Tuesday, November 06, 2012

The 50,000+ staff draining our economy

''Fiscal austerity'' has become the phrase of choice for Western countries that need to rectify the excesses of recent decades, culminating in the spending and debt binge of the 2008-09 global financial crisis.  Even though the budgetary condition of Australia's federal government is superior to that of many countries in the Organisation for Economic Cooperation and Development, the fact remains that Australia must address its own circumstances — so a local brand of fiscal austerity is also necessary.

An important aspect of the policy debate about the Gillard government's aspiration to return the budget to surplus this financial year concerns the means by which this overall objective is to be met.  In the simplest of terms, there are two methods available to policymakers to consolidate a government budget:  reduce spending or raise extra revenues.  Which method represents the best approach to achieve the overall budget outcome?  A series of papers by economist Alberto Alesina draws on the experiences of numerous Western countries to provide some crucial answers to this question.  The conclusions Alesina derives are difficult to ignore:  that governments should reduce spending, rather than increase tax, should they wish to return a budget to a state of normality with the least reduction in economic output.

It is on this basis that I recently released a paper that provides a proposed road map of public sector employment cuts for the federal government to pursue.  The paper, Razor cuts, not paper cuts:  a framework for right-sizing Commonwealth government employment, says such reductions should be closely aligned to broader policy actions to reduce the government's overall size and scale.

First, the government should consider divesting a range of entities to the private sector, which therefore entails a transfer of employees from the public sector.  Privatising the ABC, Australia Post, Medibank Private and SBS alone should transfer about 44,000 people to the private sector.  Such reforms would not only improve the efficiency of entities now held under government ownership, but would help the Commonwealth's fiscal consolidation efforts by furnishing it with asset-sales revenues and removing future labour cost commitments.

Second, the Commonwealth could transfer a substantial number of its employees to state and territory governments to decentralise spending and reduce duplication of public sector roles and activities within Australia's federal system.  Existing federal education and health functions are obvious candidates for transfers back to the states, potentially reducing Commonwealth employment by a further 8100 people.

Consistent with the Commonwealth's responsibilities enumerated in the constitution, other activities and staff that should be returned to the states include those in the areas of agriculture, families and community services, infrastructure and transport, regional policy, resources and sustainability.

Third, the Commonwealth could cut its spending and staffing levels by abolishing a range of activities which either do not correspond with the economic conception of ''public goods'' or impose unwarranted economic costs on the community.  My paper nominates climate change and industry policy as two aspects of government activity that should be abolished outright, as well as areas such as the arts and sport, foreign aid, gender equity, preventive health and wheat export marketing.

Implementing this tripartite reform framework would be expected to deliver substantial cuts to public sector employment, which contrasts sharply with the positions adopted by the two major political parties to date.

The Gillard government outlined in the 2012-13 budget a menu of proposed employment reductions across general government sector agencies to the tune of about 3100 full-time-equivalent staff averaged over the financial year.  This announcement has raised concerns in some quarters about the potential effects on policy-making and service delivery.  However, my analysis notes that the targeted level of job cuts is significantly lower than the annual number of separations from the Australian Public Service in recent years.

Subsequent developments in the Mid-Year Economic and Fiscal Outlook show the government is effectively watering down its initial target through extra funding to hire more Customs and Taxation Office compliance officers.

During the 2010 federal election, the Coalition outlined its aspiration to reduce Commonwealth employment by about 12,000 staff over two years through natural attrition.  On the basis of public service separations data supplied by the Public Service Commission, the Coalition would have easily achieved this target if it had won the last election.

My alternative road map to public service reform unashamedly adopts the position that government job cuts tied to broader spending cuts are essential to expanding the relative size of the private sector and promoting economic growth.  Public administration will remain essential to ensure that the federal government provides basic goods and services, such as defence and a customs union, allocated to it under the constitution.

However, an excessive level of public sector employment entails a serious risk to economic robustness and vitality for three reasons:

The salaries and entitlements needed to maintain public sector jobs are coercively financed through distortionary taxes, which impede economic performance.

Growth in employment opportunities within the public sector tends to attract labour towards that sector, and away from the private sector where labour tends to be used more efficiently.

Public policy bureaucrats are engaged to advise or administer tax or regulatory policies that attenuate private sector growth, and government service delivery staff tend to deliver services at lower levels of efficiency relative to their private sector counterparts.

References to the smaller relative size of Australian government compared with governments in Europe overlook the fact that our public sector, and therefore government employment, has in itself grown too large in size and scope relative to the basic roles and duties demanded of government.  Our current federal government has tended to lean towards increasing existing taxes, and introducing new tax bases, to consolidate its budget.  However, this approach is proving to be economically risky.

The Australian economy, especially its non-mining sectors, is growing at a rate far below its potential, leading internationally mobile owners of capital to openly ask previously unheard questions about the safety of investment returns from new and future tax incursions.

While it's somewhat late in the day this financial year to do so, the government should pause and rethink its strategic emphasis on the mix between spending cuts and tax increases to deliver its budget surplus objective.  Should it choose to lean towards spending cuts, and associated staffing reductions, as I suggest, for this and future financial years, the government should expect to find a much easier road to surplus, along with beneficial flow-on effects for private sector activity.

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