Ian McAuley. Is capitalism redeemable? Part 8: Inequality’s downward economic spiral

Nov 19, 2014

Let’s start with what looks like a self-evident proposition. “Countries with right-wing or neoliberal governments spend less on social security than countries with more left-inclined governments.”

It’s a proposition university lecturers put to students of public economics, and the smarter students usually recognize that there’s a trick in it.

Harvard economists Dani Rodrik and Alberto Alesina studied the impact of neoliberal policies such as those pursued by Britain’s Thatcher Government, and found that those policies, because they resulted in widening inequality, actually increased the demand for social security payments.

Whatever images they may project, it’s worth remembering that governments on the right are not entirely heartless, and may even be well-intentioned. Even if it’s only because their supporters find street beggars and shanty towns indecorous, they feel constrained to spend on alleviating extreme poverty. (Lest anyone think that last suggestion is too cynical, we should contemplate our likely political reaction if the squalid conditions of Aboriginal settlements in the remote outback were more visible from the roads and railways used daily by our urban commuters.)

Economists often argue for neoliberal policies, such as those which dilute workers’ rights, on the basis that while they will make some people worse off, they are worth pursuing because they will increase economic growth and therefore improve governments’ taxing power and capacity to make compensatory payments. Anyone with a little mathematical ability can work through the econometric equations and check the validity of this proposition.

The main flaw in the argument is not mathematical. Rather it lies in the assumption that social security payments can compensate for some of the non-monetary costs of disruption associated with economic change. The tradeoff is rarely as stark as a choice between job and a welfare payment, but it is often in the form of compensation for a job with less pay, or with less security. It is easy, for example, for an economist in Canberra looking at a proposal which may wipe out regional economy to suggest generous re-location payments, but those calculations rarely take into account the hard-to-quantify costs of loss of a community’s social capital.

Also, most people prefer some level of self-reliance to dependence on government benefits.

By almost any consideration, “left” or “right”, an economy is healthier if it can provide well-paid employment for all, either in the form of jobs or self-employment in small business, without making too much call on social security benefits. There will always be enough call on the social security budget as a result of ageing, and to those with severe disabilities, without also asking it to pick up the costs of an under-performing economy.

The general way in which governments can avoid this demand for re-distribution is to ensure the economy can support well-paid employment, through investment in human capital (education in particular), research, transport and telecommunications infrastructure, primary health care – in fact the whole set of public services that the market either cannot provide or cannot provide efficiently. Research into the determinants of economic growth show that even public investments which we may consider to be remote from the productive end of the economy, such as street lighting, have a positive effect on growth.

But when there is an increasing demand for social security payments to compensate for poor economic performance, a nation’s public finances become caught in a destructive spiral, as demands for such payments crowd out other areas of government expenditure, particularly if a government has constrained itself with some arbitrary cap on public expenditure. As social security payments crowd out other areas of expenditure, particularly (but not only) education and infrastructure, a country’s long-term economic performance suffers, creating in turn more pressure on the social security system.  It’s a downward spiral to poverty.

This downward spiral is far from hypothetical. It almost certainly accounts for much of Argentina’s economic decline over last century. And closer to home, the Howard Government used social security payments, such as family allowances, to compensate for our economy’s increasing inability to provide well-paid jobs. “Middle-class” welfare was, and still is, an unsustainable way to prop up material living standards.

Hockey, Cormann and their advisors understand that social security payments and some other open-ended benefits are making a big call on the public budget, and that in material terms we are living beyond our means. Some short-term sacrifice is needed in order to put our economy and public finances back on track.

The trouble is that they are going about rectifying this situation in completely the wrong way. Our escape from this spiral should be in the form of increased investment in public services, financed by higher taxes, rather than by cuts in expenditure, while sustaining social security provisions. In time, when those payments are no longer being called upon to compensate for our economic weaknesses, they can even be made more generous for those with enduring needs. Also, expenditure on universally-available services, particularly health and education, besides having high value in themselves, help support the living standards of those who are not so well-off, without being dependent on social security. There is a world of difference between the dignity of participating in shared services and the humiliation of applying for social security.

Higher income taxes, and withdrawal of excessively generous superannuation benefits for the well-off, would carry a message of shared sacrifice.  One doesn’t need a PhD in economics or ethics to understand that it’s almost impossible to ask people to make sacrifices when the burden isn’t shared.

The latest example of the Government’s stupidity in this regard has been in its support for a cut in soldiers’ pay. Any soldier, private through to colonel, knows the military tradition of shared sacrifice. The military is not a democracy – far from it – but when, in difficult conditions, sacrifice is needed, it is across the board, or is even disproportionately applied to senior NCOs and officers. Had the Government cracked down on corporate tax avoidance, made wealthy superannuants pay taxes, withdrawn privileges for family trusts, and scrapped privileges for financial commission agents, it may not be in such political strife over issues to do with military and public service pay.

In this series of articles I have touched on some of many areas of public policy. Many of these will be covered in a book which Miriam Lyons (former Executive Director of the Centre for Policy Development) and I are writing, and which should be published around May next year.

In the final piece I will look at some of the reasons why unjust and economically destructive public policy remains largely unchallenged. The roots of this problem lie much deeper than media bias or political apathy.


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