The New Zealand Health Reforms in Context

This entry was posted in Governance, Health, Political Economy & History on 28th June 2002 by Brian Easton.

Published in Applied Health Economics and Health Policy. Final version of the article.

Keywords: Governance; Health; Political Economy and History

Abstract: The New Zealand health sector reforms of the 1990s have to be seen in the context of the long term development of the New Zealand health system. The evolutionary change between 1938 and 1990 was abruptly replaced by the revolutionary policy of commercialisation from 1991 to 1993. …

… This proved unsatisfactory, with the promised benefits such as significant productivity increases not occurring. In some ways the system functioned even more imperfectly, although this was in part due to the funding cutbacks which took place at the same time. The policy shifts from the mid 1990s have largely taken the New Zealand health system back to where it would have been, had the evolution up to 1990 continued. There remains unfinished business, the largest of which is that the tensions between the managers and the health professionals have not been resolved. The New Zealand experience provides strong evidence that comprehensive commercialisation – business practices within, market relations between institutions – will not make a significant contribution to the design of effective health systems.

Introduction

Toni Ashton’s (2002) account of the reorganisations of the New Zealand public health system in the 1990s requires a background of the developments which preceded it. In particular, what may appear in decadal terms to be a couple of bouts of reforms, really involved a set of revolutionary reforms with a commercialist intent in the early 1990s, followed by a return (a counter-revolution) to the long-term incremental changes, which had been going on since the 1930s when the New Zealand government began to take over the previously private and part-charitable health system.

The reforms of the early 1990s, like many other New Zealand reforms of the time, thus becomes an experiment – albeit one driven by the ideology that there would be substantial efficiency gains from the uncritical application of business practices. Although there was very poor monitoring and evaluation, it is clear they failed, providing strong evidence that the underlying theory that commercialisation works in a health system has grave weaknesses.

The development of the New Zealand public health system to 1984

The initial plans in the 1938 legislation for the almost total nationalisation of the system were never completed – in part because of private sector resistance, especially by general practitioners (Lovell-Smith 1966; Sutch 1966; Hansen 1980; Easton 2001, p 109–12). It was underpinned by the implicit belief that there was a finite quantity of health care to be delivered, an assumption that was undermined by the post-war explosion of technological innovations in medicine, which placed an increasing pressure for public funding (Cooper 1978).

The response to the incomplete reforms and the innovations was incremental (Bowie and Shirley 1994). Eventually in 1974 the (Labour) government issued the White Paper, A Health Service for New Zealand, whose conclusions are summarised by ‘in short, the fragmented pattern of health care delivery means that New Zealand lacks a national health service’ (New Zealand Government 1974, p 75). It set down three principles which were present in the reforms of the late 1980s and the late 1990s but not, as we shall see, of those of the early 1990s:
– that the community, acting through the State, has a responsibility to provide for the health needs of its members
– that the lines of administrative control of health services should follow finance to its source
– that health services should be organised on a basis so that their administrative districts should be capable of meeting the health needs of the community.

And it added three further principles to reflect the evolutionary needs of the health services …
– that the various components of the health service should be functionally integrated
– that the future development of the health service should be rationally planned
– that there should be a national health service.
(New Zealand Government 1974, p 83–4.)

The White Paper proposed 14 Regional Health Authorities (RHAs), replacing the 30 existing Hospital Boards (HBs), which ran the public hospital system and whose existence reflected history rather than population or administrative rationality. The largest HB was Auckland serving more than 800 000 people while the smallest, Maniototo, served just 2600. The new RHAs would be more accountable for their funds which came almost solely from central government They would take responsibility for various providing then carried out by the Department of Health, such as population based health and psychiatric hospitals. They would also be better integrated with primary care services, generally provided by independent general practitioners who were subsidised by the state on a per visit basis, with an additional charge to the patient, plus (generally) free-to-the-patient subsidised pharmaceutical and laboratory services.

There was significant resistance to the proposals from localities, which feared the loss of the local HBs would mean the loss of the local hospital, and from general practitioners and other private sector doctors who saw the changes as a threat to their professional independence and their privately sourced remuneration (that is, a rerun of the concerns of the 1940s). The National government, newly elected in 1975, formally abandoned the proposed reforms.

However, the Department of Health continued with the proposals where it could, including an experimental development of an Area Health Board (as the new institution was now called) in Northland. But the HBs and the primary care integration remained largely untouched. The traditional method of proportional increases of public funds to HB could not cope with differential population growth between regions and variations of health need within populations. Methods to better share the available funds were developed, and a reallocation process began in which the underfunded were given a greater share of the additional resources.

1984–1990

The first term of the third Labour government, elected in 1984, was largely concerned with incremental change and consolidation, but two major reports concerned with structural issues were commissioned. Choices for health care is an options paper concerned with alternative approaches to health benefits, the most contentious of which was the funding of general practice (Health Benefits Review Committee 1986). The second major report, Unshackling the hospitals, is discussed below.

In its second term, the Labour government reorganised the public delivery system in the spirit of the 1974 White Paper, modified by the lessons learned in the intervening years. There were 14 Area Health Boards (AHBs), which were responsible for public hospital and population based health care. The boards to which the chief executive reported were two-thirds elected, continuing the practice of local representation of HBs, and one-third appointed by the minister to ensure that there were the skills for the management of the complex agencies the HBs had become. Although the halving of the districts was radical, most of the changes were incremental and based in part on lessons learned in the intervening 15 years. The intention was there would be further experiment and change. For instance within the (now) Ministry of Health, increasing attention was being given to defining what services the Boards were expected to provide, moving towards a separation of funding from provision.

New problems were arising. The Māori, the indigenous people of New Zealand argued, with some justification, that the majority-focused institutions overlooked the characteristics of the ethnic minority. Secondly and more technically, the State Sector Act 1988 and the Public Finance Act 1989 intended to regulate the core public sector, had also to be applied to the public health sector. It soon became clear that the balance sheets of the new entities were inadequate, with assets valued at historical cost, excessive debt at high interest rates and great variation between different HBs, which would complicate, among other things, the funding formula.

A third problem was the public’s demands for more public health care in a tight fiscal environment, brought about by a stagnant economy. Confusion arose because improper deflators (the consumer price index) in a highly inflationary environment appeared to imply that the government had markedly increased its funding of public health without any marked improvement in outputs. In fact, the additional funds had been absorbed in higher pay (a consequence of an economy-wide pay freeze a little earlier, which had been particularly onerous on public sector employees). Thus, there had been no significant increase in available resources and, not surprisingly, no significant increase in health care outputs either (Scott 1990; Easton 1988).

The commercialisation reforms of the early 1990s

The Labour government lost power at the end of 1990. The incoming National government was elected on a platform of continuing incremental change, but abandoned this strategy for a radical reform, whose ultimate destination appeared to be the privatisation of both the funding and delivery of the public health system (Easton 1997, p 156–64). Funding was split from providing with four Regional Health Agencies (RHAs) charged with purchasing health care services from providers on a (broadly) competitive basis. This meant that the public providers no longer had privileged access to public monies over similar private providers (a small private hospital sector having continued and expanded since the 1940s). The AHBs were transformed into 23 Crown Health Enterprises (CHEs) which were to be run on commercial principles by boards of government-appointed (mainly) business men and women. The 23 CHE structure was not a move back to the 30 HB pattern, since in the three main cities a total of seven CHEs were established, presumably to allow the RHAs to have a choice of public funder in those regions. To facilitate the CHEs’ behaving as private corporations, as was required, there was a reconstruction of the balance sheets, with the central government taking over much of the debt left over from the AHBs.

It was hard, even at the time, not to see the primary driver of the reforms as ideological, for the commercialist (neo-liberal) philosophy was then rampant. In so far as there was a pragmatic justification, it might have come from the earlier report, Unshackling the hospitals, which had commissioned Arthur Andersen, the Chicago accounting firm, to evaluate the efficiency of the public hospital system. The data were never released, so it has not been possible to verify the results or even the methodology. This latter seems to have been to look, procedure by procedure, at the lowest cost HBs and calculate the cost savings if all hospitals operated at that cost level. If so, there has been no allowance for case mix, for different costing procedures by hospital (eg in terms of the allocation of overheads – a hospital might appear to be low cost in one procedure and high cost in another because of its accounting conventions), whether the low cost hospitals were medically effective, or the degree of cost shifting to the private sector that was involved (as when patients are discharged too early). The average length of stay used in the calculations used long-stay patients (Devlin 2002). The consultants concluded that costs could be lowered by between 24% and 32% of current operating expenditure if these ‘best’ practice costs were attained (Gibbs et al 1988; Arthur Andersen 1988).

But even were the estimates reliable, the report’s conclusions that the ‘efficiency’ gains would be attained by managing hospitals on business principles did not logically follow. It is not theoretically obvious, and no empirical evidence was provided (like low cost hospitals followed business practices and high cost ones did not, or that the private sector hospitals were lower cost than public sector ones). Even so, the mantra to justify the reform of the early 1990s was in terms that making the public hospital system more business-like would give productivity gains of 20% –30% percent. Such gains would be very attractive in a time of fiscal austerity, since the same funds would produce more health care outputs.

On these promises the reforms were rushed though in less than two years. This was an achievement all the more impressive because, in order to avoid ‘professional capture’, the agencies which administered the reforms hardly involved the Ministry of Health or any reputable health economists and associated professionals. This made it easier for the advocates to give more outrageous promises out of ignorance. For instance, specific productivity improvements were promised, but they had already been implemented in the old system. (Easton 1987, p 169)

In fact, limitations were seen in the reforms from the beginning. Rather than a white paper, they were announced in the Green and White Paper, Your health and the public health (Upton 1991). This declared some decisions (like in the White Paper), but other decisions – especially funding ones – were set forward for public discussion. Presumably, cabinet was uneasy with the proposals for funding, which would have led to private insurance outcomes. Cabinet’s caution was justified by the overwhelming public rejection of any of the proposed changes earmarked for discussion, and they were never pursued. Private collateral payments for public hospital care were briefly imposed and then withdrawn, following public resistance and payment boycotts.

More progress was made on the provider side of the reforms with the business oriented CHEs beginning on 1 July 1993. This involved considerable internal upheavals, only a few years after the lesser ones from the AHB reforms. Many experienced administrators were made redundant, walked out, or took jobs in Australia (a hard currency demonstration of their competence even if it was not appreciated by the new management). The majority of the new chief executives came from outside the health sector, and appointed generic managers who were equally inexperienced. Few stayed more than three years – perhaps the task proved much more difficult that they expected. (Easton 1997, p 165–72)

The reforms were expensive, with estimates ranging between 2% and 10% of the total annual health vote. There was also a perception that they added more layers of management, one at the RHA level and another between chief executives and clinicians.

The promised productivity improvements did not occur, and there has been no evidence of the sector’s productivity increases accelerating. The public were deeply suspicious of the reforms, seeing them as an attempt to ‘privatise’ their much trusted public health system. The dissatisfaction may have been exacerbated by cost-shifting. There is not the space to list all the problems associated, sometimes unfairly, with the reforms. The bottom line was that the public saw difficulties and threats, but no significant gains. The situation was exacerbated by the government cutting the public funding on health relative to gross domestic product (GDP) from 1991/2 to 1995/6 (Devlin 2002). From a seemingly impregnable parliamentary position after the 1990 election, the National Party almost lost the 1993 election. Immediately after the election the Prime Minister, Jim Bolger, opined that the health reforms were the major reason for this, although undoubtedly some of the other reforms and the weak state of the economy made a contribution.

