Ian McAuley. Role of government

May 16, 2015

Fairness, Opportunity and Security
Policy series edited by Michael Keating and John Menadue.

Australia to the 1980s – Government at the commanding heights

For almost 200 years, from 1788 to the early 1980s, governments held the commanding heights of the Australian landscape.

The Australia in which I came of age, the Australia of the 1950s and 1960s, would now be described as a “command economy”, notwithstanding the anti-communist rhetoric of the postwar era, championing the liberties of the “free world”.

The journalist Paul Kelly commented that while we didn’t live under totalitarian rule, we did live under a condition of state paternalism. Governments, state or federal, Labor or Coalition, determined what we could read (remember the fuss over Lady Chatterly’s Lover), whom we could have sex with, and what time the shops should close.

In the economic sphere government was even more dominant. With all the authority of Soviet central planning, governments determined the shape of the Australian economy, through tariff and quota protection, partial or full ownership in key industries (banking, airlines, railroads, aircraft manufacture, pharmaceuticals, telecommunications), and sanctioning internal restraints on trade. In disregard of Section 92 of the Constitution (the free internal trade bit), for example, local brewing monopolies were protected by prohibitions on trading beer across state borders.

This economic system must be seen in its historical context, namely the decision, at the time of federation, that Australia would not go down the path of “plantation economies”, such as Argentina, characterised by wide disparities in income and opportunity. Rather, Australia would go down a path of industrialisation as a means of spreading income and opportunity – a process well-described in Ian McLean’s 2012 work Why Australia Prospered. Even the White Australia Policy, although strongly based on racism, had its liberal supporters who saw it as a means of stopping Australia from becoming a society of white masters and colored coolies.

Also there were the demands of industrial mobilisation during the Pacific War and of national development after the war. There were no private investors waiting to invest in rail gage standardisation, in an international airline, or in a hydro-electric/irrigation/conservation scheme in the Snowy Mountains. (To put the Snowy Mountains Scheme into perspective, its total project cost was about 6 percent of one year’s GDP, which would come to about $100 billion in today’s terms – enough to fund an east coast high speed rail and a proper national broadband system, with change left over to fix up the Pacific Highway.)

The withdrawal of state paternalism

The Dunstan Government in Adelaide – “the city of churches” – was the first to push socially progressive legislation on censorship, anti-discrimination, consumer protection and decriminalization of homosexuality, while encouraging multiculturalism and engagement with Asia. Nationally the Whitlam Government was to follow a similar reforming zeal. In social policy state paternalism was on the way out, and Labor was leading the change.

In the economic sphere it was the Hawke-Keating Government that made the greatest progress in withdrawing state paternalism and giving freer rein to market forces – implementing tariff reform, significant deregulation of the finance sector, a float of the exchange rate, and effective competition policy.

An enduring myth of Australian politics is that Labor has been the party of “big government”, but in reality Labor has been the party of liberal reform. The myth, which has so well-suited conservative politicians, lies in selective interpretation of what is meant by “big government”, and, more basically, the assumed role government is to take in our lives.

We often look for quantification of terms such as “big” and “small”, and one that stands out is the size of government spending in relation to GDP – a metric with huge variation even among the 34 member countries of the OECD (from 23 percent in Mexico up to 58 percent in Denmark, with Australian near the lower end at 35 percent).

But in itself such a metric carries little meaning. A government can be “small” by this measure, while imposing a heavy burden of oppression on its citizens, as was the case with many South American countries in the 1980s. It doesn’t take much expenditure to run a surveillance and police apparatus. Government can be so small as to be absent, leaving citizens to the ravages of gangs and warlords, as in failed or failing states. At the other end of the spectrum are countries with “big” government expenditures, such as Sweden and other Nordic countries, which guarantee civil liberties and offer an attractive environment for business investment.

In most democracies, including Australia, government expenditure has grown because the legitimate demands citizens have placed on government have grown.

But what are those demands and what makes them legitimate?

