LOOKING INTO THE ABYSS

Last week’s Consilium hosted by the Centre for Independent Studies took a look into the abyss of sovereign default in Back from the Brink: Fiscal Disasters and Recoveries. “Kicking the can down the road” was definitely the phrase du jour on the topic, and among numerous memorable remarks were these from Czech Republic President Vaclav Klaus on Europe: “Europe is too heterogeneous for anyone to speak on its behalf” (how true) and “Capitalism without bankruptcy is like heaven without hell”. And from Oliver Hartwich: “Europe will have the next financial crisis and it will make the GFC of 2008 look like the good old days.”  Argentinian former politician, presidential contender and would-be reformer Ricardo Lopez Murphy spoke passionately about the difficulty and pain of adjustment. He entered politics in 1999 and was made Minister of Economy in 2001, but was fired by the president eight days later over his proposed fiscal austerity project.

Depressing stuff, and not surprisingly the session rapidly descended into an Eeyore-type gloomy patch about the debt crises. I felt obliged to ask why no one had mentioned the underlying problem, namely the intolerable government expenditure problems facing all the big welfare states (including New Zealand). The burdens of their entitlement programmes can only get worse with demographic trends, yet there is little evidence anywhere that governments are seriously grappling with them. It was pleasing to see the direction of the session shift somewhat. Vaclav Klaus was in strong agreement. As former 2025 Taskforce member, Trotter lecturer and smart labour market economist Judith Sloan said, the issue is all about the role of government :  if governments hand out free beer to people they will want more and will resist being deprived of it. Which is why the fiscal consolidation required on economic grounds in all these struggling welfare states is so very challenging politically. 

CATCHING AUSTRALIA? YES WE CAN!

Many commentators doubt the feasibility of the government’s goal of catching up to Australia’s income levels by 2025.  The 2025 Taskforce in its last report stated:

To close the gap by 2025 New Zealand’s GDP will need to grow two percent faster on average than Australian GDP every year, that is, at around four percent per annum.

That is certainly a challenging goal, but in my view it is feasible given outstanding economic management. I prefer to put the question the other way round:  If New Zealand adopted the kind of economic framework of Hong Kong and Singapore (fully open economies, high levels of economic freedom, low taxes etc) why wouldn’t we achieve the goal?

Support for this position comes from this blog by John Taylor, a highly respected US economist with impeccable credentials.  Now at Stanford University, he was a former high-ranking official in the US Treasury and a member of the Council of Economic Advisers.  He is known for the ‘Taylor rule’ which central banks (including our Reserve Bank) use in setting monetary policy.

In the blog Professor Taylor responds to sceptics of the 5% economic growth target put forward by Republican presidential candidate Tim Pawlenty.  He writes that, as stated by Pawlenty:

“5% growth is not some pie-in-the-sky number.” One way to see why is by dissecting the number into its two parts using basic economics. As we teach in Economics 1, economic growth equals employment growth plus productivity growth.

Then he says:

First, look at employment growth. Given the dismal jobs situation, that’s the highest priority. Currently the percentage of the working-age population (age 16 and over) that is actually working is very low at 58.4 percent. In the year 2000 it reached 64.7 percent, so that is at least a feasible number. Raising the employment-to-population ratio to 64.7 means an employment increase of 10.8 percent (64.7-58.4/58.4 = .108) or about 1 percent per year over 10 years, even without any growth of the population. Adding in about 1 percent for population growth (from Census projections), gives employment growth of 2 percent per year.

New Zealand labour force participation rates are relatively high but there is ample scope to increase them, for example by reducing welfare rolls, altering employment laws (eg minimum youth rates) and facilitating the ongoing employment of older workers.

On productivity, Taylor writes:

Since the productivity resurgence began around 1996, productivity growth in the United States has averaged 2.7 percent according to the Bureau of Labor Statistics. So numbers in that range are not pie in the sky. As Harvard economist Dale  Jorgenson and his colleagues have shown, the IT revolution is part of the explanation for the productivity growth, and, if not stifled, is likely to continue, as is pretty clear to me as I sit a few hundred yards from Facebook and other high-tech firms.

