How does welfare relate to productivity?

Reflecting on this year’s ESSA Economic Debate means remembering Treasurer Joe Hockey’s famous speech in which he declared that the “Age of Entitlement is over.” That night, the affirmative side triumphed on the back of arguments that“good” welfare would push more unemployed back into work, lift productivity and drive growth in the long run. They further charged that “distortionary, bad welfare” has been lulling able Australians into thinking that they cannot work, leaving human capital to rot and suppressing productivity.

Productive labour, unproductive capital

Although multifactor productivity (MFP) has fallen 2.1% between 2001 and 2012, raising fears of inefficiency and lower resilience to external shocks, a deeper examination reveals that it is capital productivity which has been tanking for the last two decades, while labour productivity has risen steadily (Figure 1).

Growth in labour supply outstrips demand

Now all that is set to change, and not in a good way either. Under “earn-or-learn” changes, unemployed people under 30 will have to seek jobs for a full six months before becoming eligible for Newstart or youth allowance, or else study.

Choosing the former holds little prospect for them. The number of unemployed Australians with available jobs (Figure 2) clearly shows the undersupply of job openings; job vacancies have declined since 2011 despite rising unemployment numbers and stagnating participation rates. If businesses are not keen to hire, as the data suggests, how will  these workers find jobs?

With education costs rising, productivity might fall

Youth who  pick the latter stand to face increased obstacles: firstly, they are expected to study while earning nothing, and at the same time rely on HECS, which now comes with higher interest rates and earlier repayment. Secondly, these youths will soon be facing significantly higher costs of education. There is little reason to suppose  deregulation of university fees will actually reduce prices; in fact, the University of Melbourne has warned that the cost of some courses could rise 61%.

This phenomenon is not limited to youths.  While the Government seems intent to keep more of the elderly in the workforce to deal with an ageing population, it does not seem to be making the most out of their latent human capital,  instead ending schemes such as the Pensioner Education Supplement.

When MFP particularly depends as much on technological advancements which are impossible just by pushing unskilled workers into the workforce without improving education, I eagerly wait to see how a government so reluctant to invest in its own human capital hopes to improve our productivity.

Cuts to unemployment benefits will hurt poorest quintile

What’s more, the Newstart revisions mean 194,000 youth might soon lose their shelter if they suddenly become unable to pay their rent. Instead of picking up the slack, the Government has ended the National Rental Affordability Scheme.

Recent analysis from the National Centre for Social and Economic Modelling (NATSEM) shows that primary beneficiaries of welfare payments, the bottom 20% of income-earners, will bear the biggest impact of welfare re-tailoring, losing 2.2% off their incomes. The middle quintile, meanwhile, will be slapped with more than a third of the cuts. This, compared to only 0.2% reduction in income for the richest 20%.

Why would this be worrying? Let us re-examine the main idea behind this Budget: to “improve the sustainability of [the] social safety net”, “drive economic growth and safeguard our future prosperity”. For one, many of these payouts are taxable, reducing them will push taxpayers into lower tax brackets and cost the Government revenue. It is also important to recognise that households in all lower four quintiles in 2009-10 spent beyond their incomes, on average (Figure 3). Three-quarters of households in the lowest quintile regard transfers as their main source of income. Cutting these would force those hard-pressed to reduce spending to rely on loans, a fine strategy so long as the RBA doesn’t raise rates. Yet alarm bells are already sounding; with Australian households having to earn 1.8 years of income on average to pay off their debts, our household debt is the worst in the G7.

 Implications for private consumption

More importantly, the circulation of money in our economy both drives growth and is the source of government revenue. We are looking at a situation where a disruption in consumer spending will reduce tax revenue to both Commonwealth (import duties) and the states (GST). Lower spending means lower taxable profits for companies, and lower taxable income for households. In the longer term, unless education cuts are reversed, the fall in productivity will no longer be restricted to capital alone, and Australia’s growth will enter the doldrums.

The Government would be better off prodding businesses to use their capital more efficiently and giving them the confidence to hire new workers. It should be laying the foundations for an Australia beyond the mining boom.

Lastly, a parting note on the supposed “Age of Entitlement”:  the number of people on welfare payments has actually been falling for seven out the past ten years. “Sustainable, good” welfare might well keep  those numbers down , but  for  how long? Moreover, it sounds ludicrous to consider the opportunity for further education, a roof over  one’s head and fairer treatment of the most vulnerable Australians as  an entitlement, rather than a moral obligation. And as soon as he satisfies himself with a budget surplus, I hope Treasurer Hockey realises that  too.