Reversing commercialisation

At an early stage in its new term the National government began, as surreptitiously as it could, to modify the public health system, softening and even reversing its changes. Initially the responses were reflexive, but by 1996 the government began talking about how the system was evolving to where it would have been had there been no reforms. Government spending on health was increased sharply in the 1996/7 (election) year, and the Minister of Health promised that, if his government was returned, it would reduce the four RHAs to one Health Funding Authority (HFA), combine the portfolios of Minister of Health and Minister for CHEs (which were a part of the funder-provider split) and reduce the number of CHEs by about half (a policy issue still to be addressed). This backdown was reinforced when, after the election, National formed a coalition government with the New Zealand First Party. The latter insisted on policies which further shifted the system away from its commercialist stance towards the track that it would have followed had the 1989 reforms continued. Additionally, there was another large increase in public spending on health in the 1997/8 year and continuing high levels after (Easton 1989, 1999; Devlin 2000).

The shift continued with the Labour-led coalition government, elected in 1999 and headed by Prime Minister Helen Clark, who, as the Minister of Health, had instigated the 1989 reforms. District Health Boards (DHBs) as they were now called, were two-thirds elected, and one-third appointed as before 1991. The HFA was absorbed back into the Ministry of Health, giving a system close to what might have been envisaged had the commercialisation reforms not been attempted in the early 1990s. There were further increases in public spending on health, in effect reversing the cuts of the first half of the 1990s to the prior trend relativity as a proportion of GDP.

Unfinished business

Because incremental development of the public health system is now accepted, there are a number of acknowledged issues to be addressed. A major one is that the primary and secondary sectors are still not integrated. There was some development in the 1990s, but the DHBs have been charged with this objective. It seems unlikely that the 21 DHBs can find a national solution and, repeating their fears of the 1940s, many general practitioners see excessive state interference. The role of the private secondary sector is uncertain. Private surgical hospitals flourished under the RHAs and the HFA who contracted them for certain procedures. That seems less common under the post-1999 regime, and some private hospitals may be in financial difficulties. Private medical insurers also seem to be suffering, with their market share falling from about one-in-two New Zealanders in 1991 to about one-in-three today. This is apparently because one effect of the reforms was to raise the price of health insurance, and New Zealanders chose to opt out. More generally, the problem of public demand for health care exceeding the public funds available, and rising with the introduction of new expensive medical technologies, remains as unresolved in New Zealand as elsewhere in the rich world.

Another implication arises from the sacking of managers who ran the system before 1993. Their expertise and the institutional memory were lost, and they were replaced by a new cadre, many of whom are generic managers with little knowledge of the health system or health care. There may also have been an increase in the numbers of managers. In one DHB there is one manager for every consultant. An even bigger cost may be the resulting tensions between the new managers and the health professionals, with the professionals mistrustful and the managers not comprehending their problems. As one illustrative anecdote, a manager reduced the number of beds in a ward without consulting the professional staff: two of the ward’s professionals resigned as a consequence.

The issue of managerial–professional tension goes back to the state sector reforms of the late 1980s, and is not peculiar to the health sector. However, it is perhaps more acute because of the expertise, authority and power of the medical professional. Essentially it involves a conflict between two paradigms – one from the ‘scientific’ management/school of management approach with its emphasis on external control, hierarchy and accountability, the other from the human relations approach which gives great emphasis to internal self-discipline, collegial networks and responsibility (Etzioni 1964; Mannion and Goddard 2002, p 20). Each has merit and, undoubtedly, good governance is a nice mix of the two. But the commercialisation reforms imposed ‘scientific’ management over the health professionals, with resulting underlying tensions which occasionally result in direct conflict. The investigation of the Accident and Emergency Department of Canterbury Health Ltd by the Health Commissioner was one of the most prominent consequences of such a conflict (Health And Disability Commissioner 1998).

Extraordinarily, there is little evidence of any real gains from this new management style. Note, for example, the failure of the CHEs to stay within the funds allocated to them. Almost all ran financial deficits which would have bankrupted the private sector corporations they were meant to be modelled on. Apparently even the hard-headed and experienced business men and women on the CHE boards, and the business executives they appointed, were unable to restrain the health professionals and the public to keep within the financial caps of external funding. The health professionals’ and popular vision is that health services should be delivered on the basis of need, with little regard for (the resource) costs. There is still no coherent integration of the clinical decisions that the professionals take and the resources they use. The commercialisation reform’s attempt to generate one by imposing managers who could control the professionals and their use of resources failed because the professionals’ expertise and ethics overrode those controls.

The call to impose business methods on public institutions goes back almost a century in New Zealand (Henderson 1990, p 37). Commercialisation involved the assumption that putting managers under market pressures would encourage business-oriented managers to eliminate inefficiency. The record is that the application of commercial methods to the New Zealand health system in the early 1990s largely – and spectacularly – failed. One is reminded of the aphorism that, even supposing there was a higher rate of inefficiency in the public sector than in the private sector (which is unproven), the fat is stippled through like in prime beef, not in layers as in mutton.

There is no magic way to remove such inefficiencies that exist. Any resolution probably involves a combination of shrewd controls by managers and a commitment from professionals who use the resource. Current arrangements seem unlikely to generate that commitment.

Lessons from the New Zealand reforms

One negative lesson of the 1990s experience is that this sort of commercialisation is unpopular with the public (although with a little more care there could have been less antagonism) and with the professionals involved. It also failed to deliver the promised benefits – it is possible that it did not deliver any health benefits at all – while the disruption from the change resulted in health dis-benefits (including higher costs and therefore less production of medical outputs).

However, the commercialisation reforms solved a couple of problems which did not, until then, have an obvious solution. The conversion of the AHBs into legal corporations enabled the HBs to be put on a viable financial footing (albeit by the central government taking over most of their debt). Meaningful balance sheets provide financial discipline for managers, and enable some (limited) assessment of their performance. The other gain was that the change freed up the pay rates for professional staff. Without this, the system would have been unable to pay internationally competitive rates and even more medical professionals would have migrated. One of the sources of financial success of other commercialisations in New Zealand has been the cutting of pay and conditions of workers. This was not possible with internationally mobile health service workers.

It seems likely that another long-term detrimental effect of the commercialisation reforms was that the ensuing mismanagement of health services resulted in unnecessary deaths. Documented cases include the under-staffing of an emergency service and deaths from cross-infection as a result of overcrowding in wards. Both cases were the result of management initiatives overruling professional judgements. (Health And Disability Commissioner 1998; Quaintance 2000) There are probably other examples of inferior health outcomes as a result of the reforms, and a growing backlog of unprovided care in the 1990s, which may well have long-term health consequences. However, some of this may be better attributed to the cuts in public spending rather than the structural reforms themselves, although the cuts were in part justified by the promised productivity gains that never materialised.

It could be argued that the commercialisation of the New Zealand health system was badly managed, and that an introduction of a business approach inside the institutions, and market relations between them, which are more practical and less ideological, would lead to fruitful improvements. From this perspective, the New Zealand experience is an example of how not to undertake reforms. But there is so little evidence of any gains from commercialisation that it seems unlikely that even with appropriate implementation the policy has a major contribution to the resolving of the problem of designing effective health systems. The experiment is New Zealand’s gift to the international study of health systems: New Zealanders paid its cost.

References

Arthur Andersen and Co. 1987. Public hospital performance assessment. Report to the New Zealand Department of Health. Available from the Ministry of Health.
Ashton T. 2002. ‘Running on the spot: lessons from a decade of health reform in New Zealand’. Appl Health Econ Health Policy, 1:x–x.
Bowie R, Shirley I. 1994. Political and economic perspectives on recent health policy. In Spicer J, Trlin A, Walton J, eds. Social dimensions of health and disease: New Zealand perspectives. Dunmore. p 298–322.
Cooper MH. 1978. ‘An economist’s perspective’. In Cooper MH, Shannon PT, eds. A new health service for New Zealand? Otago: Department of University Extension, University of Otago. p 34–40.
Devlin N. 2002. The Public Private Mix of Benefits: New Zealand. Kings Fund, London.
Easton BH. 1987 Oct 31. Faulty figures, New Zealand Listener. p 94.
Easton BH. 1997. The commercialisation of New Zealand.AUP.
Easton BH. 1999. The whimpering of the state: policy after MMP. AUP.
Easton BH. 2001. The nationbuilders. AUP.
Etzioni A. 1964. Modern organizations. Prentice Hall
Hansen E. 1980. The politics of social security. AUP
Health Benefits Review Committee. 1986. Choices for health care Government Print.
Health and Disability Commissioner 1998. Canterbury Health Limited: report by the Health and Disability Commissioner (Stent Report). Wellington.
Henderson A. 1990. The quest for efficiency: the origins of the State Services Commission. Historical Branch, Department of Internal Affairs.
Hospital and Related Services Taskforce. 1988. Unshackling the hospitals (Gibbs Report). Wellington.
Lovell-Smith JB. 1966. The New Zealand doctor and the welfare state. Blackwood & Janet Paul.
Mannion R, Goddard M. 2002. Performance measurement and improvement in health care. Appl Health Econ Health Policy, 1:13–23.
New Zealand Government. 1974. A health service for New Zealand (The White Paper on Health). Government Print.
Quaintance L. 2000. ‘Is our health system safe?’ North and South, November:38–52.
Scott WG. 1990. ‘A note on trends in area health and hospital board real expenditure’. NZ Econ Papers, 25:127–30.
Sutch WB. 1966. The quest for security in New Zealand: 1840 to 1966. OUP.
Upton S. 1991. Your health and the public health. Wellington: Minister of Health.

Does Professionalism Matter? (NZIPA Paper)

This entry was posted in Governance, Health on 27th June 2002 by Brian Easton.

Paper for the AGM of the New Zealand Institute of Public Administration, 27 June 2002.

Keywords: Governance; Health

Graham Scott’s Public Sector Management in New Zealand includes a half-hearted account of the views expressed in my The Whimpering of the State: Policy Under MMP in which he says ‘Easton makes the extraordinary claim that reformers ignored, or sought to undermine, the personal responsibility and professionalism of the core public sector.’ I am not sure I went that far, but I did report Alan Schick’s concern that there appeared to be an unaddressed tension between the reform’s managerialism with its emphasis on accountability, and professionalism which emphasises responsibility.

The diagram immediately below summarises Schick’s analysis into two columns. Unfortunately they wont fit in simply to the text format so I have put one above the other.

PUBLIC SECTOR MANAGEMENT THEORY
vs NEW INSTITUTIONAL ECONOMICS
↓

MANAGERIALISM
vs CONTRACTUALISM
↓

Managers cannot be held responsible for results unless they have the freedom to act.
vs People act in their own self-interest.
↓
Personal responsibility
vz Accountability
↓

A personal ethic, a commitment to do one’s best, a sense of public service.
vs An impersonal quality dependent on contractual duties and informational flows.
(↓)

Not-for-profit
vs For-profit

The left-hand column shows public sector management theory leading to managerialism, where managers are given the freedom to act and are held responsible for the results, and in which personal responsibility and a personal ethic are expected of them.

