Sin tax myths – why smokers reduce health costs

Smokers have been the target of Australia's latest sin tax. Meanwhile, debate continues over using sin taxes to reduce consumption of 'unhealthy' foods such as soft drinks and confectionary.

(The word unhealthy is used quite loosely due to the fact that there is sufficient uncertainty about health – Are eggs good or bad these days? Margarine? – and because it is typically not the food itself, but the quantity consumed of a single food that is unhealthy.  Almost any food item consumed in excess will be unhealthy).

The primary arguments in favour of sin taxes are that

1.      the taxes reduce ‘harmful’ or ‘unhealthy’ consumption, and

2.      the taxes raised offset likely health costs such behaviours incur on others.

Unfortunately neither argument is compelling.

The price elasticity of demand for a sin taxed good will determine the decline in consumption of the apparently harmful product.  If demand is highly elastic, meaning that quantity of the good people choose to consume is very sensitive to price, then a tax may significantly reduce consumption. 

However, demand is typically only highly elastic when there are many substitutes available.  For example, demand for petrol is inelastic because there are no alternatives, while demand for cornflakes is probably much more elastic because of the wide range of alternative breakfast cereals.

This means that if the tax is effective at reducing the ‘harmful’ taxed consumption, it is promoting consumption of some alternative.  So what alternatives are out there?  The following example is typical of the type of offsetting behaviour I would expect.

Research has shown that when the price of a "sinful" good increases, consumers often substitute an equally "bad" good in its place. For example, two studies found that teen marijuana consumption increased when states raised beer taxes or increased the minimum drinking age. Another study found that smokers in high-tax states are more likely to smoke cigarettes that are longer and higher in tar and nicotine than smokers in low-tax states. Specifically, they discovered that young adults aged 18–24 are much more responsive to tax changes than older smokers. For young smokers, the switch to cigarettes with higher tar and nicotine is so large that tax hikes actually increase average daily tar and nicotine consumption.

One could easily imagine how similar substitutions would occur with soft drinks, perhaps leading to increased consumption of alcohol (forget the Coke, give me a beer).

The second argument in favour of sin taxes is that people who consume in an ‘unhealthy’ manner cause a greater financial burden on society by forcing others to pay for medical treatment of conditions stemming from such consumption, especially in most first-world countries with government-funded healthcare, and should be taxed extra to pay for the costs of their treatment.

This is absurd for two reasons. 

First, the logical extension is that government should also tax other risk-taking behaviour, such as driving or lying on the couch all day, while subsidising healthy foods and ‘acceptable’ behaviours with the purpose of decreasing the financial burden of health care.  It is the greatest excuse for government fund raising discovered.

A line needs to be drawn between medical intervention and freedom of choice. I have noted before that when Queensland decided to add fluoride to the drinking water, that line was crossed – akin administering medical treatments without consent.

The second reason to oppose sin taxes is that health care costs are not typically reduced by living a ‘healthy’ life but are likely to be increased. This is best explained as follows (my emphasis):

It’s easiest to think of smoking as bringing forward a whole lot of end of life costs. Smokers die earlier than non-smokers. We know that. And the costs to the health budget of somebody who is dying are rather higher than the costs of somebody who is healthy. But everybody dies sometime and most of us will incur end of life costs that will be paid for by the public health system.

Suppose that a smoker will die at age 65 and a non-smoker will die at 75. Comparing 65 year old smokers to 65 year old non-smokers and calling the difference the cost of smoking then rather biases upwards the measured costs of smoking; we ought to be comparing the health costs of a smoker dying at age 65 with the health costs of a non-smoker dying at age 75. And, perversely, the deadlier cigarettes are, the greater will be this bias. The younger smokers are when they die of smoking-related illnesses, the greater will be the measured cost difference between smokers and non-smokers because a smaller proportion of comparable non-smokers would be incurring end of life costs.

The figures assume that in the absence of smoking, smokers would never have imposed end of life costs on the health system. But for their smoking, all smokers would have died of a sudden, and cheap, heart attack and would only have had average health costs up to that point. That’s clearly nonsense

So there you have it. Sin taxes are simply the latest revenue grab disguised as socially beneficial and fiscally responsible.

(No, I don’t smoke, and I eat a fairly ‘healthy’ diet, yet I don’t see why people need to be punished for the way they consume their calories, while being free to expend them in any risk taking manner)

Energy efficiency: A flawed paradigm

The word efficiency carries a meaning immersed in all things positive – you never hear that being more efficient could possibly be detrimental.  In fact, if you can bear the evangelical fervour, you may have read about achieving ‘Factor Four’ or ‘Factor Five’ gains in energy efficiency, as part of a ‘Natural Capital’ revolution comprising a ‘decoupling’ economic growth from a growth in the consumption of exhaustible resources – aka ‘sustainability’.  You may even have heard that I=PAT, where environment impact (I) is a function of population (P), affluence (A) and technology (T), and that becoming more efficient will enable a desired level of affluence will far less environmental cost.

Believe me, this is all nonsense, and indeed counterproductive to the stated aims of curbing resource use and decreasing negative environmental externalities.

When it comes to natural resource use, and the externalities associated with resource extraction and production, efficiency alone is the enabler of greater consumption.  William Stanley Jevons first noted that technological improvement, in terms of greater efficiency and therefore productivity, was the enabler of greater coal consumption in Britain back in 1865 in his book, The Coal Question: an Inquiry Concerning the Progress of the Nation, and the Probable Exhaustion of our Coal-mines. His observation was coined Jevon’s Paradox, even though the argument that technological improvements in resource efficiency (modes of economy) leads to greater resource use was already widely accepted in the labour market:

“As a rule, new modes of economy will lead to an increase in consumption according to a principle recognised in many parallel instances. The economy of labor effected by the introduction of new machinery throws labourers out of employment for the moment. But such is the increased demand for the cheapened products, that eventually the sphere of employment is greatly widened.”

One hundred and fifty years later the modern debate is fuelled by economic ignorance, with many of the most influential economists and environmentalists remaining confused - failing to acknowledge the parallel effects of technology on the resource called ‘labour’ and other resource inputs to the economy.

More rigorous economists have reopened the debate, under the new term rebound effects, breaking down the transition mechanisms between greater efficiency and greater resource consumption.

1.      Direct rebound effect: Increased fuel efficiency lowers the cost of consumption, and hence increases the consumption of that good because of the substitution effect.

2.      Indirect rebound effect: Through the income effect, decreased cost of the good enables increased household consumption of other goods and services, increasing the consumption of the resource embodied in those goods and services.

3.      Economy wide effects: New technology creates new production possibilities in and increases economic growth.

Genius and UCLA mathematics professor Terence Tao explains the direct effect like so:

Suppose one has to decide whether to use one light bulb or two light bulbs to light a room. Ignoring energy costs (and the initial cost of purchasing the bulbs), let's say that lighting a room with one light bulb will provide $10/month of utility to the room owner, whereas lighting with two light bulbs will provide $15/month of utility. (Like most goods, the utility from lighting tends to obey a law of diminishing returns.)

Let us first suppose that the energy cost of a light bulb is $6/month. Then the net utility per month becomes $4 for one light bulb and $3 for two light bulbs, so the rational choice would be to use one light bulb, for a net energy cost of $6/month.

