The news has been full of stories about how companies such as Amazon, Apple, Google, Microsoft, Starbucks and others are able to shift their profits to low or no-tax jurisdictions by using novel, legally permitted corporate structures and complex internal transactions (known as transfer pricing schemes). Companies are able to do so because they are generally taxed at the place of their residence rather than where the underlying economic activity takes place.
The European Union is estimated to be losing about one trillion euros each year due to a combination of tax avoidance, evasion and arrears. This is bigger than the combined gross domestic product (GDP) of Norway and Sweden and requires political action.
Against the above background, in 2013, the governments of G20 nations asked the Organisation for Economic Cooperation and Development (OECD) to develop proposals for dealing with Base Erosion and Profit Shifting (BEPS).
As part of the BEPS project, the OECD has now completed the first phase consisting of 15 possible actions. These form part of its final reports which exceed 1,000 pages and a summary is available here. There is much to digest and the OECD does offer some ways of tackling BEPS, but ultimately the project is unlikely to make a significant dent in organised corporate tax avoidance.
Profit Shifting
Transnational corporate groups have been very adept at engineering inter-group loans. Under this, one subsidiary borrows from another and pays interest. No cash effectively leaves the group and the interest paid by the paying subsidiary attracts tax relief while the receiving company, often located in low or no-tax jurisdiction, pays no tax on its income. So the OECD suggestion that the tax relief on such interest payments be restricted may dissuade some from opting to adopt these ingenious and complex financial arrangements.
Where does a company like Starbucks make its money?Reuters/Chris Helgren
The OECD has supported calls for country-by-country reporting (CBCR). This requires companies to show the profit they make in each country together with sales, employment and other relevant information. This information can help to illustrate the mismatch between economic activity and profits booked in each country.
But the OECD only recommends that this disclosure be made by each multinational corporation to the tax authority in its home country. To secure this information, governments of other countries will need to enter into numerous treaties. Poorer countries will hardly be in a position to leverage negotiations with more powerful countries. A more efficient solution would be for companies to publish the required information as part of their annual accounts – something the European Parliament has called for.
Out of date
The current corporate tax system was designed nearly a century ago when the contemporary form of transnational corporation, direct corporate investment in foreign operations and the internet did not exist. The OECD has failed to address the three biggest fault lines in the current system. First, under various international treaties, companies are taxed at their place of residence rather than the place of their economic activity. The OECD reforms do not make any significant change.
Second, modern corporations, such as Starbucks and Google, are integrated entities. They coordinate the economic activities of hundreds of subsidiaries to achieve economies of scale, market domination and profits, but for tax purposes are assumed to be separate economic activities. So a single group of companies with 500 subsidiaries is assumed to consist of 500 independent taxable entities in diverse locations. This leaves plenty of scope of profit shifting and tax games.
Third, the profits of a group of companies are allocated to each country by using a system known as transfer pricing. This requires arm’s-length or independent market prices to calculate the price of intra-group inputs and value of outputs to estimate taxable profits. In the era of global corporations, independent prices can’t easily be estimated. For example, as I found in an investigation in 2011, just ten corporations control 55% of the global trade in pharmaceuticals, 67% of the trade in seeds and fertilisers and 66% of the global biotechnology industry.
The way forward
The OECD recognises the problem but does not offer any way forward. Instead, it seeks to repair the current broken system through improved documentation for transfer pricing and international treaties. An alternative approach known as unitary taxation can address the above shortcomings. It treats each group of companies as a single unified economic entity. It recognises that there can be no sale, cost or profit until the company transacts with an external party. Thus, all intragroup profit shifting is negated.
The global profit of an entity is allocated to each country in accordance with key variables, such as sales, employees and assets – and each country can then tax the resulting profit at any rate that it wishes. A system of unitary taxation has been operated within the US since the 1930s to negate the impact of domestic tax havens (for example Delaware) and profit shifting. The OECD could have studied this but chose not to.
The BEPS project is unlikely to be the last word on corporate tax avoidance.
Author: Prem Sikka, Professor of Accounting, Essex Business School, University of Essex
A weakening outlook for the global economy and jittery financial markets do not portend well for the Australian economy. With latest estimates of inflation at 1.5%, below the Reserve Bank of Australia’s target band of 2-3%, and delayed action in raising interest rates by the US Federal Reserve, the CAMA RBA Shadow Board on balance prefers to keep the cash rate on hold, attaching a 72% probability to this being the appropriate policy setting. The confidence attached to a required rate cut equals 14%, up five percentage points from the previous month, while the confidence in a required rate hike is unchanged at 14%.
Australia’s unemployment rate edged down to 6.2% in August, according to the Australian Bureau of Statistics, although the increase in monthly employment fell by more than half compared to July and the participation rate fell to a modest 65%. No new data on wage growth was released.
The Australian dollar’s decline continued to just below US70¢, making Australia’s exports even more competitive. Yields on Australian 10-year government bonds have fallen further to 2.62%, which is very low by historical standards.
The Australian property market is still looking strong, with the construction PMI surging to 53.8 in August, from 47.1 in July. However, in the same month building permits have fallen by nearly 7%. The local stock market has been suffering considerable losses, the S&P/ASX200 closing below 5000 earlier this week. With heightened uncertainty affecting global capital markets, it is unlikely domestic share prices will rebound significantly.
Data on the international economy has weakened. The US Federal Reserve has delayed the highly anticipated increase in the federal funds rate, citing low inflationary pressure and fragile capital markets. Delayed action by the Federal Reserve is likely to reduce the pressure to increase the domestic cash rate. In Europe, attention has shifted from the Greek debt crisis to the unabating refugee crisis. China’s economy continues to slow, with its manufacturing sector contracting for the second month in a row.
Many experts are now expecting China’s GDP growth to fall to 6%. Global capital markets continue to pose threats. According to the Institute for International Finance, net capital outflows for the world’s emerging markets will be negative this year, the first time since 1988, pointing to weak growth in the region. Commodity prices remain subdued.
Consumer and producer sentiment measures paint a motley picture. The Westpac/Melbourne Institute Consumer Sentiment Index fell back to 93.9 in September, from 99.5 in August. Business confidence, according to the NAB business survey slid further, from 10 in July to 4 in August and now 1, at the same time as the AIG manufacturing and services indices, both considered leading economic indicators, continued to improve slightly.