The right-hand column shows the new institutional economics leading to contractualism, where people act in their own self-interest and they are held accountable, an impersonal quality dependent on contractual duties and informational flows. It was the latter that was emphasised in the 1987 Treasury PEB, but ‘clearly different conclusions might be drawn if the brief argued on different premises’.

Schick was concerned with the tension between the two modes of public sector management, and the possibility that contractualism undermines public managerialism, saying it ‘may diminish public-regarding values and behaviour in government’, including values such as ‘the trust that comes from serving others, the sense of obligation that overrides personal interest, the professional commitment to do one’s best, the pride associated with working in an esteemed organisation, and the stake one acquires from making a career in the public service’. The implication is the accountability of contractualism may sabotage the responsibility of managerialism.

The phenomenon is parallelled by the way which selfish behaviour may drive out altruistic behaviour. Richard Titmuss considered the best way of obtaining a good supply of quality blood for medical purposes at the least social cost. Economists might argue that commercial relations work best. However, Titmuss showed that voluntary donations of blood resulted in better quality and a cheaper supply. Moreover, if some blood supply became commercialised, with donors being paid, voluntary donors were discouraged, so that there is a deterioration in quality of supply and a rise in its cost.

Schick was here last year, and I asked him about the tension between these two modes of public administration. He said he was ‘troubled’ by it. This paper is my attempt to tease out the troubling tensions.

Dichotomies appear in a number of places in management theory. In his Modern Organisations Amitai Etizioni contrasts the ‘scientific management’ approach with the ‘human relations’ approach. Scientific management emphasises a pyramid of control topped by a single chief executive, with a need to provide mechanisms to ensure that those at lower levels do what is required. The expression ‘scientific’ is not particularly accurate, and sometimes the literature calls it ‘Taylorism’ or ‘the traditional approach to management’.

The human relations approach was a reaction, arguing that effective work processes require a more decentralised management style, in which social norms and non-economic rewards are crucial, and collegial relations important.

Another organisational specialist. Douglas McGregor, writing about the same time, used the more neutral terms of ‘Theory X’ and ‘Theory Y’, but they parallel Etzioni’s. McGregor’s Theory X is characterised by the assumptions:

1. The average human being has an inherent dislike of work and will avoid it if he [sic] can.

2. Because of this human characteristic of dislike for work, most people must be coerced, controlled, directed, threatened with punishment to get them to put forth adequate effort toward the achievement of the organisational objectives.

3. The average human being prefers to be directed, wishes to avoid responsibility, has relatively little ambition, wants security above all.

(Note how Theory X has the overtones of the primitive assumptions of human behaviour which drives the simplest economic theories – of humans inherently disliking work and requiring rewards to compensate them for it – and which pervaded the Treasury 1987 Post-election Briefing.)

He sets down six assumptions for Theory Y.

1. The expenditure of physical and mental effort in work is as natural as play or rest.

2 External control and threat of punishment are not the only means of bringing about effort towards organizational objectives. Man will exercise self-direction and self-control in the service of objectives to which he is committed.

3. Commitment to objectives is a function of the rewards associated with their achievement.

4. The average human being learns, under proper conditions, not only to accept but seek responsibility.

5. The capacity to exercise a relatively high degree of imagination, ingenuity, and creativity in the solution of organizational problems is widely, not narrowly, distributed in the population.

6. Under the conditions of modern industrial life, the intellectual potentialities of the average human being are only partially utilized.
D. McGregor The Human Side of Enterprise p.33-34, 47-48.
It is not my thesis that public sector reforms of the late 1980s are solely underpinned by Taylorism or Theory X but the notion of accountability is heavily influenced by them, while the human relations and Theory Y are related to the problem of responsibility which was troubling Schick.

In particular contractualism tends to require the pyramid of control with coercive mechanisms to ensure that those at lower levels to the achievement of their organisations’ objectives. The impact of Theory X is palpable. (In passing we note Isaiah Berlin’s puzzle that the central paradox of modern thinking about liberty is that it is often those most attached to freedom as a political value who ended up supporting ideas or measures that reduced its sphere or sought to extinguish it. )

By contrast, the behaviour which the human relations approach, Theory Y and public sector managerialism imply is a decentralised management style, in which social norms and non-economic rewards are crucial, and collegial relations important seems to be getting lost in some parts of the public sector.

Dichotomies are dangerous. Moreover, by going back forty years of organizational theory I have failed to represent the more recent developments which complicate the reality. But tonight I am putting forward these sharp differences to stimulate a discussion on the two modes of public servant governance which Schick sets out.

Do we need such a debate? There seems to be a complacency. Curiously – I will not say ‘extraordinarily’ – Scott’s book does not provide much evidence that professionalism is a central concern, for its few mentions are desultory. There is more concern about ‘professional capture’, the danger that professionals will administer the system in their interests rather than the wider public good. Or consider the State Services Commission report, Review of the Centre, on how the core public service should be managed. It uses the ‘accountability’ notion 36 times, but ‘responsibility’ gets only 14 mentions, and ‘professional’ a mere four. One is left with an uneasy feeling that the core public service may be moving away from notions of professionalism and individual responsibility.

This is not to say there have been no gains from the reforms. The contract or statement of intent with the minister often means that a public agency is far clearer about what its tasks are, although even here there is a loss. Traditionally the public service had a longer view than the politicians, but today that seems limited by the contract. Perhaps it could be resolved by including a statement to the effect that the Minister wants the department to create a capability to provide advice on matters which are not immediately on the ministerial policy horizon.

There has also been a major gain in that there is far better fiscal control over departmental spending. There remains the occasional blowout, but my impression that this is less common than before 1984.

How to maintain these gains and yet encourage professionalism and its attendant behaviour remains a major and troubling challenge to the public sector. To illustrate the problem, consider the severe tensions between managers and professionals in the public health system.

By way of background, the claim that business practices would improve public sector performance goes back almost a hundred years, when an MP and later cabinet minister, Alexander Herdman, advocated ‘scientific management in business and business methods in government’. (A. Henderson, The Quest for Efficiency: The Origins of the State Services Commission, p.38.) Among the many repeatings of this demand was in the 1988 Gibbs report Unshackling the Hospitals which made the spurious claim that there were substantial productivity improvements to be made by the introduction of business like management practices into the public hospital – gains of 22 to 30 percent gains were explicitly mentioned, although the evidence was thin, and never verified.

There had been a shift in the meaning of business management in the 80 years since Herdman, for now businesses were meant to be put under the pressure of market competition, which aimed to force the managers to seek maximum efficiency. So in the early 1990s, there was imposed on the public health system a revolutionary reform, central tenants of which was the introduction of business practices in a competitive environment or, rather, as competitive as was possible in the particular circumstances of health care. The public administration parallel to ‘marry in haste, repent in leisure’ is ‘reform in haste and undo the reforms painfully over a long period’. Most of the health reforms have been undone, but there remains the culture of business management in the public hospital system, typically involving generic managers who have come from outside and are not very knowledgeable about health care.

It is surprising that this culture of management is still there, since it has manifestly failed. There were no significant productivity gains from the reforms, and the new governance institutions, modelled on private corporations made losses which would have been quite unacceptable in private business. The new managerial hierarchies may be good at creating corporate plans and mission statements, but while the impending shortage of radiation therapists to treat patients was known as far back as 1998, it took last years’ crisis for any action to be taken. What does that say of the strategic capacity of health sector managers?

Even more worrying though, is the evidence of poor relations between the health system managers and the health professionals. Most is anecdotal, although everybody seems to accept the tensions exist and are deeply problematic. There is one systematic study which suggests that in at least one place there was deeply divisive relations within a hospital which led literally – to the deaths of patients. The 1998 Stent report suggests that the difficulties in an accident and emergency department appear to be the result of poor management and the underresourcing of the service. ( Health and Disability Commissioner Canterbury Health Limited: Report by the Health and Disability Commissioner Wellington, 2000).

It could be argued that this was a unique event, but it has also been publicly argued that in Wellington Hospital there was a similar underresourcing of beds, the effect of which was to increase the rate of cross-infection, again with consequential deaths. (L. Quaintance, ‘Is Our Health System Safe?’ North and South, November, 2000) More recently a doctor complained to me that a manager had closed beds in his ward without any discussion with the staff involved. He was not questioning whether the beds should have been eliminated – how could he know all the issues if he was not informed? His concern was the lack of consultation, for under this managerial regime those lower in the hierarchy need not be involved, even though the upper level managers do not have the professional competence to evaluate the effect of a decision on patients.

Perhaps not surprisingly, two health professionals have left the ward as a result of the failure to consult. I get the impression that the general dissatisfaction is reaching the point among so many health professionals that they are contemplating leaving the service and seeking work overseas. The major costs of the tension may not be just direct deaths and poor quality health care, but those further down the line as the lack of competent health professionals adds to the waiting lists, the lack of care, and the lack of early intervention.

If you believe Theory X, you will argue our doctors and nurses are underpaid internationally, and the problem of the shortage and the drain could be resolved if they were paid more. There is some truth in that, but Theory Y says that they have to be offered good working conditions too. (Indeed it might argue that good working conditions would reduce the amount they would have to be paid.) Good working conditions cover a more decentralised management style, in which social norms and non-economic rewards are crucial, collegial relations are important, and the work process involves self-direction and self-control. It is driven by an ethic of public service responsibility, not contractualist accountability.

This is not to say that the managerialism of accountability has no role. It was imposed because health professionals can be wasteful of resources. It is partly a matter of their work culture, with its commitment to the particularities of the patient, to neglect of the wider allocation of resources. There is much to be said for such a commitment. It is the professional and responsible doctors and nurses who grieve over unnecessary deaths and poor quality care of their patients. Their concern was sufficient to force the enquiry about the emergency services at the Canterbury Health Ltd. The trouble with accountability is that one can walk away from the problem because one met one’s accountability commitments and no personal responsibility was involved.

Even so, health professionals have to increase their responsibility for the resources they use. We were getting there. Over the years they became increasingly faced with the challenge. When I was teaching fifth year medical students, I would begin by writing on the board ‘UNLESS HEALTH PROFESSIONALS TAKE RESPONSIBILITY FOR THE RESOURCES THEY USE, SOMEONE ELSE WILL MAKE THE MEDICAL DECISIONS’. In a way that is what happened, for now managers make decisions, even when they have not the competence to decide on the number of bed a ward needs or the number of staff on call at an emergency centre.

Even so health professionals have been slowly taking up the responsibility for managing the resources. The prescribed medicines list introduced in the 1970s and 1980s, is an example of their increased responsibility for resources. It involves hospital doctors only using very expensive non-routine pharmaceuticals after consultation with their professional colleagues.

We had another outbreak of authoritarian managerialism in the proposal to create a complicated hierarchy of official committees over professional performance. The proposal has been dropped, but without addressing the problem. There is a need for improved management of failure by health professionals, but the approach needs to be based on Kaizen or continuous improvement, coupled with Total Quality Management where there is collegial responsibility at the lowest possible level. If the professions fail in that task, a more top down approach may be necessary. But that threat in an environment which emphasises responsibility and not just accountability should be sufficient to develop a comprehensive system of Kaizen.