In New Zealand, labour productivity growth rates for the measured sector of the economy in the 1992-2000 period were in the 2.5 – 3% range.

And the upshot:

Now if we add the 2.7 percent productivity growth to the 2 percent employment growth, we get 4.7 percent economic growth, which is within reaching distance of – or simply rounds up to – the 5 percent target set by Governor Pawlenty.

Taylor concludes by sketching the policies needed to achieve the goal:

You can see how the types of pro-growth policies in the Pawlenty plan would work toward the goal by reducing spending growth enough to balance the budget without tax increases and thereby remove threats of a debt crisis; by lowering marginal tax rates to spur hiring and job growth; by scaling back unnecessary new regulations which impede private investment and higher productivity, and by restoring sound monetary policy to remove uncertainty about inflation or another financial crisis.

This is consistent with the thrust of the 2025 Taskforce’s recommendations.

BUDGET 2011: THE VISION THING

As background to today’s budget, this is an interesting analysis of the New Zealand economy by London-based investment advisory firm Independent Strategy.

The author was probably David Roche who has followed New Zealand closely and is attached to the country, as he states:

We all love to love New Zealand — a fine and beautiful place — but is the object of our affections one-eyed; lacking a chunk of the vision thing?

His answer is:

The lack of a vision or a radical plan to deal with the fiscal debt and deficit problem and, by connection, with the excessive level of foreign liabilities, leaves us unenthusiastic about NZ’s sovereign debt.

Like the 2025 Taskforce, he notes:

NZ’s official aim is to close its 35% income (GDP per capita) gap with Australia. Policies do not seem to match this ambition.

The paper makes an important point about New Zealand’s sovereign debt which is often overlooked:

A number of Kiwis have likened NZ’s fiscal and external liabilities to that of Greece. This seemed glib. So on a recent visit, we checked and were gobsmacked to find that NZ’s net external liabilities are as high as a percentage of GDP as Greece’s (Figure 2)!

 However, they don’t mean the same thing. Statistically, the overall net figure for NZ and Greece looks much the same. But much of NZ’s gross external liabilities are composed of equity (40%), namely the foreign ownership of NZ companies. And much of the debt represents the external funding of Australian-owned banks in NZ (34%). The former never causes credit crises and the latter is unlikely to do so — unless the Aussie banks are in deep trouble themselves.

Nevertheless, the debt issue is serious:

According to our estimates, based on unchanged policies, NZ will reach a 50% gross sovereign debt to GDP ratio by end 2015. That may seem way better than Japan or the US, but it is nevertheless the beginning of a long day’s journey into night and not somewhere NZ wants to go, particularly as economies with small financial markets reach the critical tipping point for a sovereign debt crisis much earlier than countries like the US or even the UK.

The underlying problem is correctly seen as excessive government spending:

NZ’s sovereign debt to GDP ratio is rising inexorably and is being driven by a rising trend of government spending as a share in the economy, not by the impact of recession. The NZ government is a big spender when placed beside Australia, even if it has not been so by OECD standards until recently (Figure 9).

But comparing government spending in NZ to the OECD is probably the wrong benchmark for a country that wants to make a growth sprint to catch up with Australia. Europe, the US and Japan are not paragons to be imitated if this is the objective. It is like comparing the fitness of an ambitious sprinter to that of a dowager lady walking her lap dog.

When it comes to remedies the report endorses the government’s broad direction but is concerned about the slow pace of reforms:

But the government and civil servants are aware that the state of NZ’s public finances cannot go on deteriorating. So there is considerable focus on getting more out of public resources; prioritising spending better as well as maximising its efficiency; and of shifting the tax system at the margin to encourage higher savings, better labour participation and more productivity.

But the government’s approach is an incremental one economically and gradualist politically. The problems it seeks to address are not. They will be in your face but a historical jiffy away. They are deep and structural. By the time they are incremental, they will be exponential.

There is still ample opportunity for radical reform — even in a country with a great civil service and clean government and where much has already been achieved. In a recent paper, the NZ Treasury demonstrated that economies with small government have higher (annual) GDP growth and that the growth cycle lasts longer. Of course, the policy mix of how taxes are raised and how money is spent matter too. New Zealand has the scope for improving all items. But the focus has to be on the size and scope of government.

