Want a glimmer of hope? Look at this.

Things look bad.

Today, economic growth figures are coming out (at 11.30am) and for the first time in ages, people are predicting negatives.

Recession talk is in the air. I have my doubts about that. But the talk alone is very suggestive, and there are lots of reasons for it.

Chinese markets are falling, our own stock-market is in a sustained slide, and with all that bubble talk our housing construction sector looks weaker.

Screen Shot 2015-09-02 at 8.36.13 amIs Australia about to get a surge of growth, or a slump?

One way to answer that is to look at what business is up to. In May, we checked in with business spending plans and they gave me intestinal cramps. Things have changed, sort of…

Capital expenditure is what makes your business bigger, lets you employ more people, etc. It’s one of the big signals of future economic growth. And it’s going backwards.

The mining sector is in such a funk that it won’t bring us any growth. This next graph shows the plans the mining industry has for capital expenditure.

The grey bars show actual expenditure. The last one for 2014-15 is the lowest in four years. The white ones are plans for next year. The latest white bar (3rd estimate for 2015-16) is the lowest 3rd estimate in five years.Screen Shot 2015-09-02 at 8.25.14 amThat is having a seriously negative effect on Australia’s total capital expenditure. Check out the increasing steepness of that slope at the end.Screen Shot 2015-09-02 at 8.26.15 am  Manufacturing won’t save us.Screen Shot 2015-09-02 at 8.25.06 am But there’s other parts to the economy. Other selected industries are investing more than ever.

Other selected industries sounds like a miscellaneous grab-bag. But check out the labels on the vertical axes. This is a massive part of our economy. Not only that, it just invested more than it expected, which is more than ever. Plans for 2105-16 are more modest, but increasing fast.Screen Shot 2015-09-02 at 8.24.55 amOther selected industries* includes:

Electricity, Gas, Water and Waste Services
Construction
Wholesale Trade
Retail Trade
Transport, Postal and Warehousing
Information Media and Telecommunications
Finance and Insurance
Rental, Hiring and Real Estate Services
Professional, Scientific and Technical Services
Accommodation and Food Services
Administrative and Support Services
Arts and Recreation Services

In other words, a whole lot of important parts of our economy that we can actually believe in.

And there’s one simple reason why they might grow. Our falling dollar.

Screen Shot 2015-09-02 at 8.57.45 amThe fall in our currency is a bit like being a lobster in a boiling pot of water. Unlike stock market fluctuations it happens slowly and we don’t pay it so much mind. But it matters a lot.

The slow growth of non-mining industries in the last few years can be attributed to our high dollar. America’s incredible recovery from its recession in the same time period can be explained by its low currency.

A falling dollar could flip slow growth on its head. And we’d be too busy worrying about mining to notice.

The current mood of widespread gloom may prove to have been peak fear.

*This whole private capital expenditure data-set excludes healthcare and social assistance, which as we know, is one of the fastest growing sectors of the economy. In Melbourne, a billion dollar new cancer hospital is being built, for example. That’s not in the stats. Further reason to hope.

Rising house prices: not a wealth fountain. A money-go-round.

RBA deputy governor Phillip Lowe gave a great speech last night. Lowe is the guy most likely to replace Glenn Stevens when Stevens quits as Governor and it is worth paying attention to what he says.

Last night’s speech was pretty radical. In the guise of a dry discussion of Australia’s balance sheet, Lowe single-handedly deflated arguments for rising house prices.

That puts him in direct opposition to noone other than Prime Minister Tony Abbott. Abbott, of course, said in June “I do hope our house prices are increasing.”

The argument Lowe makes is so smart and so obvious it’s amazing we don’t hear it more often. He starts out by showing that the rise in “house prices” is really a rise in land prices.

Screen Shot 2015-08-13 at 10.33.46 am“[T]he figures that I have presented invite the conclusion that our national wealth has risen largely because of higher land prices. But is such a conclusion really warranted? Have we really become wealthier as a nation simply because the value of our land has increased?

“The answer would clearly be yes if this increase was because we had discovered more land. To my knowledge, though, this has not happened.[7]”

Lowe argues that the rise in house prices is not a nice neat story about the returns to city life increasing. He says prices rose because of financial deregulation and supply constraints.

This creates not a wealth fountain but a money-go-round, he explains.

“from the perspective of society as a whole, much of what is gained on the one hand is lost on the other: there are windfall gains from higher land prices but then everyone pays more for housing services.”

Lowe also reveals that the “baby boomers are ripping off the kids” narrative has some credibility even in that palest of economic ivory towers, the RBA.