Devolution is at the heart of all these issues. A better, if clumsier, expression is ‘subsidiarity’, which is based on the principle that decisions should be taken at the lowest possible level. Thus medical decisions need to be taken as far as possible at the clinical level, rather than having some manager determine the number of ward beds, without even consulting the health professionals involved.

Subsidiarity accepts the notion of hierarchical administrative systems, and it requires the clarity of institutional purpose that accountability emphasises. But at the heart of the approach is that of professionalism, of responsibility, of the trust that comes from serving others, the sense of obligation that overrides personal interest, the professional commitment to do one’s best, the pride associated with working in an esteemed organisation, and the stake one has in a professional career in the public service.

Subsidiarity is an integral part of the solution to the governance of the health system and – as it happens – also of the educational system, the research system, and the workshop floor. Does it also apply to the core public service? I do not get the same feedback of impending disaster from public servants that I get from health professionals, but I am anxious that two important publications of the last year seem to have ignored the troubling issue. Hence my raising the issue with you, for there can be few more appropriate forums than the NZIPA to begin the debate.

Innovation and Growth in Nelson

This entry was posted in Growth & Innovation on 26th June 2002 by Brian Easton.

Presentation to Commerce Nelson’s ‘Innovation Forum 2002′, 26 June.

Keywords: Growth & Innovation

It is indicative of the mood of the country that I have been attending more regional economic seminars in the last year or so, than I did in all of the 1990s. It probably represents both the government encouraging regions to develop themselves, and a sign of growing confidence in the overall economic direction. …

… But whatever the reasons, I have no doubt that the basis of successful regional development is the region collectively taking matters into its own hands in the context of good national policy.

One of the reasons I attend such gatherings is to find out how the regions are doing. I always ask ‘why this region’, Nelson or whomever, ‘should expect to prosper’? In the back of my mind I have the paradox of a government minister of thirty years ago who said his policy was that all regions should grow faster than average. (Perhaps I dont get invited to regions that will grow below average.) When pressed, the region is likely to say something like this.

We will prosper because
– we have a great community;
– it is a super place to live;
– it has a grand climate;
– there are a number of resource based industries which have strong prospects;
– tourism will flourish, so will the retirement industry;
– we have a well educated population and a strong educational sector;
– there are a number of innovative enterprises and research institutions;
– we have community coherence so we can get important things done.

Sound like Nelson? Of course. But it also sounds like every region I visit. We might ask what is special about Nelson, and the answer, which I will return to, is that nothing is special about Nelson – and everything.

Another way of tackling the issue would be to look at the weaknesses of your region. The cold harsh reality would suggest the following list:
– size. It is too small;
– poor location. It distant from its main markets;
– workforce. Poor technical qualifications in its middle and lower ends;
– various infrastructural deficits, including lack of key R&D institutions;
– industries which tend to be slower growing or commodity based (and hence subject to price fluctuations which generates local instability).

Before you get angry, have another look at the list. It is applicable to just about every region. It is even applicable to the New Zealand economy. The strengths and weakness identified for our regions apply to the economy as a whole. Since the single most important influence on the success or otherwise of the Nelson economy will be the success or otherwise of the New Zealand economy, it is worth reviewing the prospects of the national economy.

We have had a tough 35 years. The wool price collapsed at the end of 1966 and never really recovered. The economy, whose export receipts were once third from wool, has had to do a lot of adjustment as a result. Meanwhile the international economy moved on. There is a sense we have been so preoccupied with the adjusting to the external shock of 1966 we have not kept up with those changes.

Today I think we can claim to have finally got some things right.
– the fiscal position is under control, with the government accounts running a surplus and one of the strongest public balance sheets in the world, with as good quality public financial records as anywhere in the world and substantially better than most, and with a tax structure which would be envied by most (even if we are still disputing its levels).
– a price system which conveys meaningful information about the underlying resource usage, although there are still some concerns with the interaction between monetary policy and the exchange rate via interest rates.

These have been hard won gains, although perhaps we should not have taken all of three decades to make them.

Additionally, and more recently, there has been the recognition that while the integrity of the price system as a signalling device must not be compromised, in a number of key economic areas it does not function well. That implies that some intervention may be effective. The areas which the government has paid attention to are in education and the acquisition of skills, and in research and development. It will continue to feel its way, and perhaps also extend these non-price interventions in a limited way to some other areas – such as infrastructure – but always keeping as much as possible of the price mechanism intact.

However, the government has recognised that while these gains provide a necessary foundation for economic progress, more has to be done. The notion here is that the economy has to be ‘transformed’. But a dynamic economy is always transforming itself so what sort of transformation?

The single most crucial issue which faces New Zealand – which has always faced New Zealand – is its engagement with the world economy. In practical terms its survival depends on its ability to obtain and use wisely foreign exchange. I dont have time to go through all the issues, so let me focus on the structural-production issues which impact most on regions.

Historically, international trade was based upon the exchange of quite different things, exampled by Britain selling cloth to Portugal, and buying wine. For most of New Zealand’s history we exported resourced based commodities – notably wool meat and dairy products – to Britain in exchange for complex manufactures. Although neither pastoral products or Britain are as dominant as they were once, as a general rule our export-import relation with every country except Australia is still on this specialist, ‘inter-industry’ basis, of exchanging unlike.

However, quite unexpectedly as far as the economic theory of the time was concerned, the stronger growth in post-war international trade has involved exchanging very similar products. For instance the French buy German cars and the Germans buy French ones. Indeed, it is becoming confusing as to what constitutes national origin. It is said that the Honda sold in America has more US content than the Ford because both car’s components are sourced from all over the world. This new form of international trade is called ‘intra-industry trade’, it makes up about a quarter of all world trade and a higher proportion of trade between countries in the rich world. Any transformation of the New Zealand economy needs to increase its intra-industry trade.

Now I am not saying we should abandon those specialist sectors which have served New Zealand so well in the past. They will continue to have a role in New Zealand, and will continue to expand. What we must expect – or hope – is that trade in the complex products which constitute intra-industry trade will grow faster.

Sometimes we measure the potential intra-industry tradables as ‘elaborately transformed manufactures’ although some of the products we define as farm exports are ‘ETMs’ too. (Consider the pharmaceuticals which Fontera produces from milk.) Moreover, today we recognise that services are an increasingly large component of international global intercourse – not just tourism, but as hetrogeneous a bunch of activities as re-insurance, call centres, education, and the retailing of books through the internet. Perhaps we need also some concept of Elaborately Transformed Services.

The catch about intra-industry trade is that the existing exporter can be displaced by a cheaper, better or more competitive product. Indeed there is a continual process of displacement. Activities move to low cost zones as the technology evolves to use low skilled workers and cheaper transport. Enormous chunks of the textile, clothing and footwear industry have migrated from high paid countries to cheaper Asia for instance. Generally, that is a good thing, insofar as who wants to pay Asian wages to New Zealanders (which protection does by subsidising the industry workers from lower standards of living of those who purchase from the protected industries). There is, of course, a TCF sector left in New Zealand, some of which exports, notably fashionware and carpets. What characterises their success is a level of sophistication of the production process which cannot be reproduced in low cost countries. Therein lies the challenge of the transformation.

As the balance changes between inter-industry trade production and potential intra-industry trade production — from where we have a comparative advantage in natural resources, to where we have a competitive advantage in the production process — the economy gets transformed. In the good old days, when the pastoral sector could earn enough foreign exchange for all of New Zealand’s needs, much of the economy could be shielded from international pressures. Today, with a more diversified tradeable sector reaching deeper into all of the economy, there are few sectors which can be thought of as totally shielded. Those that are not directly exporting or competing against imports are probably providing inputs to those that are.

I have described the transformation as New Zealand increasingly introducing production processes where we have a competitive advantage. The government has used the simpler phrase ‘innovation strategy’. This is an enormous topic, so let me highlight just a few points of particular regional relevance.

At the heart of your region’s concerns is why a production activity will be this region rather than somewhere else. There are lots of possible answers to this, but just importing the capital and technology into the region is not one. For if that is all Region A has to offer, then it can be outbidded by Region B with slightly lower effective wage rates and better location, if not in New Zealand somewhere else in the world. In order to win the new processes your region has to offer something of its own., although the list is long ranging from resource based inputs to that the manager’s family would like to live there.

What does this mean for regional policy? A key issue is that the firms you attract will have a reasonably sophisticated production processes. If they dont, they will go to a lower skilled, lower wage locations, perhaps in Asia. So the quality of your workforce and the quality of your technological environment will be important. There is much more which could be said, but the most important is that effective innovation is a community affair, not a matter of just a scientific elite. Our ability to turn the possibilities of scientific innovation into the practicalities of new and better products depends on the ability of the workers on the shop floor. And that depends upon teachers, librarians and union organisers, and a host of people in the community. Moreover ‘shop floor’ is not just the workshop – antiquated images that term generates. It includes those also involved in the selling, and distributing, and the managing – the entire firm. To put it in cash terms, without a high quality and well managed of the workforce we shant get high wages, because we wont be able to adopt advanced technologies.

Another key element will the infrastructure connecting the business to the rest of the world. That includes the material transport structure, but also the telecommunications links, and the support systems around them. The third factor to be mentioned here is that intangible ‘entrepreneurial zing’. Some regions have a whole self-reinforcing culture of exporting. Others are much more complacent. No one knows how to promote entrepreneurs. Perhaps the trick is not to get unnecessarily in their way. To take a simple case, there is much complaint about the RMA inhibiting business, but we know there is a wide variation of its administration by local authorities throughout the country which means businesses expansions are far more inhibit in some regions than others. I dont know where Nelson ranks. Your aim has to be a low inhibitor, a regime that facilitates environment friendly businesses. .

Because time precludes further detail, let me finish with two pieces of advice. The first is not to be over-ambitious. Dont get overwhelmed by the possibilities of large projects even when they seem technologically very advanced. The future success of Nelson is likely to be about clusters of businesses that do well. I am hesitant to make a prediction of which will succeed, but the sort of thing I have in mind is that export of cut flowers is coming up to $100m a year, not very different from our exports of wine only five years ago. New Zealand flowers have under one percent of the international market, despite our growing them having a comparative advantages in some seasons. Imagine too, if as breeding improves, exporting extends to some of New Zealand natives – pohutukawa and kowhai. There are big gains to be made in small industries like this. Dont overlook them by ‘thinking big’.

My second advice is to be ambitious – ambitious for Nelson and its future. Sure, not all regions will grow faster than average, but if each tries to grow as fast as it can subject, of course, to maintaining its community and environment, then the average will increase. A region can make a difference to its prospects. If it does not strive to, the difference will be an underperformance.

Much of this presentation could be given to any region. From that perspective all regions are the same. On the other hand the general context has to be adapted for the particular circumstances of your region. In that sense all regions are unique. Nelson certainly is. Best wishes with the challenge you face.

Inflation and Reputation: Did the Reserve Bank Slow the Economy Down?

This entry was posted in Listener, Macroeconomics & Money on 15th June 2002 by Brian Easton.

Listener 15 June 2002.

