Wages Growth, Under The Skin, Is Concerning

The Treasury published a 66-page report late on Friday – “Analysis of Wage Growth“.

It paints a gloomy story, wage growth is low, across all regions and sectors of the economy, subdued wage growth has been experienced by the majority of employees, regardless of income or occupation, and this mirrors similar developments in other developed western economies. Whilst the underlying causes are far from clear, it looks like a set of structural issues are driving this outcome, which means we probably cannot expect a return to “more normal” conditions anytime some. This despite Treasury forecasts of higher wage growth later (in line with many other countries).

We think this has profound implications for economic growth, tax take, household finances and even mortgage underwriting standards, which all need to be adjusted to this low income growth world.

Here are some of the salient points from the report:

On a variety of measures, wage growth is low. Regional mining areas have experienced faster wage growth, but wage growth has slowed in both mining and non-mining regions. Wage growth has been fairly similar across capital cities and regional areas, although the level of wages is higher in the capital cities.

The key driver of wage growth over the long-term is productivity and inflation expectations. This means that real wage growth – wage growth relative to the increase in prices in the economy – reflects labour productivity growth. However, fluctuations across the business cycle can result in real wage growth diverging from productivity growth. There are two ways of measuring real wages. One is from the producer perspective and the other is from the consumer perspective. Producers are concerned with how their labour costs compare to the price of their outputs.

Consumers are concerned with how their wages compare with the cost of goods and services they purchase.

Generally, consumer and producer prices would be expected to grow together in the long-term, so the real producer wage and real consumer wage would also grow together. Consumer and producer prices diverged during the mining investment boom due to strong rises in commodity export prices. The unwinding of the mining investment boom and spare capacity in the labour market are important cyclical factors that are currently weighing on wage growth.

It is unclear whether these cyclical factors can explain all of the weakness in wage growth. Many advanced economies are also experiencing subdued wage growth. In particular, labour productivity growth has slowed in many economies. However, weaker labour productivity growth seems unlikely to be a cause of the current period of slow wage growth in Australia. Over the past five years, labour productivity in Australia has grown at around its 30-year average annual growth rate.

Wage growth is weaker than the unemployment rate implies. There may be more spare capacity than implied by the employment rate. [Is The Phillips curve broken?]. Labour market flexibility is a possible explanation for the change in the relationship between wage growth and unemployment, and the rise in the underemployment rate. Employers may be increasingly able to reduce hours of work, rather than reducing the number of employees when faced with adverse conditions. This may be reflected in elevated underemployment.

It is difficult to draw firm conclusions on the effect of structural factors on wage growth, given they have been occurring over a long timeframe and global low-wage growth is a more recent phenomenon. Three key trends are the increasing rates of part-time employment, growth in employment in the services industries, and a gradual decline in the share of routine jobs, both manual and cognitive, and a corresponding rise in non-routine jobs.
Both cyclical and structural factors can affect growth in real producer wages and labour productivity, so such factors can also affect the labour share of income. Changes in the labour share of income occur as a result of relative growth in the real producer wage and labour productivity. Since the early 1990s, the labour share of income has remained fairly stable. Nonetheless, different factors have placed both upward and downward pressure on the labour share of income.

An examination of wage growth by employee characteristics using the Household Income and Labour Dynamics in Australia (HILDA) survey and administrative taxation data suggests that recent subdued wage growth has been experienced by the majority of employees, regardless of income or occupation. Workers with a university education had higher wage growth than those with no post-school education over the period 2005-2010, but have since experienced lower wage growth than individuals with no post-school education.

An examination of wage growth by business characteristics using the Business Longitudinal Analysis Data Environment (BLADE) suggests that higher-productivity businesses pay higher real wages and employees at these businesses have also experienced higher real wage growth. Larger businesses (measured by turnover) tend to be more productive, pay higher real wages and have higher real wage growth. Capital per worker appears to be a key in differences in labour productivity and hence real wages between businesses, with more productive businesses having higher capital per worker.

Wage growth is low across all methods of pay setting. In recent years, increases in award wages have generally been larger than the overall increase in the Wage Price Index. At the same time, award reliance has increased in some industries while the coverage of collective agreements has fallen. There are a range of reasons for the decline in bargaining including the reclassification of some professions, the technical nature of bargaining, natural maturation of the system and award modernisation which has made compliance with the award system easier than before.