What the CAMA Shadow Board believes
The Shadow Board’s confidence that the cash rate should remain at its current level of 2% equals 72% (down from 77% in September). The confidence that a rate cut is appropriate has edged up a further five percentage points from the previous month, to 14%; conversely, the confidence that a rate increase, to 2.25% or higher, is called for is unchanged at 14%.
The probabilities at longer horizons are as follows: six months out, the estimated probability that the cash rate should remain at 2% equals 25% (27% in September). The estimated need for an interest rate increase lies at 62% (65% in September), while the need for a rate decrease is estimated at 13% (8% in September). A year out, the Shadow Board members’ confidence in a required cash rate increase equals 68% (six percentage points down from September), in a required cash rate decrease 14% (9% in September) and in a required hold of the cash rate 18% (unchanged).
Author providedAuthor providedAuthor provided
Comments from Shadow Reserve bank members
Paul Bloxham, Professor of Economics at Australian National University:
“Economic activity is gaining momentum.”
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The fall in the Australian dollar in recent months means that financial conditions have loosened noticeably. There is increasing evidence that the lower currency is working to support growth. Services exports are picking up, which combined with the ongoing upswing in housing activity, is lifting business conditions and jobs growth. Although GDP is growing at a below trend pace, the broader collection of activity indicators suggests that economic activity is gaining momentum, supported by very loose financial conditions. I recommend that the cash rate is left unchanged this month and expect that the cash rate is more likely to need to rise from here than fall, although not for some time yet.
Mark Crosby, Associate Professor, Melbourne Business School:
“Address weak economic fundamentals through reform rather than monetary policy.”
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Despite recent suggestions that the RBA should cut, it would appear unwise to do so in a world where the Fed is now very likely to raise at its next meeting. While Australia’s economic fundamentals are weak, issues are more properly addressed through tax, competitiveness and other reforms than through further loosening already loose monetary policy. Issues with excessive debt remain significant in many economies, and Australia ought not to exacerbate potential problems on that front through cutting rates. The medium term question is still how rates become normalised as at least some other advanced economies raise rates.
James Morley, Professor of Economics and Associate Dean (Research) at UNSW Australia Business School:
“The RBA can probably wait until US liftoff.”
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Despite the collapse of commodity prices and the effects of this on the stock market, the Australian economy has adjusted to the post-mining boom era reasonably well. This has been helped by the previous cuts in the policy rate and will continue to be supported by a weak Australian dollar. But the low interest rates also have risks in terms of large price swings in the housing market and excessive credit growth. Given all of this, the RBA should not lower the policy rate further. At the same time, the RBA can probably wait until US liftoff and more solid indications of inflationary pressures to start raising rates.
Jeffrey Sheen, Professor and Head of Department of Economics, Macquarie University, Editor, The Economic Record, CAMA:
“There is a significant risk of escalating market pessimism.”
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The US Federal Reserve did not change the target federal funds rate in September, given the sluggish world economy and fragile financial markets. These concerns will remain probably through to 2016. With input prices falling, inflation is unlikely to be an issue anywhere in the rich world for the forseeable future, and so there is no reason to act pre-emptively. Many central banks have cut interest rates in the last year including Australia, Canada, China, Denmark, Euro area, India, Israel, New Zealand, Norway, Russia, South Korea, Sweden and Switzerland. The time to change course is a way off, and in particular for Australia.
There are few indications of how potential GDP growth in Australia might go above the current 2%. A surge in China’s imports from Australia is unlikely. The new treasurer Scott Morrison appears likely to consolidate government expenditure. Business investment is still in retreat.
While some worry about a possible bubble in property prices, the September 2015 RBA Bulletin shows that there has been and remains significant structural excess demand for housing services in Australia, which is even more pronounced in NSW. The recent APRA-induced credit market tightening may have little effect on this structural excess demand, and may well dim one of the few bright lights in the economy – dwelling construction.
There is a significant risk of escalating market pessimism, which would be stoked by tightening monetary policy. For all these reasons, my recommendation has an increased weight on an interest rate cut, though no change still dominates for the October meeting.
St George Bank ruined a lot of bank holiday plans this weekend when their online banking systems stopped working.
The bank’s Internet systems appear to have stopped working on Sunday evening and were still unavailable almost 24 hours later on Monday afternoon. ATMs were working but, as it was a bank holiday, branches were closed meaning that people who rely on the Internet for account transfers and overseas credit card transactions were out of luck.
Apart from a short message acknowledging the outage on their website, St George has not yet given details of the causes of the problem.
But this was not the only recent Internet banking outage at a major bank.
On the 11th and 12th September, the Commonwealth Bank (CBA) suffered a prolonged disruption to its IT services in particular its ‘industry leading’ banking platform – NetBank. And this was not the only prolonged outage at CBA this year. There were IT service disruptions earlier this year, with failures to transfer money into and out of accounts, thus racking up late and overdraft fees for customers. And also last year, and before that …….
For those who would like to see the impact of such outages on CBA customers, the excellent website Aussieoutages has a whole section devoted to CBA and a blog on which customers can register their frustration, with many of the comments NSFW – as social media terms bad language.
So what has the Commonwealth Bank to say for itself about the latest outages? Nothing!
Where are the banking regulators when banking customers are inconvenienced by the banks that they are paying records fees to?
Unfortunately, APRA and ASIC continue to play pass the parcel on banking regulation.
OK, but which regulator should be wielding the big stick?
In 2011, DBS Bank, the largest bank in Singapore, suffered a computer outage that deprived its customers of access to banking services for about seven hours (half of that experienced by St George customers).
After an investigation, the local banking regulator, the Monetary Authority of Singapore (MAS) hit DBS with a stern rebuke and a set of new regulatory requirements. The bank was also ordered to “redesign its online and branch banking systems platform to reduce concentration risk and allow greater flexibility and resiliency in operation and recovery capability”. In other words – fix your IT systems, or else.
