Joblessness and income inequality: has Australia taken the wrong turn?

All governments keep a sensitive eye on what is happening to inequality of incomes and inequality of opportunity because they want to be seen to be fair and because sharing the nation’s incremental prosperity helps bind the community together. But governments are also concerned about national productivity, because it is the key to prosperity and high real wages; and joblessness, because it causes economic waste, poverty and unhappiness.

These four policy targets are not always reconcilable with each other. Too much fiscal zeal in pursuit of egalitarian values can have disincentive effects on work and innovation. Excessive use of employment protection laws (EPL) - laws which restrict the rights of employers to set wages, dismiss employees, use casuals and so on - can deter employment of low-skill workers. Increased employment of “fringe” workers often requires some sacrifice of national productivity. And to pursue productivity without regard for its wider effects on quality of life and inequality is to lose sight of what society is all about.

To assess how governments have been responding to these policy trade-offs and challenges over the past 15 to 20 years, I have chosen four performance indicators - far from comprehensive but all important predictors of community happiness and cohesion:

1. income inequality - the share of GDP going to the lowest income quintiles;
2. income mobility - the degree of upward income mobility over one’s lifetime or relative to one’s parents, as measured by longitudinal studies;
3. productivity - measured either by GDP per hour worked or multi-factor productivity (which are better indicators than GDP per worker as the latter ignores cross-country differences in rates of investment and in work/leisure preferences); and
4. employment - measured as a proportion of working age population.

Governments differ as to the relative policy weight they give to each of these goals and the methods they use to advance them (in particular the role played by EPL). Among developed countries, there seem to be four distinct “social models”. The table below sums up how the models differ on scale and mix of redistribution (with relative number of stars implying no normative judgment) and the sorts of outcomes they have delivered (with most stars going to the best performers on the four societal criteria above).

What does the table tell us?

Model 1 is dominated by the US. Its overall scale of fiscal redistribution is at the low end of the spectrum, with relatively “flat” tax structures and low levels of income support and social investment. And it has relatively free labour markets, with little use made of EPL.

This model delivers very good economic outcomes but poor distribution outcomes, both in terms of income inequality and income mobility.

Model 2 has been embraced by countries like Britain, Canada, Ireland and NZ. Relative to model 1, income support benefits are more generous (although conditional) and there is a little more job protection. But the overall scale of redistribution, especially through EPL, is modest compared to models 3 and 4.

Model 2 can boast good economic outcomes but on income distribution and mobility it produces very mediocre results - although with less inequality than model 1.

Model 3 is found among the larger continental Europeans such as France and Germany and some of their neighbours. It redistributes on a large scale, making extensive use of EPL and unconditional income support.

This model delivers a more equal income distribution than models 1 and 2 but its performance on social mobility is only marginally better. Its productivity performance (properly measured) is about equal to that of the first two groups. But it performs poorly on employment - not as poorly as is often claimed by those who focus solely on official unemployment figures, but certainly well below par.