“For an older person who owns their own home and has no children, the capital gain from the higher land prices more than offsets the expected higher future housing costs. Such a household is better off. The same is true for owners of investment properties, since they own multiple dwellings on which they earn a capital gain. In contrast, for young homeowners with multiple children, the calculation can look quite different. If they care about the future housing costs of their children, then, in some circumstances, it is possible that the higher future expected housing costs could exceed the capital gain on their dwelling. In a welfare sense, the increase in land prices could make them worse off, even though they own land. The same is obviously true for renters as they do not have any capital gain to offset the higher future housing costs.”

“I think many Australians have an innate understanding of the concept and share the concern. Many parents around the country look at the high housing (really land) prices and worry that their children will not be able to afford the type of property that they themselves have been able to live in, even if their children were to have the same life-time income profile as they have had.”

“So it is arguable that the main impact of higher land prices is not really to increase our national wealth, but to change the distribution of that wealth.”

He goes on to argue that if parents help their kids buy houses, high house prices are perpetuated. But their wealth effect is diminished because the people that have expensive assets are using them as collateral for buying more expensive assets. That is to say the high prices bring no benefit.

If, however, parents don’t help their kids buy houses, and instead spend up big (say on trips overseas) then house prices are more likely to moderate.

This latter scenario, as unpleasant as it may seem to some, is actually the better one for social stability. Because with Australia’s strong immigration profile, not everyone has parents who own property in Australia. The divide between new migrants and established citizens will only grow larger if property wealth is transmitted across generations.

Who is to blame for the state of the labour market?

Last week unemployment was up. This week wages growth was down.

Screen Shot 2015-08-12 at 4.41.18 pm

chart
Worst annual growth on record (since 1978)

These two series measure the most important and relevant determinants of Australia’s economic well-being. Both are deteriorating.

Forget interest rates. Forget house prices. Forget the dollar. Forget petrol prices and forget the share market.

How much money people make is the single biggest determinant of how well off they are. And we’re not doing well at all on that score.

This is a failure of economic policy. No government should be complacent in the face of a weak labour market.

The Government is silent on this and to its credit the opposition is squawking at them.

But it is to no avail. No decent policy is evident.

There’s a Productivity Commission report on our workplace relations policies, but nobody really thinks that will make a lick of difference, even if the government had the political capital to implement it.

These days it seems like some on the left actually relish a bit of weak wages growth. They use that to bash the government for hypocrisy over a wages breakout and guard against workplace reform.

I wouldn’t mind seeing a wages break-out. Isn’t that what good economic policy would produce? Wealth shared widely?

The failure of our labour market to do very much in the last few years probably comes down to macroeconomic factors. The high dollar crimped output and hiring. So did weak federal spending.

Screen Shot 2015-08-06 at 12.08.47 pmThe high dollar was a result of US quantitative easing and there was little more we could do beyond slashing official interest rates. That policy front was maxed out. But fiscally, we pulled puches.

Esteemed labour market economist Jeff Borland argues our failure to remedy unemployment is due to a shortage of aggregate demand.

“•The rate of unemployment in Australia has increased from 4.0 to 6.4 percent since the GFC. Over that period it has shown little tendency to decline. The rate of unemployment in the US is now lower than in Australia.
• This increase in the rate of unemployment in Australia appears to be explained entirely by the cyclical downturn in aggregate demand.

How could the government have increased aggregate demand? Spending more would have been one answer.

The Swan Budgets in 2012 and 2013 and Hockey’s efforts in 2014 and 2015 were all deficit-obsessed. All were focused on “return to surplus.” None of them achieved it. Instead unemployment has risen from 5.2 per cent to 6.3 per cent.

That deficit obsession hurts us all.

Scarcity: A book review

I just finished reading a book called Scarcity, by two US academics – a Harvard economist and a Princeton psychologist. It’s an economics book, sort of. But mostly it’s completely innovative.

It contains a theory of a new kind. One I had never thought of, but which I have found very useful.

The theory is that scarcity – no matter what its source – affects your brain. People affected by scarcity have their mental capacities focused on the problem at hand. And that diminishes their ability to deal with everything else.

The authors use four main categories of scarcity in the book.

  • material poverty:  a scarcity of money;
  • being too busy: having a scarcity of time;
  • being on a diet: facing a scarcity of permitted calories;
  • being lonely: having a scarcity of social connections.

For each category they find similar effects on mental capacities.

The person facing scarcity focuses on their own immediate problem, which gains them a limited upside in that sphere – perhaps they scrounge and borrow enough to pay this weeks rent, or remain disciplined enough to not eat dessert tonight. But the focus means other things are ignored to their detriment. They may not be focused at work, for example.