Importantly, the regulator ordered DBS to increase the capital held in reserve for ‘operational risks’ by 20 per cent, or around $180 million. Under the Basel II banking regulations, banks are required to maintain a capital buffer against operational losses, in particular ‘systems risks’.
Because the failure of Internet systems is clearly an operational risk problem, APRA should be considering at least a 20% addition to the operational risk capital charge on Commbank and Westpac (which owns St George and the other banks like BankSA which went offline at the same time). According to Commbank’s latest Risk (so-called Pillar 3) report, which incidentally has pictures of happy Internet users on the front page, a 20% increase would have CBA having to raise just over an additional $500 million of capital. On the same basis, Westpac would require just under $500 million extra capital. Good luck with that, when banks are scrambling to raise capital to cover upcoming regulatory changes.
But has APRA moved to get the IT systems of the country’s biggest banks under control? No sign so far.
So what of ASIC?
ASIC has recently released its regulatory stance on so-called Conduct Risk, or “the risk of inappropriate, unethical or unlawful behaviour on the part of an organisation’s management or employees”. Conduct Risk is the very latest in regulatory fashion and is an attempt to get banks to treat their customers more fairly.
One would have thought that, in return for account fees, providing access to customers’ own money might be a start for banks?
But a quick look at the ASIC web-site shows the usual list of fines and suspensions on financial institutions so tiny that small fry seem huge. But not a whale or even a barramundi in their nets. ASIC does not go after the big fish.
So which regulator should be going into bat for the costumers of the big banks?
Both!
APRA to ensure that IT systems in banks are robust, by using capital tools. And ASIC to ensure that banks treat customers fairly. Demanding return of fees for non-performance might be start?
Author: Pat McConnell, Honorary Fellow, Macquarie University Applied Finance Centre, Macquarie University
The OECD’s final package of proposals for reforming the international system for taxing companies brings to an end the two-year BEPS project led by the OECD and other G20 countries which also included participation by representatives of developing countries, business, academia and NGOs.
Developing the BEPS, or Base Erosion and Profit Shifting reform package has been a remarkable endeavour involving thousands of hours of work and meetings – and thousands of pages of background work, interim proposals and commentary. All this has been in response to the undoubted need to reform a dysfunctional and ailing system.
It seems likely that, irrespective of the actual outcome, politicians will hail the BEPS project a success. Despite not having yet seen the final proposals we are prepared to disagree. The BEPS project may lead to some improvement but it will not lead to an international tax system fit for the 21st century. It might appear churlish to reach this conclusion before the final proposals have been published, so let us explain why.
In the February 2013 report that kicked off the project, the OECD made it clear that its aim was to close loopholes and tighten and extend existing rules to shore up the current system. It was equally clear that the fundamental framework underpinning the system was to remain in place. Subsequent BEPS documentation confirmed this.
However, the major problems afflicting the international tax system ultimately stem from flaws in the framework underpinning it. If that same framework remains in place, those problems cannot ultimately be resolved.
Double trouble
There are two major flaws. First, the current framework relies at its heart on concepts and distinctions that are not suited to the realities of a contemporary multinational enterprise operating in a global business environment.
Essentially, the international tax system addresses the possible double taxation of income arising from cross-border activity by allocating primary taxing rights between “residence” and “source” countries. In a “1920s compromise” in the League of Nations, source countries were allocated primary taxing rights to the “active” income of the business and residence countries the primary taxing rights to “passive” income, such as dividends, royalties and interest.
This might have been a sensible system in the 1920s but it is ill-suited to dealing with modern multinationals operating in a truly global business environment. Modern multinationals have shareholders scattered across the world, a parent company resident in one country, a potentially large number of affiliates undertaking an array of activities, such as research and development, production, marketing and finance that are located in many different countries, and consumers that could also be scattered across the world.
In such a scenario, there is no clear conceptual basis for identifying where profit is earned; all those locations may be considered to have some claim to taxing part of the company’s profit.
Best intentions?Reuters/Pool
Conceptually, the residence/source and active/passive distinctions do not offer much help. In practice, applying these distinctions in the context of intra-group transactions, where affiliated entities in different jurisdictions are assigned the status of “source” or “residence”, gives rise to extensive and significant problems, not least those relating to pricing transfers within the multinational group. Overall, they lead to a system which is easily manipulated, distortive, often incoherent and unprincipled.
Unhealthy competition
Second, the system invites governments to destabilise it by competing with each other for economic activity, tax revenue and possibly to try to advantage their own domestic companies. For at least 30 years this has led to gradual reductions in effective rates of taxation of profit. Governments around the world compete in this way while also demanding that companies should pay their “fair share” of tax, whatever that may be. This tension is particularly evident in the UK, where the goal of having the most competitive corporation tax regime in the G20 is held concomitantly with an active role in pushing forward the BEPS project.
Competition is not only on rates, but also on many aspects of the tax base. Over the years countries have introduced rules that enhance their competitive position or seek to give an advantage to domestic companies, but in practice facilitate the erosion of the tax base of both domestic and foreign jurisdictions and thus further destabilise an already fragile system. For example, as well as reducing tax rates, countries have introduced patent boxes with lower rates of tax on royalty income, and relaxed anti-avoidance measures intended to prevent international profit shifting.
These two flaws will continue to afflict the international tax system even if the proposals resulting from the BEPS project were to be implemented adequately by all states. For this reason, we do not believe it will lead to an international corporate tax system fit for the 21st century.
Authors: Michael Devereu, Professor of Business Taxation, University of Oxford, John Vell, Associate professor and Senior Research Fellow at the Oxford University Centre for Business Taxation (CBT), University of Oxford
Labour party leader Jeremy Corbyn this week unveiled his new team of economic advisers. He hopes they will help build a set of policies capable of countering the narrative of belt-tightening austerity which delivered David Cameron and George Osborne into Downing Street back in May.
Corbyn and shadow chancellor John McDonnell are scheduled to meet four times a year with the seven-strong group which includes people like Thomas Piketty and Mariana Mazzucato. Also on the panel is City University professor Anastasia Nesvetailova, an expert on the international financial sector and its role in the global financial crisis of 2007-09. We asked her to give her thoughts on four policy areas reportedly under consideration by Corbyn and his team:
Q: The new Labour leadership has indicated support for a financial transaction tax, but why does support for this ebb and flow so much?