The paper goes on to endorse the recommendations of the 2025 Taskforce and mentions ‘tax churn’ which “promotes inefficiency by taxing the middle classes and returning the taxes to them as subsidies and transfers”.  It also points to the problems of the Resource Management Act, local authority control of land for housing, and restrictions on foreign direct investment.

On privatisation it states:

The government owns assets worth NZ$223bn, or 118% of GDP. This figure has almost doubled in the last decade. These publicly-owned assets include a wide range of state enterprises in power generation, banking, coal mining, TVNZ and a controlling interest in Air NZ. Many of these would be better in the private sector and could add substantially to productivity and growth.

It goes on to advocate changes to the eligibility age for New Zealand Superannuation, student loan policies and the minimum wage, which it notes is the second-highest in the OECD (on a relative basis).

On present policy settings the report concludes:

… it probably means that NZ living standards will continue to slip relative to Australia and non-Japan Asia. It’s cold comfort that, given the worse policy denial and fiscal dilemmas of Japan and the US, NZ’s slippage relative to the OECD may be less.

And it grades New Zealand’s present policy settings about five out of ten.

All this is consistent with views the Business Roundtable, other business organisations, the OECD and the 2025 Taskforce have expressed.

Will today’s budget surprise on the upside?  We will soon know.

Government Size And Economic Growth

My reading of Treasury material in the last decade on whether high government spending harms economic growth is that size doesn’t matter in its view – the public sector can in principle spend taxpayers’ money as well as they can spend it themselves.

This view implicitly holds that the government is not constrained by problems of information and incentives.  Therefore if there is a problem it is only because not enough is being spent on ‘productive’ categories of spending and too much on ‘unproductive’ categories.  Treasury papers have also been at pains to make the trite observations that government spending can be too low as well as too high, and that the quality of spending matters, which of course it does.

Treasury has never engaged with a point the Business Roundtable has made countless times, namely that no OECD country with government spending over 40 percent of GDP has achieved sustained annual per capita GDP growth of 4 percent or more – the kind of growth rate necessary if New Zealand is to climb back to the top half of the OECD income range (the last Labour government’s goal) or to catch up to Australian income levels by 2025 (the current government’s goal).

This month the Treasury has released the paper Government and economic growth: Does size matter?  It is a slight advance on previous efforts.

In its two reports to date, the 2025 Taskforce has been in no doubt that the answer to this question is ‘yes’.  It said in its first report:

Our judgement, informed by a reading of the international historical experience, is that it would be almost impossible to achieve the sort of sustained transformation of our growth performance with the size of government at current levels (around 45 percent of GDP).

In its latest paper the Treasury still cannot bring itself to endorse this obvious conclusion.

The Treasury paper appears to be poorly researched.  For example, it does not cite a 2010 book by Andreas Bergh and Magnus Hendrekson on the very same topic, Government Size and Implications for Economic Growth.  The key conclusion of these authors is that in rich countries, a 10 percentage points increase in tax revenue as a share of GDP (say from 30 to 40 percent) leads to annual economic growth being between one half and one percentage point lower – a large reduction.

Even more curiously, the paper does not cite the study How Much Government: The Effects of High Government Spending on Economic Performance published by the Business Roundtable.  The author was Winton Bates, previously a senior official in the Australian Productivity Commission, a consultant at the New Zealand Treasury, and an adviser to the 2025 Taskforce.  Bates’ “conservative” estimate was that “a reduction in government spending from 40 to 30 percent of GDP could be expected to add about 0.5 percent to the rate of growth of GDP over about a decade.”

A subsequent Business Roundtable study by Bryce Wilkinson Restraining Leviathan, which had much to say on the subject, is also not cited.

Nor, when it comes to discussing public sector productivity, did the paper cite the Business Roundtable study overseen by former Treasury secretary Graham Scott, Productivity Performance of New Zealand Public Hospitals 1998/99 to 2005/06, authored by Mani Maniparathy.  It concluded, among other things, that overall productivity of personnel in public hospitals actually decreased by 8 percent in the five years to 2005/06.

