This article considers economic strategy post Covid-19. In Part 1, today, it is argued that the principal requirement will be to generate a faster rate of increase in aggregate demand, and that Morrison’s proposed business-friendly policy settings will not help. Part 2, tomorrow, will consider how best to increase aggregate demand and what that implies for the budget balance.
They say that a crisis can be the making of a leader, and that seems to have applied with Scott Morrison. Certainly, Morrison’s poll ratings have recovered, and his government is generally regarded as having done a good job with both health and economic policy in response to the pandemic.
But with signs that in about four weeks or a little less, Australia might be able to start relaxing some of the restrictions on movement, discussion is turning to what is the appropriate economic strategy post Covid-19.
Morrison himself said last Thursday that:
“On the other side of this virus and leading on the way out we are going to have economic policy measures that are going to have to be very pro-growth, that is going to enable business to employ people, that is going to enable businesses to invest and businesses to move forward.”
Morrison then went on to say that the official advice is that we could not expect high levels of economic growth with similar sorts of policy settings as those used in the past. As Morrison put it “a very clear message from the economic advisers this morning, particularly Dr. Lowe, is that if we thought we can just grow the economy under the old settings then we need to think again”.
In a sense this is hardly surprising, although recognition of past policy failures is most welcome.
The fact is that Australia’s economy was performing very poorly for some years before the Covid-19 crisis. Over the three years from December 2016 to December 2019, GDP growth averaged only 2.3 per cent, business investment was flat, labour productivity did not increase at all, and real wages averaged only a 0.4 per cent annual rate of increase.
This stagnation in the economy and incomes over the last few years compares with economic growth averaging 3.4 per cent over the period from 1994-5 to 2012-3 and real wages increasing at an average annual rate of 1.1 per cent over the same period. Clearly our economic performance used to be very much better than it has been under this government and something needs to change.
But what are those different policy settings that Morrison and his official advisers have in mind? One press report is that Morrison’s pro-business forward agenda would target company tax cuts, industrial relations reform, and deregulation.
This, however, is not a new policy agenda. Rather it would represent an attempt to resuscitate a failed agenda from the past.
Furthermore, I would be surprised if this sort of policy agenda reflected the official advice. Most importantly we know that the Governor of the Reserve Bank is on record as saying back in 2017 that “The real crisis is in real wage growth”.
Sure the key to improving economic growth lies in increasing productivity and that will require more business investment, but business investment depends primarily on increasing demand for the products of businesses. As we have seen without that increasing demand, the extra revenue from a company tax cut will just be paid out to shareholders through more share buy-backs and increased dividends. For example, in the first six weeks after Trump’s company tax cuts took effect, US companies announced a record $171 bn of share buy-backs – two and a quarter times as much as in the whole of the previous year.
Equally, there is no need for more so-called industrial relations reform, and regulation is not what is holding the economy back. As Stephen Bell and I show in our book, Fair Share, Australia now has a very flexible labour market – even more flexible than America – and the calls for more industrial relations reform are just camouflage for lower wages, which is the last thing this economy needs right now (see more below).
Indeed, as Prof. Borland – one of Australia’s leading labour market economists – found, the reforms of industrial relations since the introduction of enterprise bargaining twenty five years ago have achieved nothing of substance, having little discernible or no impact on wages growth, labour market adjustment, labour productivity, earnings inequality or industrial disputation. Accordingly, Prof. Borland concluded that: “I do not see the need for major reform of Australia’s industrial relations system”.
Similarly, the Productivity Commission in its last major review in 2017 about how to improve Australia’s productivity growth rate never mentioned either industrial relations or deregulation. Instead, the focus of that report was on how to improve the quality and effectiveness of government services.
What the government needs to appreciate is that the recent poor growth record of the Australian economy, and most other advanced economies, is not because of a lack of supply. Instead, the problem has been a lack of demand, and that lack of demand is because of the increase in inequality of incomes and the pressures on household incomes from low wage growth.
Indeed, both the IMF and the OECD have found that increasing inequality has been bad for economic growth. The IMF found that:
If the income share of the top 20 per cent increases by 1 percentage point, GDP growth is actually 0.08 percentage point lower in the following five years, suggesting that the benefits do not trickle down. Instead, a similar increase in the income share of the bottom 20 per cent (the poor) is associated with 0.38 point higher growth.
While the OECD found that: ‘Rising inequality by 3 Gini points, that is the average increase recorded in the OECD over the last two decades, would drag down economic growth by 0.35 percentage point per year for 25 years: a cumulative loss of GDP at the end of the period of 8.5 per cent’.
Thankfully, in developing its economic response to the Covid-19 pandemic, the Morrison government did recognise that household incomes and demand needed to be supported. Accordingly, the Australian economy will emerge largely intact from the pandemic precisely because the government did an about turn and adopted Keynesian stimulation policies without regard for the budget deficit.
Now in considering economic policy post Covid-19, to my mind there are two key issues that future economic policy settings will need to address:
1. How best to support aggregate demand in the future, and
2. How quickly to restore the budget balance?
In part 2 of this article I will address these two issues tomorrow.
Bell, S. & Keating, M., 2018, Fair Share: Competing Claims and Australia’s Economic Future, Melbourne University Press.
Borland, J., 2012, ‘Industrial Relations Reform: Chasing a Pot of Gold at the End of the Rainbow’, Australian Economic Review, vol. 45, pp. 269-89.
IMF, 2015, ‘World Economic Outlook: Adjusting to Lower Commodity Prices’, World Economic Outlook, IMF Publishing Services, Washington, DC.
OECD, 2014, Focus on Top Incomes and Taxation in OECD Countries: Was the Crisis a Game Changer?, OECD publishing, Paris.
Productivity Commission, 2017, Shifting the Dial: Five Year Productivity Review, Commonwealth of Australia.
Michael Keating is a former Head of the Departments of Prime Minister & Cabinet, Finance, and Employment & Industrial Relations. He is presently a Visiting Fellow at the Australian National University.