The idea for the Tobin tax, so called after the economist James Tobin suggested it in the late 1960s to early 1970s, has been long debated. This concept of applying a relatively tiny tax to every financial transaction tends to be evoked in the midst of financial crises and instability, or whenever the costs of finance to society appear to outweigh the benefits of deregulated finance.
Forex fight.REUTERS/Damir Sagolj
It may be comparatively mature as a concept then, but the Tobin tax has been difficult to implement in real policies. During its early life, the idea was eclipsed by the paradigm of monetarism and free markets of the 1970s and 1980s. And throughout there have remained unresolved technical issues about its implementation.
One major divisive issue has been the scope of a possible tax: should it be universal and global (to minimise regulatory arbitrage), or can it be implemented on a different scale by individual nation states? The Tobin tax was originally proposed to target the foreign exchange market – a segment of financial volatility, speculation and bubbles. Today though, we know that the foreign exchange market is only one part of the financial system – albeit a very large part at about a US$5 trillion daily trading volume.
Many other financial transactions today are multi-layered and multi-jurisdictional – very often they involve complex credit contracts. And so a tax designed when the realities of financial markets were quite different and less advanced may not be applicable to all financial transactions today uniformly.
Another issue is how to tailor such a measure to the complexity of today’s financial structures and not harm the needs of businesses and consumers who rely on the foreign exchange market for their daily business needs. Finance is famously prone to speculation and bubbles, but it is an organic and very central sphere of economic activity in advanced, highly financialised capitalism; we need to be cautious about tinkering with the inner workings.
Q: Is there a future for Britain free of the dominance of the financial sector?
This is a tricky question, because it presumes that the financial sector is counterpoised to the rest of economic activity. In reality, we are all part of finance today, and that includes the shadow banking system – a complex set of non-bank financial intermediaries, transactions and entities. Overall, the City of London financial sector plays a crucial role in providing market and funding opportunities for the economy. A better question would be to ask: how can the financial sector today work for society?
It is true that competition and financial innovation can and does spur economic growth and makes our daily lives much easier: it is convenient to rely on credit cards when you travel or to be able to take a mortgage. But financial innovation is also inherently very risky. Hyman Minsky, the theorist of financial fragility who did not live to see many of his predictions come true, said that in advanced capitalism there is always a trade-off between financial innovation and economic stability. Looking back at the unresolved legacy of the 2007-09 crisis, it is clear that the question about who should assume the risks incurred by the financial industry during the “good times”, has not been addressed by policy-makers fully.
Taxpayer funded. RBS.REUTERS/Luke MacGregor
Instead, society and the state, were made to work for finance: in 2007-08, the risks from financial innovation were socialised and austerity measures followed. This happened against the big gains from financial innovation that had been privatised by the finance industry. As a result, despite the progress on the financial reforms since 2008, we are ill-prepared for the next financial crisis, which according to Minsky, is certain to come.
Q: What should a new Bank of England mandate look like?
The Bank of England should remain independent, but it should have the power and the tools to continue to act as a stabiliser of the economy and be able to intervene with a diverse and flexible range of tools during a period of financial crisis or instability. It is important to understand that uncertainty about central banks’ mission and mandate today is not a unique problem of the UK.
During the crisis of 2007-09, the central banks on both sides of the Atlantic stepped in and played a role that they were not meant to. We are lucky that they did so. Against many economic dogmas, they were not simply lenders of last resort, they made the markets, as my colleague Perry Mehrling argues in his book New Lombard Street. They made the markets when liquidity vanished and when private participants, buyers and sellers, simply would not pick up the phone.
In the wake of Lehman, along with the governments, central banks saved the payment system from a collapse. And although it was meant as a temporary solution, there was no exit strategy from that role. Up to this day, central banks are de facto in charge of much more than simply price stability.
Notes and queries. How can the BoE be better put to use?natalie, CC BY-NC
The problem is that the formal mandate of the Bank of England is too narrow for what is required of the central bank in the advanced financialised context. The risk is that during the next financial crisis they may not have the tools to intervene. Central banks are major actors in financially advanced economies and in any plans for a major recovery they are likely to remain so. They will need new tools to deal with what will be an unavoidably a complex crisis.
Q: Is there a feasible place for public ownership in the banking sector?
Again, an interesting question because somehow it assumes that public ownership is alien to the banking system. In reality, public ownership is already present in finance: as a policy measure when banks are nationalised and a potential measure when a bank is identified as a systemically important institution and its failure threatens the economic stability.
One of the major triggers of the great transformation of banking in late 20th century was the move (in the US) to put investment banks into the hands of markets and the ownership of shareholders. The major consequence of that decision was that the risks that previously were theoretically containable in closed partnerships arrangement, were potentially socialised. Simply put, large bank holding companies trading in the markets have systemic consequences for the economy – and a collapse may trigger systemic risks beyond this particular institution.
This is exactly what happened in 2007-09, when the UK government had to nationalise several banks in order to save them from a collapse. Since banks are crucial systemic institutions in our economy, and since they perform many utility-like functions (payments, clearing) critical for the economic security of the country, it can be argued that public ownership is best suited to guard the public interest in utility banking. And in fact, given our experience in the financial crisis, it can be argued that they were, in effect already nationalised.
I can anticipate a counterpoint from the banking industry: public ownership is wasteful, it stifles innovation and competition. But while the benefits of privately-owned banking groups are difficult to quantify, data suggests that bank executives and managers were rewarded handsomely even as their institutions were making losses and were on a public liquidity drip and, further, that in finance, innovation takes the form of regulatory arbitrage and avoidance, rather than the benign pursuit of the public good.
Author: Anastasia Nesvetailova, Professor of International Politics, Director of the Global Political Economy MA, City University London
The Conversation is fact-checking claims made on Q&A, broadcast Mondays on the ABC at 9:35pm. Thank you to everyone who sent us quotes for checking. Viewers can request statements to be FactChecked via Twitter using hashtags #FactCheck and #QandA, on Facebook or by email.
Excerpt from Q&A, September 21, 2015.