Now suppose that, thanks to advances in energy efficiency, the energy cost of a light bulb drops to $4/month. Then the net utility becomes $6/month for one light bulb and $7/month for two light bulbs; so it is now rational to switch to two light bulbs. But by doing so, the net energy cost jumps up to $8/month.

So is a gain in energy efficiency good for the environment in this case? It depends on how one measures it. In the first scenario, there was less energy used (the equivalent of $6/month), but also there was less net utility obtained ($4/month in this case). In the second scenario, more energy was used ($8/month). but more net utility was obtained as a consequence ($7/month). As a consequence of energy efficiency gains, the energy cost per capita increased (from $6/month to $8/month); but the energy cost per unit of utility decreased (from 6/4 = 1.5 to 8/7 ~ 1.14).

The indirect effect is more subtle and it is the environmental cost of consumption of other goods due to costs saved on, for example, lighting.  If, in the above example, lighting costs were reduced to $2 per bulb for the room, it would be rational to spend $4 on lighting (using two bulbs) and spend the $2 saved on lighting to consume other goods which themselves have energy use embodied in their production. 

Finally, the economy wide effect occurs due to stimulated demand for other goods and efficiency gains being shared across other sectors (due to the principle of the indivisibility of economic productivity – the linked article is highly recommended). 

These economy wide effects have gained recent attention in The Economist where it is estimated that energy efficient lighting will contribute to greater energy use in the long run.  You will note from the comments the cognitive dissonance of economists when referring to labour and other resource inputs remains. 

Conservation, using less at a given level of technology by giving up some utility, is equally ineffective (another great read at the link). We still face the indirect effects from conservation as we spend elsewhere in the economy, and if you believe all consumption has equal environmental cost per dollar (due to indivisibility once more and conceptually boundary problems to traditional input-output analysis of embodied resources – maybe more on this another time) you are back to where you started. 

Further, conservation, like waste, is a relative concept, and by definition we can’t all do it. And we wouldn’t do it either due to the tragedy of the commons problem, where it is in each person’s best interest to defect from a cooperative conservation strategy.  Terence Tao once again explains:

However, if there are enough private citizens sharing the same resource, then the "tragedy of the commons" effect kicks in. Suppose for instance that there are 100 citizens sharing the same energy resource, which is worth $1200 x 100 = $120,000 units of energy. If all the citizens conserve, then the resource lasts for $120,000/$400 = 300 months and everyone obtains $1800 long-term utility. But then if one of the citizens "defects" by using two light bulbs, driving up the net monthly energy cost from $400 to $404, then the resource now only lasts for $120,000/$404 ~ 297 months; the defecting citizen now gains ~ $7 x 297 = $2079 utility, while the remaining conserving citizens' utility drops from $1800 to $6 x 297 = $1782. Thus we see that it is in each citizen's long-term interest (and not merely short-term interest) to defect; and indeed if one continues this process one can see that one ends up in the situation in which all citizens defect. Thus we see that the tragedy of the commons effectively replaces long-term incentives with short-term ones, and the effects of voluntary conservation are not equivalent to the compulsory effects caused by government policy.

If energy efficiency is a counterproductive action for our environment, and personal conservation is useless, what should be done? As renowned ecological economist Blake Alcott points out

If Jevons is right, efficiency policies are counter-productive, and business-as-usual efficiency gains must be compensated for with physical caps like quotas or rationing.

It really is that easy. If you are concerned about greenhouse gases, a cap on greenhouse gases is what is required. If you are worried about deforestation, you create a cap by ‘fencing off’ areas that are not be touched.  If you are worried about over fishing, you create a cap. Whether these caps/quotas are tradeable is a secondary concern, but enable the cap to be met most efficiently.

What about a tax instead?

Many commentators argue that taxing negative externalities (such as a carbon tax) would not only reduce greenhouse gas emissions, but would provide a ‘double dividend’ of improved economic efficiency because more distortionary taxes could be reduced.  However, the very nature of reducing other taxes to make the tax revenue neutral would mean that other sectors of the economy where taxes were reduced now have greater purchasing power to pay for those goods now bearing the new tax burden.  Thus the double dividend comes at a cost to the primary dividend of reducing externalities.

Politics and ideology probably explain why the most basic economics is tossed out the window when it comes to the environmental protection.  Then again, maybe we just can’t acknowledge that such a thing of beauty, efficiency, could possibly have a downside. 


UPDATE: Recommended reading - The Jevons Paradox and the Myth of Resource Efficiency Improvements.

What does it mean for an economy to ‘turn Japanese’ and what determines whether it will?

What few seem to appreciate, either inside or outside of Japan, is just how strong the resulting Japanese recovery from 2002-2008 was. It was the longest unbroken recovery of Japan’s postwar history, and, while not as strong as pre-bubble Japanese performance, was in fact stronger than the growth in comparable economies even when fuelled by their own bubbles.

How on Earth did Japan manage that with their ageing population and zero population growth? Indeed, Japan outperformed Australia in productivity growth since 2000 and very nearly kept pace with real GDP per capita growth.

The RBA’s Ric Battelino seems confused. In a recent speech on the Australian economy he notes that “the slowdown in productivity growth has meant that GDP growth in the latest decade was not as fast as in the previous decade”, while also saying that for the past two decades “part of the growth came, of course, from the fact that the population grew strongly over the period, particularly in recent years.” What? The data he presents shows a negative correlation between economic growth and population growth, yet he continues to promote a positive relationship.

Australia’s average annual real growth in GDP per capita (currently the best measure of economic performance) since 2000 is 1.28%. While I can’t find a direct measure from the Japanese Statistical agency, using the World Bank data collection I can make a comparison of real GDP growth per capita of Australia and Japan using a common methodology. Using these statistics I find that Australia had a mean annual growth in real GDP per person since 2000 of 1.8% while Japan’s was 1.4%.

Notice in the graph however that Australia’s growth in real GDP per capita fell considerable from 2004, when population growth rates began to push up from 1.2% to a peak of 2.16% in 2008. Since 2002, when Japan’s real growth per person increased, the population growth rate declined from 0.2% the preceding 2 years to near zero (average 2003-2008 is -0.002%) till the financial crisis hit at the end of 2007.
 
Like Australian situation I described in a previous post, per capita growth appears to be compromised by higher rates of population growth in this sample of data.

Australia’s economic performance is terms of productivity growth looks pitiful in comparison to Japan. Average annual Total Factor Productivity growth since 2000 was a shy 0.47% (including a productivity recession in 2004-05) while Japan recorded a strong 1.77% over the same period (data from OECD here).

Of course there is always unemployment to consider.  The graph below shows that on this measure, Australia is also behind Japan (having been in front for just the period 2007-2008).  Some longitudinal data is here.

Recent research also suggests that Japan’s economic track record was unfairly blemished by asset price deflation followed by short recessions in the 1990s (1993, 1997 and 1998). The graph below (from here - including 20yr data set), shows Japan’s solid performance over the past decade, with their longest boom since WWII occurring from 2002-2008.

