May 2015 – Thomas the Think Engine

I wasn’t panicking about the Australian economy … until I saw this graph

This graph makes my tummy turn into a knot.

It shows how much money business in Australia expects to invest. Businesses invest in new trucks, new computers, new buildings, etc. Investment is what makes businesses grow, what makes the economy grow.

The white columns are spending plans, the grey columns are cold reality. Looking at those last two small white columns, we see business is terrified.

They show how much money businesses expect to invest in 12 months from July 1 2015. It’s low. Very low. The worst since 2010-11.

We can expect the plans for investment (the white columns) to grow a bit as the year continues, same as in every other year. The third estimate of plans for investment (third white column) is often the biggest. Reality (the grey column) rarely beats that third estimate. This year’s final business investment number hasn’t come in yet (there’s no grey column seven yet in 2014-15) but it looks likely to be the lowest since 2010-11.

And next year’s business investment looks like it will be worse.

WHAT IT MEANS

Low business investment means low economic growth. Low economic growth means higher unemployment. Higher unemployment means more human suffering. (Why do we need high growth to keep people in work? This is something I wish I understood better about economics.)

The information in the graph comes from a survey the ABS does. The survey happened in April and May, so it would have caught some (but not all) of the Budget leaks about the supposed small business bonanza. Of course we will have more information about the effect of the Budget next month.

But for now, it looks like Hockey’s second Budget is a dud.

Partly, the problem is mining. The end of the mining boom is as sudden as the start, and the cash rivers flowing to projects in WA and QLD are drying up fast.

But the real problem is that other industries are not picking up the slack. Here’s the graph for selected industries excluding both mining and manufacturing. The pattern is the same. Estimate two for next year is 10 per cent less than estimate two for this year. That spells trouble.

What can we do?

The federal government should spend more to give the economy more of a boost. They know that and Hockey has been blaming the Victorian government for cancelling the east-west road project.

But given the sacred status of surpluses, there’s little more we can expect from fiscal policy.

Instead, all eyes turn to the RBA. Will it try yet more monetary policy to keep the economy moving? Will it cut interest rates yet again?

Some people think yes. In some ways, there’s nothing else we can do. Even though the RBA has already cut rates to record lows and house prices have gone crazy. So long as inflation is modest next time CPI comes out, another rate cut is very plausible.

But will it work to make those white columns go up? To ultimately make businesses plan to grow and hire more people? To keep people in jobs and prevent the suffering of joblessness? I fear not.

Why we should tax tampons, and everything else.

Tax on tampons is a hot topic, with Tony Abbott and Joe Hockey in major disagreement. The issue was brought into the spotlight via a petition on communityrun.org.

“And how can a bodily function be taxed? Because the government doesn’t consider the tampons and pads we’re forced to buy every few weeks ‘necessary’ enough to be GST-free.

On the other hand, condoms, lubricants, sunscreen and nicotine patches are all tax-free because they are classed as important health goods. But isn’t the reproductive health and hygiene of 10 million Australians important too?”

I didn’t sign the petition, and here’s why

Sanitary items are different from “condoms, lubricants, sunscreen and nicotine patches”, because people already want to use them, and there is no evidence of significant public health risk if usage falls. Also, “necessity” is not the binding criterion for determining what gets taxed – we tax electricity.

“Half the population menstruates and they shouldn’t be financially penalised for it.

If you still aren’t convinced, let’s consider some statistics: on average women, who make up the majority of people who use sanitary products, earn $262.50 per week less than their male counterparts, and they are also statistically at greater risk of living below the poverty line. Furthermore, this tax disproportionately targets those who may already be disadvantaged, that is the homeless and unemployed.

So why force this underpaid, at risk and disadvantaged portion of society to pay more for basic essentials?”

Healthy women menstruate for about half their life. So, less than 25 per cent of the population menstruates. How big is the financial burden of this tax on them?

A 16 pack of brand-name tampons costs $4 at Coles. Let’s estimate a woman spends $10 a month. GST on that adds up to $12 a year.