Australian statistics show that we are at the most unequal we’ve been in 75 years. – Leader of the Opposition, Bill Shorten, speaking on ABC TV’s Q&A program, September 21, 2015.
The complexity behind inequality is undeniable. Whole journals are dedicated to the topic and there are myriad ways of measuring it.
Members of the Opposition are fond of saying that inequality in Australia is at a 75-year high. That is, that inequality is worse now than it has been since about halfway through last century.
Is that statement supported by the research?
Checking the source
The source for Shorten’s stat is research by Shadow Assistant Treasurer Andrew Leigh, a former professor of economics at the Australian National University.
The chart shows inequality since just after federation, defined as total income share held by the top earners. A higher figure is more unequal; lower means more equal, until one (when 1% hold 1% of total income).
Leigh says on his website that his analysis “is based on crunching tax data, national accounts figures, and population statistics.”
Leigh and fellow economist Tony Atkinson argued in a co-authored paper that inequality fell between the 1950s and the late 1970s. The same paper notes that for the top Australian earners:
There is a clear spike in 1950, mainly due to the peak wool prices which sheep farmers received in that year.
Commodity price anomalies aside, the overall trend in Leigh’s graph supports the narrative that income equality in Australia improved after the 1940s, began worsening in the 1980s, and is now back at levels not seen since the middle of last century.
So Shorten’s representation of Leigh’s data is perhaps a slight exaggeration but not a major one.
Technically, there was a spike in income inequality in 1950 so perhaps some sticklers will say Shorten should have said the most unequal in 65 years. Leigh’s data shows that apart from the spike, Australia is back to the level of top income shares of the 1940s (except for the war years 1944 and 1945).
What does other research say?
There is not much research on this issue going back as far as 75 years. Most other studies look at the last 20 years and most show that inequality is still a problem in Australia.
An Australia21 report released last year and launched by former politician John Hewson also warned of rising inequality. And a Parliamentary Committee recently reported Australia is more unequal.
Work by Professor Peter Whiteford, a researcher on inequality at the Australian National University, shows that higher average incomes do not benefit all Australians if gains are only held by the wealthy few.
And Whiteford wrote last year on The Conversation:
The most common measure of inequality is the Gini coefficient, which varies between zero and one. If everyone had exactly the same income then it would be zero (perfect equality). If one household had all the income then it would be one (complete inequality)… Research by economists David Johnson and Roger Wilkins found that the Gini coefficient increased from around 0.27 in 1981–82 to around 0.30 in 1997-98. Subsequently, the official ABS income statistics show that the Gini coefficient increased to 0.34 just before the global financial crisis in 2008, then fell to 0.32 in 2011-12.
Trends in income inequality (Gini coefficient) in Australia, 1981–82 to 2011-12.Author
The most recent income survey released by the ABS tracks, among other things, how Australia’s Gini coefficient has changed since the 1990s.
It shows that inequality peaked in 2007-08 and then fell, but in the most recent year went up again but not quite to the 2007-08 level. That suggests inequality was a little bit higher seven or eight years ago, compared to now.
A quick qualifier: tracking the Gini coefficient is valuable because it gives information on the bottom income earners as well as the top. However, the Gini can be constructed using broad or narrow income measures, different data sources, and can look at either household or individual incomes. So it is not a simple matter to compare Gini coefficient results. The ABS, in their Table 1.1 data release, urged caution in interpreting the recent changes in Gini coefficient results, saying:
Estimates presented for 2007–08 onwards are not directly comparable with estimates for previous cycles due to the improvements made to measuring income introduced in the 2007–08 cycle.
Much of the discussion of inequality is about the pattern of change over time – the trend, not the year-to-year differences. Many would argue insufficient consistent figures exist even since 2007-08 to identify a trend.
Finally, the ABS Gini estimate is based on surveys (which the tax based measure of the 1% share used by Leigh isn’t), with survey errors (see ABS explanatory note 78), and so each Gini is a mid-point and needs a window drawn around it, to reflect the possible range of the true value. This window might show that the very small differences in the estimates since 2007-8 actually aren’t statistically different.
We should be cautious not to draw conclusions from any sole figure; any single inequality measure provides only a partial picture. Looking at a broad range of inequality measures and trying to grasp the trend gives a better picture of inequality in Australia.
Verdict
It all depends on what figures you use.
Shorten’s representation of his ALP colleague Andrew Leigh’s data is perhaps slightly exaggerated but broadly correct – give or take a few years. There are not many inequality analyses going back as far as 75 years and most research supports the proposition that inequality has been rising in Australia.
There is data recently released by the ABS using the Gini coefficient that suggests inequality may have been a little bit higher seven or eight years ago than it is now. But there are strong doubts about whether this is true statistical difference or a trend. So it is too early to say whether inequality was stable or falling over the period from 2007-8 to now.
Review
The fact check is a good summary of the available data on income inequality and, importantly, the difficulty in measurement. The spike in the 1950s was probably due to one-off factors, so it is fair to discount it. What we should emphasise is that our choice of index matters. Different indices focus on different parts of the distribution. Do we care more about the middle compared to the bottom of the distribution, the top compare to the middle, or the very top of the distribution (the famous 1%)? Whatever index we use, it is reasonably clear that inequality is not falling over the long term in Australia, and is a key area of policy concern.
Allowing first homebuyers to cash out their super to buy a home is a seductive idea with a long history. Like the nine-headed Hydra, which replaced each severed head with two more, each time the idea is cut down it seems to return even stronger.
Both sides of federal politics took proposals to the 1993 election to let Australians draw down their super. After re-election, then Prime Minister Paul Keating scrapped it amid widespread criticism. Former Treasurer Joe Hockey raised the idea again in March and was roundly criticised by academics and the media. This month the Committee for Economic Development of Australia (CEDA) has again resurrected the idea.
House prices have skyrocketed again over the past two years, particularly in Sydney. So politicians are attracted to any policy that appears to help first homebuyers to build a deposit. Unlike the various first homebuyers’ grants that cost billions each year, letting first homebuyers cash out their super would not hurt the budget bottom line – at least, not in the short term. But the change would worsen housing affordability, leave many people with less to retire on, and cost taxpayers in the long run.