The paper even fails to note research that the Treasury commissioned itself from Australian economist Ted Sieper which argued that the provision of public goods and a modest safety net  in New Zealand would require government spending of no more than 14-15 percent of GDP.

The following table from the 2025 Taskforce’s second report shows that this is not an unreasonable estimate.  Government spending today is as high as it is largely because of the level of government spending on ‘social assistance’.  Much of this spending presumes that governments can spend taxpayers’ money on health, education and welfare services better than individuals and households.   This presumption took over the Western world around the 1960s, as has been documented by Tanzi and Schuknecht. It is dubious to say the least.

Click to enlarge

Furthermore, the Treasury’s examination of the ways in which government spending may harm growth is much too narrow.  Winton Bates noted that “Big government adversely affects economic performance in many different ways”, and listed some as follows:

• When the range of services provided by the government extends into areas where it has no competitive advantage the cost of services tends to increase.
• High levels of government spending on goods and services (including public sector employment) often involve waste of resources.
• Excessive regulation imposes large compliance costs on businesses and individuals.
• Attempts to regulate the macro economy using counter-cyclical fiscal policies do not necessarily have intended effects and may lead to worse economic outcomes over the longer term.
• Redistribution of income has adverse effects on the incentives of the intended beneficiaries, including possible changes in norms of behaviour leading to greater welfare dependency.
• Increases in government spending tend to encourage wasteful lobbying activities by suggesting to interest groups that governments are likely to be responsive to their pressures.  As a result, much government spending – in areas such as health, education and retirement incomes – provides private goods for the benefit of middle-income families and is funded by the same people. Such government funding of private goods displaces more efficient private arrangements.
• The deadweight costs involved in raising additional revenue rise more than proportionately as the amount of revenue increases. When account is taken of deadweight costs associated with both taxation and delivery of benefits it is likely that these costs are equivalent to more than half of each additional dollar of government spending in New Zealand.

The Treasury’s focus is almost exclusively on deadweight costs and public sector productivity.  The omission of any material discussion of rent-seeking, and public choice issues in general, is extremely important.  The Treasury’s general framework presumes that governments spend money in order to overcome ‘market failures’ and fails to consider the more plausible proposition that they spend money in order to get re-elected or to favour their most important constituencies.  There is no assessment of the level of spending that could be justified on genuine public interest grounds.  Basically, incentives in the government sector are not a problem, so the paper implicitly assumes.

Another serious weakness of the paper is that its benchmarks are OECD countries in their modern, typically big-government, form.  Nowhere is there any recognition of the current reality that the majority of the Western welfare states are in deep economic trouble and the model may well prove to definitively broken.  The 2025 Taskforce in its first report pointed out that the average OECD country:

… isn’t the only model.  In several high-performing Asian economies (Singapore, Hong Kong and Taiwan), themselves with diverse political systems and spending imperatives, total government spending as a share of GDP has consistently been less than 20 percent.

These high-income countries, and other emerging economies, are more likely to offer lessons for New Zealand than the ‘old’ OECD.

Another frame of reference (missing in the paper) would be the performance of today’s OECD countries when the share of government in their economies was much smaller. In the 1950s and 1960s, for example, many of these countries had government spending ratios of around 25 percent. They also enjoyed much faster growth rates.

There are sundry other problems with the paper.  In discussing the Baumol hypothesis for creep in the size of government, it fails to consider why it did not apply in local government for at least a century.  It accepts ‘merit goods’ as a justification for government spending whereas many economists have jettisoned this idea.

Needless to say, there are useful observations in the paper.

It is dismissive of the Wilkinson and Pickett inequality argument and is supportive of privatisation.  It also mentions the bias toward big government of MMP:

The larger the number of parties forming the government and the higher the frequency of elections, the stronger this tendency. It also seems more prevalent in cases of proportional rather than majority-based election systems (for example, see Persson and Tabellini, 1999, 2002).

Overall, my judgment is that the paper is an advance on earlier Treasury work in the area.  But that is faint praise. Both theory and evidence indicate that government spending around New Zealand’s level is seriously detrimental to growth.  I hope some New Zealand academics join in with critiques.

Closing The Trans-Tasman Gap

It was good to see the New Zealand Herald editorialising today on the need for new policy to close the income gap with Australia.