Anyone who has tried to play a computer game and hold a conversation at the same time knows performance and distraction are not compatible.

The theory that scarcity is distracting is well-backed by research. For example, simply reminding people of their financial constraints can lead to a drop in IQ of over 10 points in one famous study.

It is an appealling theory in part because it knits well with a socially progressive view of the world.

The poor, data shows, are worse at sending their kids to school, at taking medicines, at getting their forms filled in at Centrelink, at quitting smoking, eating well, etc. This is a puzzle that would appear to lend credence to a conservative viewpoint that says the poor are lazy.

This theory as expounded in the book helps explains these phenomena by reference to the circumstances of poverty, rather than by blaming the individual.

The authors created a study in which Princeton students had to play Family Feud. They were allocated to either a “rich” group with plenty of time to answer the questions, or  a “poor” group with little time to do so. The poor focused hard. They made more correct guesses per second. But the rich outperformed them overall. Then the authors offered the groups the opportunity to “borrow” time from future rounds for use in the current round. The “poor” group’s performance overall tumbled as they borrowed more and more. The scarcity mindset itself led to poor decision-making.

The book not only describes the problem of scarcity. It suggests interventions that could prove helpful.

The effect of scarcity is described in the book as a “bandwidth tax”. Which is to say that focusing on a single problem of scarcity inhibits the amount of mental bandwidth we have to deal with other scenarios.

Recognising that the “bandwidth” of the poor is especially thin permits better-designed social programs. Rather than intensive financial education programs, a few behavioural nudges will be more effective, for example. And where education is necessary, courses that are cumulative and that fail to accommodate students who miss a class will be far less effective than modules learners can take at their own pace.

They suggest  boom and bust scenarios, such as those issuing from monthly welfare payments or variable pay cheques, can create bigger bandwidth problems as people struggle to manage cashflow. The implication is that stable, frequent, predictable payments are better for bandwidth.

Homelessness – an extreme version of scarcity – is another good example. With nowhere to sleep, wash, prepare food, relax, read or store possessions, it is no wonder the homeless are rarely focused on their health, education or financial futures. Fixing the lack of accommodation in one fell swoop may be more effective than complex incentive structures (and evidence shows that is the case).

The book is excellent at describing scarcity traps, where we get behind – in payments or on a schedule – and constantly borrow from the future, all the while sinking deeper and deeper into the morass.

For those of us not stuck in grinding poverty, the book has some great examples of how to avoid being stuck in a scarcity trap. It is eloquent on the need for “slack” in order for systems to function. Much like when the fridge is literally full to bursting you can access nothing in there easily and things tend to fall out onto the floor, any system that has no slack is inefficient.

A great example comes from a hospital which was able to manage its surgery schedule far better by leaving one operating theatre empty for emergencies. The authors are also advocates of agreeing to fewer commitments than you can manage, and of leaving spare space in your diary so meetings can be moved around without creating disastrous cascades.

The seed of the book, in fact, comes when Professor Mullainathan, writing a book chapter about low-income Americans, sees a great deal of his own time management habits in the budgeting of Americans with payday loans and food stamps. The commonality of the scarcity mindset – which makes a top economist likely to snap at his kids because he’s stressed and busy – is reinforced throughout the book, all the while acknowledging poverty is a more severe, more binding problem than being over-committed at work.

The suggestion scarcity can be better managed with explicit provision for slack could have pay-offs in any number of realms – not least at a national level.

What is our national budget if not a circumstance where every last dollar is committed and deficits keep cropping up most unexpectedly? Is our Treasurer stuck in a scarcity mindset? Is his ability to think clearly about the big picture damaged by his burning desire to fix the budget in this time period? Is the Treasurer more like a 28 year old single mum trying desperately to pay the rent this week, or a 28 year old bond trader with a million dollar portfolio trying to optimise returns across their lifetime? I fear it is the former.

This book got me thinking thoughts like that. And that’s reason enough to recommend it whole-heartedly.

Five notoriously brilliant business models Netflix cobbled together into an undefeatable vortex of binge watching.

This story originally appeared over at The New Daily, where I’ve been writing a consumer-focused story each week.

Netflix – the subscription TV service that launched in Australia this year – is a juggernaut. It drags people in and captures them. And they love it.

Binge-watching TV shows is not just a national pastime. It’s global. The stock-price of Netflix shows the incredible extent of the company’s success. Screen Shot 2015-07-16 at 8.51.18 pmIf you’d put $1000 into Netflix in 2003, you’d have $115,000 now. In just one day last week its stock rose 18 per cent as the company revealed more new users than expected.