It is a bad idea for five reasons.
First, measures to boost demand for housing, without addressing the well-documented restrictions on supply, do not make housing more affordable. Giving prospective first homebuyers access to their superannuation will help them build a house deposit, but it would worsen affordability for buyers overall. Unless supply increases, more people with deposits would simply bid up the price of existing homes, and the biggest winners would be the people who own them already.
Second, the proposal fails the test of superannuation being used solely to fund an adequate living standard in retirement. The government puts tax concessions on super to help workers provide their own retirement incomes. In return, workers can’t access their superannuation until they reach a certain age without incurring tax penalties.
While paying down a home is an investment, owner-occupiers also benefit from having somewhere to live without paying rent. These benefits that a house provides to the owner-occupier – which economists call housing services – are big, accounting for a sixth of total household consumption in Australia. Using super to buy a home they live in would allow people to consume a significant portion of the value of their superannuation savings as housing services well before they reach retirement.
Third, most first homebuyers who cash out their super would end up with lower overall retirement savings, even after accounting for any extra housing assets. Owner-occupiers give up the rent on their investment. With average gross rental yields sitting between 3% and 5% across major Australian cities, the impact on end retirement savings can be very large. Consequently, owner-occupiers will tend to have lower overall lifetime retirement savings than if the funds were left to compound in a superannuation fund
Frugal homebuyers might maintain the value of their retirement savings if they save all the income they no longer have to pay as rent. In reality, few will have such self-discipline. Compulsory savings through superannuation have led many people to save more than they would otherwise. A recent Reserve Bank study found that each dollar of compulsory super savings added between 70 and 90 cents to total household wealth. If first homebuyers can cash out their super savings early to buy a home that they would have saved for anyway, then many will save less overall.
Fourth, the proposal would hurt government budgets in the long run. Superannuation fund balances are included in the Age Pension assets test. The family home is not. If people funnel some of their super savings into the family home, gaining more home equity but reducing their super fund balance, the government will pay more in pensions in the long-term.
Government would be spared this cost if any home purchased using super were included in the Age Pension assets test, but that would be very hard to implement. For example, do you only include the proportion of the home financed by superannuation? Or would the whole home, including principal repayments made from post-tax income, be included in the assets test? The problems go away if all housing were included in the pension assets test, but this would be a very difficult political reform.
Fifth, early access to super for first homebuyers could make the superannuation system even more unequal than it is today. Many first homebuyers are high-income earners. Allowing them to fund home purchases from concessionally-taxed super would simply add to the many tax mitigation strategies that already abound.
Consider the case of a prospective homebuyer earning A$200,000. Their concessional super contributions are taxed at 15%, rather than at their marginal tax rate of 47%. Once they buy a home, any capital gains that accrue as it appreciates are tax-free, as are the stream of housing services that it provides. Such attractive tax treatment of an investment – more generous than the already highly concessional tax treatment of either superannuation or owner occupied housing – would be prone to massive rorting by high-income earners keen to lower their income tax bills.
What, then, should the federal government do to make housing more affordable?
Prime Minister Malcolm Turnbull has tasked Jamie Briggs with rethinking policy for Australia’s cities.Mick Tsikas/AAP
Helping fix our cities
Above all, new federal Minister for Cities Jamie Briggs should support policies to boost housing supply, especially in the inner and middle ring suburbs of major cities where most people want to live, and which have much better access to the centre of cities where most of the new jobs are being created. The federal government has little control over planning rules, which are administered by state and local governments. But it can use transparent performance reporting, rewards and incentives to stimulate state government action, using the same model as the National Competition Policy reforms of the 1990s.
Other reforms, such as reducing the 50% discount on capital gains tax and tightening negative gearing, would also reduce pressure on house prices and could be implemented straight away. Such favourable tax treatment drives up house prices because it increases the after-tax returns to housing investors. The number of negatively geared individuals doubled in the 10 years after the capital gains tax discount was introduced in 1999. More than 1.2 million Australian taxpayers own a negatively geared property, and they claimed A$14 billion in net rental losses in 2011-12.
There are no quick fixes to housing affordability in Australia. Yet any government that can solve the problem by boosting housing supply in inner and middle suburbs, while refraining from further measures to boost demand, will almost certainly find itself rewarded, by voters and by history.
Authors: Brendan Coates, Senior Associate, Grattan Institute; John Dale, John Daley is a Friend of The Conversation, Chief Executive Officer , Grattan Institute.
It’s not surprising that new Prime Minister Malcolm Turnbull’s appointment has been well received by the startup community. When he talks about the Australia of the future being agile, innovative and creative, he is speaking their language.
There is only one question. How do we get there?
There are at least a few countries in the world that could be characterised as agile, innovative and creative. Among them: the USA, Singapore and Estonia. What could we learn from them?
The United States has led the digital revolution. It started in Silicon Valley. There, Stanford and other universities provided a skilled STEM research base, the industry contributed venture capital and business expertise, and the government added steady and sustainable funding to the mix.
In America, creativity, innovation and agility are deeply ingrained in society. The maker movement, exemplified by the global phenomenon of Maker Faires, started in California. Creativity is taught from the youngest age through initiatives such as City X, born in Wisconsin.
Singapore is one of the most advanced digital economies and benefits heavily from the commitment of its government. Singapore wants to become the world’s first “smart nation”. The government has established institutions that focus on creating a vibrant startup ecosystem. Generous funding of startups and an attractive taxation system are “icing on the cake” that the government serves.
Singaporeans want to be smart and well educated. The perception that knowledge can be the most valued resource of the country has been consistent over the 50 years of its existence.
Estonia is a young economy, moving fast in the digital space. Lack of legacy systems means that Estonians can quickly introduce digital solutions. There is no need to think about maintaining previous ones – there aren’t any. It’s an inventor’s heaven.
A strong push for STEM education has always been present in Estonia’s educational system. This, married with entrepreneurial spirit triggered when independence was restored in 1991, created a perfect storm. And it would not have been possible without the strong support of the government.
In the US, Singapore and Estonia, it is all about government support, education and the right innovation culture.
Governments need to play a very active role. A robust ecosystem, like Silicon Valley, can be developed when a government is strategically focused. The US government is now switching to a supportive role, with the digital economy becoming very mature.