Keywords: Macroeconomics & Money

In the 14 years when Don Brash was Governor of the Reserve Bank (RBNZ), consumer prices rose a total of 40 percent or about 2.5 percent a year. However the early part of his term was a period of disinflation. …

… In his the last 10 years the prices rose by 1.8 percent p.a, a lower rate than that of the rich OECD countries. This compares with the inflation performance of the early part of the post-war era, say from 1954./5, when New Zealand’s consumer prices also rose more slowly than the OECD’s. However in the ten years after 1954/5 the volume of GDP (the total output of the market economy) rose 4.2 percent a year, while in the last ten years the GDP rose only 3.1 percent p.a.. Brash can be satisfied with his inflation record, but he leaves unhappy with the growth rate. Is it possible that his governorship slowed the economy down?

The RBNZ argues that its monetary policy does not effect the long term growth rate on the economy. This seems to be a theoretical postulate rather than an empirical finding, for the only research the RBNZ has done on the growth rate is mechanical and not very informative. (You may have thought that they had a body of research, the policy implications of which Brash wants to implement if he becomes the National Minister of Finance. However the policies he has talked about have never been addressed systematically by the RBNZ and, indeed, the empirical evidence for their having any effect of the growth rate hardly exists.) What this lacuna means is that the RBNZ has no account of the sustainable growth rate of the economy other than it will chug along at its past trend growth rate.

So the RBNZ sets its interest rates by looking at the degree to which inflationary pressures are building up, notably by assessing the cost push elements that appear to be rising, and the size of what it thinks is the output gap. The first element is that if everyone says they are soon having to push up prices then there is a worry about inflation. The second element assumes that a narrowing of the gap between what the economy is actually producing and what it is capable of producing, shortages will lead to prices and wages being hiked to deal with the bottlenecks. But assessing any output gap involves some notion of the sustainable growth rate of the economy. That is where the RBNZ’s thinking is primitive.

Suppose the sustainable growth rate were to rise from 3.1 percent to 4.2. percent p.a. (I dont think it has jumped by that amount, but it may have risen a bit in recent years, for reasons that I will have to write about in another column.) How would the RBNZ respond? The short answer is its approach means it could not. Using the old trend rate, the output gap would seem smaller than it was, and the RBNZ would take monetary measures to slow down the economy. If it was successful that would constrain the economic growth rate to the 3.1 percent p.a. of the economy. Businesses would conclude that if they would be unwise to plan on the basis of a growth rate of the economy any higher than 3.1 percent p.a. Thus the outdated RBNZ trend growth rate assumption could become a self-fulfilling prophecy.

This may be happening. In March and May of this year the RBNZ faced conflicting evidence about the inflationary state of the economy. Almost all the price setters were saying there was not much pressure to up their charges, and the wage setters were showing restraint too. So the cost-push elements in the economy were not strong. But in the RBNZ’s judgement the output gap appeared to be narrowing dangerously. The RBNZ, cautious over the dangers of inflation, has tightened monetary conditions, interest rates have risen.

There is one small caveat to the story. There are some cost-push pressures, but mainly in those sectors which are sensitive to higher interest rates. They are expecting them to rise, presumably because of an expectation of the RBNZ to tighten monetary conditions. Perhaps the self-fulfilling prophecy is on.

Of course, I am not sure. Perhaps the sustainable growth rate has not risen. What I am sure is that the RBNZ is not thinking sufficiently about this issue. My bet is that with the next Governor of the Reserve Bank, there will be a change in the Policy Targets Agreement which sets out the goals of monetary policy. It is likely to ask her or him to pay more attention to the impact of the RBNZ’s actions on the sustainable growth rate.

Incidentally, I dont know who will be Brash’s successor, but there is one characteristic the new Governor should have. Brash spoke widely and vigorously to business groups but in his 14 years he never once spoke to a conference of the Council of Trade Unions, even though the RBNZ assessments pay attention to wage pressures. Does that make sense in a modern economy, in the post-ECA environment?

Jane Kelsey at the Crossroads: Three Essays

This entry was posted in Globalisation & Trade, Political Economy & History on 11th June 2002 by Brian Easton.

(Wellington, Bridget Williams Books, 2002), ISBN 1877 242918; $34.95

Review for AUS Electronic Newsletter. It was republished in New Zealand Journal of Tertiary Education Policy, Volume 1 Number 2, April 2005

Keywords: Globalisation & Trade; Political Economy & History

Students and the general public have found invaluable the sequence of books Jane Kelsey has produced on contemporary New Zealand society and governance, beginning with a study of how the Labour Government dealt with Treaty issues, working through the New Zealand experiment and now a couple on New Zealand in a globalised world, the latest of which is three essays in At the Crossroads (although, curiously, the cover shows a signpost at Bluff, the end of the country). Reviews of her books usually go to the extremes of the paean or condemnation. ….

… But the sequence of works indicates that Kelsey is in a dialogue with herself, and with others. What she most needs, and I hope welcomes, is the tough but sympathetic critique which this review attempts to provide.

Kelsey defines globalisation as ‘global capitalism’ not very differently from the London Economist. However this is a label – an outcome, not an analysis of the process. Without such analysis, any description of globalisation can only be a series of criticisms or commendations.

How the capitalist system survives is one of life’s great mysteries: it hardly seems a creation of the rationality that pervaded Western intellectual thought 200 years ago; many of its principles seem unethical; there are books and books which list its faults; terrible things happen in its name. For 150 years there have been predictions of its imminent demise. And yet – and yet, capitalism survives.

It is this mystery which forms the background to Kelsey’s book. The title of the opening essay ‘The Wobbly Bicycle: Globalisation on the Precipice’ echoes Supachai Panitchpaki, the next director of the WTO, likening of global capitalism to a ‘wobbly bicycle’. To which a citizen of Christchurch might comment that bicycles are wobbly, but they prove very effective means of transport and crash only very rarely.

Kelsey says ‘continued globalisation cannot be taken for granted, and retreat is a distinct possibility.’ She lists the opposition to globalisation and reports various critics. At the heart of her thesis is ‘the globalisation agenda operates on the fallacy that the unfettered concentration of wealth and power can continue indefinitely, irrespective of its economic, social cultural and political fallout – and that people, and the governments that depend on those people for their legitimacy, will continue to acquiesce in that outcome.’ The first essay lists these contradictions.

Well yes, but could not this largely have been said 150 odd years ago? Was not the poverty, the destruction of traditional ways of life, the environmental degradation greater then? Did not the Western world almost come to its knees in 1848 (and what about the terrible slump of the early 1930s)? Yet the bicycle wobbles on. Of course the next fall may be final – the rider not just grazing a knee and remounting, but breaking something and lying there on the road. That has been the critics’ promise for 150 years: one day they may get it right.

If I had to bet on what is different this time, I would do so by extending Marx’s notion of the changing role of money. He suggested that initially it was to intermediated between the exchange of two commodities. As he put it: C→M→C’. Then the making of money became the purpose of the exercise and the commodity a means of doing so, reversing the roles: M→C→M’. Nowadays the making of money seems to have bypassed production, so it is M→FP→M’, when FP is financial paper. Both Long Term Capital Management and Enron are examples of firms with only the barest connection with the production process. Their collapse may presage the Götterdammerung of this phase of capitalism. But the phoenix which rises is likely to be another form of capitalism, albeit (I infer Kelsey hopes) one which is more nation and human focussed.

Where the first essay misses out, is an account of why the bike has been so successful, and what is different this time. A series of criticisms, no matter how powerful, is not a critique. As much as Karl Marx got it wrong (and his followers misrepresented him) he had a compelling theory of how the inconsistencies internal to capitalism would bring it down. Because he has an analysis he does not have to rely on metaphors, such as wobbly bicycles.

With hindsight there were two major weakness in his theory. He underestimated the capacity of capitalism to adapt to social and political pressures, for today’s capitalism is very different from that of the nineteenth century. And he failed to recognise the impact of cumulating technological change. Although we think of capitalism being about profits, it actually seems driven by technological opportunities. It is as if the capitalist bike is wobbling on a long downhill run generated by innovations. If ever they cease, then so might capitalism.

This failure to look deeply at the fundamentals of capitalism also mars the second essay, ‘The Third Way– The Road to Nowhere’. Kelsey has the gravest reservations as to the usefulness of the Third Way strategy, which often seems little more than a grab-bag of half-thought through responses to poorly understood problems. Even Tony Blair joked that the German Chancellor Gerhard Schröder ‘was saying to me … I haven’t found the first two ways yet, so you tell me where the third one is.’ No wonder it seems a dying fashion.

Nevertheless its origins are fascinating and its development instructive. The story can be personalised in Anthony Giddens, who as a young sociologist, was deeply committed to a political economy paradigm which had evolved out of Marx, in which class was inextricably intertwined with capitalist development. Over the years he became increasingly disillusioned, because the reformulation did not tie into the world he saw developing. Giddens’ ‘Third Way’ may have an analysis as rich and as complex as his earlier writing, but it is yet to see the light of day, and thus far its foundations appear superficial and opportunistic.

Kelsey argues that the Third Way is not relevant to New Zealand, and decries the colonial mentality which adopts uncritically the latest overseas fashion. She rightly points out that the neo-liberals revolution suppressed alternative viewpoints, which has made the development of critiques and alternatives extremely difficult. (As a reviewer remarked, for Isaiah Berlin ‘the central paradox of modern thinking about liberty is this: that it is often those most attached to freedom as a political value who ended up supporting ideas or measures that reduced its sphere or sought to extinguish it.’) Moreover, many of the measures they took will persist, not only because rogernomes dug themselves into positions of influence, but because the structural changes weakened the ability to generate alternatives. (It is not accidental that the universities, the traditional critical base, are far less effective today than they were three decades ago, despite being charged with being a ‘critic and conscience of society’.)

So the third essay, ‘Taking the High Road – a Requiem for TINA’, turns to the possible alternatives to capitalism and the Third Way. But the earlier failure to provide a serious critique of modern capitalism now becomes a severe liability, for Kelsey’s alternative is not unlike the Third Way, a list of things that could be done without any integrating coherence except her passion for social justice. Kelsey acknowledges as much when she writes ‘such a transformation may seem unrealistic in the New Zealand of today. There is no alternative vision to inspire us towards a people style of nationbuilding.’ While they are more detailed than in her earlier works, their fundamental weakness is they do not centre around the critical issue: how is New Zealand to engage with the rest of the world? The answer in part
depends upon what the rest of the world is like: presumably the issue is how to design an engagement which is robust and flexible to the range of possibilities. That requires a deeper analysis about the nature of the modern world than is here.

If this review is tough, it is not so to discourage potential readers. Although it should not be used it as a primary source for many of its statements are less authoritative or reliable than they appear (unlike her earlier works there are no copious citations to check them), At the
Crossroads should be read as the part of the debate about our – New Zealand and the world’s – future. That is why this review is a critical engagement.

Some readers may be deterred by the price of $34.95, which is high for 137 pages. But that reflects the limited market in New Zealand. There are few venues for essays of 10,000 plus words, yet we need more of them, and should be willing to pay the price. One hopes this will be the first of a series of such publications, which explore the issues that Kelsey raises, at both a deeper and wider level.

Towards an Analytic Framework for Studying Globalisation

This entry was posted in Globalisation & Trade on 2nd June 2002 by Brian Easton.