The editorial made some good points:

Two years on, after a fall resulting from the global financial crisis, the move westward is growing again, up 16 per cent from 2009 to last year according to the statistics department. And National, too, is reduced to waving at the departees, our economy marooned in low growth and higher unemployment than across the Ditch. The number of New Zealanders returning from Australia is relatively static.

And again:

In government its answers have been limited: reducing company tax, shifting some direct income tax to indirect GST, tinkering with labour and planning laws, trying to hold the annual increase in state spending rather than cutting it, but ruling out big ticket changes such as to Working for Families, interest-free student loans and raising the entitlement age for superannuation.

But then it rather lost the plot:

The economic growth and prospects of a small, primary-produce-exporting nation are not directly comparable to those of a big, diverse, less indebted neighbour.

Hang on a bit!  New Zealand was once a wealthier country (in terms of income per capita) than Australia.  Its geographical position hasn’t changed.  Australia has always had those minerals in the ground.  Australia and New Zealand are both relatively small countries but small countries can do just as well as large ones (think Luxembourg, Switzerland, Hong Kong and Singapore) provided their markets are open and competitive.

Now consider this statement:

New Zealand’s options for revival are relatively limited by lower productivity, high private foreign debt and an almost cultural aversion by the state and individuals to cutting spending in favour of saving and productive investment.

Options limited?  But it is institutions (like electoral systems) and policies (spending, tax, regulatory, social) that mainly determine whether countries prosper or not in today’s world.  New Zealand’s productivity growth performance was slightly better than Australia’s in the 1990s but fell sharply in the last decade as economic reform stalled and reversed.  Decisions on institutions and policies are for us to make.  The question to ask is: If New Zealand moved in the direction of the policy settings of countries like Hong Kong or Singapore, why wouldn’t the income gap with Australia close quite rapidly?  (Think Ireland when it had its act together.)

Another argument:

Little is being achieved in catching up with Australia and it is possible that no policy setting, short of changes that would spark far more serious social upheaval than a brain drain will deliver parity in the foreseeable future.

 [The government’s] … 2025 productivity task force, headed by former leader Don Brash, twice predicted that major change was needed, and was given an almost unseemly short shrift. Dr Brash’s prescription suffered from a political tin ear, unaware or unpersuaded by the risks of a voter backlash to wholesale cuts to welfare programmes and taxes and sales of state assets.

This is hyperbole.  There is no need for wrenching economic change (unless we dither and it is forced upon us again).  The Brash prescription was orthodox, not radical.  It was entirely consistent with OECD prescriptions. It wasn’t the Taskforce’s job to play at being politicians; it was to deliver economic advice on how to close the gap.  And the government has on its agenda a number of possible initiatives which, if adopted, could make a difference, as I noted in this article.

Finally, somewhat contradictorily, the editorial concludes:

For its own sake, New Zealand needs bold economic initiatives that will position the country for sustained growth.

Sadly, the Herald put forward no suggestions at all for “bold economic initiatives”.  If it disagrees with the 2025 Taskforce, what is its alternative programme?  How can citizens and voters buy into the idea of “bold economic initiatives” if our leading newspaper does nothing to point the way?  And it doesn’t help if its op-ed pages are littered with articles like those of Bryan Gould (13 last year, two already this year) and Peter ­­­Lyons whose economic prescriptions would see us falling further and faster behind Australia.

What grade for the editorial?  Could do much better.

PRIVATISATION DEBATE SHOULD BE RIGOROUS

It’s hardly a state secret that the government is considering some rearrangement of its portfolio of assets if it is re-elected this year.  Its Investment Statement reporting current asset holdings issued in December provides useful information on available choices.

There is much to consider on the why, how and when assets should be transferred from the public to the private sector.  This 2002 study by Phil Barry was commissioned by the Business Roundtable as a contribution to the debate.   It dealt with many of the myths concerning past privatisations.  (I discussed some in my blog of 9 December 2010.)

Another contribution was this article by commercial law academics Susan Watson and Chye-Ching Huang published in the New Zealand Herald of 15 January.  It made the case for partial privatisation, in line with the government’s assumed intentions.  However, it was not the sort of rigorous analysis that might be expected of academics.

