Policy wonks fear short termism, vote buying and populism. They lead to poor policy choices. We all pay for those, sooner or later.
Forecast next year are more interest rate rises, resulting from increasing inflation. Higher finance costs hurt household and business borrowers. They are meant to.
While regrettable, the interest rate rise was necessary. Inflation is a greater concern and threat than the effect of higher finance costs, but we would be better off if we had neither higher inflation nor higher interest rates.
Whose fault is it? The Coalition has got many things right in balancing the books, reforming the tax system, and in many economic program. Yet although Mr Howard can not do much about external inflation, he does carry some responsibility for domestic inflationary pressures.
The RBA have an independent remit to keep inflation within a band. But it is a one-string band unless there are matching fiscal measures.
Inflationary pressures are eased by policy measures that increase productivity and increase capacity. Two factors of production that benefit from capital to improve productivity and capacity are the land and the people. By definition the effects of capital expenditure on these fronts takes years to kick in.
The great criticism of the Coalition’s long economic tenure is that their major underinvestment in infrastructure, skills training, and education is now hurting Australia. Writing about people, the BCA in a recent paper said:
Nearly three million people of working age (and not in education) remain outside the labour force, a significant number of whom have the potential to be employed.
Probably well over a million people are unemployed or underemployed. If the Government had found ways to get them working we wouldn’t have a skills shortage. We wouldn’t have the same wage and cost increase pressures.
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Having a budget surplus and very low debt is a good thing in many ways, but if it means not spending (or borrowing) to fund lumpy high capital expenditure in infrastructure, the result is capacity limitations and inefficiencies in rail, road, ports, airports, water, energy, affordable housing and yes, education.
Then there is the vote buying going on. We can afford some tax cuts and benefits increases without fearing inflation – but it is the sheer and growing scale and quantum of Liberal/Labor promises that is dangerous and irresponsible.
Tax cuts are seen as essential Liberal/Labor policy. It is not happening, but we could afford indexation of tax rates. By definition that is non-inflationary in that it does no more than maintain the current value of tax thresholds.
We could afford to lift the $6,000 tax-free threshold in phased stages, because it encourages greater workforce participation (more coming in). There is a saving in that it is accompanied by rebates reductions (less going out on claims because you can’t claim if you are not taxed). Tax rebates/offsets are much less efficient because they are paid later and have a lagged and dispersed behavioural effect.
In an inflationary environment lump sum payments are a “bad” not a “good” because they are likely to be spent in one hit and therefore have a bigger demand and prices effect. So a pension/carer/benefit increase spread out over the months is less inflationary than the lump sum effect.
We can afford tax cuts and benefit improvements to lower income Australians if it results in greater workforce participation. Why are tax cuts to higher income Australians necessary, so increasing their discretionary spending? There is an opportunity cost from not using that money to further invest in productive capacity or social infrastructure.
In productivity terms investment in education and infrastructure and lower income workforce participation is far better for the economy short and long term, than the vote-buying going on right now.
Demand is affected by consumer confidence. Asset inflation has fed consumer confidence. Consumer borrowing based on high confidence contributes to aggregate demand, which contributes to inflation.
The 1999 Coalition decision to implement a 50% concession on CGT for properties held longer than one year meant the appeal of negative gearing was greatly enhanced. Negative gearing has a significant public cost in income tax revenue foregone, estimated at $2.4 billion a year. The 50% concession on CGT for properties held longer than one year costs $5 billion a year.
Investors priced in the value of this CGT concession. It partly explains the doubling in Australia’s capital cities house prices since that 1999 decision. This policy helped fuel increased bank borrowings offshore, in turn helping raise Australia’s foreign liabilities to record heights.
The polls say a Rudd government is a certainty. From an economic perspective the question will be whether their me-tooism, and the consequent promises, will have boxed them into too tight a corner.
If that is so, some much needed policy review and reform affecting inflation expectations and our productive capacity might remain in the pending tray.
That would be a pity. And we’ll pay for it.