The number of people who can’t afford tampons because of GST is therefore negligible. The number of people pushed into poverty because of that $12 slug would be small. Most people campaigning against this tax have no trouble affording $12 a year.

So if you want to make a difference to the financial well-being of poor women, this is an indirect and very marginal approach. It comes with real trade-offs – it would cost the government revenue. That undermines the ability of society to support the poor.

Here’s a petition I’d support instead: raising income support payments to a more reasonable level.

WHAT’S REALLY HAPPENING

If this petition is not really about public health, necessity or fairness what’s it about?

People hate paying tax. They really hate taxes they can’t avoid. They then create ex-post reasons why they should not have to pay tax, generally involving the welfare of the wretched. (Their own benefit is merely incidental to the social good they’re pursuing!).

The mining industry showed the way, with its campaign against the mining tax, focused on the health of small towns and communities. The big polluters mimicked this in killing the carbon tax, worrying about the electricity bills of families on the bread-line.

It’s no surprise these tactics have spread – they’re extremely effective!

The crux here is whether there is a link between fairness and avoidability. Is a tax fair only if there’s a way to avoid it?

Unavoidable taxes are the backbone of our revenue raising system. We already raise lots of revenue effectively through big taxes on things everyone agrees are “good,” like earning income and buying clothes. I’ve previously written that we need more taxes nobody can avoid.

Tax theory says not to introduce loopholes. That was the mantra when I worked at Treasury – maintain the integrity of the system. Always use payments to solve problems, because exemptions are not targeted and get exploited.

But perhaps I am out of step with community sentiment.

Hate for (certain) unavoidable taxes goes back a long way – Poll taxes brought down Margaret Thatcher, for example. Also, exemptions to the GST were what bought it enough legitimacy to be introduced.

I sometimes wonder if sin taxes – tax on alcohol and cigarettes for example – are to blame for the way people see tax in general. A lot of people interpret the tax system as a moral agent judging their actions. If I saw all tax as punishment, I’d be furious about paying tax on sanitary items too.

Tax is not punishment, so maybe we should rename sin taxes to something other than taxes. What we should not do is carve up the system with more exemptions.

Exemptions undermine the efficiency of the tax system but also the sense that tax is our common duty.

I see plenty of normal people arguing that big companies that contort themselves to pay very little tax in Australia are “just doing what anyone would do”. The sense that everyone can and will avoid tax at every turn is pervasive.

I don’t mind paying tax because I can see the benefits it brings. (even though I’m quite aware it’s not all spent efficiently.)

“Tax is what we pay for civilized society.” US Supreme Court Justice Oliver Wendell Holmes, Jr.

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Thanks for reading this far! If you’d like to agree, disagree or accuse me of obnoxious mansplaining please do so below, and I shall attempt to respond!

The real value of the government’s “phenomenal” $20k asset write off

The government’s small business budget has been a big success, it seems. They got positive headlines about the Budget being stimulatory, and now approval ratings of the PM are back up.

It’s a PR success. And a lot of that is due to attention lavished on the $20,000 tax write-off for small business.

It’s “Phenomenal” apparently.

Get ready for a lot more asset write-off announcements in future. Because they buy the government a lot more headlines than they deserve.

You wouldn’t know this from reading about it, but the “$20,000” asset write off is worth only about $1000.

Here’s why:

The $20,000 is not taken off the tax bill of a small business. Instead it’s a deduction from income – same as when an individual gives to charity.

After a small business takes $20k off their income, they save the 28.5 per cent tax they would have paid on it. 28.5% of 20k is $5700.

That’s the actual value of being able to instantly write off a car or machine from your tax this year.

But here’s the thing. Businesses could always write off asset purchases against their income. They just had to do it more slowly.

Using a depreciation schedule from the ATO website, I calculated how much a small business would have been able to save off their tax under the old rules.

It’s $5700.

The only advantage is that under the new policy, a business can claim all that $5700 in this tax year, instead of claiming it in dribs and drabs over the next decade.

Here’s a graph for how your depreciation works under instant write off versus slow depreciation.

