ANHECA Speech 20 Nov 2000

Financial dynamism, or economic dynamism?

Presentation to ANHECA Conference, Perth, 20 November 2000

Ian McAuley, School of Management and Policy, University of Canberra

Introduction

Few industries face such an assured growth market as residential aged care. People in this forum know the projections, most recently confirmed in the Productivity Commission research on long term aged care expenditure.⁽¹⁾ In line with similar research, the Commission acknowledges that there have been alarmist forecasts on the capacity of the Australian economy to cope with an ageing population, but Australia still has a young population for a developed country. The Nordic countries, for example, already have an age profile which resembles Australia's projections 25 years hence.⁽²⁾ So long as our ageing population follows international trends and stays healthy longer, there is no need to be overly concerned. Along with other New World countries we will age fairly rapidly, but from a young base. And so long as economic growth is sustained in Australia, we should cope easily.

Whatever one's ideological perspective about private or public funding for aged care, continued economic growth is an important condition for the accumulation of private savings or collection of taxation revenue.

But there is no certainty about continued strong economic growth. I will suggest that our recent spurt of economic growth, while impressive, is not sustainable without significant structural changes. While some of our growth has resulted from genuine productivity improvements, much is a result of living off capital and allowing future liabilities to accumulate. Impressive headline figures on growth and unemployment have tended to mask some serious economic problems. If we do not address these with appropriate policies then we could re-enter the stagnation of the 1970s. If we do address them then growth will continue, but tending to these demands will create heavy pressures on public budgets, in competition with other priorities - such as residential care.

In this session I want to put later sessions into perspective with a longer term look at the Australian economy over the past fifty years, and to conclude with some scenarios for the future. This presentation may be a little less upbeat than others. We should heed Galbraith's warning that all pessimism has an air of authority. But my intention is not to depress; it is merely to sound a few warnings about how financial exuberance can distract us from important economic issues.

Economic performance - three eras

There have been three distinct economic eras in the second half of the twentieth century, with reasonably clear break points:

(1) The postwar boom from 1945 to 1972, a period of high growth, full employment and contained inflation.

(2) A period of instability and uncertainty from 1973 to 1985, as Australia went through difficult economic adjustments, including two oil shocks, a collapse of the postwar international financial order, and exhaustion of the benefits of the policies of tariff protection, financial market regulation, restrictions on domestic competition and high immigration.

(3) Resumption of growth in a more trade-exposed, less regulated economy, from 1986 to the present, punctuated by a mild recession in the early 1990s, with falling inflation and falling (but still high) unemployment.

The main economic indicators from these eras are shown below.

Table 1. Main economic indicators, Australia 1945 to 2000

. Annual economic growth % Annual per capita economic growth % Unemployment rate% Inflation% (CPI) Balance on current account % GDP

1945 to 1972 4.7 3.0 1.9 3.0 -2.7

1973 to 1985 3.0 1.7 5.9 10.0 -2.8

1986 to 2000 3.7 2.3 8.4 4.2 -4.6

Source: ABS and Reserve Bank time series. In some cases data does not go back to 1945, some time series start in 1954.

Australia, like most other developed countries, has enjoyed a degree of economic success over the last fifteen years, but by no means has the success of the postwar been replicated. The postwar success, however, was unsustainable; to an extent the difficulties of the 1973 to 1985 era were a realization of that unsustainability. Is the current growth era sustainable over a long period?

Just as growth in the postwar era Australia's growth was unsustainable, the growth of the last fifteen years has obscured a number of economic problems. While Australia has had an impressive era of productivity gains, which have led to strong non-inflationary growth, there have also been weaknesses in that growth. In particular much of that growth has been based on consumption, fuelled by rising asset prices, a reduction in household savings, the proceeds of government asset sales and reductions in public investments. Australia has a legacy, dating back at least to the gold rush, of living off its capital, and we have not fully shaken off that tradition. Our bursts of growth have produced impressive financial performance, but we need to remember that financial performance does not equate to economic performance.