The wisdom of a US Republican

Abraham Lincoln stated the role of government:

“The legitimate object of government is to do for a community of people whatever they need to have done, but can not do at all, or can not so well do, for themselves–in their separate, and individual capacities.”

That statement was made 160 years ago in a different political context but it encapsulates what most independent economists and political scientists still see as the legitimate role of government.

It has two important parts.

The first is about what people cannot do at all (in their separate and individual capacities). That’s uncontentious: even those on the hard right accept that governments must guarantee the integrity of the currency, provide national defence, and maintain internal security – in fact on these last two functions they tend to go to extremes.

The other is about what people cannot do so well, and this has become contested territory, particularly in the last 35 years since the rise of the Thatcher Government in the UK and the Reagan Government in the USA. If one believes that the private sector always does better than government, then logically the government should not be involved in anything the private sector can conceivably do. It should vacate education, health care, research, environmental protection and so on – all areas where there is some possibility of private sector provision.

The Howard Government, for example, adopted what Minister for Administrative Services David Jull called a “Yellow Pages” test for what should be in and out of government: if an activity appeared in the Yellow Pages directory it should be left to the private sector.

It’s an idea of government, when taken to an extreme, would see a very diminished state. Of course any government pursuing such an agenda confronts electoral opposition, which means that governments of the right concerned with political survival aren’t don’t go the whole hog of privatisation, but the vision remains as an aspiration.

Opposition to the “small government” aspiration is construed as a reaction of a people who have become too accepting of the “nanny state” and too recalcitrant to accept the need for change. Christopher Pyne’s reaction to the Senate’s blocking of his higher-education “reforms” is a textbook illustration of this attitude – we just don’t know what’s good for us.

Those on the right fail to notice the irony of this form of paternalism. And the idea that there is validity in the idea that governments can do some things better than the market doesn’t enter their ideologically-primed minds.

There is a mountain of evidence, however, of the economic benefits of publicly-funded education, health insurance, transport infrastructure and other services where governments do a much better job than the private sector. There is similar evidence that only governments can efficiently mobilise resources for projects with long-term benefits, such as transport systems and broadband networks. There is a whole established economic literature on the limits of markets – the textbook and real-world theory of “market failure” – but politicians who are confident in the intrinsic competence of the private sector can safely ignore evidence and argument, particularly when they have an unshakeable belief in their own economic competence.

The most extreme version of this belief is not just that the private sector is better, but that the public sector is entirely worthless, as captured in the explicit “beliefs” of the Liberal Party, where it is stated that: “businesses and individuals – not government – are the true creators of wealth and employment”, implying that the efforts of police, teachers, nurses and others on the public payroll are worthless, as are public assets such as highways and art collections.

Even those few on the right who do accept that markets fail tend to respond with the claim that government failure is always worse: it’s better to put up with the lesser evil of monopolisation, injustices of asymmetric market power, administrative duplication in the private sector, the short-term focus of corporations and so on, than the greater evil of government incompetence and waste.

Public choice theory

The idea that incompetence and waste are inevitable in government undertakings is given a fig leaf of academic respectability in a theory known as “public choice”, which has been popular in some Australian universities (the nurseries for treasury officials and most politicians).

The nub of the theory is that governments face inexorable pressure to grow. Public servants and ministers, whatever their left/right labels, always enjoy the benefits of bureaucratic expansion, just as (it is supposed) business executives enjoy managing a big company rather than a small one, and voters’ demand for more services is insatiable. President Reagan summarized public choice theory even more succinctly when he said “Government is like a baby. An alimentary canal with a big appetite at one end and no sense of responsibility at the other”.

While the expansionary aspirations of business executives are kept in check by shareholders (a naive assumption), governments have the power to tax – or, better still, to incur debt and to push the pain of repayment on to future voters (an argument that ignores the power of oversold IPOs and share issues to lure mug shareholders in the private sector).