Versions of this paper were presented to seminars of the Ministries of Economic Development and Foreign Affairs and Trade in May and June 2002.(1)

Keywords

The original invitation for this paper involved my setting out my work on globalisation, for which I had applied for a Marsden research grant. Alas, the applications which went into the second round do not include my one. Perhaps there are 137 more significant issues than globalisation facing New Zealand – which is scary. Even so globalisation is important to New Zealand’s future, to its very survival. This paper argues that not only is the issue important, but that research can progress our understanding of it. Such research should not be focussed on policy issues, but attempt to develop an intellectual framework, which policy makers will find useful. By eschewing policy conclusions it can go deeper, more analytic, and ultimately be of greater value.

Defining Globalisation

The first task when seeking an analytical framework for globalisation is to define the phenomenon. What strikes a reader on the subject is that hardly anyone attempts to define it. Inevitably the term is associated with very different meanings. They may be referring to a particular phenomenon such as increasing trade, or capital flows, or logos, or international inequality; to particular international institutions such as the World Trade Organisation or the International Monetary Fund and the World Bank or the European Union, or multinational corporations; to particular policies such as free trade, liberalised capital movements, and so on. The London Economist described globalisation as ‘international capitalism’, and many anti-globalisers might agree, perhaps adding ‘US world hegemony’. But this is but a name for an outcome. It tells us little about the process which generate it. Labels have their uses, but an analytical framework needs to know what is going inside the brand.

Consider anti-globalisers who ordered books from Amazon.com, discussed the contents on the world wide web with their friends, and then flew to Seattle to protest one of the international pro-globalisation conferences. As it happens, Seattle is the headquarters of Amazon, of Microsoft, and Boeing, each potent parts of globalisation. So the anti-globalisers used the facilities that globalisation created to protest against globalisation. T he labels dont help us to resolve the apparent paradox.

So how to define ‘globalisation’ in a useful way? The scholarly literature talks about globalisation as a nineteenth century phenomenon, as well as a late twentieth century one. Some even argue that globalisation was then a more powerful force than it is today, partly because labour – European labour anyway – was more freely mobile. Their accounts of globalisation make frequent reference to distance: how in the nineteenth century railways, steamships, telegraph and a host of other technological changes, made the world smaller, increasing the flows of labour, capital goods and technology. A not unexpected outcome was an increasing convergence of prices of goods and returns to factors in different locations. It was not simply that as transport costs fell, the levels in different locations became more similar. The correlation between them also increased, indicating that the regional markets were integrating.

It was reductions in the costs of distance which made New Zealand possible. Until the 1880s the effective distance for transporting meat to Britain was near enough to infinite. Refrigeration, coupled with steamships and telegraph, reduced that distance cost to a fraction of its production costs or selling prices. The very existence of New Zealand is due to globalisation. One hundred and fifty years ago it took at least three months to sail from New Zealand to Britain. That applied for goods, passengers and mail. Today it takes about three weeks, so the distance has effectively decreased by three quarters for goods. A hundred and fifty years ago, the ship would probably be battling its way west of Cape Horn after three weeks of sailing. The travel distance for people is even closer, since one can fly to Britain in less than two days – a 98 percent reduction. A hundred and fifty years ago, it took about two days to sail from Wellington to New Plymouth. Today’s information moves even faster, zipping around the world in microseconds: a nineteenth century equivalent might be a line of sight.

This suggests it is useful to define globalisation as the consequence of the reductions in the costs of distance. The term ‘costs of distance’ is wider than transport costs, also encompassing inventory and additional production costs, the costs of time, and reliability and security. All of these have changed substantially in recent years.

The definition involves a standard economic modelling approach, examining the impact on a system from external change, phenomenon which my book In Stormy Seas models. The issue of modelling the innards of the economics of the system to capture proved to be easier than I expected. Let me draw out the story by telling you how I came to it.

Developing an Analytical Model for Changes in the Costs of Distance

At first I observed that transport costs can be treated as a transaction cost. This is a relatively new economic area – the seminal paper by Ronald Coase is about forty years old – but thus far there has been few clean analytic propositions arising from it. Even so, transaction cost analysis is a potentially powerful means of investigating some important economic issues. (The Ministry of Consumer Affairs articulates it as a central element of their economic approach.) I had thought that transactions cost might be useful to deal with the costs of distance, but I could not make much progress there. Eventually I fell back on one of the oldest interests of economists – the theory of international trade.

The precipitant was The Importance of Being Enormous, a paper written by Treasury official David Skilling. The argument is a frustrating one because the underlying economic model is not clearly expounded. It is also empirically wrong because it treats the relative decline of the postwar New Zealand as continuous, whereas the decline appears to be the result of external two shocks. For most of the era New Zealand grew at about the same rate as the rest of the (rich) OECD, something I comprehensively investigate in In Stormy Seas. But even if Skilling’s facts were correct, his thesis that size and location are the main explanations of the relative decline faces a serious problem for they do not explain how well New Zealand was doing before 1950. The economy was smaller then than it is now, and it was effectively more distant. Yet New Zealand was relatively richer then. Skilling’s theory about postwar behaviour is contradicted by what happened earlier.

I constructed a model in which a fall in the costs of distance damaged a small economy’s performance. Initially I looked at a single sector model in which each economy had the same available technologies which were subject to strong economies of scale. However domestic market sizes (fixed for simplicity) are markedly different, so the large economy (say Europe) was producing at a larger scale and therefore lower cost than the smaller economy (say New Zealand). However the costs of transport meant that Europe could not undercut New Zealand production so each economy was self sufficient. But when transport costs fall the larger economy uses its superiority in production scale to sell at a lower cost to the smaller economy and destroy the local industry.

While fooling around with this model – it needs some supplementary assumptions to work properly and in any case it needs to be transformed into a multi-sector model – it struck me I was mimicking a standard trade theory model. Of course. Costs of distance such as transport costs can be thought of as a tariff: economists talk about them as ‘natural protection’. In elementary trade theory we usually keep transport costs constant and ignore them. But generally, and subject to some caveats which as far as I can see are not important, we can use standard models of international trade to analyse changes in the costs of distance as if they were changes in tariffs.

(The most important caveat might be that transport costs and the like involve resources but, on the whole, tariffs do not. However when both are at prohibitive levels so they result in domestic production and no imports or exports, the effects are identical. However what happens when there is some external supply? A reduction in transport costs is a direct gain in resources – a productivity gain. A reduction in the tariff involves no such reduction – although there are problems about what happens to the revenue which goes into the government coffers, which may or may not ameliorate to some degree this effect.)

The Standard Model: Costs of Distance as an Analogue of a Tariff

Recall the standard general equilibrium model of an economy which underpins trade theory, and then consider the implications of non-standard assumptions. Basically the model involves a number of economic actors who have a certain amount of labour and capital resources and production technologies available to them. In its simplest static form the model concludes that if each actor uses their resources to maximise their own ends, the ‘efficient’ outcome will be a market equilibrium in which prices equate to the relative marginal utilities of consumption and the relative marginal costs of production. The equilibrium is ‘Pareto’ efficient insofar as one actor’s welfare can only be improved at the expense of reducing another’s. In summary, a market system generates a Pareto optimum if it is allowed to operate without interventions, but of course the theorem requires a number of key assumptions to be valid.

A crucial, if policy limiting, generalisation of this analysis was identified in 1956 by Dick Lipsey and Kelvin Lancaster. Their pseudonymous theorem, also know as ‘the general theory of the second best’, says that if something prevents equality between marginal cost and marginal utility in one market, it may not be optimal to apply pure market solutions in the rest of the economy. The theorem does not have any automatic policy conclusion for despite a lot of theoretical effort, it has not normally been possible to get any clear cut conclusions.

There is one extraordinary exception. Suppose an economy is split into two (or more) parts between which the factors are prohibited from migrating. That would mean the same factor is likely to be paid at different rates in the different parts of the economy. That is the sort of restriction in factor mobility which the second best theorem appears pessimistic about. However, there is a very well established theoretical conclusion, that both parts of the economy benefit from free trade in goods and services between them. Treating the parts as of a world economy – that is two or more countries between which there is factor immobility – the policy prescription is that free trade gives the optimal outcome for both countries (caveats to be added). In particular tariffs or other protective devises reduce the welfare of the inhabitants of both countries and the elimination of this protection raises welfare in both countries. In the swamp of second best analysis the free trade result is extraordinary, and possibly unique, for the clarity of its conclusions.

It might seem then that a reduction in the costs of distance, analogous to a reduction in a tariff which moves the economies closer to the pure free trading position, ought to be a benefit. Skilling and anti-globalisers apparently dissent, although probably for rather different reasons. What are the various assumptions in the model, which might explain their opposition? I skip over the assumption of rapid redeployment of released resources which clearly concern anti-globalisers, merely noting that as in the case of all economic shocks there is an adaption problem.

Economies of Scale

‘Economies of scale’, of particular concern to Skilling, matters. They may exist for a particular production process, for an industry, or for an economy as a whole. Before we jump to policy conclusions we need also to add there may be diseconomies of scale too, particularly in economic and political management. A small country New Zealand may have advantages over larger economies.

The optimality of free trade, indeed of every market solutions, may not occur if economies of scale exist to any great practical extent. Recent developments in trade theory suggest that a world of significant economies of scale has multiple equilibria, unlike that which occurs in standard international trade theory. New Trade Theory is not some interesting theoretical twist. Rather it responds to a growing anomaly in the old trade theory, which predicts inter-industry trade but has little explanatory power on the causes of intra-industry trade, where two countries trade the same products, rather than each specialising in different products. New Trade Theory emphasises the role of economies of scale. But they can only be reaped if the costs of distance are not too onerous. Growing intra-industry trade is a response to reductions in the costs of distance.

The exact configuration of the resulting economies – which firm industries locate where – may be the result of history or accident. Or perhaps – anti-globalisers might emphasise this – the result of political or military outcomes. Most of the theoretical analyses I have seen involve models with two countries of similar size, so how a small country functions and what options it has is unclear. However the experience of Nokia in Finland suggests that small countries may possess large manufacturing businesses with strong economies of scale.

The role of intra-industry trade is crucial for the future of New Zealand. Since it has been growing substantially faster than inter-industry trade in the world economy, the implication is that to bet on the latter is to bet on slow and stagnant markets. In Stormy Seas notes that our export structure is more based on the specialisation of inter-industry trade. In the late 1980s we had a normal intra-industry trade relationship only with Australia. Even then the level was low by the standards of rich OECD countries, and it is fairly recent. (Table 1: The Grubel-Lloyd index ranges from 0 to 100 percent. If 0 the trade between the two countries is totally inter-industry, if 100 it is totally intra-industry.)

Table 1: Intra-industry Trade: New Zealand Australia 1964-1987.