GDP Sags Below Expectation In September 2017

The ABS released the National Accounts to September 2017 today.  The expectation was a 0.7% lift in GDP, but it came in 0.6%. This gives an annual read of 2.3%, well short of the hoped for 3%+. Seasonally adjusted,  growth was 2.8%. Business investment apart, this is a weak and concerning result.  The terms of trade fell.

The GDP per capita and net disposable income per capita both fell, which highlights the basic problem the economy faces.  The dollar fell on the news.

Actually, we need to reboot our thinking on economic progress, as a quest for continual growth on the current settings will lead us into the gutter. Time for some fresh ideas. But then it seems that the alignment between potential growth, and lifts in tax take which follow makes this difficult.

The Australian economy grew 0.6 per cent in seasonally adjusted chain volume terms in the September quarter 2017, according to figures released by the Australian Bureau of Statistics (ABS) today.

Chief Economist for the ABS, Bruce Hockman, said: “Increased activity in both private business investment and public infrastructure underpinned broad growth across the industries.”

Compensation of employees (COE) increased in all states and territories, resulting in a national quarterly growth of 1.2 per cent and growth of 3.0 per cent since the September quarter 2016. Despite higher household income, household consumption was weak at 0.1 per cent, in line with the retail trade estimates. This weak household spending combined with growth in household income resulted in an increase in the household saving ratio for the first time in five quarters.

Mr Hockman added: “The increase in wages was consistent with the stronger employment and hours worked data that has been reported in the labour force survey.”

Net exports contribution to growth was flat this quarter despite higher Mining production and exports of coal and iron ore. The terms of trade fell 0.4 per cent on the back of lower export prices.

17 out of 20 industries recorded positive growth this quarter driven by Professional, Scientific and Technical Services, Health Care and Social Assistance and Manufacturing. A longer-term analysis of the changing drivers of the economy, from an industry perspective, is provided in a feature article included in this quarter’s publication.

Trend Retail Turnover Still Stagnant In October

According to the ABS, the trend estimate for Australian retail turnover fell 0.1 per cent in October 2017 following a relatively unchanged estimate (0.0 per cent) in September 2017. Compared to October 2016 the trend estimate rose 1.8 per cent. Trend estimates smooth the statistical noise.

Food retailing rose 0.1% in trend terms, Housing good retailing fell 0.6%, Clothing and footwear fell 0.1%, Department stores rose 0.2% and cafes and food services rose 0.1%.

Looking across the states, again in trend terms, NSW and VIC both fell 0.1%, WA fell 0.3%, NT fell 0.4% and ACT fell 0.2%. SA was the only state to register a rise, of 0.1%.

Online retail turnover contributed 4.7 per cent to total retail turnover in original terms.

For the record, Australian retail turnover rose 0.5 per cent in October 2017, seasonally adjusted, and follows a 0.1 per cent rise in September 2017.

In seasonally adjusted terms, all states rose. There were rises in Victoria (1.0 per cent), New South Wales (0.3 per cent), South Australia (1.2 per cent), Western Australia (0.5 per cent), Queensland (0.1 per cent), the Northern Territory (1.7 per cent), the Australian Capital Territory (0.6 per cent) and Tasmania (0.5 per cent).

Australian Debt Servicing Ratios Higher and More Risky

The Bank for International Settlements released their updated Debt Service Ratio (DSR) Benchmarks overnight. A high DSR has a strong negative impact on consumption and investment.

Australia (the yellow dashed line) is second highest after the Netherlands. We are above Norway and Denmark, and the trajectory continues higher. Further evidence that current regulatory settings in Australia are not correct. As the BIS said yesterday, such high debt is a significant structural risk to future prosperity.

The DSR reflects the share of income used to service debt and has been found to provide important information about financial-real interactions. For one, the DSR is a reliable early warning indicator for systemic banking crises.

The DSRs are constructed based primarily on data from the national accounts. The BIS publishes estimated debt service ratios (DSRs) for the household, the non-financial corporate and the total private non-financial sector (PNFS) using standardised data inputs for 17 countries.

ANZ Job Ads Rose in November

In seasonally adjusted terms, ANZ Job Advertisements rose 1.5% in November following a 1.5% increase in the prior month. On an annual basis Job Advertisements are up 12.1% a tick down from the 12.5% y/y pace last month.

In trend terms, job ads were up 0.7% m/m in November. There has been a slight slowdown in the m/m trend which averaged 1.16% and 0.94% m/m over Q2 and Q3 respectively.