Financial dynamism - this time it's different

Henry Ford is reputed to have escaped the great financial crash of 1929; he bailed out of the stockmarket a few months before the Crash. The story is that on his way to his office one morning the elevator boy took the opportunity to glean some advice on his modest portfolio. On reaching his office Ford phoned his broker with his sell orders - his logic was that when the elevator boys start speculating it's time for the serious investors to bail out.

This time it's different of course.

They're not my words; they're the words of Sir John Templeton. In full context he said "The four most expensive words in the English language are 'this time it's different'".

Perhaps the main differences are that the generation which remembers the times leading up to the Great Depression is no longer with us, and we no longer have elevator boys. But we have some other warnings of financial exuberance. Ten years ago share ownership was confined to only 15 percent of Australians households; the figure now is 54 percent.⁽³⁾ And there are many more households which have been transient share owners. The capital gains from popular floats and demutualizations such as the Commonwealth Bank, the NRMA, the TAB and Telstra have increased paper wealth and until the last few months they have stimulated consumer confidence. The Reserve Bank has pointed out that consumption resulting from life insurance demutualization contributed significantly to economic growth over 1999-00.⁽⁴⁾ But demutualizations and privatizations do not create any real wealth; they are merely a financial transfer.

To the small investor an increase in the paper value of a share portfolio or a check in settlement of a demutualization of an insurance company looks like windfall income to be spent. Those gains in wealth are largely illusory, however, for stock prices reflect trade at the margin. If I had bought 1000 BHP shares at the recent low price of $13, and sold them at a high of $20, then I could validly say I had realized a gain of $7000. But if everyone tries to do so, we know the consequences.

Apart from the second instalment of Telstra, Australia's large scale privatization floats have been priced low, thus boosting the wealth illusion.⁽⁵⁾ Much of Australia's recent growth can be attributed to this illusion of wealth. The Reserve Bank, earlier this year, acknowledged that much household consumption has come from gains in wealth across many asset classes, and inexpensive and freely available credit.⁽⁶⁾

As Australians have come to be conditioned to gains in wealth without saving we have seen the reappearance of financial instruments not seen since the 1920s, such as margin loans secured against portfolios. And there are now financial instruments that were not even thought of in the 1920s, such as credit cards - average revolving credit per capita has risen from around $500 in the mid nineties to around $2400 now.⁽⁷⁾ With a naive belief in the bounties of superannuation, Australians have largely abandoned personal savings. Fifteen years ago household debt stood at 40 percent of disposable income; it is now near 100 percent of household income.⁽⁸⁾

Stock market indices are hovering around record levels (although in terms of the ratio of stockmarket indices to GDP we are still below the dizzy heights of the mineral boom of the early seventies). When the business cycle does turn down, even with a minor correction, the wealth effect may work with equal strength in the opposite direction. In previous stockmarket falls the household sector has had a buffer of personal liquidity; that buffer is now largely gone.

It is not only the household sector which has been enchanted by financial dynamism. Much of the business sector is also carried away. One of the fastest growing industries in the Australian economy has been the finance, insurance and business services sector. In 1975, before financial sector deregulation, that sector accounted for 9.6 percent of Australia's GDP; it now accounts for 18.6 percent.

Many Australians see this financial dynamism as an unmitigated good. But we are in danger of mistaking the paper economy for the real economy. Of course every modern capitalist economy needs a stock market and a set of well regulated financial institutions. But these are not the ultimate source of a nation's wealth. They are part of our overhead, and, in many respects, Australia resembles a firm which has become top heavy in the head office. True, government bureaucracies have been trimmed, but the total bureaucratic overhead on the Australian economy has grown strongly over recent years. My estimate, drawing on ABS wages and salaries data, is that the bureaucratic overhead has grown from around 17.7 percent of GDP in the early 1980s to 25.4 percent now. And that is in spite of massive advances in productivity brought about by computer technology.