It appears that turning Japanese is not the tragedy it is made out to be by popular economic commentators. Here’s just one example:

As it turned out, Japanese investors lost nominal wealth equal to three entire years' GDP. And the economy today hasn't grown in 17 years or created a single new job.

Nor has the debt been reduced. Instead of permitting the private sector to destroy and pay off its debt, the public sector fought against it...borrowing heavily to try to bring about a recovery. Result: no recovery...and almost exactly the same amount of debt. But while the private sector paid off its debt, the public sector picked up the borrowing. Now it's the government that owes money all over town.

Detractors cite the massive and growing public debt in Japan as a problem, but if denominated in Yen, and with interest rates set at near zero, there is no burden from the debt. In fact, the Modern Monetary theorists would claim public debt in its own currency is never a burden because the government can print money to pay it down. (Maybe the Japanese government prescribes to this theory and keeps the debt as a record of past spending.)

The above graph confirms that Japanese government debt has replaced a substantial portion of private debt since the early 1990s. In my view this is a justified effort to keep the value of the yen stable by maintaining money in circulation - an approach that could be adopted in Australia in the coming decade, with government debt replacing household debt for the same reason.

One must keep in mind that it is probably not the intention of the Japanese government to ever pay off this debt. I am sure they are happy to continue to progress with a high savings rate, high productivity, high GDP, net exports and almost every other fundamental ingredient for economic success.  Turning Japanese appears to be about more fundamental economic prosperity cradled in an unfamiliar monetary framework.

Helmet law research hits the headlines

Helmet laws hit the headlines with a new Australian study proclaiming their ineffectiveness at providing safety to cyclists, while in Canada the debate is heading the other way (due to this study - sorry I can't get the full text to review the methods).

The Australian study neatly controls for the number of cyclists and distance cycled by comparing the ratio of head to arm and hand injuries resulting from cycling activities from hospital records. A change in this ratio (lower head injuries per arm and hand injury) would be a clear indicator of the success of helmet wearing in preventing head injury.

The figure above shows the ratio (ICD9) from 1988 to 2000. Helmet laws were introduced in 1991, and self-reported compliance for two age groups (<16years and >16years) are plotted from 1991 to 1995.

The essential argument is that the large decline in the ratio of head to arm injuries occurred before the helmet law, and much before compliance with the law. In the two year period where helmet wearing took off following the legislation (1991 to 1993), the ratio dropped from 0.8 to 0.75 – hardly a success. The drop in the two years preceding the helmet law was from 1.15 to 0.8.

The author suggests that other road safety measures contributed to the decline, while the law itself would have contributed to a decline in the number of cyclists (some evidence for the decline is here) which itself made cycling more dangerous and lead to a flattening of the trend -

The reduction in numbers of people cycling may have actually increased the risk to the remaining cyclists because of Smeed’s Law and the safety in numbers hypothesis.

Population problem? It’s called longevity

Population growth advocates often rely on the ‘age dependency ratio’ as their core economic argument.  This ratio is the population aged over 65 divided by the population aged 15-64.  To give this measure meaning there is an assumption that people will not work beyond age 65 and will therefore be need to be financially supported by those at a working age.  Workers will get less of the return on their productive output because it needs to be shared with more non-workers.  Essentially, the percentage of people in the formal economy will decline. 

I have a different opinion on the age dependency ratio. I see it as a shining beacon of success.  People are working for shorter periods of their life.  We as a group are finally taking some of our productivity gains of the past half-century in the form of leisure time. 

Whether or not you agree this a problem, the suggested solution of population growth is, in reality, counterproductive, and will only aggravate the situation.  An increase in the dependency ratio is principally caused by improving longevity. If each generation lives longer than the last we will face this problem even with a growing population. Simply adding more at the bottom of the population pyramid to keep it bigger than the top has the apt label ‘population Ponzi scheme’. Indeed, to counteract this trend would require a significant increase in the natural birth rate, or age biased migration policies, or even the extreme scenario of sending migrants back home when they hit 65.  None of these are desirable.

Australia’s age dependency ratio is 16^th out of this comparison of 20 developed nations; none of whom appear to be in a hurry to stimulate population growth to ‘solve’ this problem. Sweden, Norway, UK, USA, Denmark, Germany and Canada all appear to cope quite well with their demographic fortunes.  Our culture, financial structures and welfare system, are still adapting to a population pyramid becoming more cylindrical.

Notably, on one side of the debate are the vested business interests. Businesses which face demand limits per person (a single person can only consume one of the same newspaper per day) and are limited to domestic consumption (which foreigners are interested in Australian newspapers) have the most to gain from population growth.  The other side includes a fair swag of the rest of us, including Dick Smith, who will be a guest in many living rooms Thursday night when he airs his anti-population growth documentary.

Overcoming the apparent economic strain of age dependency issue is extremely straightforward.  People need to save during their productive years to be self supporting during their retirement years.  Isn’t that the point of superannuation?  This dissaving during retirement also shifts wealth to the next generation.

There are a number of other factors at play which are consistently overlooked in the age dependency argument.

1. People will work longer.  Seventy will be the new sixty.  A gentleman I used to work for is 65 this year and is looking to acquire new skills for the next phase of his career.
2. People will spread their work time over the life much better, possibly taking intermittent retirements between careers.  They will probably work part time and casually long after 65.
3. The participation rate may improve
4. Productivity of the workforce will improve
5. The population aged under 15, who are also dependent, will shrink

My policy prescriptions to ease Australia to social and economic security with a cylindrical population pyramid include:

1. Have the population minister put forward a stable population by 2030 as a goal for Australia
2. Encourage older people still dependent on welfare into casual/part time work.  This can be achieved by allowing up to, say, $15,000 to be earned before they lose any pension payment
3. Remove the baby bonus
4. Possibly phase in a reactive immigration quota based on last year’s population change to meet the target set in point 1
5. Allow proceeds from the sale of a principle place of residence for those above 65 to be exempt from affecting social security allowances for a fixed time period – maybe 5 years.  This encourages financial independence in the long run.
6. Incrementally increase the pension age starting at a future point.  In Germany it is now 69. We could make it say 66 on 2014, 67 in 2017, 68 in 2020, 69 in 2023, 70 in 2024.

We need to be clear about the future we want for this country.  The population choice is one we can make as a society to provide the country we desire for our children and grandchildren.

Effects of dwelling composition in the property market

Much popular property market analysis based on flawed principles.  A secret to identifying rubbish analysis is to note the following meaningless buzzwords and phrases; underlying demand, housing shortage, urbanisation or population growth.

These buzzwords are based on fallacy.  The problems they have in common is that they are quantity based (thus ignore prices), and they ignore changes in the composition of dwellings.

Commentators calculate underlying demand by dividing the quantity of population growth in a given period by the average occupancy rate.  This is supposed to give a measure of quantity of dwellings that ‘should’ be constructed of the period.  Unfortunately, the occupancy rate itself changes over time.  It has been declining dramatically for three decades.  If the trend continues we may soon be able to calculate a housing shortage even if we build a new home for every new person!

Calculating a ‘housing shortage’ is then a simple matter of subtracting the number of dwellings constructed over a time period from the underlying demand.  The graph below shows the result of this calculation for Australian from 1994 – 2009 using quarterly data (and the occupancy rate at each quarter – not the current occupancy rate).