Another steady rise in ANZ Job Advertisements in November along with other leading indicators suggests a positive outlook for the labour market, particularly given the solid prospects for economic growth. Labour market performance through 2017 has been robust, with employment concentrated in full time jobs and picking up across all states.

That said, the improvement in labour market conditions has not yet translated into higher wage growth, as indicated in the weaker-than-expected Q3 number. Clearly, a further reduction in labour market spare capacity is required for a sustained increase in wage growth. On this front, it is encouraging to see business surveys report that firms are having an increasingly difficult time finding suitable labour. In the past this has resulted in firms bidding up wages. Indeed the RBA, through its liaison program, has already noted some evidence of this occurring in small pockets. As the unemployment rate grinds down further over the coming year, we expect this to become more widespread


Australia isn’t dominated by big businesses that gouge customers: Grattan report

From The Conversation.

When we see excessive spikes in fuel prices, rapid annual increases in health insurance premiums, and a confusing array of electricity options to choose from, it is easy to conclude that big companies are using their market power to gouge their customers.

But the latest report from the Grattan Institute finds claims about Australia being dominated by oligopolies are overblown. Only about 15% of the economy is dominated by large firms.

In the “natural monopolies”, such as electricity distribution, a single firm typically serves the market. And where the largest firms enjoy strong scale advantages, such as in mobile telecoms, just a handful of options are available to consumers.

Then there are sectors where competition is constrained by regulation, such as banking and pharmacies. In such sectors, the largest four firms earn more than two-thirds of revenue, on average.

Australians have long been concerned about oligopoly power. But in the largest sectors with barriers to entry, markets are not much more concentrated in Australia than they are in other economies of a similar size. Supermarkets in Australia are the exception to this rule.

While the United States is less concentrated at a national level, much of this is explained by its larger population. In Florida, for example, a state with a population of 21 million, its sectors are typically just as concentrated as Australia’s, if not more so.

The report also finds no clear trend toward higher concentration in Australia, unlike the case in the US. The revenue of the top 100 Australian listed firms relative to GDP has changed little since the early 1990s.

While the market share of Australia’s big four banks increased through mergers and acquisitions, Coles’ and Woolworths’ dominance appears to be in decline with the rise of Aldi and Costco.

Whether high concentration in Australia is a problem depends on its impact on consumers. Our report finds that sectors with high barriers to entry are about 20% more profitable than sectors with no significant barriers, although there is plenty of variation.

The most profitable sectors include supermarkets, telecommunications (wireless and fixed-line), internet publishing, electricity distribution and transmission, airports and gambling. The banks’ profitability has fallen since the global financial crisis, while their cost of equity has risen due to increased risk.

In some regulated sectors, consumers could clearly do better. Banking regulations push up costs and can weigh heavily on smaller firms as well as on consumers. In the pharmacy sector, competition is directly restricted.

In natural monopoly sectors, where super-profits account for 10% of what consumers pay, on average, it’s also difficult to conclude that consumers benefit.

But less concentrated markets may not make consumers better off. Many profitable big firms must have lower costs than smaller ones; otherwise they would lose market share.

For example, average prices at Coles and Woolworths are lower than IGA, even while profits are higher: it seems that some of the large chains’ scale economies are passed on to consumers. Regulation that limits the size of the largest firms might reduce profits, but could push costs and prices up.

What can policymakers do to get better outcomes for consumers? In the natural monopolies, regulators need to get tougher. For example, they could start regulating prices at airports, rather than just monitoring them.

Across the economy, regulators should continue to focus on protecting competition and preventing the misuse of market power. Government should increase the penalties for cartels and other concerted practices.

Governments could help cut entry barriers, for example by harmonising product standards to reduce trade costs, or freeing up zoning to make it easy for competing supermarkets to expand. And they should make it easier for consumers to switch between providers and control their own data in sectors like banking and even social networks.

There is also much that can be done where retail competition is not working well, such as in superannuation and in retail electricity.

But overall, Australia’s oligopoly problem is a lot smaller than many believe. It’s also not getting worse; our competition policy and regulation is broadly working well.

Authors: Jim Minifie, Productivity Growth Program Director, Grattan Institute; Cameron Chisholm, Senior Associate, Productivity Growth, Grattan Institute; Lucy Percival, Associate, Grattan Institute

Dwelling Approvals Rise 0.7 per cent in October Thanks to Victoria

Growth in Victoria has driven total dwelling approvals higher in October (up by more than 20% in that state), whilst there was a fall in New South Wales.  We are still seeing the strongest demand for property in VIC, thanks to strong migration, though supply and demand is patchy as the recent ANU study highlighted.

