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What role does a government serve?

February 26, 2017

Recently I’ve had the pleasure of a few dinners with some (eloquent) friends of mine from across the Australian political aisle. I enjoyed these conversations, but I found that even the most passionate of these student politics leaders and intellectuals were often blinded as to what matters in government. This is an attempt to piece together my discordant beliefs, and show others the beginnings of a framework for approaching politics.

What limiting political labels shall I adopt? I am an idealist with forlorn hopes for the capacity of politics to improve our lives. But, disillusioned by reality, I have recourse to pragmatic, empiricist, realist ideals of policy making. The empirics come from a wide array of fields, from social psychology to economics, and to wherever reasoned ‘evidence’ may suggest we benefit. This is the basis for the vast majority of my views.

I eschew political labels. Take ‘left’ and ‘right’. These labels originate from the French Revolution whereupon the aristocrats sat on the right, and the commoners sat on the left. The question is though, how useful are labels from the French Revolution in describing our politics today? The answer? Very little. But let us be generous, and speak of more modern terms ‘liberal’ and ‘conservative’? Are we referring to classical liberalism or a form of progressivism? Are conservatives war hawks or far right libertarians? Of course, these broad churches exist to give political movements power, but it also undermines the value of labels as descriptive.

Nevertheless, labels are insidiously poisonous for a far greater reason. Labels represent the subjugation of evidence for ideology.

This is an empirical fact rooted in our psychological processes.

Anyone who knows anything about social psychology is no doubt aware of the concept of consistency. People will seek to appear consistent. More specifically, when our thoughts are inconsistent between a commitment we make – such as subscribing to a label – we experience cognitive dissonance between our thoughts and actions. We seek to resolve this by fulfilling the commitment. When are these commitments strongest? Commitments are stronger when they are active, public, and effortful. Most of all, commitments are strongest when we feel autonomy over the choice. With political labels, every time we identify ourselves as a given label, we are making an active commitment. In public, when asked, our answers reaffirm our commitment to the ideology. When challenged, we will seek to reassure ourselves of our position. Over time, we expend effort to support our beliefs. Finally, we are convinced we are responsible for our own ideological label. Put together, it is very hard to overturn somebody’s political beliefs when they labels themselves so. It takes a sledgehammer to break through. Anyone interested in this accepted wisdom should read Cialdini’s Influence.

In essence, our psychological processes mean that we will attempt to resolve dissonance between our ideology and reality in favour of ideology because of commitments we make to the label. Ask yourself this – is this the optimal way to approach politics? No, it is not. Subscribing to a label for the sake of resolving our own internal cognitive dissonance is not the goal of politics.

That is why I refuse to be drawn into labels. My values and beliefs come first, and if they so-happen to fall within a general label, then so be it, but I will not identify myself as a said label.

But this leaves us with a very fine question. If attaining the purity of a label is not our goal, what is? How do we evaluate government policies?

The Idealist with Forlorn Hopes

In approaching all government policies, one question should shine alone in our minds. Is the government policy in the national interest? What is this ‘national interest’? This is the interest of the state. Whose interests should a state’s represent? Its people – its citizens. How do we best serve this interest? That is more complex.

Of course, only an idealist could believe that political parties are attempting to act in the national interest. What about incentives? Donations? Power struggles? Put that to the side for a moment. The framework is still very useful. Let us run through a series of examples.

Asylum seekers. The typical argument against offshore processing and detention is that it is inhumane. Is this persuasive? No. How ‘humane’ our government is to asylum seekers is irrelevant. What matters is whether the citizens of a country benefit. So, is a humanitarian progressive arguing against the national interest? Not necessarily. They could argue that cruel treatment of asylum seekers harms Australia’s international reputation and this has further repercussions. I don’t find this a persuasive argument, but it is an argument at least. More compelling is that offshore detention is expensive. Methods of deterrence that we use are also often not the most effective. Spending on more expensive methods for no additional deterrence capacity is, of course, against the national interest.

Immigration. The tenor of the age is to be extremely multiculturalist and accepting towards immigration. There is some merit to this idea. Government reports have repeatedly found that immigration has slight long term economic benefits, but often short term economic costs. This suggests a controlled immigration policy is best. It does not benefit the citizenry to absorb a larger degree of short term economic costs which exert budgetary pressures on governments. This also ignores the tendency of first generation immigrants to commit crime at higher rates. Of course, this rate lowers for second generation immigrants. Why? They integrate. But this further suggests controlled immigration as an optimal policy. Also note that when immigrants of a similar background come at once, they are likely to form enclaves of their own background, preventing the social integration which is beneficial. Is this conservative, xenophobic speaking points you say? Not at all. People are proven to like people similar to them more than others, and thereby associate with them more. Denying obvious mental heuristics, we use to support a political message of unrestrained multiculturalism is a classic subjugation of facts to ideology. The facts being research into social psychology. Note that I am talking about benefits to current citizens. Research universally shows that immigrants benefit the most, but under our framework, this is irrelevant.

