Lifting our sights on joblessness

On Line Opinion (OLO) asked for some ideas for the Rudd 2020 Summit. I submitted a piece which was published today in OLO.

It argues that fear of inflation should not force Australia to accept a permanent army of half a million jobless persons. There are alternatives.

If I had to single out one big issue which deserves the highest priority at the 2020 Summit, it is the capacity of the Australian economy to sustain low unemployment say in the range of 3 to 4 per cent – without running into inflationary demand pressures. If the Rudd Government cannot solve this basic problem, its noble vision of a fair and productive society will be tarnished.

Australia is currently facing an inflation problem. In good part, the recent acceleration in underlying price rises is a product of cost-push forces but, rightly or wrongly, the RBA has decided that the growth in domestic spending is excessive and needs to be reined back. The Bank is aware of other forces bearing down on demand – such as the high Australian dollar, the slow-down in world economic growth, the share market slump, the increased aversion to risk in debt markets and the lagged effect of past rises in borrowing costs – but it clearly believes that, without monetary tightening, these factors will not do enough to reduce rising inflation expectations or discourage wage demands.

In its February 2007 statement on monetary policy, the RBA forecast that with unchanged policies, non-farm GDP growth would slow from 4.3 to 3 per cent per annum by 2009-2010. Since then it decided to raise official rates by a further ¼ per cent . One can therefore surmise that it is aiming to slow GDP growth down to 2.5 to 3 per cent in order to bring inflation under control.

With the labour force growing by over 2.0 per cent and with underlying labour productivity growth of 1.5 to 2 per cent, it is clear that the Bank is resigned to seeing unemployment rise, at least in the short term. It may have formed the view that the present unemployment rate of 4.1 per cent is unsustainable because it is below the equilibrium rate of unemployment consistent with non-accelerating inflation – the so-called NAIRU.
The latter has been estimated by Treasury to be as high as 5 per cent. So even if the actions of the authorities all went to plan, we are going to have to sacrifice some jobs in order to achieve good inflation outcomes.

This is the immediate economic reality we realistically face. But it would be tragic if the authorities were now to accept that over the next few years Australia will not be able to sustain an unemployment rate much below 5 per cent. It would mean that, after discounting for those who are in transition from one job to another, we would be resigning ourselves to having at least 300,000 officially unemployed people, and half as many again of unofficial (hidden) jobless, who want to work but are unable to fill the vacant jobs.

Apart from the personal hardship it would entail, this scenario would represent a huge waste of productive potential. And it would all be due to wage rigidities and barriers to geographic and occupational mobility – a kind of market failure stemming in part from government failure.

It is not necessary to adopt such a defeatist policy on the NAIRU. Much can be done through policy reform (mainly micro) to get unemployment down below 4 per cent without the risk of accelerating inflation.

This is not just an issue for 2008 or 2009. It is one which will keep recurring in the future so it rightly belongs to the long term agenda.

Need for more research

A government wanting to reduce the NAIRU should first determine WHY there are so many jobless persons unable to fill available jobs. Is it because their productivity is too low relative to the minimum award wage? Is it because they lack the education, trainingor social skills to fill the available jobs? Is it because the jobs offer family-unfriendly environments? Is it because the jobs are poorly located relative to where the jobless live? Is some of the joblessness due to a welfare culture or the product of social dysfunction and lack of personal responsibility?

Some research has already been done on these questions but more is needed.

Lowering the NAIRU

Once the authorities understand the nature of structural joblessness in Australia, they are in a better position to design the right strategy to fix the multi-faceted problem. And they must do it in a way which spreads the costs and benefits equitably across the population. The electorate has made it clear in its response to WorkChoices that it will not tolerate policies which put the main adjustment burden on the most disadvantaged in our community.

To be effective, the strategy must allow reasonable room for structural wage flexibility, for example, through radical award simplification. And it must incorporate most of the present tough welfare to work measures. These neo-liberal measures are unpalatable to many but necessary to ensure markets work in conjunction with governments – not against them – and that the demands on taxpayers are not excessive.

But neo-liberal policies should also be backed by measures designed to protect the incomes and enhance the productivity, employability, work readiness and incentives of the low-skill, low-ability workers and to prevent the perpetuation of chronic inter-generational joblessness. The types of measures needed could be drawn from the following illustrative list of options – most of them successfully applied in Nordic and European countries:

  • tax offsets or credits to compensate low income workers;
  • wage subsidies to employers to induce them to employ low-skilled, low-ability workers in disadvantaged areas;
  • improved adult education and training opportunities;
  • adequate relocation incentives to encourage people to move to booming parts of the employment market;
  • more family-friendly policies (for example, more flexible working patterns, parental leave and good quality and affordable child care assistance);
  • a redesign of fiscal policies to help address the geographic and regional imbalances in employment opportunities and the insensitivity of monetary policy to such imbalances;
  • measures to correct early childhood disadvantages (in cognitive skills and non-cognitive aptitudes like social skills and motivation) stemming from low parental income and education, poor parental attitudes, dysfunctional home environment, neighbourhood factors or exposure to poor role models or pervasive irresponsibility;
  • remedial programs for older school children and youth (age 14-19) who are under-performing and at risk of dropping out early from high school;
  • lifelong learning incentives targeted at vulnerable groups, putting some of the onus on business too; and
  • improved access to key employment-enhancing public services like health, housing and public transport in low-income areas.