The number of dwellings approved rose 0.7 per cent in October 2017, in trend terms, and has risen for nine months, according to data released by the Australian Bureau of Statistics (ABS) today.

“Dwelling approvals have continued to strengthen in recent months, rising above 19,000 dwellings in October 2017,” said Justin Lokhorst, Director of Construction Statistics at the ABS. “This is the first time the series has reached this level since August 2016.”

Dwelling approvals increased in October in Tasmania (4.1 per cent), Victoria (3.8 per cent), South Australia (0.6 per cent), Western Australia (0.3 per cent) and Northern Territory (0.3 per cent), but decreased in the Australian Capital Territory (5.3 per cent), Queensland (1.7 per cent) and New South Wales (0.3 per cent) in trend terms.

In trend terms, approvals for private sector houses rose 0.6 per cent in October. Private sector house approvals rose in Queensland (1.4 per cent), Victoria (1.2 per cent) and South Australia (1.0 per cent), but fell in Western Australia (1.0 per cent) and New South Wales (0.7 per cent).

In seasonally adjusted terms, dwelling approvals increased by 0.9 per cent in October, driven by a rise in private house approvals (1.5 per cent), while private dwellings excluding houses fell 1.0 per cent.

The value of total building approved rose 0.5 per cent in October, in trend terms, and has risen for 10 months. The value of residential building rose 0.8 per cent while non-residential building was flat.

Mortgage Growth Only Easing A Bit: A Policy Vacuum

The latest data from the RBA, to end October 2017 ,  shows that lending for housing rose 0.5% in the month, and 6.5% for the past year (three times inflation!).  Lending to business rose 0.3% to 4% over the past year and personal credit was flat, and fell 0.9% over the past year. Another $1.2 billion of housing loans were reclassified in the month, making $60 billion in total, this is more than 10% of the total investment loan book! The proportion of investor loans fell slightly again, down to 34.2% of portfolio

Total mortgage lending is now above $1,7 trillion, with owner occupied loans up 0.6% or $6.6 billion to $1.12 trillion, and investor loans up 0.2% or $1.2 billion to $584 billion. Comparing this with the APRA data, out today, we see continued relative growth in the non-bank sector.

Here is the monthly growth plots, which even seasonally adjusted are noisy.   The smoother annual plots shows a slowing trend across the mortgage sector, but with investor sector still growth at 6.9%, ahead of the owner occupied sector at 6.5%, or business at 4%.  Further evidence the settings are wrong.

There is simply no excuse to allow home lending to be running at more than three times inflation or wage growth at the current dizzy price and leverage levels.  Still too much focus on home lending and not enough on productive growth enabling business lending. This is something which the Royal Commission is unlikely to touch, as it is a policy, not a behaviourial issue.

The RBA says:

Following the introduction of an interest rate differential between housing loans to investors and owner-occupiers in mid-2015, a number of borrowers have changed the purpose of their existing loan; the net value of switching of loan purpose from investor to owner-occupier is estimated to have been $60 billion over the period of July 2015 to October 2017, of which $1.2 billion occurred in October 2017. These changes are reflected in the level of owner-occupier and investor credit outstanding. However, growth rates for these series have been adjusted to remove the effect of loan purpose changes.

Governments haven’t always shirked responsibility for our low wages

From The Conversation.

For the last four years or so average wages in Australia have barely kept pace with inflation, meaning no real pay rises. And all the while, the government has been betting on the market to improve things.

Treasurer Scott Morrison stated:

As the labour market tightens, that’s obviously going to lead over time to a boost in wages.

As the Treasurer asserted, economic theory says these conditions should lead to rising wages, but they aren’t. The country continues its record run of 26 years of economic growth and the banks and other big corporations continue to post record profits.

The Reserve Bank of Australia is at a bit of a loss, speculating at its latest meeting that maybe globalisation and technology are to blame.

However, to understand what’s really going on it’s helpful to look at something most economists and politicians ignore: history.

How past governments have dealt with low wages

There was a period in Australia, and much of the rest of the developed world, from the end of the second world war to the early 1970s, that is often referred to as the “post-war boom”. During this roughly 25-year period, unemployment averaged 2%, inequality fell steadily and economic growth was strong.

