lot of poverty and disadvantage in WA, and that there are extremely remote parts of the state that are in dire need of more government-funded services. I used to work for the WA Council of Social Service, and before that in the WA public service; I am all too aware of the challenges of delivering services in remote and regional WA. I am not suggesting that WA is all some golden nirvana. Instead, I’m just supporting the principle that Australian citizens should receive government services based on need, not on what state they happen to live in.

WA’s ‘powerhouse’ economy is oddly fragile

WA’s economy actually deteriorated faster than the national economy during the global recession. WA didn’t “get us through” the recession. Its economy has since rebounded more rapidly, but that just demonstrates the State’s reliance on the mining industry and the strongly cyclical nature of that industry (remember that in the six months from November 2008, the mining industry shed 27 300 workers, 15% of its workforce).

Here’s a comparison of the Australian and WA unemployment rates from July 2008 to July 2010:

WA entered the global financial crisis with its unemployment rate a full percentage point or so below the national figure, but then unemployment in that State rose much more quickly than the national average. By mid-2009, the unemployment rate in WA was basically equal to the national unemployment rate.

Another way of evaluating WA’s performance over that period relative to the national economy is by looking at the proportion of Australian employees who are employed in WA, ie. the total number of WA employees divided by the total number of Australian employees.

Around the time the financial crisis hit, nearly 11% of Australian workers were employed in WA. This fell steadily over the next year or so.

The point of this is to show that the WA economy is heavily cyclical, as it’s very dependent on the fortunes of the mining industry, which in turn are determined by the global prices for various commodities, which in turn are determined by global demand, which in turn is driven by the surging fortunes of China.

If things were to change and China were to falter then WA’s miracle economy may begin to appear a lot less miraculous. I suspect at that point we’d stop hearing from Paul Murray et al about West Australian exceptionalism and the need to receive a “fair share”, because the “less productive” States would once again be shovelling funds back across the Nullabor.