This liberal-interventionist strategy would allow Australia to sustain low rates of unemployment (3 to 4 per cent) with low and stable underlying inflation. It would be largely self-funding in the long term because it would increase the productive base of the economy and thus generate additional revenue. But in the short term there would be a net demand on revenue. To minimize by-product economic efficiency costs, the revenue gap could be funded by broadening the tax base (such as clawing back some of the tax advantages of superannuation and capital gains and other middle-class welfare) and by increasing taxes on activities with negative externalities (such as those which generate greenhouse gases and traffic congestion). To pay for longer term capital projects, some temporary government borrowing would also be justified.

Ultimately, the strategy would have lots of winners but very few outright losers. The low paid worker would, at worst, be unaffected in net terms; the unemployed would be better off; taxpayers generally would pay more tax in the short term but they would have more than offsetting gains from lower inflation, lower mortgage costs and a stronger economy with good job opportunities.

As well as making sure that the labour market of the future is able to deliver adequate structural wage flexibility and occupational and geographical mobility, the authorities need to look critically at the adequacy of the present RBA measure of underlying inflation as a trigger for interest rate increases: does it truly reflect excess demand pressures in the economy and does it discount fully for cost-push factors? And they should ask themselves why a temporary non-accelerating inflation rate of, say, 3.5 to 4 per cent poses greater economic and social risks than an unemployment rate of 5 to 6 per cent.The 2020 summit will hopefully face up to these critical issues.

Fred Argy is a former federal policy adviser and author of several books and articles on the interaction between economic and social policy. He is currently a Visiting Fellow, ANU. The author is very grateful to Nicholas Gruen for helpful comments on an earlier draft.

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4 Responses to Lifting our sights on joblessness

  1. Backroom Girl says:

    That’s a fine list Fred.

    I’ve just one quibble (perhaps two) – I really don’t think that we need any new

    tax offsets or credits to compensate low income workers;

    Our income support and family assistance systems here already do a fine job of topping up low wages – the only argument against continuing with this approach is that some people might perceive it as ‘welfare’. In addition, after a long period of neglecting the lowest income taxpayers, Australian governments have finally started to direct their tax cuts to the bottom of the income distribution, so as long as they keep that up that will make a contribution as well.

    On the issue of wage subsidies, I’m a bit agnostic. I think the OECD is only in favour of them if they can be fairly tightly targeted to people who would otherwise have a low chance of getting a job – but the problem is that generally employers don’t want such people even with a sizeable subsidy attached. Otherwise employers just use them to hire the person (or kind of person) that they would have been happy to hire anyway, which leaves you with a rather large deadweight cost.

  2. Fred Argy says:

    Peter, thanks for the referenc on the PC. Will read.

    BG, thanks for your many useful contibutions on welfare issues. On the two points you raise here, I need to clarify my position.

    I am not advocating now or in the near future a new offset to compensate low income workers. As you say they have been fairly treated of late. I included it on my list simply because, under my regime of “structural wage flexibility”, minimum wage earners could gradually fall behind and could even become worse off in absolute terms. In these circumstances wage compensation will be appropriate; it is more dignified than welfare and has useful by-product work incentive effects where it counts most. But that’s for the future.

    I agree that wage subsidies need to be very carefully targeted. I suggested in my OLO piece that the main beneficiaries should be “low-skilled, low ability workers in disadvantaged areas” (who are mostly long term jobless) and the subsidies should have a time limit.

  3. Backroom Girl says:

    Fred

    I don’t have a problem with the general idea that low wage earners should have their incomes protected to some extent if the value of their wages were to be allowed to fall. This could be done just by continuing to target tax cuts to the lower end – as it seems likely that governments will continue to do this via the Low Income Tax Offset, rather than a general increase in the tax threshold, it could be said that you already have your low wage-earner tax credit in place.

    If you want to go further than that and have some kind of refundable tax credit (like the EITC in the US), to me this is not a whole lot different to using general income support payments to top up people’s wages. Unless you want to make people wait until the end of the year to get their ‘tax credit’ (which seems a bit harsh if it is a sizeable amount), then you end up having to deliver it on a more regular basis and it begins to look and smell much more like an income support payment anyway.

    You could of course always just repackage some proportion of current income support payments into something that sounds less like welfare – for example, you could divide Newstart Allowance into one component for basic income support and another that you call Participation Income Supplement or something, but in the end that is just packaging, not changing the basic nature of the thing.

    On the wage subsidy argument, I suspect that there are some populations where the deadweight effect might not be so bad – I seem to recall that in the old days when DEWR did its own not-so-bad evaluations they found that wage subsidies actually worked quite well for older (55+) unemployed men, for example.

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