Australia’s unemployment rate, 1901 – 2001

Unemployment in Australia. Treasury, Author provided

This didn’t happen by accident. Towards the end of the war, policymakers and economists began planning for the post-war period.

They had lived through the Great Depression with unemployment averaging 20% and then they had lived through the war, where the war effort resulted in full employment. They asked the obvious question: “If we can achieve full employment through government spending during the war, then why not during peace time?”

That question and the resulting policy answer, outlined in the Curtin government’s 1945 white paper Full Employment in Australia, resulted in the post-war boom with full employment and falling inequality for the next 25 years.

The 1945 white paper (a remarkable political document by today’s standards) tackled the complex questions of inflation, unemployment, wages and economic growth with mature nuance. Policy proposals weren’t made to appear win-win but weighed up costs and benefits, accepting that we must take responsibility for the costs.

One of the costs of a capitalist, market based system is unemployment. In this context, unemployment was not seen as an individual failing but as a collective responsibility. The paper stated the government should accept responsibility for stimulating spending on goods and services to the extent necessary to sustain full employment.

How far we have come from 1945. Today we blame and demonise the unemployed for not being in work, even though there are many more unemployed people than there are available jobs.

Rather than governments taking responsibility for full employment, they set up punitive “employment services” regimes that require the unemployed to jump through meaningless and often demoralising bureaucratic hoops or face financial penalties.

So, what happened in the 1970s to change our attitude to full employment so radically?

During the post-war boom, inequality had been steadily falling. That is, for 25 years, the proportion of the country’s output that was going to the rich was steadily falling. Unsurprisingly, the rich fought back.

Skyrocketing inflation combined with high unemployment (stagflation), caused by the oil shocks of the 1970s, allowed business representatives to claim that the Keynesian system that had given us the post-war boom was a failure.

Enter the age of individualism. Neoclassical economics and its political counterpart neoliberalism were all about individual choice and individual accountability.

To use the words of US billionaire Warren Buffet:

There’s a class war, all right, but it’s my class, the rich class, that’s making war, and we’re winning.

Andrew Leigh, Battlers and Billionaires

The current stagnation of wages we are seeing in Australia is no accident and no mystery. It’s the result of the intentional erosion of worker power (largely due to the successful campaign to demonise unions) and the end of the bipartisan federal government commitment to full employment.

The impact of full employment on wages is profound. The greatest bargaining chip a worker has is to withdraw their labour.

When it’s difficult to get a new job, unemployment benefits are well below the poverty line and the unemployed are demonised by politicians and the media alike, workers are much less inclined to push hard for improved wages or conditions.

I’m not arguing that we could simply adopt the policies of 1945 and magically return to the golden years of the 50s and 60s; Australia is a very different country and too much has changed. However, we can learn a great deal from the 1945 white paper in terms of ambition, commitment, and the embrace of complexity and nuance.

The federal government could restore its commitment to creating full employment in Australia, using its spending power to make up for any shortfall in private jobs as it did during the post-war boom. History demonstrates that the careful and coordinated use of both fiscal policy (spending and taxing), and monetary policy (interest rates) to manage the economy can create a more prosperous and egalitarian Australia.

It’s well past time for a 21st century update to the 1945 white paper on full employment.

Author: Warwick Smith, Research economist, University of Melbourne

OECD Signals RBA Rate Hike

According to the OECD,  Australia – Economic forecast summary (November 2017),  things are looking better. As a result, they expect rate hikes next year to help cool the housing market. But they call out a number of risks to economic growth and says macro-prudential measures should be maintained. Also their growth rates are lower than than latest from the RBA!

The economy will continue growing at a robust pace. Business investment outside the housing and mining sectors will pick up, with exports boosted as new resource-sector capacity comes on stream. The strengthening labour market and household incomes will sustain private consumption, and inflation and wages will pick up gradually.

The central bank is projected to start raising the policy rate in the second half of 2018 and expectations of this move, together with macro-prudential measures, are helping cool the housing market. The fiscal position is sound and the government is committed to gradually close the budget deficit. In the event of an unexpected downturn, fiscal policy should be used to support activity and protect the incomes of the most vulnerable.

The prolonged period of low interest rates has fuelled high house prices in large metropolitan areas. Substantial mortgage borrowing has resulted in households being highly indebted. To contain risks associated with potential large house-price corrections and financial stress, macro-prudential measures should be maintained. Australia is also vulnerable to “too big to fail” risks, due to its highly concentrated banking sector.