Spruikers use this measure to justify the likelihood of price gains, however the price changes observed seem to in fact be inversely correlated to underlying demand.  We had a price boom from 2002-2004 at the same time as a housing surplus!

These measures also fail to acknowledge the heterogeneity of housing.  Counting a studio apartment and a 5-bedroom house as equal in the calculation of a housing supply is mere fallacy.  Clearly these two different dwellings will house different numbers of people.

Furthermore, the size of existing homes change over time with renovations and extensions.  It has been widely acknowledged that many home owners have chosen to renovate instead of relocate in their search for more spacious accommodation.  It is easy enough to imagine a street of heritage homes, for example, being renovated and extended to allow a large increase in the population of the street.  No new homes, plenty of new people, and no housing shortage.

What we have seen in the latest property boom is a continuation of the trend to build larger homes with more bedrooms, while the occupancy rate continued to decline.  At some point you would expect the occupancy rate to bounce back before we all ended up living alone with three spare bedrooms.  And it did. 

The ABS summarises the long-term change in dwelling composition and occupancy as follows:

The average number of persons per household has declined from 3.1 in 1976 to 2.6 in 2007-08. In the same period, the proportion of dwellings with four or more bedrooms has risen from 17% to 29% and the average number of bedrooms per dwelling has increased from 2.8 to 3.1.

In 2007-08, most households enjoyed relatively spacious accommodation. For example, 86% of lone-person households were living in dwellings with two or more bedrooms; 75% of two-person households had three or more bedrooms; and 35% of three-person households had four or more bedrooms. Over a fifth (21%) of three-bedroom dwellings, and 8% of four-bedroom dwellings, had only one person living in them

Important demographic reasons explain why we should expect the declining occupancy trend to come to an end.  The aging population including baby-boomers downgrading is a key way in which this will occur (others include a rise in share housing by the forever young Gen-Y who are delaying family formation).

For example, the parents of a family whose adult children have moved out with friends or partners might find that the upkeep of a large house conflicts with their ‘grey nomad’ retirement plans.  They can sell their 5-bedroom house and move into a new 2-bedroom unit, pocketing the price difference for their retirement. 

In this scenario the construction of a 2-bedroom apartment resulted in a 5-bedroom home being available to meet the housing needs of population growth.

The final fallacious buzzwords that provide property bulls justification for their position are urbanisation and population growth.  If we were discussing any other good or service the pattern of habitation would be of little consequence to the expected prices.  Increased urbanisation doesn’t drive up the price of food, petrol or any other goods – nor does population growth.  

Increased urbanisation can lead to increased land prices, but that doesn't necessarily lead to increases in median housing price measures due to compositional change.  Because new dwellings in outer areas are typically inferior locations to existing homes, the prices one would expect for identical dwellings in new estates would be lower.  Since there is more land at the fringes of cities, we would expect that proportionally more cheaper dwellings to be added to the mix of housing.  Prices for existing homes can rise, but due to the greater proportion of housing in outer areas in the mix, a price index can remain flat at the same time.

The table below shows a hypothetical city made up of identical dwellings, where new supply is mostly added at the fringes.  Even though the price of each individual dwelling increases 10% over the period, a city-wide mean price index would remain flat due to the greater proportion of cheaper dwellings.  The same effect can happen with new apartments in traditional detached housing areas.

Also constantly overlooked is the fact that urbanisation can only occur AFTER new urban dwellings are constructed unless driven by an increase in occupancy rates.  Until the end of 2005 prices was rising fast, urbanisation and population growth were occurring, but the occupancy rate continued to decline.  

Analysis of the property market should focus on returns in comparison with other investments, with renting, and historical returns.  Counting dwellings, and implying demand from population growth or urbanisation is problematic due to compositional factors.

Automation and the housework rebound effect

As I have previously argued, innovations that aim to save time, increase safety, decrease energy consumption can be subject to flow-on rebound effects that lead to the opposite result. These counter-intuitive results have lead to ineffective government intervention and bizarre social norms.

A typical challenge to the idea of rebound effects goes like this.

“If a business has to pay each worker more due to government intervention on wages, they are clearly going to employ fewer employers. Are you challenging the Law of Demand? If the price of labour is higher, demand will be lower.”

No, I don’t argue that if we hold everything in the world outside of an individual business constant that the business will employ more people. I argue that to believe the world is held constant robs you of the vision to see flow-on effects to society and the ability to estimate the real net effect of a policy or action.

Today's rebound effect concerns time saving and housework.

Day time television is full of advertorials explaining the time saving benefits of new appliances to homemakers. An automatic slicer, a no hands blender, a steam iron, a self wringing mop – the list goes on. A key selling point of all these goods is the time saving. Each task - cleaning, slicing, ironing - can now be performed in a fraction of the time.

Economists would have us believe that it is this very type of innovation that is leading society to a future of leisure filled days. Keynes predicted, is his 1931 essay “Economic Possibilities for Our Grandchildren,” that his grandchildren would spend most of their time at leisure, finding ways to “pluck the hour and the day virtuously and well”.

But the present is not the Keynes’ future. Hours of work per household continue to climb with the rise of two income families and reduction in the physical demands of work, while hours of housework remain much the same as they did a century ago.

Maybe the ignorance of rebound effects has lead economists to be far too optimistic.

So what is the real net effect of time saving innovations to housework tasks? The following excerpt from The Big Switch explains how the electrification of household chores failed to deliver its time-saving promise due to rebound effects in the form of evolving social norms. Ironically, these effects are completely in keeping with the Law of Demand and also happen at a micro level. As the cost (in time and effort) of household chores declined, we demanded more of them.

The utopian promise of electricity seemed within reach inside the home. Many women believed that new appliances like vacuum cleaners and washing machines would, as General Electric advertised, transform their homes from places of labour into places of ease. The home would become less like a sweatshop and would become, as Thomas Edison predicted in a 1912 article on "The Future of Women," "a domestic engineer [rather] than a domestic labourer, with the greatest of handmaidens, electricity, at her service." The first widely purchased appliance designed specifically for housework, the electric iron, seemed to fulfil this expectation. Women no longer had to heat a heavy wedge of cast iron over a hot stove and then drag the red hot chunk of metal over a piece of clothing, stopping frequently to reheat it. They could just plug in a lightweight appliance into the wall. During the first two decades of the century, scores of homemakers swapped their old-fashioned irons for modern electric ones. A photograph of the time shows a General Electric employee standing proudly beside a small mountain of discarded flat irons.

As it turns out, though, the electric iron was not quite the unalloyed blessing it first appeared to be. By making ironing "easier," the new appliance ended up producing a change in the prevailing social expectations about clothing. To appear respectable, men's and women's blouses and trousers had to be more frequently and meticulously pressed than was considered necessary before. Wrinkles became a sign of sloth. Even children's school clothes were expected to be neatly ironed. While women didn't have to work as hard to do their ironing, they had to do more of it, more often, and with more precision.