How did they do it? What’s the secret to turning the globe into zombies who spend all their spare time consuming your product?

The answer is shamelessly appropriating good ideas.

Netflix has swiped the world’s sharpest and most effective business models – some well-known, some well-hidden – and combined them into one unstoppable force.

Netflix owes a debt to big oil, all you can eat buffets, airlines, Microsoft and casinos.

Screen Shot 2015-07-27 at 1.52.37 pmThe Oil Industry perfected the concept of owning the whole supply chain.

Think about Shell. It owns everything it needs to do business – from exploration activities that discover where the oil is, to drilling machinery, to the service station where you fill up your car.

When Netflix decided it was going to spend $100 million to hire Kevin Spacey and make House of Cards, it was thinking like an oil company.

Owning the whole supply chain is known as vertical integration and it gives a company power. Oil companies do it to control price, quality and quantity.

Don’t just own the distribution mechanism, because that makes you vulnerable. Own what you’re selling too. Netflix’s most famous house-made products are House of Cards and Orange is the New Black, both of which have proven to be black gold. It has dozens more.

The risk for Netflix is a hit show gets made and someone else wants it. For example, Amazon.com got exclusive rights to Downton Abbey by paying up big. The makers of a hit show can charge a fortune for the rights. By making its own shows, Netflix can’t be held to ransom.

Instead, when it owns content we’re dying to watch, it holds us to ransom. When you call the shots you can raise the prices, which Netflix this week announced it would do.

Screen Shot 2015-07-27 at 1.56.56 pmAll-you-can eat buffets perfected the idea of eliminating transaction costs.

In a normal restaurant, you pay only for what you eat. But you do pay for everything. Market economics at its purest.

We weigh up the value of every choice, and get a bill that lists each item. That mental and administrative effort are part of what economists call transaction costs.

Buffets, though, are like an anti-market. Once you’ve paid, it’s a wonderland where the rules of economics don’t apply. Want more lasagne? Go for it!

Humans love buffets. It’s no surprise Netflix acts like a buffet. Who wants to pay every time they click on something? Who wants to weigh up the value of letting the kids watch yet another episode of the Wiggles?

Of course, real world buffets have a problem – if lots of hungry people or lots of fat people show up, they can go broke. To manage this they cut quality and try to entice people into eating bread and potatoes. It’s a fine balancing act.

Netflix, has no such problems. It generally costs them no more whether you watch Seinfeld repeats once or a thousand times. That’s why they are happy to let you binge for hours.

Screen Shot 2015-07-27 at 1.53.04 pm

Microsoft perfected the art of bundling.

Microsoft doesn’t care that you never want to make a slide-show. When you buy Microsoft Office, you get PowerPoint whether you like it or not.

This is bundling. You get some stuff you want, bundled in with some stuff you don’t want. Companies do it because it let them make more profit.

The ideaa is simple: imagine I would pay a maximum of $10 for product A and $6 for product B. Your preferences are the other way round.

If the company tries to charge $10 for product A and $1 for product B we each buy just one thing. The company makes $20.

If the company wants to sell two of product A and two of Product B, it must set the price for each at $6. It can makes $24. Better, but not the best.

If it bundles the products into A+B packages costing $16 each, it can sell all four items and make $32! This is their best option.

When you buy Netflix you get a lot of stuff you’ll never watch. Maybe horror films, or BBC murder mysteries. That’s the Microsoft PowerPoint part of the bundle. IMAG3814Airlines perfected the art of price discrimination.

When you go to the Netflix website, you face a decision. Pay $8.99, $11.99 or $14.99.

No matter how much you pay, you get access to all the same shows. The difference is in whether the content is delivered in high definition, regular definition, or ultra high definition, and how many screens the content can be viewed on.

This is what experts call price discrimination. Airlines do it best.

Whether they sell you an economy ticket for $700, a business class seat for $2000 or a first class experience for $5000, you all take off and land at the same time.

Charging people different amounts for the same basic thing works well because of a concept called “willingness to pay”. Not everyone will pay the same amount for the same good.

If a business sets just one price, it misses out on profit. There are some people that would pay more than that. Even more important, there are people who would be profitable customers if the price was just a bit lower. Different prices for different folks is a proven model.

Netflix wants to skim their first-class passengers for as much as possible, but also fill up the back-end of the plane. The great thing for them is their plane has an unlimited number of seats.

Expect even more pricing levels to arrive in future.

Screen Shot 2015-07-27 at 1.53.43 pmCasinos perfected the art of keeping us hooked

The flashing lights on a poker machine are scientifically designed to provoke the reward centres in our brain. Like rats in a cage we get addicted on the dizzying sequence of highs and lows, pay-offs and disappointments.