A by-product of this exuberance is short termism. Companies have become more concerned with cash flow than with profitability. Dividend payout ratios are high, to satisfy the inflated expectations of shareholders. Many companies set absurdly high discount rates for investment - rates of 15 percent and 18 percent are not uncommon. At those rates it is very difficult to justify anything other than financial investments, such as acquisitions. Investments in new products or processes take a back seat to speculation, takeover. It becomes more attractive to sell or close loss-making divisions rather than re-investing in new technologies, products and skills.

Governments have contributed to these attitudes. The changes to business taxes, which were overshadowed by the political din around the GST, are almost tailor-made to reward speculation. We now have a capital gain tax régime which taxes illusory asset appreciation resulting from inflation. That's fine for a speculator in dot.com floats, but it's bad news for an investor in a long term asset with stable real value, such as a farm or a nursing home. And governments have discouraged personal savings; there are tight asset provisions on social security payments, and one of the current government's more disingenuous policies has been to apply a 30 percent disincentive for people to save for their own health care contingencies. The Commonwealth abandoned reform of its own operations ten to fifteen years ago, preferring to take the easier but ultimately more costly path of divestment.⁽⁹⁾

I know the ANHECA is enthusiastic about the resources which will be accumulated by an aging, prosperous population, but we have a set of community attitudes and government policies which are inimical to long term savings. Australia's culture is still that of an extractive economy, still the culture of the "lucky country". We are now pinning faith in superannuation, but that is unlikely to have much benefit in the medium term; by 2015 the average superannuation accumulation of a retiree will still be only a little more than $200 000 - enough to provide only another $5 000 of income after pension reduction.⁽¹⁰⁾

We should heed the lessons of history. Financial booms of the past have ended in pain - the tulip boom in the seventeenth century, the South Sea bubble of the eighteenth century, the railroad mania of the nineteenth century, and of course the major and minor crashes of the twentieth century.

One side effect of booms, is the growth of the paper economy. But is this economic success? We don't have to look back as far as 1929 to see a historical precedent; most recently the collapse of the Soviet Union carries a warning about the stress placed on a nation from the burden of a swollen bureaucracy. Our universities are turning out more economists and accountants than engineers and scientists, more MBAs than almost all other postgraduate disciplines combined.

To support all this overhead, we need a real economy - people to grow food, to construct buildings, to teach children, and, of course, to care for the aged. I want to draw attention to the deficits in the real economy.

The real economy - deficits and accumulating liabilities

While the paper economy booms, other parts of the economy are showing much less impressive performance. While the Federal Treasurer boasts of our reduction in public sector debt, politicians are all much more coy about our other deficits - our chronic imbalance on current account, our loss of valuable natural resources, our poor public assets, particularly transport infrastructure, and our deficits in skills.

We will need resources to counter these deficits. Whether they are manifest in the public or private sector, these deficits will put strains on our economy.

Balance on current account

In terms of traditional economic indicators, Australia's balance on current account, and the associated accumulation of foreign debt and foreign ownership of industries is the most serious long-term problem. While other indicators have improved in the last fifteen years, our balance on current account has worsened. We are now running a current account deficit in the order of five percent of GDP - a level which may be tolerable for a new, emerging high growth economy, but absolutely unsustainable in a mature economy.

The Government's rationalization of this problem is not convincing - as our currency markets reflect this weakness our government shifts the blame to the misunderstanding outside world. But whatever politicians say, Australia is still an "old" economy in its structure. Half of our exports are still agricultural, mining, or basically transformed metals. Our manufacturing sector, while having some shining examples of excellence, is still largely characterized by low technology and labour intensity. We suffer from labour market inflexibilities; these are well publicized. But we also suffer from poor management, a poor climate for innovation and a financial sector with a "bricks and mortar" mentality.