As other electric appliances flooded the home through the first half of the century - washing machines, vacuum cleaners, sewing machines, toasters, coffee-makers, egg beaters, hair curlers, and, somewhat later, refrigerators, dishwashers and clothes dryers - similar changes in social norms played out. Clothes had to be changed more frequently, rugs had to be cleaner, curls in hair had to be bouncier, meals had to be more elaborate, and the household chine had to be more plentiful and gleam more brightly. Tasks that once had been done every few months now had to be performed every few days, When rugs had had to be carried outside to be cleaned, for instance, the job was done a couple of times a year. With a vacuum cleaner, it became a weekly or even daily ritual.

The Proximity and Lateness Rebound Effect

I have a habit of labelling any unintended consequence that works in the opposite way to the intended consequence as a rebound effect. With this in mind, I hereby declare the discovery of the Proximity and Lateness Rebound Effect.

The discovery is not mine of course, but the name is. I learnt of this bizarre social phenomenon here.

The Proximity and Lateness Rebound Effect (I would appreciate any better name suggestions) describes the offsetting behaviour of people to commuting distances. One would initially think that moving closer to their workplace, their relatives, friends or other regular destinations would reduce lateness, but in fact the opposite effect can potentially occur – as your commute decreases your lateness increases (in frequency - you are late more often).

Here’s my proposed theory as to why this may occur.

First, 100% punctuality is surely suboptimal.  Because each trip has a degree of uncertainty, if we budgeted for perfect punctuality we would have to allow for a commuting time under the worst circumstances every time.  We would be far too early most of the time just to ensure that we weren't once a minute late.

Now suppose that being a little late is not a big problem, but being quite late is a serious problem. We might say that we want to be less than 10 minutes late 70% of the time, and less than 20 minutes late 95% of the time.

If your commute is typically 50mins, but traffic congestion and delays mean that the trip takes less than 70mins 95% of the time, less than 60mins 70% of the time, and less than 50mins 50% of the time, you can budget for a 50 minute commute and meet your lateness expectations. You will be on time 50% of the time, more than 10mins late 30% of the time and more than 20mins late a mere 5%.

If instead your commute is a mere 10mins on average, with only a very small variation in time (say less than 2 minutes), and you budget 10mins for your commute you will far exceed your lateness requirement. Therefore you may start allowing less and less commuting time to get to your destination, and soon become accustomed to regularly being a little late, but never very late.

Because of the difference in trip variation, the person with the long commute needs to be more cautious to avoid being exceptionally late. Doing so increases the frequency that they arrive early. On the other hand, those with short commuting distances have very little chance of being extremely late, and therefore need to pay little attention to factoring in their commuting time and may regularly be a little late.

My personal experience of moving closer to work is just this. I almost treat the 10 minute commute as negligible, and am typically a little late to everything. Previously, when the commute was about 30 minutes I would ensure that I had budgeted enough travel time, with a little room for delays.

Minimum wage decision and the textbook response

Economists like to promote the idea that increasing the minimum wage results in fewer jobs. The law of demand states that when the price of a good goes up, demand goes down. But a welfare State has a role not just to encourage people to work, but to improve overall welfare.

The job loss textbook response is only fair if we cling to the unreasonable ceteris paribus assumption – that minimum wage increases and all else stays constant. But that is not reality.

For example, offsetting effects of an increase in the minimum wage include

- people choosing to study instead of work
- businesses investing in capital equipment to improve labour productivity

Both of these indirect effects of the minimum wage are good for society’s welfare in the long run via increased productivity.

Apart from being a good long run policy, I see the minimum wage as a tool to control possible market power of employers. Uninformed and low skilled workers are easily vulnerable to manipulation, and are unlikely to access legal guidance or negotiate their wage with vigour. Not all people are fully informed, perfect knowledge homo economicus. Asymmetric information and the resulting market power of employers of low skilled workers are justifiable reasons for government intervention.

One needs to exercise extreme caution when applying economic principles to reality. Most mainstream economic theories are based on completely unreasonable assumptions (an upward sloping supply curve and an ignorance of time for example).

Bakfiets – is Australia ready for the cargo bike revolution?

Recent discussions on cycling culture and the imminent arrival of our second child have resulted in an obsession with cargo bikes or Bakfiets (Dutch for boxbikes). These bikes are making their way to Australia, with various businesses now selling the contraptions (such as Good Concepts in West End, cargocycles.com.au, and more here).

I want one, exactly like in the photo above, but I don’t know why.

Economists generally believe people know how to make decisions that maximise their welfare. But in many cases we can’t know how much we will enjoy our consumption decisions in advance, since we have never experienced them before – such goods are known as experience goods.

Having already test-ridden one and been impressed, I am now attempting to evaluate the bike's worth by first itemising the pros and cons. Any assistance or insight or suggestions are appreciated.

Pros
Can handle a load of groceries plus children for short trips
Can pick up hitchhikers
No parking or fuel costs and only minimal maintenance
Fun

Cons
$1650 for the bike
$2450 if you want electric motor assistance
Plenty of hills in Brisbane
Not many safe streets to take this slow and slightly less manoeuvrable bike
Cannot jump off or up gutters if necessary (probably off but it won’t be pleasant
Extreme summer heat (could make a shade for the kids though)
Summer storms and bad weather in general

More importantly, to determine the value to our family of the bike I have been thinking in terms of marginal utility. Instead of thinking how good or practical the bike could be in isolation, I think in terms of how much better having the bike would be compared to our current situation.  And by this analysis, the cargo bike falls short.

Our family owns a car which this bike will not replace, nor will trips by cargo bike replace trips by car. So cost savings are not a selling point. However, even if car trips were being replaced by trips by cargo bike, the savings would be minimal since the marginal cost of a car trip is quite low.

Most of the cost of car transport is a cost of ownership – depreciation, registration and insurance etc – while only small costs can be attributed to extra kilometres. For example, it would cost our family about $3,000 to drive 4,000kms a year – or 75c/km on average. But if I reduced driving by 1,000km I would not save $750 because the registration, insurance and depreciation are somewhat fixed. I might only save 20c/km or less.

Replace a 5km car trip with cycling might only save $1 – a somewhat negligible amount in hilly terrain in the heat of a Brisbane summer with a family of four, especially given the likely time savings of driving.

Furthermore, our 2 year old can already walk to the grocery store, so it is simply a matter of taking the new baby in a stroller (which is also good for luggage) for that regular trip.

However, while the marginal benefits for our family do not yet warrant the cost, I do believe Australia is ready for the cargo bike revolution.

Drivers for change include urbanisation and young families losing the ‘must have a house to raise a family’ attitude, instead opting for well located apartments. If this group is forgoing a second car (they may not have a parking space anyway), and using a cargo bike for work, school and shopping trips, their may be significant benefits.

I want to leave you with a short story that demonstrates the difference between cycling culture in Australia and the Netherlands.

The two agents in the car look at me as if I have “Cops are Dicks” written in bold letters across my back and motion for me to stop and talk. They don’t get out of their car nor do they want to see my ID or anything official. The driver, obviously angry, leans over and asks some pointed, rhetorical question to the tune of “what the heck was that, asshole?!”. The female agent in the passenger’s seat is giving me that “Yeah, duhhhh!” look… though I was thinking approximately the same in reverse.