Just one more spin, says the poker machine addict.

Just one more episode, says the Netflix addict.

Scientist have shown a good film or a good show controls our brain. A director makes a character act in a certain way and cuts the scene. The brains of viewers all release neuro-transmitters on cue. (The same is not true of a bad film.)

With free-to-air TV there was nothing we could do except wait a week to watch the next episode. But with Netflix the next episode is right there, ready and waiting to deliver more brain stimulation.

Its hard to believe Netflix has only been in Australia for a few months. Its devotees are already wild-eyed with fervour and Google Trends data shows it blowing rivals Stan and Presto out of the water.

Screen Shot 2015-07-16 at 2.30.41 pm

Netflix has nearly doubled its subscriber base outside America from 12.9 million to 21.6 million, in just the last 12 months. And it plans to launch in Japan very soon.

The executive at Blockbuster that passed up the option to buy Netflix for $50 million over a decade ago is probably feeling very sheepish.

The Wilting West

A high-vis vest slowly buried in the blowing sands of the Great Sandy desert.

Screen Shot 2015-07-17 at 9.58.41 amA small business owner awake at 2am, wondering if they should talk first to their bank manager or their spouse.

Screen Shot 2015-07-17 at 10.00.44 am Fridges, clothes, tables and chairs all packed into boxes, in a freight train chugging east across the Nullarbor.

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Speech – Prime Minister Wyatt Roy. January 26 2038.

Screen Shot 2015-07-02 at 11.07.33 amSpeech – Prime Minister Wyatt Roy.

January 26 2038.

[check against delivery]

My fellow Australians.

On this 250th anniversary of the arrival of the First Fleet on this continent, I want to make a few comments about our society and economy.

Arrival Day, as we’ve known it for several decades now, has become a day to look back on things we’ve done wrong. Dedicating a day to critical self-reflection is one of our nation’s finest achievements. We can’t undo our mistakes. But we can learn from them and use that to set the future on the right path.

That’s why it’s very important we think about house prices. How did we get to this point? When I travel across this country, I see three disappointed generations – one owning homes that have slumped in value; one owing giant debts on low-value homes, and one perhaps able to buy a home, if they were not wounded by the economic shrapnel that came from the explosion.

We were like butterflies. We thought our brief glimpse of the world told us everything we needed to know. House price crashes had never happened in our lifetimes, so while rates were low, we treated the banks like an all-you-can-eat salad bar.

Interest rates were low for so long that we began to think they’d never go back up either.

When the RBA raised rate in 2025, after so many years of inactivity, perhaps the house price upswing might have stopped. That was our chance.

But fate intervened.

We now know that China’s overstretched financial system was, at that exact moment, about to burst. The failure kept interest rates low, even as Chinese funds flowed out of China and found their way to Australia.

RBA Governor Stevens repeated his now infamous signature move and cut rates. The price of housing in Australia continued to rise. Median prices in all major capitals topped $1 million. Sydney’s average price rose over $2 million.

A first home loan of six figures was de rigeur. And why not? With rates at 1 per cent, young people around Australia could afford that sort of debt to obtain their own home.

Their parents, in most cases, had done likewise. Who would talk them out of it? I saw my own children – Morgan and Orbison – make the exact choices I had, and although I felt a tremor of unease, I didn’t want to dictate their lives to them. Personal freedom is one of the strands of philosophy that enlivens the Libor Party I lead, and I try to live it out in my own life too.

At home I bit my tongue. To my shame, I did the same from the opposition benches in Parliament.

Treasurer Bandt seemed to have a firm grip on the economy. House price appreciation was as Australian as a Golden Gaytime on a 45-degree day. Who was I to argue with a trend that had run my entire life?

Environment Minister Irwin read me a quote the other day that I knew I must use in this speech.

That men do not learn very much from the lessons of history is the most important of all the lessons of history,” she said. That’s from a science fiction writer from last century. He saw something of the future, Bindi told me, but only by paying careful attention to the past.

That’s our job, from hereon. To make sure we pay attention to the full sweep of history. We must not only be obsessed with what’s right under our noses. The more things change, the more they stay the same. The lessons of 5 years ago may glow more brightly than the lessons of 105 years ago, but they are not always more pertinent.

We should make sure our memory of the excesses of the mid 20th century inform our debates on government over-reach. Make sure our memories of the 18th and 19th centuries inform our debates on unchecked poverty. Make sure our memories of the rise and fall of civilisations long past informs our thinking about our permanence.

On this day, above all others, I commend the study of history to all of us.