Productivity Commission report on childcare disappoints

Productivity Commission reports are generally hard-nosed. They also tend to be relatively tight-fisted as far as demands on the public purse are concerned, so that special pleads for subsidies are generally given short shrift by the Commission. In this context the recently released Draft Report on Childcare and Early Childhood Learning is disappointing because, despite identifying major deficiencies in existing policies, its recommendations seem unlikely to overcome many of the problems identified. The report also supports continuing major public expenditures on child care fee subsidies ($6.4 billion in 2014-15) despite lacking a proper economic justification for such outlays.

The main concerns expressed by the Commission about current policies for Early Childhood Education and Care (EREC), relate to unsustainable spending growth, the almost complete absence of market price signals to influence user demand, and a lack of services in non-urban areas.

The Commission's expressed concerns, taken virtually verbatim from the report, are that:

• Government expenditure on ECEC has increased by 80 per cent in real terms, since 2007-08and is expected in the forward estimates to continue rising rapidly, so that the fiscal sustainability of the current ECEC system is uncertain.
• This growth in spending has primarily been driven by growth in child-care fee assistance, which now constitutes one of the fastest growing major Australian Government outlays, and now constitutes around 90 per cent of total childcare and early childhood learning outlays.
• In aggregate, taxpayers contribute more to the fees than parents do. For the vast majority of children in care (95 per cent), at least 50 per cent of ECEC fees are met by government subsidies. For around 45 per cent of children, at least 70 per cent of their fees are paid by government, and for just under 10 per cent of children, at least 90 per cent of the fees are covered by government subsidies
• Some of the current demand for ECEC places has been created by prices which bear little relation to the costs of ECEC provision (because of fee subsidies and because of extensive cross-subsidisation by providers). The capacity of ECEC providers to respond to demand for places is also inhibited by regulatory restrictions on operations.
• Gross fees (the price that providers receive) are growing faster than the rate of inflation. A range of factors, including higher quality standards, are likely to have contributed to increases in user fees
• Tax concessions and state government subsidies provided to not-for-profit providers are likely to be causing distortions.
• The lack of services in rural and remote areas reflects insufficient or variable demand to support services similar to those available to in urban areas.

Added together these findings by the Productivity Commission come across as a damning assessment of existing programmes. Current policies appear to have brought about a high cost child-care sector that is over-used because fee subsidies shunt most of the cost from (mainly middle-class) users/parents and onto taxpayers.

The main recommendations of the report include replacing the current multiple childcare subsidies with a single fee subsidy that would be means tested and also be subject to an activity test of 24 hours of work, study or training per fortnight. Those with a family income of $60 000 or less would have 90 per cent of the cost of ECEC subsidised by the Government, reducing gradually to 30 per cent for those with a family income of $300 000 or more. The revised subsidy rates would vary from 90 to 30 per cent (instead of the current 90 to 50 per cent) for low and higher income earners respectively. More families on very low incomes are expected to pay less for their childcare than they do now, while high income earners would pay more. The fee subsidies would also be extended to cover nannies, who would be required to have formal qualifications. It is also recommended that school principals should be held responsible for ensuring schools offer before and after school care, including care for preschoolers.

The Commission also recommends retaining the National Quality Framework and extending it to other subsidised services, and diverting some funding from the PM's proposed Paid Parental Leave (PPL) scheme to ECEC, adding perhaps up to a further $1.5 billion per year to assistance for ECEC. It further recommends that National Quality Framework requirements for nannies should include a minimum qualification requirement of a relevant (ECEC related) Certificate III.

Overall, the report gives the impression that its recommendations represent only tinkering at the edges with existing policy. This may reflect that child care is a "women's issue" resulting in the Commission's usual economic rationality playing second fiddle to politics. Given the strength of the Commission's criticisms of current policies, more dramatic changes would have been expected, and a more "zero-based" approach to spending (considering each item on its merits without reference to previous practice or expenditure) would seem justified. This suggests that much more radical changes than those recommended by the Commission are needed to restrain the costs of the current childcare system from increasing at an unsustainable rate.