Years since purchase on the horizontal axis.

We can measure how much benefit instant access to the write-off provides. All we need to do is make an assumption about how small business values money over time. We do that with a discount rate. Lets assume a discount rate of 8 per cent.

If that is the case, the net present value of the flow of money is $4660. Only $1040 less than the value of the money right now.

(If you assume small business is even more patient, the value of the instant write-off is even less. At a 2 per cent discount rate the NPV is $5350 and the net value of the new policy is a mere $350.)

In summary, the government is getting great value from this policy in media coverage terms.

Compare it to another tax break they gave small business in the Budget – a five per cent tax cut for unincorporated businesses. You probably haven’t seen mention of that anywhere.

But this five per cent tax cut (full disclosure, I run an unincorporated business!) is worth even more to the Budget bottom line. That’s it in the blue bubble on the right side – worth $1.8 billion. This graphic was in the glossy brochures journalists got in the Budget lock-up.

It’s one of the most expensive measures in the Budget. And it has barely got a headline. The government will not make that mistake again.

Expect asset write-off thresholds to be even higher in the next Budget as governments seek a headline that says something like $100,000 Asset Tax Bonus for Small Business.

Budget Day!

I’m in the nation’s capital for the federal Budget! For me, this is like Christmas.

At 1.30pm I go into Parliament House for the lock-up and start diving into the Budget papers. (Budget paper 2 is the choice of the connoisseur.)

No phones or internet are permitted inside, and once in, you can’t leave until 7.30pm. At that time the Treasurer stands to deliver his Budget speech to the House of Representatives and the Budget is finally public.

I’ll be writing for The New Daily, a free news website with its head office in Melbourne. Hopefully by 8pm my stories will be published on their website. ( And hopefully, the government’s promise of a “dull” budget will be another promise on the scrap-heap!)

Until that time, please check out these two pieces of pre-budget coverage I have had published in other places.

A “Fantasy Budget” I wrote for Crikey.

A very simple Budget explainer I wrote for The New Daily

Parental leave changes will hurt more than the Government believes

The government offers new parents 18 weeks parental leave paid at the minimum wage. It’s worth $11,500. Until now that policy was available to everyone. But the government will now retract the offer for people whose jobs offer them parental leave.

I can see the attraction of cutting it, to save $1 billion. And I don’t expect vast waves of public sympathy for the kind of people who have good employer parental leave schemes. These people are wealthier and well-attached to the labour force.

“At the moment people … are effectively double dipping — we are going to stop that,” – Treasurer Joe Hockey.

But the “double dipping” terminology is partly responsible for the positive initial reaction to this announcement. I was surprised to see even the redoubtable Peter Martin using that terminology in his report on the policy this morning.

Looking at it like that is insufficient. The question is complex. How to take away government services as the private sector provides them is one of the trickiest parts of any policy sphere.

In some policy areas, no matter your private endowments, the government provides. Public transport is available to people whether or not they own cars. Medicare is universal – even those with private health insurance can use it.People with Foxtel are still able to tune into the ABC. Public schools are not reserved for those who can’t afford private ones, etc.

In other areas, we means-test things tightly. Welfare payments are removed as quickly as possible as people earn more money, even though that creates high effective marginal tax rates. (There is a strong movement arguing for a “basic income” which would effectively be a universal and non means-tested welfare payment).

In each of these cases, a range of questions comes to bear. Is the offering in question a universal right, or a safety net? Is it very expensive to provide widely without means-testing? Is it advantageous to have public and private provision alongside each other? And what will be the effect on private sector provision if the government means-tests?

This last point is crucial in this case.

If you work for a university like the Australian Catholic University that offers 52 weeks paid leave, your employer might not see the new policy arrangements as competitive. The government’s 18 weeks at minimum wage is no substitute. But the average duration of paid parental leave in Australia is under 10 weeks.

For most companies, I expect they will see that their expensive-to-provide policies are offering little or no net benefit to their employees, so they will have no reason not to cancel them.

This policy might actually provide savings to employers, but it will lead to a real fall in the amount of paid time new parents can spend with their children.

