Confessions of a Meddlesome Economist

Preface

This is a revised and extended version of my earlier book Economics for Life, published in 2011. Where I have included material from the earlier work, it has been wholly revised and updated; this accounts for more than half of the book. The remainder is new material, which I have written afresh based on more recent experience.

Economics for Life was well received and won the Australian Christian Book of the Year Award in 2011. The book appealed mostly to Christians wanting to understand more about how a Christian economist combines his faith and his profession. Many people who bought the book told me they intended to gift it to younger Christians whom they knew to be struggling with questions of faith and professional life. But I know of professional colleagues who read and reacted favourably to the book, even though they do not profess the Christian faith or any faith at all in some cases.

I decided to revise and extend the original work both because certain debates I discussed in that book have moved on, and because I have since been involved in other issues that fit quite neatly into the broader narrative of my professional life. The aim is still that of Economics for Life, namely, to illustrate the power of good economics to improve people’s material lives, and secondly to illustrate the power of the Christian faith in helping this practising economist, at least, to keep his professional life in proper perspective.

Since writing Economics for Life, my professional life has come full circle in two respects. In July 2016 I joined the main board of the Reserve Bank of Australia (RBA). Working as a research economist at the RBA was my first full-time job following graduation with a PhD in economics from the Australian National University (ANU) in 1982. I worked at the bank from 1982 to 1985. Thirty-three years later I returned as a member of the board. I discuss my role on the RBA board in Chapter 8.

In March 2018 I returned to the Melbourne Business School (MBS) as its sixth dean and director, and co-dean of the Faculty of Business and Economics at the University of Melbourne. I first joined the faculty in 1988 as the founding Professor of Monetary and Financial Economics and subsequently transferred to MBS, where I spent 16 years in various teaching and administrative roles until I left in 2008. Thirty years after first joining the university, and ten years after leaving MBS, I returned to help lead the university’s offering in business and economics education.

In all probability these last two roles will close out my professional career. But they represent two key planks of Australia’s future prosperity, namely, good economic policy administered by a sound economic institution and a deepening engagement with the global knowledge economy. A career in economics has enabled me to participate in some of the most important debates over the future of Australia and influence some of our most talented emerging leaders. It has been a privilege for which I am most grateful to God. As I wrote in Economics for Life, ‘Economics is important because it matters for people’s lives …’ I continue to pray for this book, as I did for its predecessor, that it will help people to appreciate the power of economics to help us lead more prosperous and fulfilling lives, but also to understand the limitations of economics in helping us to comprehend what life is ultimately all about.

1

Setting Australia’s Minimum Wages

In June 2005 I took a call from the chief of staff of the Minister for Employment and Workplace Relations at the time, Kevin Andrews. He asked if I knew anything about WorkChoices, to which I responded, only what I had read in the newspapers. He then proceeded to outline the government’s plans for the future of minimum wage-setting in Australia. I suspected he was manoeuvring towards an invitation to join the prospective Australian Fair Pay Commission (AFPC), so I made it clear that I was not a labour economist. He said he knew that, and immediately went on to say that the minister wanted to sound me out for the chairmanship of the commission. In this capacity, he argued, my lack of formal training or experience in labour economics would be seen more as a strength than a weakness.

As it happens, I had recently moved to a part-time role with MBS, my then employer, with the aim of freeing up time for external pursuits. The timing of the minister’s approach was fortuitous, and the position fitted my availability, since the intention was that all appointments to the AFPC be part-time. This contrasted with the system which then existed where full-time judicial officers of the Australian Industrial Relations Commission (AIRC) would determine adjustments to the national ‘safety net’ minimum wage. I was neither a judge nor available for a full-time appointment, both of which suited Minister Andrews for the position the government had in mind.

A new economic institution for Australia

While I had no particular expertise in minimum wages, I saw an opportunity to build a new economic institution, one that would replace the traditional approach of quasi-judicial arbitration with deliberation based on economic analysis and consultation. When I eventually spoke with Kevin Andrews, having expressed my interest in the role to his chief of staff, he explained that the government wanted to emulate the model established in the UK by the former Blair government. The Low Pay Commission (LPC) had been in existence for seven years, and it determined minimum wages in Britain in a non-judicial setting, informed by extensive consultation and independent research. The intention of the Howard government was to create a similar institution for Australia.

I knew enough about the history of minimum wage-setting in Australia to know that it reached back nearly a century to the famous Harvester Judgement of 1907 (see Chapter 5). I also knew that the process was essentially legalistic, with evidence formally put and examined in a quasi-judicial, adversarial setting and then arbitrated by members of the AIRC. A number of my professional colleagues had reported unfavourably on their experiences as expert witnesses before the AIRC, suffering humiliation at the hands of aggressive QCs. I felt that minimum wage-setting could be improved if the process drew more broadly on research, consultations and submissions, and relied less on formal procedures, especially of a forensic nature.