Table 2. Composition of Australian Exports - Percent

. 1986-87 1998-99

Rural 28 20

Minerals and metals 33 28

Manufacturing 11 18

Other 9 11

Services 18 23

. 100 100

Source: ABS Cat 5302.0

As our exchange rate falls we can expect a resurgence in inflation. Of course there is a recent jump due to the GST, but even the Commonwealth's own estimates of underlying inflation (excluding GST effects) have recently been upgraded to 3.25 percent.⁽¹¹⁾

Environmental deficits

While we can bring to consideration measures of balance on current account and inflation, other deficits are more difficult to measure, but they are no less real. Australia has huge environmental problems, including salination of agricultural land, loss of biodiversity, erosion, and eutrophication of rivers. Our electricity industry is heavily dependent on coal. Much of Australia's prosperity is due to depletion of non-renewable resources over two hundred years - gold, soils, iron ore, coal, oil. As we have dug up our country we have treated the proceeds as permanent income, rather than as depletion of assets.

Public sector deficits

From a peak of 9 percent of GDP in 1966, public sector investment is now down to around 4 per cent of GDP. To put that into another perspective, if government capital investment were to be restored to 1966 levels, that would represent a boost of $30 billion annually. This is not only a Commonwealth responsibility; indeed, most is the responsibility of state and local government, but all tiers of government are suffering fiscal stress. If nations could keep proper and informative balance sheets, we would see that our impressive reductions in government debt have been matched, or perhaps more than matched, by reductions in national assets.

The justification for such policies is to suggest that "big" government is bad for economic growth. According to this view government is no more than an unproductive overhead on society. If we want economic growth, there is no alternative to cutting the size of government.

Research suggests that the picture is much more complex. Indeed, there is no discernable relation between the size of government and economic performance.⁽¹²⁾

Table 3 shows the alignment, or rather the lack of alignment, between countries' ranking on the world competitiveness index and the size of their public sectors, as indicated by the share of government expenditure in GDP. If small government were strongly associated with competitiveness, we would expect that the countries at the top of the table would have small governments. In fact, there is no discernable correlation between size of government and competitiveness. It is notable that the Northern European democracies, most of which have very large public sectors, generally rank well ahead of Australia in terms of competitiveness. Netherlands, for example, owes its position to conscious policy of open trade combined with a very active government domestically, and Finland to strong infrastructure investment.⁽¹³⁾

Table 3. World competitiveness and size of public sectors

Country Ranking on world competitiveness index Govt expenditure as percentage of GDP

United States 1 33

Finland 3 41

Netherlands 4 43

Switzerland 5 27

Luxembourg 6 27

Ireland 7 32

Germany 8 45

Sweden 9 54

Iceland 10 34

Canada 11 40

Denmark 12 52

Australia 13 32

United Kingdom 15 42

Norway 16 42

Japan 17 27

Austria 18 44

France 19 46

Belgium 20 50

New Zealand 21 16

Source: World competitive ranking from The Economist 22 April 00, Government expenditure from OECD, 1997 data except for Denmark (1996). No OECD data available for Singapore (#2) or Hong Kong (#14)

That same research shows that it isn't so much the size of government expenditure that counts; rather it is the composition of expenditure that counts. Most empirical studies find that government investment expenditure, other than military expenditure, aids economic growth.^(14),(15) On other areas of government expenditure the evidence is, at best, inconclusive.⁽¹⁶⁾

Yet in Australia it is capital investment which has suffered the most severe cuts in government expenditure. From the late seventies to the present there have been cuts in capital outlays. The most severe capital cuts have been in roads, water and sewerage infrastructure and environmental protection. Some of this reduction can be explained by the sale of government business enterprises, such as water utilities, but that does not explain the cut in the category "general government" capital expenditure.

Much of this reduction has occurred in road funding, even while there are severe deficits in both urban and country roads. Only two capital cities, Canberra and Sydney, are linked by an adequate highway - in fact, in the 2000-01 Budget the Minister for Transport and Regional Services announced an indefinite deferral of plans to complete the highway link between Sydney and Melbourne. No capital city has a completed ring road, cities are choking under the pollution of slow moving diesel vehicles in residential and business streets. Traffic congestion costs in Australia are $5 billion a year.⁽¹⁷⁾ Although rail transport has fared a little better, there are still severe deficits, with constraints of load and speed limits on most tracks which render rail transport inadequate for all but high bulk goods.