I’m no genius but I can put two and two together; It’s pretty obvious he’s referring to my riding through a red light a few meters back. A quick assessment of the situation suggests that admitting guilt and feigning embarrassment is my best approach. But the cop continues before I’ve had a chance to test my acting skills: “How do you think it makes us feel when you ride through red and everybody giggles and looks to see what we’ll do? You show no respect!” They don’t seem to have a problem with a cyclist breaking the law. The problem is that I did it in front of a police car. Oh, now how do I react? I can’t exactly say “Sorry officer, had I seen that you were there I wouldn’t have continued.” Likewise, admitting guilt to jumping a red light is a pointless since he’s already noted that it’s accepted.

A couple moments later they still hadn’t stepped out of their car so I figured they’d no intention of giving me a ticket or fine unless I did something stupid. I played it safe, sticking to “Yes, that was dumb of me.” and “I see your point… Understood.” Then they drove away, apparently satisfied that they’d made their point.

Lower bound problems of hedonic indices

Prices are fundamental features of modern economies, yet measuring price changes is exceedingly difficult due to the constantly changing quality of goods and services. I have previously discussed the use of hedonic price indices, where adjustments are made for quality changes using regression techniques, and the potential pitfalls when interpreting the result from this method. I apologise for raising this issue again, but I hope to clarify my message with an example.

While a hedonic index is a useful tool, and when part of a package of price indices can clarify our understanding of price and quality movements, many unresolved issues persist. One issue that attracts little attention is how to interpret and apply results from hedonic price index calculations.

Today I want to further elaborate upon, and demonstrate using the table below, what I call the lower bound problem of hedonic price indices. Quality improvement does not imply that prices faced by consumers have dropped, especially if lower quality goods are no longer available. Buyers of cheaper products will not see the price declines measured by a hedonic index, and may even see price increases.

The above table has been constructed to show how different methods for determining price changes can produce significantly different results. This hypothetical market could be computers, cars (add a zero to the prices) or any other market where quality changes noticeably over time.

The animal names are the models. For car markets it they could be Corolla, Landcruiser and so on, or for computers, Dell Latitude, Apple MacBook or any other model. The reason to include models is that one method for determining price changes is called the model matching technique. Because models typically have fewer quality changes than the market as a whole, and that they typically represent a segment of the market (budget / premium), compiling prices over time for the same model can give a reasonable measure of price changes for similar quality products. In the table above two models are highlighted, Kangaroo and Echidna, to show how their prices have changed over the period. If we take the average price change of models we can match over the period (the model matching technique), we get a price change in this market of -42% over the eight year period.

The number beside each model is a measure of quality. I have used a single number in this situation, but typically there would be a number of associated quality measures. You will note that the quality of each model improves over time, thus if we use a hedonic (quality controlled) method for measuring price change, it will show a more substantial price decline. If we were to buy a ‘quality level 9’ product in 2001 it would be $3,000, while in 2009 it would be $1,000 – a 67% decline in price.

Using a median price index, where quality is not considered, the data in this table shows a median price increase of 14% over the period (assuming equal volume of sales in each price category). In this scenario this measure more accurately shows the movement in price of the market as a whole. If you wanted to stay at the same level in the market, this is the price change you would experience.

Finally, and this is the main pitfall when utilising quality adjusted prices measures to make policy decisions, the price change for the lower bound market entrant has increased 33%. The cheapest computer/car/shoe/phone/appliance or whatever good this happens to be, has gone up in price significantly while the quality adjusted measures show large declines.

Measures such as the CPI (a price index) and the Analytical Cost of Living Indexes do consider quality change, yet we apply these measures as a way to adjust welfare payments, even thought most welfare recipients will be lower bound market entrants for much of their consumption bundle.

In an ideal world a selection of price indexes using different methods would be produced for each major consumption category to show paint a clear picture of the situation being faced by a different members of society. Not only would we measure ‘pure price change’, but also changes to the cost of living which can more easily guide policy making.

Steve Irwin's way: Economics of wildlife conservation

At Australia Zoo (I had a lovely time there on the weekend, thanks for asking) there are numerous signs posted to encourage visitors not to buy native animal products – crocodile, emu, and kangaroo meat for example.  I found this very odd, as crocodile and emu are farmed, and most kangaroo species are not endangered – far from it.  So what kind of conservation message was this I wondered?

Steve Irwin expressed his conservation message more clearly on the website:

"Sustainable Use" of native wildlife in so-called modern nations like Australia and the U.S.A. has inadvertently created a multi-million dollar 'bushmeat' industry, where local people kill native wildlife for meat, skins and products. Please don't blame the local people; it's not their fault! They're simply hunting for much needed money. The greatest wildlife perpetrators of today's world are those behind the driving force of "Sustainable Use." 

How are the Tiger Farms in Taiwan and China helping to save Tigers in India, SE Asia or Siberia? They are perpetuating the market in Tiger products, which is the single greatest reason for the endangerment of Tigers.

…If we can destroy the market, we'll destroy the industry. Historically the only reason spotted cats, like Leopards and Cheetahs are still found in the wild, is because of peer pressure. It became 'uncool' and controversial to wear spotted cat fur coats, so the market was destroyed and the industry suffered. Slowly, less and less Leopards and Cheetahs were being shot for their skins, and just as well or they would've been extinct 20 years ago.

The principle behind this message is that if we eliminate demand for wildlife products, we will preserve species.  But there are alternative ways to protect wildlife and biodiversity (a side note: do we really care about an individual species, or do we use iconic mammals as the canary in the coal mine of biodiversity protection?)

In addition to the ‘demand destruction’ technique, economists propose other ways to preserve threatened species – promote domesticated supply (farm threatened species), the Coase solution (give rights to the species to a group who can profit from non-consumptive use of the animals such as eco-tourism and research), and simple land conservation.

Which of these measures work?  Should we try them all, or are they mutually exclusive?

Promoting alternative supplies of animal products may sound strange at first, but has merit.  If we began farming pandas, bears, tigers and elephants, we could essentially flood the market for these animals’ body parts, bringing down the price to make hunting these species in the wild uneconomical for the risks involved.  The logic appears sound, and I can think of crocodiles in Australia as an example of where farmed animals have almost completely replaced wild animals as a supply of meat and skins.

But caution should be taken if this method is to be the primary conservation measure.  Solid institutional arrangements, regulations, and enough participants to avoid collusion are necessary, or this measure can simply backfire.  Because the farming of a species legitimises consumption of its body parts (thus increasing demand), farmers may collude to reduce supply and maintain a high price which may not discourage hunting of the species in the wild, especially in countries where hunting bans or their enforcement are non-existent.

For example, if all the crocodile farmers colluded to reduce supply of skins and meat while demand for crocodile products increases now that it is the new must have item, the price may be high enough for wild hunting to be profitable.

One unusual extension of this philosophy is to encourage farming by promoting various endangered species as gourmet food.  No doubt this will encourage farming, but it won’t necessarily ensure that wild animals are preserved, which is the primary goal here.  We don’t see many wild chickens, cows, or pigs anymore (or the descendants of the wild species from which they were originally domesticated).  Tuna farming is developing, and we may see whether this has any impact on wild populations; however I worry about the push for farming tigers for Chinese medicine as an effective conservation measure.  