The novelty of an approach based on independent research by the body setting minimum wages became evident when I visited Justice Geoffrey Giudice, then president of the AIRC, soon after taking up my appointment.¹ In the course of our meeting, I asked whether it might be possible for the research files on minimum wage-setting held by the AIRC to be transferred to the AFPC in line with the transfer of responsibility. He expressed surprise at my request and wondered aloud what made me think there were any research files held at the AIRC. He explained that the AIRC was a quasi-judicial body and, as such, could not inform itself independently of formal hearings for fear of undermining the commission’s impartiality. The only research the AIRC ever saw was submitted to the commission as evidence and then subjected to cross-examination in open court. After this meeting, the difference between the ‘inquisitorial’ process envisaged by Minister Andrews (and practised by the British LPC) and the forensic process adopted by the AIRC was abundantly clear to me.

‘Conservative, right-wing, religious zealot’

WorkChoices was a politically controversial policy agenda, widely seen as an attack on traditional values held by the Australian Labor Party (ALP) and the Australian trade union movement. My connections with the Howard government, having served on the Wallis Committee,² my reputation as a ‘conservative’ economist and even my Christian faith fuelled a fierce media response to my appointment. The national broadcaster quoted an unidentified professional colleague who described me as a ‘conservative, right-wing, religious zealot.’ A headline in The Sunday Age declared: ‘God to guide deal on fair pay’ – a reference to my having prayed for guidance before accepting the minister’s offer of appointment.³ Even the Christian churches expressed their misgivings. The then moderator of the Uniting Church in Australia said that he could not understand how a Christian believer could, in good conscience, serve as chairperson of the AFPC.

The fear seemed to be that the AFPC would dramatically lower or even abolish minimum wages. I was accused by a caller to talkback radio of having received ‘secret instructions’ from then Prime Minister John Howard to this effect. Yet the focus of WorkChoices was not on minimum wages. The primary aim was to increase the flexibility with which employers and employees could negotiate the terms and conditions of employment. The Workplace Relations Act expressly charged the AFPC to set minimum wages (among other criteria), having regard to the need to ‘provide a safety net for the low paid.’ Even if my colleagues and I on the commission had a mind to abolish minimum wages (which we did not), this was beyond the powers of the AFPC as laid down in the Act. Besides, far too much Australian political and social history turns on conditions in the labour market for an Australian government of any persuasion to legislate such a drastic step. There was never any implied, let alone overt, suggestion to me from within government that this was the tacit brief of the AFPC.

When the legislation establishing the commission was finally drafted, it became clear what the government intended. There was a desire to change the process by which minimum wages were determined and emphasise the consequences for the unemployed and low paid of raising minimum wages too quickly or by too much.

What is ‘fair pay’?

Notwithstanding the name of the commission, the words ‘fair’ and ‘fairness’ did not appear among the criteria governing the powers of the AFPC. The closest the law came to obliging the commission to consider distributional aspects of minimum wage-setting (i.e. the ‘needs’ or living standards of low-paid workers) was the requirement to have regard to providing a safety net for the low paid, as noted above. This was in stark contrast to the wording of prior legislation and the current Fair Work Act, which explicitly directs the AFPC’s successor (the Minimum Wage Panel, MWP, of the Fair Work Commission) to ‘establish and maintain a safety net of fair minimum wages’ (s. 284). Nor was there any reference to the relative living standards or needs of the low paid, as there had been in prior legislation, and as there is now, reflecting the influence of the original Harvester Judgement and Justice H.B. Higgins’ notion of the ‘basic living wage.’

When boiled down, the AFPC was charged with setting and adjusting minimum wages so as to (i) preserve employment of low-paid workers, (ii) encourage unemployed workers into work, (iii) avoid undermining Australia’s international competitiveness by making labour too expensive and adding to inflation, and (iv) provide a safety net for the low paid. Even if one believed that the first three criteria militated against setting minimum wages any higher than needed to get low-paid workers into jobs, criterion (iv) linked minimum wage-setting directly to the income tax and social security systems, and hence some notion of safety net living standards.

Australia has one of the most comprehensive social security systems in the world. In particular, welfare benefits are available to those who find themselves without work or who are incapable of working. At the time of the Harvester Judgement, the minimum wage was the only safety net available to low-paid workers. This was essentially why Higgins used an income standard of ‘frugal comfort’ to determine the basic wage of 42 shillings per week. While some workers may have lost their jobs when the minimum wage was declared, or at least found it harder to obtain work, Higgins had no need to account for out-of-work benefits when he was considering an appropriate level for the ‘basic living wage.’