The same holds with other infrastructure and with investments which, although they would not show on national accounts as "capital", are conceptually capital in that they yield benefits into the future - such as education and research. In particular there have been deep cuts in public investment in tertiary education, both university and TAFE. We may be seeing the results in terms of deficits in human resources. Even with high unemployment, in the order of 7 percent, we are facing many labour shortages. Some of these shortages may be transient, such as the shortage of building tradespeople in the pre GST and pre Olympics booms, but there are signs of more entrenched labour market problems, such as shortages of nurses and teachers. The generation which benefited from taxpayer funded tertiary education has now imposed on its children a savage "user-pays" regime, which rewards years of tertiary study and deferral of income with the burden of a HECS debt. A HECS debt may be easily repaid by a medical specialist but it can be a tough burden for an aged care nurse embarking on his career. While there is rhetoric about "family values", we have collectively become too greedy to care for our own children - indeed for any generation other than our own.

These deficits are ignored in the obsession of the Commonwealth and financial markets with the cash balance. In response to the Federal Treasurer's recent modest proposals to increase road funding, many financial commentators have come close to accusing him of fiscal profligacy.⁽¹⁸⁾ But most individuals and businesspeople, who live and work in the real economy rather than in the rarified atmosphere of finance, know that it is quite legitimate to borrow for assets which yield future productive benefits, but in the Commonwealth there is an obsession about reducing debt - as if government debt is the sole measure of public sector management. Possibly it is a political point - a hope that the public or the financial markets will equate low debt with sound management. Or possibly it is sincere belief that a modern economy does not need public investment. If so, it's a costly misunderstanding.

Tony Harris, former New South Wales Auditor-General, commenting on this debt obsession (in both Commonwealth and State governments) points out simply:

Perhaps we are meant to believe that State or federal debt is bad. But when debt allows government to develop assets important to our, and our successors' living standards - assets such as roads and schools and hospitals - we should acknowledge that debt has its place.⁽¹⁹⁾

Australia's government debt (all levels of government) is now down to around 7 percent of GDP, compared with an average 40 percent in the OECD countries as a whole. This sounds impressive; if our debt were at the OECD average we would have another $210 billion of debt. Re-framing this figure sounds less impressive - we could have another $210 billion of roads, railroads and other productive assets without exceeding the average OECD debt level.

Michael Porter of the Harvard Business School stresses the need for infrastructure:

Upgrading a nation's industry depends on a modern and improving infrastructure. This is particularly true in advanced transportation, logistics, and telecommunications, all integral to introducing modern technologies and to competing in international markets.⁽²⁰⁾

Of course some infrastructure can be provided in the private sector. The conditions which define natural monopoly, and therefore require public sector investment, change with growth and with technology. For example, telecommunications was once considered a natural monopoly because of the need for a fixed system of subscriber wiring, but wireless technologies are allowing competitive provision by the private sector.

In many cases, however, private markets cannot supply infrastructure at all - in particular infrastructure characterized by "non-excludability", which is necessarily provided without immediate charge to the users. The private sector may provide a few high density urban roads, for example, but it will not provide rural roads or even trunk roads, for the transaction costs in charging users would be absurdly high. It may provide high standard urban telecommunications, but it will not provide rural communications.

In some cases, the private sector may be able to provide infrastructure, but only at higher cost and perhaps less effectively than the public sector. Melbourne's public transport has been effectively privatized, but the individual private operators are each concerned, understandably, with their own part of the system. The network as a whole is operating poorly because of this lack of coordination.⁽²¹⁾ Private toll roads in Sydney are profitable for the private companies concerned, but they are not well integrated into those cities' transport systems.⁽²²⁾ A toll road in the middle of a "free" road system is not well utilized.

These points are not the manifestation of some radical left wing ideology. Rather, they are examples of the long established theory of public goods, a theory which until the 1980s sat very comfortably within the general framework of market economics. But we now seem to be gripped by a blind ideology which disregards the limits of private markets and discredits the worth of public enterprise - a transposition of the similarly destructive ideology of Soviet communism which saw no place for private markets.