Instead of drawing on both, parents will then draw on only the government scheme and there will therefore be a drop in the amount of parental leave taken.

Faced with this shorter period of parental leave, parents will then choose whether to return to work. It could even cause some new parents to sever their connection to the workforce. The consequences could be further reaching than they seem.

Australia’s small business obsession.

Unlike its pineapples, this country likes its businesses best small.

The federal government continually showers the small business sector with largesse. One of the most-publicised announcements next Tuesday is a tax cut for small businesses. Tony Abbott is spruiking that 95 per cent of businesses will access the tax cut. Which is true, because most business are small.

But most business is done by big businesses. That’s where more people work. And they thrive despite much tougher regulatory and tax standards. Small businesses get an easy run on labour law and tax law. They’re not eligible for the special tax Mr Abbott introduced at the last election to fund his parental leave scheme.

I know – I run a (very) small business as a sole trader and I don’t even have to collect GST. It’s actually administratively very simple.

But how good is this for the economy? Should we encourage small business?

DATA SOURCE

A huge number of small businesses just disappear. Every single one of them represents disappointment and sorrow, and probably years of work and capital equipment that now is useless.

Small businesses come with real economic and social costs. You might support small business if they reliably turned into big businesses.

But even the ones that survive simply hang on. Of the 500,000 small businesses that employed 1-4 people in June 2013 and survived the year, most did not fare well.

52,000 of them now had no employees – about 10 per cent.
423,000 were the same size.
And just 34,000 got bigger. (Of those, 1000 now employ more than 20 people and 27 more than 200 people.)

Government woos small business because there are so many of us. We’re a voting bloc. But economically, it makes little sense.

Thoughts on how to invest right now.

Yesterday, the stock market tanked, having its worst day in two years. Meanwhile, interest rates are at new record lows.

The “search for yield” is no longer just the refrain of central bank governors. Today, a real person with a self-proclaimed ignorance of economics asked me this:

If I can’t put my money in the bank, and I can’t put my money in the share market, where can I put it?

The short answer is I don’t know.

I’d be more confident about Australia’s medium-run growth prospects if there was not such strength in the property market. But the risk I see is of a property market correction. That makes me nervous about property.

A fall in property prices would crimp consumer spending and hurt the stock market. So I’m nervous about stocks.

But the risk of a property correction is just one of the factors that makes me nervous about buying into Australian companies. I’m also worried about China. On anyone’s terms China has had a remarkable run. What happens when that ends?

Overall, as an Aussie, we’re very exposed to Australia as it is. Our employment prospects hinge (primarily) on the economy here. Should our investment returns be correlated with our employment prospects? It would seem unwise. So we turn our gaze overseas.

Investing globally looks risky, though. America’s S&P 500 is the highest it has ever been. And the ratio of stock prices to stock earnings is about a third above its long term average.

The reason people are so into stocks, of course, is the failure of bonds to offer anything approaching a reasonable return. Most countries can take your money for 10 years and reimburse you less than two percent a year -unadjusted for inflation.

But investing overseas looks relatively wise. If you think the global economy is normalising, you may be more inclined to bet on the Aussie dollar falling rather than rising. By buying foreign assets now, you gain the chance to get some positive returns in the foreign exchange market.

I personally wouldn’t buy Apple shares, because even though they have a lot of cash, I think they’re out of a far more precious commodity – ideas. The Apple watch is a giant distraction from the fact Apple depends almost entirely on the iPhone, a category where people replace their products every few years.

America is not completely devoid of investment opportunities though. A company that can benefit from a lower oil price might be a good safe buy. Perhaps an airline.

Nevertheless, upsides will be limited when buying established companies. Those with appetite for risk might be looking at other options.

I’ve been following Bitcoin for a few years, and while I remain skeptical, I think the hype-to-potential ratio is as good as it has been in a long time. Bitcoin’s price has stabilised (well, stable for Bitcoin) in the mid-US$200s.