The Coase solution gives private rights to utilise a species for non-consumptive use (such as tourism or research) to a particular group.  Since that group now has an incentive to preserve the wild population, they will protect an area for poachers, promote tourism, and potentially play a role in demand destruction (easing their efforts to protect against poachers).  For example, some African countries have private rights for tourism operators who make money from shooting elephants with cameras rather than guns, thereby having a strong interest in preserving their habitat and protecting them from poachers.  In fact, in some of these areas the elephant population is now estimated to be at the carrying capacity of the conservation area.

Alongside the Coase solution, habitat protection is also needed.  If the group with rights over the species have no assurance that a minimum size habitat will be maintained, there is little incentive for any group to take up these right and develop the tourism industry.  A combination of land conservation and private rights can be a potent solution.

How do we go about optimising conservation with these options?

If our primary goal is to protect the species in their wild habitat, promoting domesticated supply is probably the least preferred option.  It legitimises consumption of the species and does not always ensure that farmed supplies completely replace wild supply.  It also hinders the introduction of other conservation measures.  Why would tourist pay top dollar to see wild elephants in Africa when there is an elephant farm just down the road?  If hides the plight of the species in the wild when it becomes common in captivity.

A combination of the other measures probably constitutes optimal conservation – destroy demand for consumptive use of the species, promote non-consumptive use and give a group rights to benefit from those uses, and ensure a minimum scale of habitat is preserved for our top of the food chain ‘canary’ species. 

Australia Zoo’s message at first struck me as very odd, but it may just be that the animals they cite are not endangered (kangaroos), or have been successfully farmed (crocodiles and emus).  But their logic is sound.  They may simply have needed a message accessible to children and foreigners, which is achieved by referring to common Australian animals.

You can also see the commitment to this optimal conservation strategy from the Irwin’s purchase of land in Cape York to preserve habitat and promote non-consumptive use of wild animals, which is now under threat from mining exploration (since the State still holds rights to minerals on private property).  You can read more here and sign a petition to protect this land from mining. 

The take home message is to be wary of ‘too good to be true’ solutions from economists when the outcomes are irreversible. 

CityCycle scheme, bicycle helmet laws, and a better alternative

In my bio I promise to turn ideas on their heads to gain a better understanding. In this spirit I ask the following question of Brisbane City Council’s proposed CityCycle bicycle hire scheme – is it better for council to subsidise a bicycle hire scheme to stimulate bicycle use, or is it better for council to subsidise a car hire scheme to encourage bicycle use?

(And yes council will have to subsidise the scheme through the donation of public space, and possible contributions to ongoing costs, as has happened with such schemes in Europe, even though hire costs and advertising on bikes provide the main sources of revenue for the operator).

I suggest the latter may be preferable. Here is my logic.

Council declares the purpose of the bicycle hire scheme is to encourage short trips by bike. It offers the first half hour of hire for free to encourage such short trips to be undertaken. As far as I can tell at this stage, it will also offer long term subscription for “about 17c per day”. However, a single day hire will be $11. The incentives appear to be stacked towards either very short trips or very long hire.

While such schemes operate relatively successfully in many cities around the world, Paris, Barcelona, Vienna, Amsterdam, Oslo and Lyon for example, there are many local conditions that favour cycling in these cities. These cities are generally flat, have wide streets, low speed limits, cool climates, bicycle lanes, high urban density, and no helmet laws.

Even with these advantages, these schemes still face major problems. The now famous Velib scheme in Paris has had to replace its whole fleet of 20,000 bikes within two years due to vandalism and theft. They have also implemented an incentive scheme to encourage users to deposit bikes at stations at the top of hills and on the outskirts of the city. If we want to determine the success of this scheme we are still left with a burning issue.

But for all the hype, has Vélib' actually stopped people using their cars? Anecdotally, most people using the bikes are coming off public transport, seeking an alternative to bus, metro and expensive Paris taxis at night. At rail stations, so great is the rush for suburban commuters to jump on bikes rather than cram into Metro carriages that some have tried to lock up bikes on stands at night to secure them for the morning.

Regardless, some more general benefits have been observed:

But the increase in people cycling does seem to be boosting bike awareness and challenging the car mentality. Paris, with its wide streets, is already a better city for cyclists than London. And no, you don't wear shorts, helmet or pollution mask; most people prefer a suit or high heels. Blase cyclists can be seen negotiating the high-speed free-for-all that is the Place de la Concorde while puffing a cigarette and calling a friend.

In sum, it seems that the scheme is taken up with tourists, drunks, and commuters already using public transport, yet the mass of cyclists does raise awareness and make cycling appear the normal thing to do.

What about Brisbane?

In Brisbane we have a number of local conditions that discourage cycling; intolerant drivers, few connected bicycle routes, burning hot summers, low urban density and steep hills – the same things that currently discourage bicycle use. And lastly there is one big problem, helmet laws (which are also undermining Melbourne's ambitious bike hire scheme)

How do you get people on a bike for a trip less than half an hour if a helmet is needed? Are helmets included? Is there a helmet vending machine at each station? This is a make or break issue. Local bike mechanic Jens Uhseman, from Bicycle Revolution at West End, a store that also offers a bike hire service, offers this opinion on the matter:

The problem is getting people on the bikes anyway. If they wanted to go on them they would have their own bikes. Even when we sell cheap bikes to students we have to tell nearly every second person they need a helmet in this country.

If the inconvenience of helmets discourages the main users of such a system - tourists, drunks, and commuters already on public transport - who is left to ride these bikes? Regular local cyclists may take up the offer of a free half hour, but having your own bike, helmet and lock is cheap and allows you to be much more flexible. Even though I live just fifty metres from a proposed CityCycle station, I will probably still use my own bike for commuting around the city.

To summarise the analysis so far, the European cities where bike hire schemes are successful have far more incentives for cycling, including no helmet laws, yet they still don’t get cars off the road and are a financial burden on the city council.

If the Brisbane City Council was serious about cycling as a viable means of urban transport they would offer incentives to get people out of cars (even out of crowded bus and train routes) and onto bikes. They need to make cycling faster (bike lanes, short cuts around steep hills, connected bikeways), and safer (more road space for cyclists for example).

One might assume from this analysis that the Brisbane City Council is not serious about cycling, but is using the scheme as a cheap means of buying the Green vote. Not such a crazy idea.

But is there a better way?

To increase cycling and get people out of cars I might suggest that Council push for a car hire scheme with depots around town stretching out further into the suburbs. People living nearby a depot might decide that there are significant financial rewards if they sell their car and commute by bike, using the hire care when necessary. Cars are far more expensive to run than bikes ($1,000/year for a cheap car plus fuel costs, and less than $100/year for a bike), and if people are doing away with car ownership it may encourage a city wide shift to alternative modes of transport.

On top of this scheme you could offer other incentives to decrease care ownership, such as a higher registration rates for a household’s second car or other financial disincentives.