The bind on governments

A fundamental shift in public finance in Australia has gone largely unnoticed. Yet it has been going on for 25 years, during two Coalition and two Labor administrations.

That shift is the increasing use of transfer payments to individuals to compensate for the incapacity of the economy to provide well-paid employment. These transfer payments are both to the unemployed and to those whose incomes from employment are insufficient to sustain a family. As these transfer payments rise, government services are cut. We have already mentioned cuts in capital expenditure, but this is part of a wider phenomenon of using public welfare expenditure to compensate for poor economic performance.

Economists who study income distribution find that over the last twenty years there have been widening disparities in earned incomes.⁽²³⁾ Those with the requisite skills for a modern economy are finding well-paid jobs, but others, at best, are finding poorly paid jobs and at worst are suffering long spells of unemployment. The same research, however, finds that government transfer payments are tending to close the gap. Few reasonable people would argue against transfer payments for the unemployed and those in poorly paid jobs, but is such a policy sustainable?

Commonwealth expenditure is becoming dominated by personal transfer and near-transfer payments such as health care. Over the period 1974-75 to 1999-00, Commonwealth outlays on these programs - specifically health, social security and welfare - have increased from 8 percent of GDP to13 percent of GDP, while expenditure on direct services - education, transport, defence, research, industry assistance, payments to the states and a large number of smaller programs - have fallen from 20 percent of GDP to 10 percent of GDP. Almost all the cuts in expenditure have been focussed on these direct public services.

Table 4. Commonwealth Outlays As Percentage of Non-Farm GDP

. 1974-75 1999-00

Health 2.1 4.0

Social Security & Welfare 6.1 9.3

Public Debt Interest 1.5 1.1

Other 19.5 10.4

Total 29.2 24.8

Source: Calculations based on Commonwealth Budget papers and on ABS National Accounts data.⁽²⁴⁾

At some point we need to choose between cutting personal transfer payments - welfare - or raising taxes, for those national assets (our common wealth) which cannot be provided by private markets, are being depleted. Of particular concern in relation to aged care is that transfer payments to compensate for a poorly performing labour market tend to crowd out transfer payments for those whose need relates to other factors, such as infirmity.

Anthony Giddens, surveying the damage left behind by the Thatcher Government in Britain, observed ironically that her policies of neoliberalism, far from reducing the size of government, has resulted in larger public sector outlays to finance the welfare benefits to be paid to the victims of neoliberalism.⁽²⁵⁾ Australia is suffering a similar phenomenon. We are caught in a destructive loop of positive feedback of economic underperformance - low expenditure on education, infrastructure and other productive public services, which leads to poor economic performance, including a poorly performing labour market, which leads to a poor tax base and demand for transfer payments, which crowds out productive public expenditure. That cycle needs breaking.

Breaking the cycle - political scenarios

In sum, I have suggested that the Australian economy is accumulating problems; we still have the get-rich-quick culture of an extractive economy. We certainly are generating some impressive headline figures. But below the surface there are problems. There is certainly a financial dynamism we have not seen for a long time, but an economy needs more substance than a dynamic financial sector. Real wealth is generated by those who grow food, educate children, construct buildings, clean up environmental damage, program computers, manufacture cars, and provide aged care services. The financial economy is simply an overhead which has to be supported by this real economy.

The incentives and performance indicators tend to distract us from the task of attending to the real economy. In the household sector the incentives are to spend and speculate. In the corporate sector there is pressure for short term results rather than long term wealth creation. In government the political imperative is to generate headline cash balances and to appease the population with transfer payments, even if that means underspending on productive programs and public assets.

But just as the postwar boom prosperity exhausted itself because of unsustainability, so too may this present boom. Certainly the economic outlook now is less optimistic than it was a few months ago, with declines in both consumer and business confidence, but it is too soon to tell whether this is a normal cyclical downturn, an adjustment to the recent tax changes, or the manifestation of the unsustainability of our present economic path. (When the oil and currency crises hit western economies in 1973, most governments interpreted the problems as cyclical rather than structural, thus collectively exacerbating the problems.)