The government of Singapore behaves more like a startup, with a clear vision, defined investment and incentive strategy. And Estonia, the youngest economy of the pack, is in a seeding phase, looking to implement and create an entrepreneurial ecosystem.
Education is a top priority. The decentralised model in the US has enabled grassroots movements resulting in great creative talent. The structured model in Singapore produces highly skilled and technically capable citizens. Estonia has traditionally focused on STEM skills and aims to digitise all learning experiences by 2020.
Be bold
While policies and education are important, innovation culture eats them for breakfast. Obama brings inventors to the White House. Singapore’s Lee Hsien Loong uses Facebook and Google Drive to share and discuss C++ code he wrote years ago. Estonian President Toomas Ilves reminds everyone that this young country is behind such disruptive technologies as Skype.
Estonians are bold, curious and not afraid of experimenting. Singaporeans are rigorous, ambitious and use their skills wisely. Americans are proud, entrepreneurial and global in their actions. They are all explorers of the digital economy in their own ways.
Governments that foster innovation are more about how they behave than their structure. In this case “talking the talk” is almost as important as walking it – to build the right innovation culture.
Turnbull’s beliefs, values and assumptions, born of his business experience, will be vital to keep innovation and entrepreneurship on the agenda while developing the ecosystem in Australia.
A well-designed educational system is crucial. There has to be a strong focus on developing STEM skills, while remembering that creative skills are just as important. We need to foster curious, creative and entrepreneurial minds. And we need to remember that education never ends: lifelong learning and digital literacy skills are key to a successful digital economy.
Innovation, creativity and agility need to be cherished and celebrated. Just like Obama praises creative kids in his tweets, we hope to see Turnbull continuously recognise individuals and organisations that exhibit entrepreneurial traits. And just like other successful economies, we need to create an environment where successful startups stay here.
Australians need to be bold and aspire to have the strongest and fastest-moving digital economy in the world. There is no reason to doubt it is possible.
If the first vision is not right, we can pivot. Just like any startup would.
Author: Marek Kowalkiewicz, Professor and PwC Chair in Digital Economy, Queensland University of Technology
When you begin to delve into the question of what money really is, you must be prepared for some metaphysics. Money, currencies and other such media of exchange differ markedly in their backgrounds and means of operation, and have changed quite recently into forms that are barely understandable.
For centuries, minted coins not only represented the value and trust of banks, their depositors and eventually nation-states, but also were deemed valuable because they were made from precious metals like gold and silver. These metals are difficult to move around in large quantities, and so banknotes were invented as early as the seventh century in China and brought to Europe in the 13th century. Unlike coins, banknotes were not treated as valuable in themselves since they were simply printed on otherwise worthless paper. Rather, they served as a form of promissory note or IOU that could be presented to the banks that issued them in exchange for their face value in precious metal, coins or bullion.
In the 20th century, most central banks and governments stopped backing up their currencies with precious metals, and yet banknotes maintain fluctuating values, with some in high demand as media for exchange both domestically and internationally. Dollars and euros are highly regarded and preferred currencies for international commerce, as well as for stocking private bank accounts.
Now we have bitcoins and other digital currencies that exist entirely in blocks of zeros and ones and are even “mined” by machines running algorithms. And earlier this month, bitcoins and their ilk were officially deemed commodities by the Commodity Futures Trading Commission, which will now regulate them.
So as the greenbacks and quarters in our pockets slowly disappear, replaced by strings of digits stored on our smartphones, and money takes another step away from being tied to anything of value, a philosophical question comes to mind: does money still exist? And if so, what gives it its value?
The Guardian explains bitcoin.
What’s value without value?
Money is a “fungible” item, which means that exchange of any one portion for a portion of equal value is not a “taking” of property. That is, you don’t own a particular US$100 bill. You own the value it represents.
This is how banks have long worked, since when you deposit your money, you are not entitled to receive the same coins or bills back as you deposited. This is also how “fractional reserve” banking began (in which banks do not keep all the curency on deposit “within” the bank, just some fraction of it) and was not regarded somehow as theft. People took their money to a bank, they were given a note of deposit, which entitled them to withdraw the same amount plus some interest, but they were not entitled to the same coins or bills that they deposited.
The money on deposit in a bank is not all physically in the bank (excepting that which is in safety deposit boxes) and has not been really since banking was invented. When you deposit a sum, you no longer own the paper or other medium of exchange used for the deposit, legally. What you own is a debt and obligation by the bank to return the equivalent amount of money with interest.
John Searle has described things like money as “some special sort” of social objects. That is, X (coins, bills, strings of digits) work as Y (money) in context C (an economy, coffee shop, bank, etc). In the case of money, anything can conceivably take on the Y role even without an X (think a barter economy). Where metals, then bills and now bits in computer memory take the role of X, money might well be a “free-standing” Y, meaning it could exist without anything to represent it except the web of intentional states (the debts and obligations) that make more familiar forms of money function. It’s only physical manifestation might be a note in a ledger.
Without precious metal standards backing national currencies, and in the age of digital transactions, money is decreasingly tied to banknotes, just as its ties to metals have faded. Digital ledgers track exchanges and accounts, with digital strings in computer memories representing the trust and value we once attached to more solid things like coins, bills and notes, in more ephemeral digitally encoded, instantly accessible forms attached to cellphones, computers and chip cards.
A brave new world
New types of cryptocurrencies (where cryptography protects its integrity) like bitcoin and others take the concept one step further, distributing the banking to all its users, tying the transactions and ledgers to no particular party but to all users at once. This is similar to mirrored bank servers, but bitcoin is mirrored among all bitcoin owners.
A bitcoin is as ownable as dollars are when they are deposited in a bank. Skipping the stage of physical, fungible currencies, bitcoins exist by virtue of their representations in a ledger in cyberspace. The information encoded in a massively distributed and constantly updated blockchain is incapable of the exclusivity required for owning objects in the traditional sense. But the same is true of the information that tracks most of the money in the world. Money in nearly every denomination exists and flows in a similar state, represented by digital bits.
Bitcoins nonetheless lack some of the institutional guarantees that other types of money has due to nations and their laws.