A related aspect of the theory is that governments offer too many openings for rent-seekers – those who can use political clout to secure privilege such as a protected monopoly or a favourable re-zoning of land. It’s best not to have the agencies which have the discretion to offer such privilege. (There is no acknowledgement that good government is about upholding community interests, and that in an unregulated laissez faire situation monopoly and collusion will prevail.)

The net conclusion from public choice theory is that good government is about applying countervailing pressure to these drivers of growth.

The ultimate model of government to emerge from public choice theory is that government is just another “interest group”, like the trade union movement or the mining lobby – admittedly with some differences, but still with the motivation of self-interest – rather than any notion of the public interest or public service. It may hold certain assets, but only as a reluctant owner, rather than as a custodian of the common wealth. (Listen to the language – it’s not about “our” government or “your” government, but rather “the” government.)

The weakness of public choice theory is that it rests on weak or false assumptions: an infantilized view of the electorate (as if people are too stupid to see the connection between taxes and services); an expansionist assumption about the motivations of public servants; and a complete dismissal of any motivational idea other than self-interest.

It also misinterprets the relationship between people and the governments they elect, a misunderstanding illustrated in the heated debates over privatisation. Governments pushing privatisation behave in the same way as investment bankers may – “sell BHP, buy RIO”, “sell the electricity grid, buy tollways”. That detached role is not the way the public see it. It’s their government, with a custodial responsibility for their assets.

The outcome of these ideas – weakened and distanced government

This faith in the intrinsic virtue of “small government” may arise from genuine belief or it may be a rationalization to give respectability to ideas serving the interests of those who can profit (in the short run at least) from a weakened state – crony capitalism in other words.

The vision of the public purpose is that it is best served by the government retreating as far as possible. (An extreme manifestation is to dismiss the very idea of public purpose. If, as British Prime Minister Margaret Thatcher said there is “no such thing as society”, logically there can be no “public purpose”.)

Governments infused with these ideas grudgingly go on providing public services, only because it would be costly to their survival if they did not, and a less fiscally responsible government may take their place. That probably explains the Federal Liberal Party’s “beliefs” and electoral strategies, which are focussed almost exclusively on keeping Labor out of office, rather than articulating any agenda – it’s not “negative politics”, just a frank description of the political scene through the eyes of a Party member. It’s a paternalistic guardian, rather than a party of competing ideas. That’s why it’s so devoid of inspiration: it’s hard to inspire political enthusiasm when your political aspiration is to close the show down.

A related idea is that if it’s hard to wean an electorate off public spending, then its best to do so by diverting the composition of government outlays away from spending on services and on to spending on cash transfers. Rather than providing schools, clinics, roads and so on, public spending is best directed at cash handouts (such as family benefits) or tax concessions (such as those applying to superannuants). That way some of the evil of public spending can be ameliorated, because the final spending decisions are in the hands of individuals rather than public servants. Choice is left to the individual. (In reality choice is left to those who , through advertising and other market manipulations to shape people’s consumption.)

The Howard Government’s generosity with the proceeds of the mining boom, which went to cash transfers for “middle class welfare” while spending on education and infrastructure was squeezed, is illustrative of this philosophy. When we look at the growth of government expenditure over the last 50 years, we see that spending on government services has risen modestly, from 15 percent to 18 percent of GDP, while the growth in personal transfers has doubled from 4 percent to 8 percent of GDP. At the Commonwealth level the trend is even more marked.

It would be wrong to attribute these attitudes entirely to any one party. They may be most clearly manifest in the Liberal Party, but they have infected Australia’s public discourse to the extent that it is now accepted almost without question that the only way to achieve a fiscal balance (in itself an over-simplified goal) is through cutting expenditure rather than raising revenue. (When did you last hear an ABC journalist, quizzing a minister about a budget cut, ask “Yes Minister, but have you looked at the possibility of raising revenue – after all Australia is getting by with very low taxes?”)