If we try to carry on with business as usual, particularly through an economic slow down or even a recession, there may be very high stresses on Australian society. Inequality is more easily accepted when there is generally rising prosperity, but in times of stagnation it can lead to great tensions.

In particular there is anger at the excesses of the corporate sector. The Roy Morgan Poll finds that over the last twenty years the percentage of Australians who say that banks are doing a good job for Australia has fallen from 47 percent to 12 percent.⁽²⁶⁾ This is understandable, given that the profits of the "four pillars" last year were $13 billion, or around $1 600 a household.⁽²⁷⁾ Other industries to get poor ratings in the same survey include insurance and finance firms, with ratings off 13 percent and 6 percent respectively. Outrageous levels of executive remuneration, particularly in the financial and telecommunications sector, have become the subject of public outrage. (In mentioning the telecommunications sector I'm referring particularly to the payments of $15 million plus options to two One Tel executives, after posting a $290 million loss.)

Countering this anger, those who defend high profits and six digit executive salaries correctly point out that redistributing them would do little to alleviate poverty or inequality. By historical standards corporate profits in Australia are not excessive - at around 15 percent of GDP they are only a little above their long term levels. But framing the issue in terms of redistribution of executive salaries or profits shows a naive misunderstanding of the source of the anger. It is the symbolism which counts. There is now a class whose behavior can only be described as vulgar, extravagant and ostentatious, showing no more sensitivivity to public opinion than did the court hangers-on in the France of Louis XV, or the party officials in the USSR. The corporate box at the Olympics, the corporate jet, the corporate BMWs, are all symbols of arrogant insensitivity and a value system which sets different rules for the masses and for the élites. Not only do the élites set different rules, but they also tend to live in different spaces with private schools, private hospitals and we are even seeing the emergence of US style gated communities. No nation can sustain a norm of mutual obligation, or even a sense of society, when one small plutocracy so visibly drinks so freely from the corporate trough. The worst enemies of liberal capitalism are those who bring it into public disrepute, fuelling outbursts of anger from angry shareholders, sacked workers, and, at the more strident end, the S11 protestors.

These voices are likely to become louder whenever the current cycle turns down. And therein lies the political risk. One possibility is political disengagement, and another is strong political reaction. Both are damaging but in different ways.

Political disengagement means passive acceptance of an economic and social order of privilege and exclusion for the fortunate contrasting with relative poverty and powerlessness for the masses. This is sometimes called the "Brazilinization" of Australian economy and society. The mass of people become cynically disengaged, knowing that the returns from effort, risk taking or investment will be appropriated by a parasitic wealthy class.

Political reaction can be manifest in an attempt to revert to the ways of the past - tariff protection, restrictive trade practices, and protection for groups who can obtain political privilege. There are minor manifestations from many quarters. For example medical specialists, pharmacists and newsagents have managed to be exempt from national competition policy. The protests against internationalism and the appeal of far right political parties, although from different ends of the political spectrum, are manifestations of the same sentiment. Such inward-looking attitudes reward caution, conservatism and economic rent-seeking (such as tariffs and restrictions on competition) rather than initiative, as the nation slumps into a stagnant form of democratic socialism.

Under either scenario, the prospects for sustained economic growth are not promising. But there is no inevitability in these scenarios. An alternative is political leadership which allows us to face up to these problems, which doesn't hide the hard issues behind impressive figures and promises of tax cuts. It involves facing up to the need to invest in infrastructure and human capital, to reward effort and initiative, and generally to focus on long term wealth creation rather than immediate consumption.

For the public at large that may mean accepting higher taxes, but research shows that people will accept higher taxes provided they see benefits in return.^(28),(29) It may mean re-invigorating a mentality of saving - of personal responsibility for saving and investment. It may mean taking more responsibility for our parents and our children, probably through the collective instrument of taxation.