The argument on immigration is a lot more complex than what is outlined above. Firstly, immigration makes a lot more sense in some circumstances than others. Consider Australia’s ‘Populate or perish’ policy. Survival precedes economics. But, secondly – and this is where it becomes hard to justify an argument – what are the cultural impacts of immigration? Put aside the issue of integration and issues of multiple cultural backgrounds promoting discords in the values which underlie a society, and the breakdown of traditional honour cultures. Even if we assume immigrants have identical values to those in the country, and are economically beneficial, there is the impacts of an increasing population to consider. Where do people go? Mostly to major cities. Do we want more crowded cities?

This leads to a second heuristic for policy making. What is the world we want to live in? What is our vision of paradise in our nation?

A world of towering metropolises jutting towards the sky is not paradise. Beauty should be a necessity, not an afterthought. And that is not some sentimental environmentalist’s ignorant cry.  That is merely the theatrical flourish behind the truth – the quantifiable, tangible benefits of nature, of walking, of designing cities for citizens. The profound health benefits, the better than prescription drug antidepressant effects.

So, even though immigration and its benefits is decidedly complex, I oppose it because Australian governments do a torrid job providing the infrastructure to support population growth, with growth merely bloating our cities.

Okay, enough assaults on the ‘left’ side of society. What I wrote above is a simple thought exercise, not necessarily an outline of my entire thoughts on the matter. Lets have some fun with some issues on the ‘right’ of politics.

Negative gearing… lets try to keep this short. Negative gearing represents a tax deduction on interest incurred as an expense managing an investment property. It’s a tax deduction. What does a tax deduction do? A tax deduction distorts investment. It reduces the cost of investments into given activities; it encourages it. How do governments decide what is a tax deduction? The general rule is that an item is tax deductible if it is incurred to earn income. Lets leave aside the technicalities for now. Why does this benefit the national interest? Activities which lead to income increase the output of citizens and build prosperity, which benefits citizens and their nation. Note that this is an important assumption – that income generating activities are in the national interest. Back to negative gearing. Of course, interest is incurred to earn income. So, it should be a tax deduction, right?

No. Money invested into housing is a colossal waste of money. The investment is into a fundamentally non-productive asset. Lets reframe this. We all know housing prices have risen above inflation in recent decades, so they have risen in real value (even after adjusting for house size, no. bedrooms etc.) Why is this? Is it because the soil quality has improved? Is it because house quality and materials are better? On the latter, a little bit, yes. But, fundamentally, we are throwing money into the ground – into the land homes are built on. Everyone want a nicer home. When everyone tried to do this simultaneously though in the 1990s, house prices rose because… the no. of homes on scarce land was finite. Of course there’s a litany of other factors driving housing prices growth – the two-income trap, foreign investment restrictions, interest rates, CGT changes, legal differences between the treatment of the family home and an investment property – and, ironically, negative gearing is actually not that big a deal compared to other tax arrangements, but its fundamentally useless. Now, a better arrangement was Labor’s proposal to grandfather in existing arrangements, let limit negative gearing only to the construction of new properties. This means the tax deduction is restricted to the service of the construction of new property which increases supply, puts downward pressure of housing prices, and increases rates of home ownership. That is in the national interest.

We could go on and on of course about problems. But I have saved to last the most galling incompetence. The spurned panacea that could outweigh all the benefits of tackling the above issues. The golden opportunity sullied and defiled by our politicians

Debt and deficit. Scary words… right? No. Debt is not something to be feared. Debt is a tool. Debt is an extremely powerful tool to build national wealth. While governments of all persuasions have been eager to appear fiscally prudent in recent years in Australia, this has been nothing short of profoundly idiotic. Bond rates have been historically low since the GFC. Peter Hartcher wrote this profound article last week. But one fact amazes me most – international bond rates were at 1.8% in 2016 and we did not borrow. Or, as Peter Martin has long argued, consider that in 2015 the Australia government could buy 10 years bonds at a 2.5% interest rate, and inflation was 2.3%. This meant that the Australian government could have borrowed money at scarcely above the inflation rate. And, if this investment earned over a 2.5% nominal return (or, a 0.2% real return, approximate), the national wealth would have been increased.