Nowhere did it consider, for example, whether full privatisation would be superior to partial privatisation.  Academic studies clearly favour the former over the latter for commercial enterprises.

Nor did it expose the pitfalls of partial privatisations.  These involve continuing (majority or minority) government stakes in enterprises and the risk that political incentives will dominate commercial incentives (and limit the contribution of entities to wealth creation).  Conflicts between the government’s roles as owner and regulator are not resolved with partial privatisation.

We have seen partially privatised companies remain political playthings, a prime example being the former Auckland Regional Council’s nationalisation of Ports of Auckland.  Earlier experience with the partial privatisation of the Bank of New Zealand was also unhappy.

Watson and Huang note that the New Zealand sharemarket would benefit from partial listings, as did the Capital Market Development Taskforce.  But, other things equal, it would obviously benefit more from full privatisation.  Moreover, partial privatisation of the small entities they give as examples – Quotable Value, Learning Media and Asure New Zealand – would hardly be worth the candle.  Game-changing policy must involve major SOEs such as those in the electricity sector.

The article cites Air New Zealand as a model of partial privatisation but unaccountably fails to note that the company’s share price performance since the government resumed majority ownership has been poor.

They also commend the Singaporean Temasek holding company model.  This is also dubious.  The performance of the underlying businesses is not sharply reflected in such a model.

The authors mention the possibility of restricting privatised company shares to New Zealand nationals, and rightly note that this would depress the share price.  The arguments for such restrictions could only be political.  The idea that foreign ownership is a cost of privatisation is misplaced.  The level of foreign ownership in the economy is determined by the cumulative current account deficit or surplus in the balance of payments, not by which assets are for sale.  If foreign ownership of some assets is blocked, foreign stakes in other assets will be higher.  If this is an issue, a better approach would arguably be to simply give SOE shares to their true owners, New Zealand taxpayers.

The value of partial privatisation should not be over-stated (which is probably why the 2025 Taskforce recommended full sales for competitive enterprises).  Phil Barry concludes as follows:

… partial privatisation has significant disadvantages compared with full privatisation. Ownership of partially privatised companies is often widely held (outside the government’s stake) and control is not readily contestable; private investors have limited incentive to monitor the company, relying instead on the ‘deep pockets’ of the government to bail out the company if it gets into difficulty; and the company remains open to political interference. Further, governments, as owners, may be unable to agree for long as to why they own the company, thus making it difficult for the company to develop and implement a strategic direction.

The empirical evidence supports the view that partial privatisation is not a desirable long-run state. Most studies indicate that there is no lasting difference between the performance of fully state-owned and partially state-owned enterprises: that is, that full private control is necessary to achieve sustained performance gains. But as a stepping stone towards full privatisation, partial privatisation has merits.

A better article would have reflected these nuances.

FRIDAY GRAPH: JACINDA ARDERN OUT ON A LIMB ON YOUTH MINIMUM WAGE

Labour MP Jacinda Ardern is arguing that the last Labour government’s abolition of the youth minimum wage (a project of former Green MP Sue Bradford) did not contribute to the current appallingly high rate of youth unemployment.

This is a bold assertion. Elementary economics suggests that, other things being equal, the higher the price for a good or service (such as labour), the less is demanded.

If all wage rates in the economy were doubled by legislative fiat tomorrow, there would be wholesale layoffs and unemployment would skyrocket.

The ceteris paribus condition is important. Legislated minimum wage rates may have little impact if they are below market rates – wage rates that employers would have paid anyway.

Similarly, increases in minimum wage rates may be consistent with increasing numbers employed at those rates if the labour market is buoyant (as it was in the first half of the last decade).

Jacinda Ardern quotes research by Hyslop and Stillman which found no consistent evidence of an adverse impact on teenage employment when youth wage rates were increased in this period.

But this Hyslop and Stillman study was published in 2007. It is not relevant to the effects of the Bradford legislation.

One way to get a feel for those effects is to compare the unemployment rates of 15-19 year olds and 20-24 year olds today with the comparable rates in the early 1990s when unemployment was also high.