For governments, that means investment in public goods, including the "hard" assets of physical infrastructure and the "soft" investments in education, environmental restoration, research and training. It means going back to a capital gains tax régime which does not penalize long term investment by taxing fictitious gains from inflation - a particularly unfair imposition on firms providing long life assets such as accommodation for the aged.

For businesses it means attending to interests other than immediate shareholder demands for dividends, or executive demands for higher pay. It means making investments with modest but sustainable returns, and attending to the needs and interests of all stakeholders. And for executives and board members it means setting an example to those stakeholders - treating the business as an entity to be fostered, rather than as a goldmine of executive perquisites.

Those are the ingredients of economic dynamism. It is less exciting than financial dynamism, but it is more sustainable.

Notes

1. Productivity Commission Staff Research Paper Long Term Aged Care: Expenditure Trends and Projections Productivity Commission October 2000

2. See OECD Health Data 1999 (CD ROM) for national age profiles.

3. Australian Stock Exchange Share Ownership Survey 2000.

4. Reserve Bank of Australia Demutualisation in Australia (RBA January 1999)

5. Bob Walker and Betty Con Walker Privatisation - sell off or sell out (ABC Books 2000), Chapter 4.

6. Reserve Bank of Australia The Economy and Financial Markets (RBA Bulletin February 2000).

7. See: ABS Cat 5761.0 Lending Finance; CPI used to bring series to constant prices.

8. Reserve Bank of Australia, 2000, op. cit.

9. Ian McAuley "Dumbing Down in Canberra - A Guide to the Public Sector Reform Industry" Dissent Autumn/Winter 2000.

10. Productivity Commission, op. cit. p 37.

11. Department of Treasury Mid Year Review 2000.

12. See, for example, Economic Planning Advisory Council, Council Paper #44 The Size and Efficiency of the Public Sector EPAC 1990.

13. Sheryle Bagwell "Going Dutch a pointer to the Third Way" Australian Financial Review 20-25 April 2000.

14. David Aschaeur "Is Government Spending Productive?" Journal of Monetary Economics Vol 23, 1989.

15. Isabel Argimon Does public spending crowd out private investment?: Evidence from a Panel of 14 OECD Countries (Banco de Espana, Madrid, 1995)

16. Francis Castles and Steve Dorwick The Impact of Government Spending on Medium term Economic Growth in the OECD (ANU Centre for Economic Policy Research 1988)

17. John Cox Refocusing Road Reform Business Council of Australia 1994.

18. For example, Chris Richardson of the influential firm Access Economics, on the ABC PM program on 15 November, warned that the Commonwealth in spending on roads was being fiscally irresponsible. Debt reduction should be a priority he argued. If the Commonwealth were planning to spend on current consumption expenditure, this warning would have some validity.

19. Tony Harris "Debt: virtue in the middle" Australian Financial Review 16 May 2000.

20. Michael Porter The Competitive Advantage of Nations (Free Press 1990) p. 637.

21. See, for example, Paul Mees "A Public Solution to City Transport" Dissent #2 Autumn/Winter 2000.

22. Economic Planning Advisory Council Private Infrastructure Task Force Interim Report EPAC 1995. (The final report, published later in 1995, refers readers back to the analysis in the draft report.)

23. National Centre for Social and Economic Modelling, University of Canberra Income Distribution Trends 1982 to 1996-97 (NATSEM 2000)

24. The source for budgetary data is the 1998-1999 Commonwealth budgetary documentation. Budgetary documentation for 1999-2000 and 2000-01, has suppressed the detail which would allow such analysis.

25. Anthony Giddens The Third Way (Polity Press UK 1998).

26. See http://www.roymorgan.com.au/polls/2000/3330/ (Author accessed 25 October 2000).

27. This figure includes profits from overseas operations, but, offsetting this, it does not include profits of the otherAustralian banks.

28. David Throsby and Glenn Withers Measuring Demand for Public Expenditure: Theory, Methods and Preliminary Results Macquarie University Research paper 383 July 1994.

29. Survey by Angus Reid Media Center, Survey February 2000. Link from The Economist of March 18-24 2000 http://www.angusreid.com/media/content