Whether a bike hire or car hire scheme will decrease congestion, decrease urban pollution, and get people into more healthy habits remains a matter for debate, however there is one strong message emerging - implementing a bicycle hire scheme to encourage bicycle use is putting the cart before the horse. Once cycling becomes a viable means of transport, with a useful network of bike paths and street space, then a bike hire scheme may add to a cycling culture in this city. But if the experience in Paris is anything to go by I have reason to worry that implementing the bike hire scheme may backfire and fuel Brisbane's pro-car lobby.

Already taxi and bus drivers are complaining about the mass of inexperienced cyclists hogging bus lanes. Paris city hall has stamped rules of the road on the handlebars such as "Don't cycle along pavements". But everyone knows rules are made to be broken. Of regular Paris cyclists, 71% admit to jumping red lights, over a third regularly go the wrong way up one-way streets, and more than half cycle without lights at night.

In any case this bike scheme is an interesting experiment economically, technically, and politically.

Economic arguments against population growth

While Population Minister Tony Burke may be new to the debate, the population debate itself is certainly not new to politics. In 1994 the Commonwealth commissioned an inquiry (the Jones inquiry) into Australia’s population and carrying capacity, yet the inquiry failed to make firm recommendations. One of the inquiry’s authors then wrote a book in protest of the ‘government’s timidity’ and concluded that “that a sensible population policy for Australia would be to aim at stabilising the population within a generation or so and that this was quite feasible if net immigration of something below about 50 000 a year (say 100 000 migrants in gross terms) could be maintained. Population would then more-or-less stabilise somewhere between 19 and 23 million (depending on actual immigration) sometime before 2050.”

Now, Tony Burke is faced with twin challenges of developing a policy position on population that keeps enough people happy to keep him in government.

We can easily run through some of the options available to Minister Burke – stimulate or dampen population growth. I suspect he would also like to encourage migration away from capital cities due to the ‘obvious housing shortage’, but as far as I can tell the Federal Government has little power to influence such regional migration (maybe an income tax relaxation depending on how remote your residence?)

To stimulate growth we could increase migration intake, and encourage higher birth rates – maybe $15,000 per child would do it? Or Burke could moderate population growth by reducing immigration quotas and discouraging high birth rates (by removing the baby bonus or even having a ‘child tax’).

But which option is best for Australia? Are there strong economic arguments in favour of either higher or lower population growth? I would argue that on balance, economic principles strongly favour a declining rate of population growth (even a negative rate of population growth not a problem).

For a start, we need to discredit some of the nonsense economics floating around. Bigger is not better. China and India both have plenty of people, while countries with the highest per capita incomes and standards of living generally have fewer people. China has greatly reduced population growth with its one child policy and seen vast economic growth – shouldn’t China have failed to grow because its population stabilised? The map above shows a pretty clear inverse relationship between population growth rates and standards of living.

Nor is a comparison of population density meaningful in this debate, or we could argue that any region with a low population density is ‘underpopulated’ (like Antarctica or the Simpson desert) because we have compared the region to Hong Kong or the Netherlands.

One core economic argument in favour of a greater population is that utility theory suggests that a trillion people living in poverty and slavery are better that one million happy and fulfilled people, leading lives directed by their own desires. It is known as the repugnant conclusion. I doubt anyone believes this is a good outcome, nor is claimed to be a good reason for greater population – it just happens to be at the heart of economic theory and can spawn unusual conclusions.

A second argument appeals to economies of scale and suggests that with greater domestic consumption industries can expand to a point where they have economies of scale that make them internationally competitive. Why domestic population is currently a barrier to industry development is beyond me. If there are no artificial constraints on trade, shouldn’t the world be the marketplace of any industry even in its infancy? This argument only works if you couple high population with protectionism (the infant industry argument, which itself is often challenged).

A third argument, that may be the focus of this debate, is that the demographic shift towards a flat population pyramid means that the proportion of people in the workforce will be much lower, and that public welfare support for the elderly will become a burden on a smaller workforce. However, one does not need to think too hard to realise that stimulating population growth simply delays this inevitable demographic shift. We have known this shift was coming for decades yet have failed to act.  But it is not too late to implement solutions more practical than stimulation population growth.

Another argument is that of national security. Unless we have enough people, we won’t be able to defend our borders. To truly defend Australia from all others, how many people would we really need? 150million? More? This is a ridiculous argument and a reason we have strong allegiances with countries with large defence capabilities.

Apart from these arguments for high population growth over low growth or declining populations, Chris Joye cites the following reasons for a population minister, all of which have confusing and possibly contradictory implications

1) Australia’s long-term human capital requirements;
2) The ramifications of those population projections for real GDP per capita and public finances;
3) The infrastructure that will be required to support the population base;
4) How that infrastructure will be funded by the public and private sectors;
5) The consequences of the population expectations for the nation’s housing needs;
6) Where we expect to locate this new housing (i.e. in which cities), and hence our long-term urban plans; and
7) The inextricable linkages between new housing supply and infrastructure investment, where the latter is a condition precedent to ‘enabling’ new shelter.

My response would include such lines of questioning as:
- Why would our human capital requirements ever be greater than our human capital?
- Why would population change have ramifications on per capita measures of GDP?
- Would not points 3), 4), 5), 6) and 7) suggest a slower rate of growth is preferable?

My last challenge leads to the heart of the arguments against high rates of population growth. My (and many others) argument is that providing basic services for these new people diverts investment from new technologies that improve per capita productivity. Population growth inflated by policy wonks is a burden many of us would choose to live without.

Like my argument that housing investment does not improve productivity, simply expanding the scale of capital infrastructure (such as roads, water supply, electricity supply etc) to match the scale of the population does not improve our per capita productivity. This investment diverts labour and resources away from actual productive capital investments such as new manufacturing technologies.

A second economic argument against stimulating population growth is that a high fertility rate will keep women (and some men) out of the workforce for longer. If we are worried about the welfare burden on a smaller workforce, we should also be worried about so many parents out of the workforce, and the increased welfare burden from the children (their education and health costs).

My final argument against high rates of population growth is that environmental impacts of new land developments are difficult to assess. The faster our rate of population growth, the lower we will be our standards of environmental controls. New mines, new housing, new industrial areas and ports will all have environmental impacts. To preserve environmental amenity for the current population, we should be careful about these impacts and adopt a cautious approach.

And what of a declining population? Traditionally a population decline was the result of war or famine, but, as suggested here, that doesn’t mean population decline should always be in the disaster basket.

But if the causes are benign, what about the consequences? If the decline in the number of people is slower than the natural growth in productivity (or output per person), then the economy will still grow. For example, a modest population decline of 0.25% a year would reduce Britain's economic growth rate of 2.25% to just 2% a year. That's hardly a recession. The number of consumers may decline, but the growth in incomes-and export markets-will ensure that demand stays buoyant. Nor will there be a demographic crisis, with huge numbers of old people overburdening those of working age. Population decline also leaves fewer children to support, train and educate for the first 20 economically unproductive years of their lives. The dependency ratio of workers to non-workers is virtually unaffected whether the population is growing 0.255 a year or falling 0.25%. Adjustments to an ageing society-discouraging early retirement, moving from pay-as-you-go to funded pensions-will be necessary in any case.

A high rate of population growth, stimulated by policy wonks on the back of fallacious economic reasoning, is a social burden I am sure we can do without.