The following graph presents these unemployment rates for males.

Click to enlarge

The rate of 15-19 year old male unemployment in 2009 was comparable to the peak rate in 1991, which is not the case for the 20-24 rate.

The following chart plots the difference between these two series – and puts a 5-quarter moving average through the difference for greater clarity.

This chart clearly demonstrates that the 2009 recession has hit 15-19 year-olds harder relative to 20-24 year-olds than was the case in the 1988-91 recession.

If Jacinda Ardern thinks that the abolition of youth minimum wage is not responsible for this sharply different outcome, she needs to give another plausible explanation for it.

Eric Crampton of the University of Canterbury has estimated conservatively that the Bradford legislation has cost young people around 9000 jobs. He has also responded to Jacinda Ardern’s statement here.

Ms Ardern also needs to engage with the analysis of the 2025 Taskforce, which said in its last report:

 New Zealand has a relatively flexible labour market by the standards of some OECD countries, but this flexibility was reduced substantially over the period 2000 – 2009. International indicators of labour market rigidity in New Zealand tend to highlight our minimum wage,….

…..In the last decade, New Zealand has introduced substantial real increases in the minimum wage. The minimum wage was increased sharply during the boom years of labour shortages, and in 2008 the separate lower youth minimum wage was abolished (putting all young employees on the same minimum wage as adults). In 2008, New Zealand had the second highest minimum wage in the OECD relative to the median wage at 59 percent of the median wage, up from 51 percent of the median wage, in 2002. Only France, whose minimum wage at 64 percent, was more generous, and the OECD average is for the minimum wage to be at 46 percent of the median wage (OECD 2010a).

These changes have had a particularly serious impact on youth unemployment (Figure 12.2). Making sure that young people are easily able to get into the workforce is important for them and for the wider economy.

High minimum wages are also likely to seriously impede any determined efforts to reduce long-term welfare dependency. The case for any minimum wage at all is questionable, and we believe it should be reduced in value, but as a minimum we believe the Government should move to lower the real value of the minimum wage by holding it constant in nominal terms. Further, and as a matter of urgency, the youth minimum wage should be reinstated to assist in addressing the chronic youth unemployment problem currently facing New Zealand.

 

Let the foals thrive

Prime Minister John Key’s statement on an internet chat session that he has ‘ruled out the complete sale of any state-owned assets if National win a second term’ will be a major disappointment to many who had hoped a second term National led government would be bolder on this issue. That they will possibly look to move minority holdings will be a minor consolation.

Today’s Herald, a paper not exactly known as a bastion of free market reform, has an editorial titled Open the SOE stable and let the foals thrive. In a blog on that editorial David Farrar remonstrates that we may be alone in the developed world in having a bipartisan policy of no asset sales.

I suspect he is correct. In an article I wrote before the last election in 2008 titled ‘Privatisation: New Zealand Swimming Against the Tide’ I wrote:

With the National Party’s decision not to move any state-owned enterprises to the private sector in its first term if elected this year, we appear to have a new political consensus between the major parties in New Zealand: privatisation is bad.

This contrasts with the earlier consensus that privatisation is good. A few years ago the World Bank observed that “Privatisation is now so widespread that it is hard to find countries not using the approach: North Korea, Cuba and perhaps Myanmar make up the shrunken universe of the resistant.

Since then I have blogged that even Cuba is taking steps toward privatisation. We are in dubious company.

The common mantra in New Zealand that privatisation of state assets is somehow ‘right wing’ is simply not true. Indeed, in 2007 a British MP commenting on the significant privatisation achieved by Tony Blair’s Labour party wrote:

Now that Blair has been and gone, you would struggle to find a serious politician in any party who would advocate state ownership of any industry as a 21st-century model. Indeed the idea of the state running our utilities, airlines or railways now seems archaic and even faintly ridiculous.

It is an undisputed fact that over time and on average businesses do better in private rather than public ownership.  

John Key is rightly respected as a pragmatic and trusted leader with the common touch and plenty of common sense and business acumen.  He has the ability to raise public understanding of the economic gains that would ensue from privatising state assets – particularly lower prices and better services for the public. Privatisation should not be seen as ideological – it is a pragmatic course of action that the public should understand. Why not at least try?