Trading on trust
Depositors to banks are protected in their debts by states, generally, and through contracts with their banks. State insurance and the contractual guarantee that a bank will pay back what has been put into them mean that there is some force behind our trust in the continued existence of a person’s wealth while digitally stored in a bank’s servers. The blockchain exists on many servers at once, spread across the universe of bitcoin owners.
Without government insurance or contractual guarantees, only mutual trust maintains the value and integrity of the system. What bitcoin owners own is the debt, just as those who own money in banks own debts that are recorded in bits. They do not own the bits that comprise the information representing that debt, nor the information itself, they own the social object – the money – that those bits represent.
Bank ledgers exist. They are tangible, even though digital, and they record the debts owed among parties. While cyberspace is ephemeral, it is still real and physically based. Digital bank ledgers now track money without the necessity for physical transfers of currencies.
Bitcoins too exist as digital records of obligations, physically encoded on servers of those who hold them, propagated and distributed for transparency and security, encrypted for privacy. Bitcoins are as real as money in banks. What’s most fascinating about these new digital cryptocurrencies is how much they reveal about the surreal nature of currencies and wealth in our digitized economy.
If bitcoins are as real as any other money, how real can money be?
Author: David Koepsell, Adjunct Associate Professor, University at Buffalo, The State University of New York
So, new Australian Prime Minister Malcolm Turnbull wants to have a “conversation” with the Australian people and “explain” policies in a way that respects our intelligence. Excellent. He will be better at this than Abbott, and new Treasurer Scott Morrison will be better than Joe Hockey.
Turnbull began the conversation on Sunday in announcing his new ministry. In this speech he used the term “prosperity” in one form or another (including “prosperous”) at least three times. This is interesting and welcome. We hear about “growth” and “productivity” but hardly anyone understands what they mean and why they are important. Prosperity is a term that captures those ideas in a way people can better understand. He didn’t define prosperity but let me suggest he is talking about living standards.
The best indicator of living standards is national income per person which has grown at an average rate of 2.3% over the past 40 years, but has fallen sharply in recent years. In fact the growth rate has been negative in recent years meaning living standards have actually fallen.
There are three principal drivers of living standards and they are all going in the wrong direction: labour productivity which has fallen from historic average of 2% growth to 1.4%, the terms of trade which is essentially prices the rest of the world are willing to pay for our exports and have fallen by 30% from their peak in 2007, and the share of the population in jobs which has fallen about 2% since 2005 and is set to fall by another 3% over the next few decades. The driver we can do most about on a sustained basis is labour productivity. The employed share of the population is important too but it can’t be increased forever.
In improving living standards, the new team of Turnbull and Morrison face huge challenges and unfinished business. One challenge, surprisingly and unfortunately, comes from their own principal advisers in Treasury who have completely lost the plot when it comes to thinking about how to raise living standards.
Treasury sees its mission as improving the “wellbeing” of the Australian people by which it means improving “a person’s substantive freedom to lead a life they have reason to value”. Well, that’s nice but it’s more like the advice a parent gives their child rather than the basis for measurable and achievable goals of economic policy. It leads to a vague un-prioritised and unmeasurable list of indicators including the “risks” people face in life, “complexity” of choices they face, and “sustainability” of their opportunities over time. Remember, this is the framework of the “institution with the chief responsibility for providing economic advice to government”.
So clearly Turnbull and Morrison will need to do their own thinking on how to raise living standards. They should return to the big themes that Joe Hockey tried unsuccessfully to articulate two years ago: the culture of entitlement to taxpayer handouts and the huge growth in government spending. And they need to somehow find a way of putting serious tax reform back on the agenda and also tackle industrial relations reform in the wake of the alarming revelations of the trade union Royal Commission.
The public discourse on tax reform is beginning to run off the rails. It has become about how to raise more revenue to fund rising government spending on health, aged care, disability insurance, child care and a raft of other welfare measures. Morrison needs to turn this debate around.
Higher taxes to fund more welfare is not the way to raise living standards.
Consider these observations. The Australian budget deficit has fallen as a percent of GDP from its highest level since 1970 of 4.2% in 2009-10 to 2.6% in 2014-15. But this has been due entirely to rising tax revenue rather than cuts in spending which has stayed the same as a share of GDP. Over the same period government spending in the US, U.K. and New Zealand decreased as a share of GDP. Yet GDP is growing at least as fast in these countries and their unemployment rates are lower than in Australia.
Reform myth busting
Morrison must explain that taxes have costs to living standards. A standard estimate is that for the average dollar of tax that is raised, about 20 cents is lost down the metaphorical toilet – a “deadweight loss” is the polite term. It refers to the costs in output caused by the disincentive to employ labour and capital. So an extra dollar of spending that must be financed by taxation needs to earn a 20 per cent rate of “return”, which is a high bar. Hence the challenge for Morrison is to explain that we can’t just spend and tax our way to higher living standards.
On tax reform, Morrison also needs to address head-on the myths in the public debate. The worst is the simplistic criticism that a higher GST would be inherently unfair because a given amount of GST is a higher share of a low income than of a high income. First it ignores life cycle effects – young low income people are often high income people in the future. Second it ignores the ability to compensate welfare recipients and the working poor while still leaving plenty of revenue to reduce other harmful taxes – a package that would add about 2% to living standards.
This leads to another myth – that company tax cuts are just welfare for the big end of town. Quite the opposite – the biggest winners from company tax cuts would be ordinary workers. This might be counter-intuitive but it is very widely accepted among tax experts and has a strong theoretical and empirical basis. The reason is that company tax cuts would encourage capital to move to real businesses that employ workers, which would increase employment and wages.
The next huge field of opportunity is industrial relations reform. Here Morrison will need Turnbull the lawyer and smooth talker. Based on the Royal Commission evidence, trade unions and business (both are to blame) have had their snouts in the trough at the expense of workers and taxpayers. And they will need to show, without mentioning the words “work” and “choices” in the same sentence, that in fact giving individual workers and employers the right to negotiate their own terms unfettered can drive employment and prosperity.
Author: Ross Guest, Professor of Economics and National Senior Teaching Fellow, Griffith University