Bitcoin will live and die on its technical usefulness in transactions. I don’t think volatility is the problem. Bitcoin’s price can be unstable across a week or a month, but it won’t matter if people can buy some, transfer funds, and then sell it a few minutes later without accepting too much risk.

If there is a constant supply of people wanting to use it for transactions, then demand will be strong. Other people will hold it as a longer-term investment. The more this latter category grows, the fewer Bitcoins will be in circulation for transacting, and the more the price will rise.

The key will be simplifying the interface so people can use Bitcoin easily and safely.

For that reason recent developments that see infrastructure being developed for transacting in Bitcoin are encouraging. Bitcoin is now legal for transactions in California. An avalanche of new bitcoin transaction apps is hitting the market. And the biggest investment banks are getting involved with the currency.

The biggest risk Bitcoin faces is regulatory. Its appeal to organised crime makes it a target for governments, and so it remains an option only for the bolder investor. (I haven’t got any yet, but I am considering doing so. If I do I shall write up my experience).

So dear readers, if you want to dispute my assertions, share any stock tips, or provide investment wisdom, please leave a comment below!

Will India save us from the decline of China?

This chart in the RBA’s chart pack today made me smile.

The Indian economy has been able to accelerate its growth rate over the last three years to the point where it is now above Chinese growth. This is a good result for Manmohan Singh and his successor Narendra Modhi. It will transform the lives of millions of Indians. They’ll gain opportunity they never before had.

But I want to look at this from Australia’s perspective. Chinese growth has been essential to our economic health. The extra economic activity it added each year forced the Australian economy to expand too. But now its growth is shrinking. Will we see Indian growth take up the slack?

Here’s how much extra GDP the two giants add when they both grow at seven percent.

They don’t compare. China is far more valuable.

The reason is a bigger economy. China has more people and they are far richer. All those years of ten percent growth mean China’s economy is now worth over $9 trillion US dollars a year. India’s economy is worth less than $2 trillion a year.

So we ought to be cautious about anybody hyping the new economic miracle of India.

1. India will soon be the new China.

2. India: the Bullish case

3. Asia’s next big story

The two economies’ contribution to global growth, and their capacity to boost Australia, would equal out only if China’s growth slumped to two percent, and India’s rose to ten percent.

Even if this amazing scenario happened, with China stuck in the doldrums and India roaring ahead, it would still take two decades for India to become a bigger economy than China.

We should cheer Indian economic growth, of course. It is not a country where poverty is relative and middle-class concerns about the prioritisation of material lifestyles apply. Indian growth will eliminate misery.

But it will not single-handedly save Australia. Relying on India for the sort of lift China gave us over the past decade is a recipe for disappointment.

We are blind as bats when it comes to opportunity cost

Last night, the television program QandA invited renowned philosopher Peter Singer onto the program. (I normally don’t watch QandA because I find it too stressful/annoying and end up yelling at the TV. Last night, for some reason, I watched.)

In the context of debating philanthropy, Singer said something that makes perfect sense to me. I paraphrase:

If it costs $20,000 to train a guide dog in Australia, and $100 to prevent a case of blindness in the third world, should we not consider giving nothing to guide dog charities, and instead giving that money to a charity preventing blindness?

I saw nothing too controversial there. I’ve written before about finding the best value way to spend your charity dollar.

So I was quite surprised when another panellist immediately leapt to the defence of guide dogs.

Don’t stop giving to the guide dogs! said Amanda Vanstone, a former government minister.

Ha! I thought. That’s weird. Doesn’t she see she’s tacitly condemning poor people to blindness by saying that?

But you know, I like fluffy yellow puppies as much as the next person, so I can understand why people might get confused on this topic in the heat of the moment. Screen Shot 2015-05-05 at 9.20.41 am

Then, this morning, I opened the website of my favourite newspaper to see the debate being rehashed again, by senior journalist Neil McMahon

In essence, [Singer] suggested that the costs of funding guide-dog training in the wealthy west compared to the cost of donating to save someone in a developing country from becoming blind in the first place made the latter a better use of your charity buck. “It’s a matter of getting the best value for your money,” Singer said. ‘What’s better – to prevent someone becoming blind or give a dog to a blind person?” The obvious question – can’t we do both? – didn’t come up.