A century later, the AFPC had no such luxury – by this time, the minimum wage was just one part of an elaborate social security and income tax system. Nowadays the take-home pay of low-income earners is affected as much by changes to the income tax scales and various in-work and out-of-work benefits as movements in minimum wages. Because these other sources of income for low-paid and unemployed workers are also adjusted from time to time, a decision not to raise minimum wages at the same rate as out-of-work benefits, for example, would reduce the incentive for unemployed workers to accept low-paid jobs and low-paid workers to stay in work. Allowing such influences to develop was expressly contrary to the wording of the Act.

Balancing efficiency against equity

Setting minimum wages in this context was never wholly about promoting economic efficiency.⁴ With some well-known exceptions, pure economic efficiency requires the abolition of minimum wages, or at least setting them below the level at which demand equals supply in the labour market. The AFPC was charged with administering social policy as much as economic policy. We were required to constrain our assessment of the economically efficient outcome by considering the impact of socially sanctioned efforts to redistribute income. In straight economic efficiency terms, this was a ‘second-best’ environment, where simple mantras about the economic inefficiency (let alone inequity) of minimum wage laws were of little practical value.

Some people thought that the Act’s stated objective for the AFPC of ‘promoting the economic prosperity of the people of Australia’ provided sufficient grounds for the commission to focus narrowly on economic efficiency in determining minimum wages. Yet legal advice, not to mention my own intuition, indicated that the commission could not sidestep the express instruction to have regard to ‘providing a safety net for the low paid.’ In any case, my own construction of ‘economic prosperity’ has always been broad rather than narrow. I was brought up with the Nobel Prize-winning American economist Paul Samuelson’s ‘social welfare function’, in which both efficiency and equity receive positive if not equal weight in determining socially optimal outcomes.

Again, I saw nothing contrary to my economist’s creed in having to account for equity as well as efficiency in my deliberations. In this case, I didn’t even have to determine what was equitable. This was set in the parameters of the income tax and social security systems. My job was to oversee the commission’s efforts to ensure that its decisions did not compromise employment outcomes, even as it sought to account for their interaction with the idiosyncrasies of Australia’s complex income tax and social security systems.

Under my chairmanship, the commission paid heed to the injunction familiar from medical practice, ‘Above all, do no harm.’ My fellow commissioners and I were well aware that raising minimum wages too far could harm more people than it helped. In this sense, looking to the ‘economic prosperity of the people of Australia’ included those who might benefit from an increase in minimum wages as well as those who might lose their jobs or find it harder to escape unemployment. For my part, I kept my eyes peeled for unintended harmful consequences of putatively welfare-enhancing state intervention.

A new approach to determining minimum wages

By the time the AFPC closed its doors on 31 July 2009, it had established a new process for determining minimum wages in Australia. For the first time, people affected by minimum-wage decisions, including the unemployed, low-paid workers and employers of the low paid, were consulted directly over the likely impact of the commission’s decisions on their life circumstances. During the commission’s short three-year existence, we met with hundreds of individuals and organisations to discuss minimum wage-setting. Many people told me personally of their anguish at being unemployed, their desperate need to keep their jobs and the difficulty of making ends meet on low wages. It is far more difficult to make decisions in abstract when you have met and spoken personally to the very people most affected and learned something of their circumstances.

The AFPC’s approach was lampooned from the outset by its political opponents. Attempts to conduct public consultations on the minimum wage were derided as ‘public relations exercises.’ Fair-minded people were more inclined to give us the benefit of the doubt. I attended many of the consultations in person, at least in the early stages. On one memorable occasion, a member of the public addressed the small crowd of attendees telling them that he had been told a very different story about the commission and its work from what he discovered when he came himself to hear what we were trying to achieve. ‘Now I don’t know what to think!’ he exclaimed as he left the meeting somewhat confused.

On another occasion we interviewed a group of long-term unemployed Australians about their views of the minimum wage. One young man, who had evident difficulty reading the questions we had circulated and writing his answers, was nevertheless coherent and vocal when asked for his views.

Part of me wants to say the minimum wage should be $1,000 an hour! But then I don’t suppose anyone would pay me that and I still wouldn’t have a job. But I’ve got to live; so why should I work if I can’t earn enough to live on?

I told him that I had taught many bright students at university whom I doubted could give as succinct a summary of the dilemma of minimum wage-setting as he had just done. He told me that he would not want my job since he had no idea how to set the minimum wage, now that he thought about it.

Once established, the commission’s consultation process slowly gained respect and recognition. It was ultimately nominated for a United Nations award – interestingly, by the then Minister for Workplace Relations and subsequent prime minister, Julia Gillard – notwithstanding the Rudd government’s aversion to WorkChoices and its replacement of the AFPC by Fair Work Australia (FWA) (now