Year Grubel-Lloyd Index
1964 11.2
1968 16.8
1972 20.1
1976 26.1
1980 29.6
1984 33.0
1987 43.7

Source: Bano & Lane (1989)

And while the index suggests that on this commodity classification, the level between Australia and New Zealand was almost 50 percent, for trade between most mature economies it would exceed 60 percent. For all other countries it has been far less: trade has been a couple of specialist economies exchanging quite different products, a situation reminiscent of the allegations of the 1960s debate that New Zealand was an immature economy. (Table 2)

Table 2: Intra-industry Trade: New Zealand World 1987. (3)

Country Grubel-Lloyd Index Per Cent of All
Australia 51.9 17.7
Singapore 28.3 1.3
(World) 26.4 100.0
Thailand 19.8 0.4
USA 18.5 15.8
Canada 17.0 1.7
Malaysia 13.5 0.8
Fiji 11.6 0.4
Hong Kong 11.5 1.6
Cook Islands 11.1 0.1
Denmark 9.2 0.5
Sweden 8.3 0.7
UK 7.8 9.6
(EU) 7.4 22.8
Philippines 6.3 0.5
Japan 5.5 17.7
Switzerland 4.1 0.7
S.Korea 3.8 2.0
France 3.4 1.8
Italy 3.3 2.2
Index below 2 per cent: Belgium-Luxembourg, Brazil, Iraq*, Iran*, Kuwait*, Pakistan, Peru. (Each less than 1.3 per cent of total trade.) Asterisks indicate the index level is zero.

Source: Bano & Lane (1989)

It is doubtful that things have improved much since the late 1980s – indeed it is possible that the hollowing out of the manufacturing sector after 1987 may have reduced the degree of intra-industry trade. New Zealand has been trapped into an old trade theory and old trade structure. Almost certainly its survival involves the transformation to the new one.

Differential Diminishing of Distance

Additionally, and possibly reinforcing by the economies of scale problem, the free trade theorem does not say that a reduction in a tariff rate necessarily increases economic welfare. That only occurs when all border protection is eliminated. James Meade finishes his chapter on the second best options under a partial freeing of trade with the gloomy ‘it is very difficult to reach any general conclusions on the subject’. The parallel it that seems likely that a reduction in the costs of distance may not be necessarily beneficial to an economy, if the other costs of distance do not reduce.

While this is analytically disappointing, there is some comfort because it provides a rigorous underpinning to the problem of globalisation: if globalisation is the consequence of reductions in the costs of distance, the problem of globalisation arises because distances diminish at different rates for different products and for different places. If all costs of distances were to diminish in the same proportion – if the world were just to shrink – then most globalisation problems would be unimportant. But the world has shrunk more for information than for individual travel, and more for travel than for goods, and least for the networks which make up our human cultures. The second best theorems suggest that the reduction in some of the costs of distance need not be of benefit – at least in the medium run.

Even so, I would want to be cautious rather than pessimistic. The modelling issue is complicated by reductions in the costs of distance involves simultaneous tariff-type reductions by both parties. For instance, while the inbound tourist industry has benefited from the ease with which tourists may come here, the same domestic industry suffers from it also being cheaper for New Zealanders to go overseas. On the other hand we know that a reduction of tariffs on the inputs of a protected industry reduces welfare because resources are attracted into the inefficient industry. A similar possibility may apply for transport costs. Some of the big reductions in the costs of distance have been in telecommunications which have created possibilities such as off-location call centres, which are an industry input.

Perhaps the mathematics is too gloomy and we will have to use a computable general equilibrium model after careful measurement of the costs. I am not as pessimistic as Skilling seems to be. Reductions in the costs of international distance ought to be mainly on New Zealand’s side (although economies of scale may not). But we need to rigorously formulate why we could be optimistic.

Distributional Issues

Anti-globalisers are also concerned with distributional issues and not just the production concerns of Skilling’s papers. These can be easily illustrated by considering the extreme case of an economy which moves from autarchy to total free trade. The shift moves the economy to a higher level of welfare. However, the theorem does not say that under the shift, everyone is better off (that is it is a Pareto improvement in welfare), since some specific factors will have reductions in their remuneration (even after full redeployment). An example might be that were there to be free access of New Zealand dairy products to the United States, the US would be better off, but those US owners of dairy specific capital in the short to medium run, and dairy specific land in the long run, would be worse off.

The economic theory is straightforward. The endpoint of the shift to free trade is Pareto efficient – that is nobody can be made better off without making someone worse off – and so is the beginning point of autarchy under the model assumptions. However the theorem does not say that the shift between the two points makes everybody better off.

The standard welfare analysis says that following the opening of trade, the gains are such that everyone who is worse off could be compensated back to where they were, and there would still be a surplus for some people to be better off. Anti-globalisers may say ‘that may be true but the compensation rarely happen’.

There is a practical reason. Calculations of the gains from trade from existing protective regimes almost always suggests the gains from the total elimination of protection are small. For instance in the 1970s, when there was careful measurement on the New Zealand economy, the typical estimates suggested gains from removing what by today’s standards were onerous border protection were less than 1 percent of GNP. The implication is the gains are so small that the costs of administration would make effective compensation impractical.

(One need not leap to the policy conclusion that there was no case for eliminating protection. In my view free trade is not a policy strategy in itself, but a part of a wider strategy, which I wrote about in my book Open Growth, which argues that the growth process in New Zealand starts primarily in the external sector and feeds into the domestic one. Eliminating border protection may be a part of the policy mix to generate an open growth strategy. On this argument the static gains from trade are not particularly relevant.)

The anti-globalisers often make a further general point. They claim that globalisation raises the profit rate at the expense of reductions in wages, and thus the income distribution becomes less equal. This is much disputed. It is not obvious that wage earners should always be worse off under changes such as a reduction in the costs of distance. However the empirical models do suggest that while the gains from trade are small the redistribution from the change in factor prices is a magnitude larger. It is an illustration of one of the most general rules in policy analysis: the impact of a policy change usually affects distribution more than it affects efficiency. (Perhaps that is why economists focus on efficiency.)

More generally we should take the anti-globalisers seriously (just as we should take David Skilling seriously). It is easy to dismiss them as ignorant, misguided, selective or self-centred, but first that is not always true, and second we can as easily dismiss the pro-globalisers for the same deficiencies.

Differential Factor Mobility

Recall how the standard free trade analysis can be interpreted as a special case of the second best, where there are prohibition of movements on all factors between the two parts of the economy, or in the international trade example, between two economies. What happens if we allow a particular labour skill to migrate, say from New Zealand to Europe, because its factor return is higher in Europe than New Zealand? Because they have chosen to move, the New Zealanders with the skill are better off, while those in Europe with the skills will experience a depression in their wages from the additional supply and be worse off. (This assumes that economies of scale are not significant.) But what about the rest of those involved?

We can rejig the standard trade model by pretending that the migrants still live in New Zealand and simply sell their labour skills in Europe. In this context the permission to migrate could be treated as the elimination of an infinite tariff on the skilled labour service. Second best theorems warn us this may not result in an improvement in world welfare. But suppose it did. There would not be necessarily an increase in the welfare of the New Zealanders who did not migrate, even if there was an increase in the aggregate welfare of all New Zealanders, for the gains to the migrants may exceed the national gains, as we have observed in other cases of the freeing of trade.

This differential migration problem applies to regional policy too, and is compounded by economy wide economies of scale. (This approach has much to contribute to regional analysis.) There are parallel analyses of capital flows and technology flows, which in each case involve differences from the other factors. The inability of land like resources makes that different again.

The migration of labour, capital/savings and technology are all facilitated by the falling costs of distance. There is a tendency to assume that such migration is necessarily a good thing, but it is not always clear what are the assumptions that are being used to justify the conclusion. To give some simple examples. An increase in the supply of foreign capital presumably decrease the domestic profit rate. Why then do local capitalists generally applaud capital inflows? What assumptions are we making about the substitution elasticity between labour and capital if we think capital inflows benefit works, or if – as in the case of anti-globalisers – we think the inflows are a detriment to workers? In the case of the international technology transfer, what are our underlying assumptions if we think that it is profitable to New Zealand? And if we believe that technology does not conform to the private property standard rules of the market, what does that say about domestic technology policy and market strategies generally? Policy discussions seem to ignore such questions. What is clear from the trade issues where we have a better analytic understanding, is that often the answers require attention to second best phenomenon, to distributional impacts, and to production structures, and also possibly to factor endowments such as the quality and skills of the workforce.

Extensions of the Analysis

We need not stop merely at this generalisation of trade theory to cover the costs of distance. Some of the salient potential extensions of the analysis include.

New Economic Structures and Locations
Historically agriculture and other resource based industries were located near their resources, service industries were located near their customers, and manufacturing traded off the transport costs between the resources they used, the labour and other costs available, and the markets they served. Some new technologies, especially telecommunications, which reduce the costs of distance mean that some service industries are now as footloose as manufacturing. We need to revise our notions of the nature of the economic structure and where and how it is located.

Endogenous Policy
While in politics policy, is seen as something over which policy makers have control, in the world of political economy and history, policy development has a far more endogenous element, as policy makers respond to problems outside their control which arise. It seems likely that the post war regime of increasingly free trade of manufacturers and latterly of services reflects a response to the possibilities that falling costs of distance generated, together with some other technological and social changes which arose in the postwar era. An endogenous theory of the freeing of trade may contribute to our understanding to why agricultural liberalisation has been so disappointing, for land cannot migrate like other factors.

International Regulation
The endogenous policy approach suggests the reasons for the creation of overarching international institutions, of which the World Trade Organisation is currently the most prominent. Historically, nations created the various institutions which regulate domestic markets as the falling costs of distance integrated their markets. (The Australian Federation is a good example.) These international agencies are today’s global equivalents, a regulatory response to globalisation as a consequence of the falling costs of distance, rather than as the drivers as they are often depicted, especially by anti-globalisers. (I have done a little work on the political economy response to the globalisation of the nineteenth century, which has some relevance to the understanding of current political responses.) Another example of the broadening of market is what is the intra-industry trade between Australia and New Zealand, which is leading to trans-Tasman market regulatory mechanisms. Tax regimes also have to modified as markets integrate across fiscal boundaries and factors migrate.

Nationalism and Culture
A third issue general issue central to the globalisation debate is that of nationalism. In Europe, in particular, nationalism was a nineteenth century response to the falling costs of distance in regions. (Twentieth century nationalism in ex-colonies may be a different story.) A recent paper suggests that freeing trade makes countries possible, the intuition being that trade reduces the economic costs of international boundaries. ( Alesina et al, AER December 2000) Anti-globalisers would go on to argue that the boundaries become less effective in other ways too, but issue of why and how nation-states exist has to be addressed. It is possible the nation-state is a temporary phase, although perhaps it is significant the Kyoto agreement is being implemented via nations rather than an international regime. But nations are not just economic entities, they are also cultural ones – a theme in my latest book, The Nationbuilders. This destiny of nationalism might be explored via the cultural experiences of migratory groups, such as Jews, Irish, Chinese and Pacific Islanders (whose experiences may be a microcosm of those which larger nations face under the falling costs of distance).

Non-economic Issues
There are also some globalisation issues which are not primarily economic, even though like terrorism they could impact on the world economy. These include international political relations where diminishing distance – including for military logistics, the speed at which diplomats can move around, and the public’s awareness of foreign tragedies – are transforming the nature of the world politics. Another non-economic issue is once New Zealand’s first line of defence against the international spread of plant, animal and human disease was the voyage times from other countries. Today their transmission is much faster.

