Michael Keating. Rebalancing government in Australia. Part I.

Nov 3, 2014

The Future of Federalism

Tony Abbott recently announced that he wants ‘to create a more rational system of government for the nation that we have undoubtedly become’. As Abbott describes it, achievement of this more rational system is dependent on developing a consensus based on ‘a readiness to compromise and mutual acceptance of goodwill’.

Understandably the initial reaction of many people was to question whether these lofty (although familiar) aspirations had really been embraced by the most negative and populist politician in living memory. But there is no doubting Abbott’s chutzpah, and perhaps the real regret is that he does not seek to bring a similar rational approach to more significant issues, such as climate change or to the many questions still to be answered regarding our re-engagement in Iraq.

Nevertheless, we should take Abbott at his word and consider what are the options for a more rational federal system for Australia, and what difference it might make. Broadly there are two aspects to possible reforms:

  1. Clarifying and rationalising the respective roles and responsibilities of each level of government, and
  2. Resolving the mismatch between what each level of government is supposed to deliver and what they can actually afford to pay (commonly described as vertical fiscal imbalance or VFI)

Often both these aspects of reform are linked, but it would be possible to make progress on one without changing the other – indeed the Keating Government, which established the Council of Australian Governments (COAG), made significant progress on reforms affecting roles and responsibilities, while ruling out doing anything about VFI. So I will deal with these two aspects separately, starting with roles and responsibilities in this comment, and then with taxation in a subsequent comment.

Rationalising Roles and Responsibilities

The arguments for ‘restoring the State’s sovereignty’ based on clearly defined separate roles and responsibilities for each level of government are that:

  • Adoption of the subsidiarity principle to maximise devolution will improve democratic accountability by bringing government closer to the people with the federal government only performing those tasks that cannot be performed more effectively at an intermediate or more local level
  • In addition democratic accountability will be further improved as this separation will eliminate the “blame game’ and the opportunities for cost shifting between levels of government
  • There will be an improvement in efficiency because the extent of overlap and duplication between different levels of government would be greatly reduced.[1]

On the other hand, despite the intellectual attraction of these arguments in favour of separate roles and responsibilities for each sovereign government, realistically reform of our federal system also needs to consider just why our Federation has in fact evolved in favour of greater national involvement in regulatory functions and the provision of services that were originally the sole responsibilities of the States.

In my view two key reasons for this increasing pre-eminence of the national government are first, federation was always intended by the States to lead to the creation of a national market; indeed that is why one of the first steps was to remove tariffs on interstate trade.  But now that we have a national market, and furthermore are facing global competition, businesses want common standards and licensing across a wide variety of fields; for example, everything from rail gauges, regulation of heavy road transport, company law and national competition, to food standards and the recognition of qualifications.

Second, the responsibilities of government have grown. At the time of Federation pensions did not exist, but the Australian government now has constitutional responsibility for income support, including subsidising critical needs such as medical services, pharmaceuticals, and rental housing. Equally since World War II the Australian government has been expected to manage the macro-economy to ensure full employment and reasonable price stability.  Allied to this the Australian government also has responsibility for population policy, especially through migration, and for the growth in productivity and workforce participation which together determine the overall growth of the economy.

These various national functions and responsibilities are, however, not self contained. Today the various functions of government are heavily inter-related in a way that was much less true one hundred years ago, when we were all much less closely connected. For example, productivity is heavily dependent on the skills of the workforce, but these skills are in turn dependent on the quality of the education and training systems of the States. It is simply not possible for the Australian Government to meet its responsibilities while being unconcerned about the effectiveness of various State government services.

In addition, people by and large think of themselves primarily as Australians. Indeed ever since the 1920s when the Grants Commission was first established, there has been an Australian consensus that the access to basic public services should potentially be the same wherever you lived, and that you should not be disadvantaged if you holiday or move more permanently between States.

In these circumstances the direction of reform of our federal system over the last twenty years or so has been to try and take account of both the importance of devolution in favour of greater democratic accountability, while ensuring that national responsibilities for the welfare of the Australian people and the performance of the national economy can also be met.

In practice this has meant that in these twenty odd years there have been only one or two examples of agreement to clean-lines separation of government responsibilities. For example, the Keating Government agreed to withdraw from all forms of road funding except for designated ‘national roads’ where the national government was the sole source of funding. This should have ended the ‘blame game’ because for each and every road a designated government was solely responsible. Nevertheless, some States continued to lobby for a Commonwealth take-over of some of their major roads, and eventually this clear division of responsibilities broke down when the Howard Government re-entered road funding generally, presumably in response to political pressure, particularly from the National Party.

More generally this approach to reform, which attempts to balance devolution with maintaining the national interest, has led to a shift in favour of national regulation of markets, with the latest major change being the enormous increase in the scope of Commonwealth regulation of workplace relations instituted by the Howard Government using the corporations power. In partial contrast, in the case of the provision of public services, there has been a much greater acceptance of shared responsibilities, but with each level of government having a separate role. At least in principle, this model assumes that Commonwealth will focus on the achievement of outputs and outcomes that have been agreed with the States, but the States should then have considerable discretion as to how those outputs and outcomes will be achieved, having regard to their own local circumstances.

To my mind this is the sensible way for reform of our federation to proceed. Nevertheless it is not without its difficulties:

  • Progress is inevitably slow as each service needs to be considered on its particular merits involving a case-by-case process
  • There is an unresolved issue as to what sanctions if any might be appropriate where a State fails to meet the agreed outcome/output targets; and especially where this reflects under-funding by the State.

In addition, it needs to be remembered that funding the provision of services through the States is not necessarily the best way for government to bring service delivery closer to the clients. In a number of instances the Australian Government is now directly funding non-government organisations to provide services and also private providers who can be closer to their customers than State bureaucracies. For example, the Australian Government has directly funded autonomous universities for many years, although almost all universities were originally established by the States; the providers of labour market and training programs, including TAFE, have a history of being directly funded by the Australian Government; and the proposed model for the National Disability Insurance Scheme will involve direct Commonwealth funding of providers.

[1] This last alleged benefit from a clearer separation of Commonwealth-State powers and functions is often exaggerated. Even if we assume that the Australian public servants involved in the administration of programs involving payments to the States represented complete duplication and had zero productivity, sacking all of these people would reduce total Australian Government payments by around 1 per cent, representing a saving equivalent to only 0.3 per cent of GDP.

Part II will be posted tomorrow.  ‘Taxation reform and vertical fiscal imbalance’

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