McMahon says we should simply do both!

Does he know that to do both would require doubling our charitable giving?

It is as if the concept of opportunity cost is completely invisible to him. When a charitable dollar is expended in one task, it is not there for another task. The way such choices are made is therefore really important.

With apparently wilful blindness about opportunity cost racking our society, is it any wonder that our society makes so many bad choices, from building very expensive freeways, to how and where we build our submarines to whether or not to feed $10 billion into pokie machines a year.

I’ve tried to write about opportunity costs of purchases in lurid ways, for example:

Rolls Royce drivers are baby killers, and

Buy Australian – about as sensible as Fuck Off We’re Full.

But it’s not sinking in. Apparently, even a quick stint in introductory economics course won’t change that – people who did economics 101 performed as poorly on opportunity cost questions as the population at large.

Why is opportunity cost so counter intuitive? I’m tempted to spend a dozen paragraphs speculating. But alert to the opportunity cost of having you read on, I’ll stop this post here.

The questions raised when the RBA leaks its next rate cut.

Last night, 5 days before the May RBA board meeting, a story appeared on the main Fairfax websites, indicating the RBA would cut interest rates.

Something about this story was unusual.

Written by respected economics journalist Peter Martin, it makes some very bold claims without any sourcing. For example:

“Concern about a deteriorating economic outlook and a resurgent Australian dollar will force the Reserve Bank to cut interest rates on Tuesday, taking the official cash rate to an all-time low of 2 per cent and discounted mortgage rates to just 4.55 per cent.”

How could he know? Normally, such a story obsesses on the implied chance of a rate cut, quotes experts and goes out of its way to show where all the ideas in it come from. Take this Peter Martin story from January for example.

“Inflation is simply not a concern, the Bank’s decision in February need pay no heed to the consequences for prices,” said BT Financial Group economist Chris Caton…

But futures traders marked wound back their bets on a February interest rate cut, cutting the implied probability from 84 per cent to 66 per cent. “The underlying inflation figure came in just above the market’s expectations,’’ explained NAB currency strategist Emma Lawson. “That allowed some pricing of the expected cut to be taken out of the market.””

This new story lacks a single quote, but it isn’t marked as an opinion piece either.

The second pertinent feature of the story was its timing. Five days before the next RBA meeting. Before the last rate cut, in January, there was another curiously insightful story published, by top NewsCorp business journalist Terry McCrann predicting a rate cut. That one also came out five days prior to the meeting.

It is hard to avoid the conclusion the RBA is briefing key journalists on what it will do next.

Two key questions occur to me.

1. This is a big new deviation in the RBA’s communications strategy, which until now had relied on officials making public speeches. Speeches have the advantage of being clearly attributable. If definitive information is being given out, why not give it out in a transparent way?

2. If the RBA can brief journalists on what it will do five days in advance of the board meeting, what exactly is the board meeting for?

The RBA board is stacked with high-flying people chosen for their ability to contribute to the making of monetary policy.

As well as the RBA Governor Glenn Stevens and his 2IC Philip Lowe, the board table has

John Akehurst, director of CSL
Roger Corbett, chairman of Fairfax
John Edwards, director of the Committee for the Economic Development of Australia
Kathryn Fagg, director of Boral
Heather Ridout, chair of the Australian Super Trustees Board
Catherine Tanna, managing director of Energy Australia.
John Fraser, Treasury Secretary

Are these great loci of business and economic acumen merely a rubber stamp for the calculations of the RBA?

I suppose it’s obvious that the RBA drives the meeting – it has the staff working on the question of rate cuts month in and month out. They provide the chair, set the agenda, and doubtless distribute packages of graphs to all present.

But now I wonder if the board meeting is really a discussion at all, or whether the gathered brains chew sandwiches while the RBA shows a power point presentation, concluding by presenting the next movement of the official cash rate as a fait accompli.

If that’s the case, ought we have a board and a board meeting at all?

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