It is absurd to believe that no infrastructure project or other government initiative in all of Australia could generate a 2.5% return. This is utter madness! Company discount rates are 15%, and their WACC is 8%. I’m sure all the combined intelligence of government could come up with a useful proposal (although, I do note that Infrastructure Australia is a body which needs major reform; there have been damning reports into it). But, lets pretend we are stupid and can find not even one project in Australia to invest in. Is this a problem? No! The government could – I kid you not – borrow, say, $300 billion, invest in overseas stock markets, watch the returns exceed 2.5%, and revel in money rolling in! This is basic personal finance – why work for money when your assets (e.g. capital) can earn money for you? Oh wait, Norway has only accumulated over $1 trillion dollars using a similar investment strategy and averages a 3.7% real return. That’s higher than 0.2%! And, we could do a lot better… (Caveats: 1. Norway’s is a sovereign wealth fund from oil reserves… we didn’t even get a good mining tax 2. Lots of borrowing can see interest rate rises as lenders reappraise creditworthiness 3. Borrowing still has to be directed to productive investment 4. Yes, equity investments do not produce guaranteed immediate returns, but its reasonable to believe the Australian government will exist in a few years, and so can ride out short term volatility). NB: I think there is very clear empirical evidence suggesting we can do better than stock market returns on certain projects in Australia, but at the very least, our politicians squandered what will become hundreds of billions* of dollars in potential real returns thanks to a failure to borrow under low bond rates. And if you use the corporate WACC rate over a long enough (40 year) time frame we’re talking $2.5 trillion foregone…

*My very rough calculations suggest if we borrowed $300 billion, within 10 years our real return would be $115 billion (using values from Norway’s fund returns, with the bond rate etc.). Of course, if you extend compounding returns to a 20 year time frame, we could have gained $274 billion. And, if this policy were implemented for a 40-year time frame? The real value of the gain – again, this is after the $300 billion principal has been repaid – is $800 billion.

The Australian people could do with $800 billion.

We don’t need to compromise ideals if we govern well

I hope the last example was instructive. It raises a broad point. If we truly governed well, the possibilities for our growth are profound. In fact, these opportunities for prosperity in our society are so abundant that we can compromise our economic growth for the maintenance of our social ideals.

We can eschew large scale immigration’s economic benefits, if we believe there is something culturally valuable to keep isolated. We can preserve the sanctity of the weekend even if it reduces GDP. We can reduce hours worked to foster stronger community bonds (notwithstanding how shorter working hours often increases productivity). We can spend government resources on modern day 1950 Coronet-esque social guidance videos to instill a strong sense of civic duty. We can waste time for ‘productive’ knowledge gains in school and instead focus on the revival of honour groups. We can pay the cost to add stability to the lives of our people. We can greatly reduce domestic violence.

We can do so much if we but govern well.

I am always struck by the issue of the budget deficit as an example of interminable debate. You would think we face grave trade-offs and there is not any possibility to improve the budget. This is baloney. Lets take some ideas from some experts in the eminently readable Fairness, Opportunity and Security: Filling the Policy Vacuum, and some of my own ideas. Its very quick to start adding up:

Scrap private health insurance + make other health reforms (detailed in book) = $15 billion annually. Cut all subsidies for coal, gas and petroleum use. The IMF estimated in 2015 this was $41 billion annually, though since $25 billion was attributable to air pollution and global warming, we could estimate the cost as only $16 billion annually. Adopt a proper cost-benefit analysis procedure and stop wasted road spending – at least $10 billion annually. Reform superannuation tax arrangements, which reduce government tax revenue by $25 billion annually (Treasury). Introduce a tax crackdown on multinational companies (mechanism are complex).

This is a (rapidly lengthening) article, not a tome. So we will not solve the world’s problems all in 1 go. But it should be beginning to be clear that we have it within ourselves to radically improve our lives. We have it within our capacity to do great things, magnificent things.

But an idealist must face reality. Wonders are not realised. Beauty flowers in spite of bureaucracy. The gleam of hope is but a naïve flickering of optimism amidst a world imbued by reality.

As Thoreau once said “If you have built castles in the air, your work need not be lost; that is where they should be. Now put the foundations under them.” We have sketched a castle in the sky. But where are the foundations? Where is the plan to turn dreams into reality?

That is where we turn next time.

 

 

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  1. The Roar of Governance – A T H O U G H T I N M E

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