It was a Labor Government in the 1980s that instituted a set of “reforms” which ultimately saw fiscal management take over from economic management – to the extent that documents such as those comprising the Charter of Budget Honesty and the Intergenerational Report effectively posit fiscal management (in reality fiscal stringency) as the sole aim of economic policy. Economic policy should be about the whole community’s interests, while fiscal policy is simply about public expenditure and revenue.

“Reforms” under the rubric “new public management” transformed the public servant from a servant of the public to a servant of the minister, with responsibility not for the public interest, but for controlling expenditure within his or her own agency’s appropriation. If budgetary savings can be made by denying services or by shifting costs “off budget” (for example from education departments to parents, from health departments to private insurers), that’s good management, even if there is a net economic cost to the community.

Gone are the ideas of benefit-cost-analysis, which consider the community’s costs (e.g. travel time in location of schools and libraries). At best benefit-cost-analysis is used only as a tool for dealing with limited funds for capital spending, to get the best out of miserly allocations.

And gone is the idea of the common wealth. Even the name of our nation – The Commonwealth of Australia – looks like an anachronism in this brave new world of “small government”.

Restoring the common wealth

There’s no need to go looking for some new role of government – Lincoln laid it out.

Of course there are changes in how this role is realised. Demographics change, which means there is more need for spending on age pensions. Technologies change, which means that more options for health care become available, while some functions once reasonably reserved for government, such as telecommunications, can have more private sector involvement. And relative prices change, which means that while many items of private consumption (cars, travel, entertainment) have become cheaper, some services provided by government, including education, health care and policing, necessarily remain labour-intensive and therefore expensive: it is quite reasonable that relative expenditure on these public services should go on growing for some time (a consideration entirely overlooked in banal fiscal documents such as the Intergenerational Report.)

A restoration of Lincoln’s common-sense understanding of the role of government or the value of the common wealth isn’t going to arise from a simple change in political actors. There is no messianic political “leader” who will take us out of this neoliberal darkness. Public ideas develop over time, through the contributions of many. The task is up to all of us, and let me conclude with some advice to those who have voice in the community.

Politicians (established and wannabe) – question the assumptions of your platforms and of the strategists in your party. Take it on yourselves to learn about the workings of the “mixed economy”, that has contributed so much to Australia’s prosperity in the past. Learn a little basic economics about how and why markets sometimes work well and sometimes fail.

Journalists – put at least as much effort into reporting on public policy as you do on politics, and remember that fiscal management is only one small aspect of economic management. Remind Australians of some hard facts, such as our low tax base. And don’t let a concern for “balance” displace your concern for seeking the truth. Don’t be afraid to expose lies and hypocrisy.

Public sector unionists – don’t campaign about your jobs. Every time you complain that some privatisation or cutback will cost your members’ jobs, the public interpretation is that the activity in question is overstaffed, playing straight into the hands of your detractors. Campaign about public services – and then your jobs will be secure.

Business lobbies – it may be clever in the short term to campaign for lower taxes or cuts in public spending. Such measures will naturally help your immediate profitability to the pleasure of your shareholders and managers. But remember that the success of capitalist economies rests on a wise mix of public and private goods, and on public policies that link contribution to reward and protect the vulnerable. It has taken strong governments to protect capitalism from its own self-destructive tendencies.

“Social progressives”, “greens”, “the left” – engage with economics. It’s not difficult. If you don’t, others will, perpetrating the absurd but glibly appealing ideas that there are conflicts between economic and social objectives and between economics and environmental objectives. If you don’t state your case, these false ideas will dominate.

Australia and similar democracies have done well because economic progress has been a shared venture between the public and private sectors. Our prosperity is built on that shared venture, including the accumulated contribution of governments in education, health care, physical infrastructure and a host of other services that we’re too inclined to take for granted.

As Aristotle warned “That which is common to the greatest number has the least care bestowed upon it”. We need care for our common wealth.

Ian McAuley is Adjunct Lecturer, Canberra University.

The ideas in this paper are expanded in a book ‘Governomics: Can we afford small government?’ written by Ian McAuley and Miriam Lyons, which was published on 1 May 2015 by Melbourne University Press.