Meanwhile privatisation continues at a steady pace in Australia, the most recent being the sale of Queensland Rail by the Queensland Labor government, the second largest Australian privatisation after Telstra.

To see the 2025 Taskforce’s recommendation on the issue click here (scroll down to government assets).

Home thoughts from abroad

Melbourne University professor and member of the 2025 Taskforce Judith Sloan has an excellent article in The Australian today.

Entitled ‘New Zealand seems to have lost track of its reform agenda’, she writes:

New Zealanders are good at lots of things. Rugby, sailing, rowing, netball and film-making all spring to mind. But running a national economy does not appear to be one of their strengths.

On the income gap with Australia, she says:

Some commentators attribute New Zealand’s poor economic performance to its small size and distance from markets. The trouble with this explanation is [that] New Zealand has always been small and distant and so these characteristics cannot explain the growing gap.

She puts a finger on a key problem:

In Australia, there is broad-based acknowledgement of the benefits of the reforms undertaken by the Hawke-Keating and Howard governments. These involved removing import protection, financial sector deregulation, privatisation and other pro-competition measures.

By contrast,

New Zealand suffers from the consequences of an incomplete reform agenda. Public ownership remains prevalent, statutory marketing arrangements are still in place and the labour market has been re-regulated. There is even a single desk (monopoly) for the export of kiwi fruit.

Many New Zealanders think of Australia as a big government country, with governments at federal, state and local levels.

But as Judith points out:

The overall size of the public sector is considerably greater in New Zealand than in Australia. General government outlays as a percentage of GDP are around 45 per cent in New Zealand, some 10 percentage points higher than in Australia. Even if cyclical factors are taken into account, the relative size of the public sector in New Zealand is considerably larger than in Australia and has been growing particularly strongly since 2005, well before the GFC.

And the point here is that:

While there are exceptions, the higher the level of government activity in a country, the lower the rate of economic growth. And there is no example of a country with a public sector of equivalent size to NZ that has grown at the sustained rates needed to eliminate the per capita income gap between the two countries.

The article goes on to talk about New Zealand’s inferior policies such as interest-free student loans, ownership of KiwiRail, the Resource Management Act and the lack of public private partnerships: these “are almost unheard of in New Zealand.” Judith pinpoints the risks for New Zealand:

[T]he spanner in the works relates to the fact that New Zealand and Australia essentially have a common labour market. Trans-Tasman migration is completely unfettered. As a consequence of the income gap between the two countries, the flow of migrants is almost completely one-way, to the point that there are now about half a million New Zealanders living in Australia.

The consequences for New Zealand of this flow of people are both economic and social. Economic in the sense that there is little return to New Zealand for the investment in its citizens’ early years, and social in the sense that children (and grandchildren) live at a distance from their parents (grandparents) and possibly even barrack for the Wallabies!

She notes that the Key government has made modest moves in the right direction:

But if the aim is to close the gap with Australia by 2025 — and the taskforce of which I am a member will be recommending how to achieve this objective — modest policy is not nearly good enough.

Wise counsel from a good friend of this country.

  

O wad some Pow’r the giftie gie us

To see oursels as others see us!

 

The full article is here

Friday graph: New Zealand/Australia productivity growth

Two charts here from the 2025 Taskforce’s latest report, together with the Taskforce’s commentary on them.

Click to enlarge

Figures 2.3 and 2.4 indicate that labour and multifactor productivity in the measured sector increased more in New Zealand than in Australia during the 1986 – 2008 period as a whole. However, it is also clear that New Zealand’s out-performance was essentially all over by 1995.  New Zealand has lost ground against Australia in respect of labour productivity growth since 1995, but notice that this was, initially at least, because growth in Australia accelerated. Since 1995, New Zealand has more or less held its own against Australia in respect of multifactor-productivity growth, although the growth rate in both countries has been minimal in recent years. But “holding our own” will not close the income gap with Australia.  To do that, New Zealand will need to generate a renewed focus on productivity, efficiency and growth.

Faster productivity growth isn’t the only thing that would close the income gap with Australia – higher workforce participation would also help – but it is the most important thing.