Some of the Commission's recommendations are naive. The notion of taking $1.5 billion from Abbott's proposed (but now shaky) PPL scheme is fanciful, given that the Senate has blown huge holes in the revenue side of the Budget. Similarly, the idea of providing before and after school care at preschools is not as easy as it sounds. State governments (who run the preschool system) are unlikely to be willing to bear the cost, while the half-day sessional system itself poses practical challenges for provision. Co-location of preschools and long day care centres (as occurs in some states) may be a better long term option.

The core issue seems to be that, while few would disagree with the need for child care to be available to working parents, child care fee subsidies have developed into a major but highly regressive form of assistance to families with children. Expenditures ($6.4 billion p.a. currently) have ballooned, and this expensive assistance mainly benefits better off (two income families). This is because low income (including single parent) families are much less intensive users of formal child care, and families where one partner stays at home completely miss out. The National Quality Framework ensures that formal child care in Australia is high cost, while high fee subsidies mean that consumers don't care about costs of provision as much as they should.

The report complains about the almost complete absence of market price signals to influence user demand. In reality such a situation is guaranteed in any market that is government subsidised at rates of 50 to 90 per cent. To quote the Report (p. 504) "in general, an efficient decision about how much ECEC to use requires families to face cost reflective pricing, even if they do not bear all this cost". It is hard to see how this can happen within the recommended fee subsidy regime.

While not explicitly stated, it is clear from the arguments presented in the report that the Commission justifies child care fee subsidies on the basis that they facilitate female labour force participation.

The reality is that professional women or those on medium to high earnings already have strong incentives to return to work, even in the absence of child care fee subsidies. There is a case for providing work incentives for those on lower incomes (especially those at risk of remaining on welfare), though there is an unmentioned risk at the lower end. For those on low incomes, the hourly cost of formal child care (about $8 an hour to provide) means that the gross cost of having two children in formal care would fully offset the gross returns from working for many women on low incomes. [A proposal to publicly subsidise travel to and from work to the extent that it exceeded daily earnings would be laughed at, yet current child care fee subsidies can induce workforce participation in cases where the actual cost of care exceeds the market value of the parent's labour.]

One alternative to costly formal child care is informal care (e.g. by relatives), which may also be more readily available for those of lower socioeconomic status. If, however, such parents receive child care fee subsidies of up to 90 per cent, the monetary incentive to use less costly alternatives largely disappears.

One finding of the report (Draft Finding 6.4) has received less attention that it deserves (including in the Commission's recommendations). "Secondary income earners in couple families and single parent families with children under school age could potentially face a significant disincentive to work between 3 to 5 days a week due to high effective marginal tax rates from the cumulative impact of income tax and the withdrawal of childcare assistance, Family Tax Benefits and the Parenting Payment." It also noted that " around 38 per cent of Australian couple families have one parent working full time and one parent part time, compared with an OECD average of 24 per cent."

In my view a key barrier to full time female labour force participation lies in our income tax system, which offers a particularly generous tax-free threshold (no tax to $18,200) followed by some savage marginal tax rates. The marginal rate becomes 34.5 cents in the dollar (32.5 cents plus 2 cents Medicare levy) when incomes reach a modest $37,001. Other countries tax systems generally provide much less incentive to work part time. No wonder so many mothers choose to work part-time in this country.

An alternative method of restoring incentives (for all taxpayers not just working mothers) would be to move in the opposite direction to that recommended by the Productivity Commission and cut back on unnecessary public spending, especially on the middle class. This would require greater individual responsibility but would allow for lower levels of taxation and permit taxpayers to spend more of their own earnings themselves.

It should be the responsibility of all but the most disadvantaged of parents to themselves bear responsibility for the care of their own children. Current policy, seemingly endorsed by the Productivity Commission, involves the Government bearing much of this cost burden.

If there is widespread acceptance that paying for the care of young children, while their parents go to work, is a government responsibility then where do we stop? The next stage is pet owners demanding that it is a Government responsibility to take their pet dogs for a walk, and look after them when the owner goes on holidays!