Policy Issues
Once an analysis of some breadth and depth is developed, there will undoubtedly be policy insights. But we can learn from the globalisation analysis of the dangers of being too precipitant in pursuing policy. The economics used in this paper is very orthodox, but standard texts on international trade have surprising little attention given to transport costs. (For instance the major US text, International Economics: Theory and Policy by Paul Krugman and Maurice Obstfield, devotes just over a page to transport costs in a 750 page textbook.) This is partly because the United States has not been tyrannised by distance in the same way Australasia has been, but it also reflects that tariffs and other border protection are policy instruments which can be managed. The passion for policy has obscured the relevance of exogenous productivity changes, which probably have a greater impact on output, growth, and welfare.

The Future of Globalisation

To what extent we can forecast the future of globalisation? Even if there are no further major reductions in the costs of distance, the momentum generated by those of the last fifty years is likely to impact on the world economy for a number of decades to come. Major innovations of the late nineteenth century – for example the internal combustion engine – were still substantially changing economies and societies a hundred years later. One issue here is whether we are near a limit to reductions in the costs of distance. It is hard to see major reductions in times for information and air travel, given the physical limits set by the speed light and the speed of sound. Would it be possible to substantially increase sea travel speeds or is there some physical limit there too? It is also likely that there will be reductions in some resource costs, and it is not inconceivable that smallish changes, say of the order of twenty percent, could dramatically change choice of mode. The air cargo industry may expand, with substantial implications for New Zealand. But should we assume that costs will continue to fall? Security against terrorism may raise distance costs. A long run rise in the price of liquid fuels would raise the costs of physical transport. It is not inconceivable that we could end up with a world in which the costs of distance for information remained near zero, but transportation of goods became very limited.

Conclusion: Globalisation and the Future of New Zealand

My interest in globalisation is driven by a policy passion as well as my passion for a scientific understanding of the world. An ultimate question which underpins the study is whether, or in what form, New Zealand can survive. Globalisation may end the nation state, at the very least it will dramatically modify it. We cannot rule out the possibility in New Zealand’s case that not only will be there be a lost of national sovereignty but the nation will suffer the relative or absolute depopulation we observe in some Pacific Islands, and which has already happened in some other regions of the world if disguised by international population expansion.

In a monograph written in 1984 Elhanan Helpman and Paul Krugman remark that ‘In a world that deviates from the perfect competition/constant-returns norm of traditional trade theory, there are increased potential gains from trade in the sense that even identical countries can be made better off by opening trade. Unfortunately the imperfections of markets simultaneously creates the risk that a national economy will not only fail to take advantage [from] potential gains from trade but may actually lose.’ Eighteen years later New Zealand has still not grasped the significance of this, or of the subsequent developments in New Trade Theory. That seems to be a recipe for joining the losers.

This suggests that New Zealand ought to be putting some effort into the analysis of globalisation using systematic economic models. Unless we understand the phenomenon better, we are likely to miss opportunities, make mistakes, and ultimately pursue policies which could have the gloomy outcomes of stagnation and depopulation. New Zealand’s survival probably depends on its response to globalisation, more than any other single phenomenon. But that has always been true.

Endnotes

1. I am grateful to Sayeeda Bano, Rob Bowie and Bill Rosenberg for assistance with earlier drafts, and for comments from various persons at the two seminars. .

2. The Grubel-Lloyd index is defined by I = 100-∑│Xi – Yi│/(Xi + Mi), where i represents each commodity group.

3. Note that because each table uses a different level of aggregation, the concentration indices between the two tables cannot be compared. Within tables they can be.

Pay Later

This entry was posted in Listener, Macroeconomics & Money on 1st June 2002 by Brian Easton.

The Budget Deficit and Future Generations

Listener 1 June 2002.

Keywords Macroeconomics and Money

MMP has meant the better parliamentary representation. Those whose parties dont make the threshold (75,306 in 1999), who vote informally (19,887), whose votes are disallowed (41,382), who are enrolled but dont vote (382,602), or who are eligible to enroll but dont (who knows?) miss out. But the remaining voters (1,990,188) selected a parliament that better reflects them ethnically and genderwise while a quarter (560,0057) voted for minority parties which better represented their politics than the two main ones. The people’s representation is further enhanced by MMP tipping the balance against the autocracy of single party government.

There is a substantial group of who have no vote. Anyone born after 1984 will be under the age of eligibility to enrol for the 2002 election (around 900,000 New Zealanders). An Australian economist, Peter Saunders of the Social Policy Research Centre, has argued that were they given the vote, parliament would soon become much more interested in child poverty, education, health, a nd rights.

The unborn’s interests are not directly represented either. Yet parliament will take decisions about the environment, heritage and the economy which will impact on their welfare too. Over the next month it does so in the settling of the annual budget, for the fiscal deficit generates future debt servicing which has to be paid, in part or full, by those yet ineligible to vote. An obvious strategy for voters and their representatives is to borrow and spend now, expecting future generations to pay the bill running a huge fiscal deficit.

The strategy cannot continue indefinitely. Debts pile up and at some stage those financing them call a halt, as happened in Argentina. Years of fiscal deficits sustained Argentinian consumption levels above what could be afforded. The foreign lenders are no longer willing to continue to increase the debt, and Argentinians face substantial reductions in their standard of living. Their anger is aimed at the banks, but they should direct some towards past generations who spent up, financed by debts they would never have to honour.

Of course there is a case for a government borrowing. A good reason is to build up the capacity of the economy to produce (rather than spend the borrowing on consumption). But what constitutes an investment in the future? Some education spending is such a investment, and so are new roads. The convention is that education is a consumption activity while roads, though physical investment in the national accounts, are funded out of road taxation. Second, and this provides a partial answer to the first question, how is the debt servicing to be financed? Sometimes there is a direct connection. When a State Owned Enterprise invests in power stations or planes there is an expectation this will directly lead to increased revenue which will pay the interest. In the case of public education there is no direct connection to additional higher revenue (although indirectly more productive workers may pay more tax). New roads may even reduce road revenue through more efficient vehicle travel.

The New Zealand government funds some of its investments out of current revenue (mainly taxation).The result is that since the mid 1990s, the Crown’s net worth – its assets minus liabilities – has been rising. Last March this net worth was around $14b dollars, with $67b of assets offset by $53b of liabilities. However, well over $14b of assets are like roads and do not directly generate income, while most of the liabilities require debt servicing. By international standards the New Zealand government has a strong balance sheet (and an exceptionally transparent one) but even so, in a major economic downswing the government would struggle.

We can debate whether the annual budget surplus is too large. (I’ll write a column on the superannuation fund later.) But we need a strong government savings surplus to offset the weak private savings surplus. Strong domestic savings are necessary for strong economic growth. Insufficient savings has to be covered by an overseas inflow, which drives up the exchange rate and destroys key growth industries.

Is This a Healthy Budget for New Zealanders?

This entry was posted in Distributional Economics, Social Policy on 24th May 2002 by Brian Easton.

Presentation to a Post-budget Breakfast Seminar sponsored by the PHA (24 May)

Keywords: Distributional Economics; Social Policy

The Child Poverty Action Group is an Auckland based group committed to addressing the economic and associated difficulties that children and their families face. It is grateful for the invitation from the Public Health Association to speak to you. Susan St John, their economic adviser, who has a sterling record in this area, asked me to make a presentation on her behalf. I am going to briefly summarise some of Susan’s recent work, reported in a paper Financial Assistance for the Young: New Zealand’s incoherent welfare state. Then at the end of a short presentation on an enormous and very important topic, add a couple of comments of my own.

However, let me begin with a brief reference to the Wednesday interview Murray Horne, currently the chairman of the Business Roundtable. In contrast to their previous statements on such topics it seems to me to be fairly commonsensical. Horne says that the elimination of absolute poverty in New Zealand requires a higher growth rate and he emphasizes the invaluable role of getting people into paid employment and a better quality education. What strikes me is the similarity of the views to most of the people in this room. There are differences, and one could exaggerate them. But one has a feeling one could sit down with Horne and have a civilised discussion over the differences, rather than engage in an ideological shouting match. The shift from the past approach of the Business Roundtable is welcome, and for my part I am glad to see it joining the mainstream

To me the key element in Horne’s vision is summarised by his statement ‘There is a role for redistribution of wealth, but there had to be a focus on economic growth.’ So he does not rule out some economic redistribution in the fight against poverty, although he sees that as relatively limited compared to generating jobs and prosperity. I am comfortable with that approach,. But where is that limited redistribution absolutely necessary? I and the CPAG would argue that the single most important redistribution has to be towards children, or more precisely, the income of the households in which the children reside, because the jobs and prosperity strategy does not address their needs. There are three reasons for this.

First, any analysis of poverty shows that the single largest group of the poor are households with children – not beneficiary households, not solo parent households, not Maori or Pacific Island households, not households with the sick or invalided, or ones which have low quality or expensive housing. Certainly these households types have high incidences of poverty, but the largest group of the poor are those with children, many of whom are beneficiary, have only one adult, are Maori or Pacific Island, have members who are sick or invalided, and/or have unsatisfactory housing. But there are also poor households with two adults, dependent on wages, who may be Pakeha, live in modest to adequate housing, and in which everyone is reasonably well (although more prone to illness than more affluent households). So unless we address poverty in households with children we are going to miss these poor, and if we do address those households we will also relieve poverty in these other groups.

But is, as Horne puts it, ‘economic growth .. the tide which rises all boats’? As Susan St John’s work shows that wont apply to poor households with children, because they face very high effective marginal tax rates, so if their gross income goes up – perhaps because they have worked harder or longer – their disposable income will not rise to the same extent, because the limited family assistance they are entitled to is bled out at a high rate. The highest marginal tax rates are on the poor, although there is almost a conspiracy to ignore that fact. We have pro-rich commentators agonising over the rates they pay, how for every dollar they earn and cannot hide in a tax haven, they have taken 39 cents taken away, and how if the rate was lowered to 33 cents they would have an incentive to earn more money, despite their already having an increase in their income from the tax cuts. But nobody mentions that poor families often face double those tax rates. Personally, I would have no objection if a cut of the tax rates on the poor and the resulting increase in disposable income meant that some parents worked shorter hours and spent more time with their children, but the pro-rich tell us they will work longer, add to labour supply and benefit the economy this way too. And apparently they would do it more because they face far higher rates than the rich.

Susan has also shown that not only do the poor with children face high effective marginal tax rates, but the limited levels of support and thresholds have not been indexed for inflation or general movements in incomes. This generates a vicious poverty trap, because most of any additional earned income is clawed back by the government in lower family assitance. Even in a mildly inflationary environment it is possible for the poor to be worse off as result. The rising tide may actually sink the more water-logged boats.

A third point Susan makes is that of the incoherence of the various arrangements means that some families do not get even the little support the state offers them in principle, while other families are sufficiently confused by the incoherence to result in their not responding in the most effective way to the plethora of befuddling incentives.

To this I would add some work that Suzie Ballantyne and I am currently writing up, based on the household survey when it had some health status questions attached. The work is incomplete, but it confirms the high numbers of children among the poor, using a more rigorous statistical methodology than has been used in the past, and shows that poor children are more likely to be sick children. Now we cannot tell from this data base whether poverty causes illness or illness poverty, but we can say that if the sick are concentrated among the poor, then the welfare state is not functioning properly, although I add that the research does show that some measures to limit the spending of the sick appears to have a little success.

I am not in a position to tell you what the precise position of the CPAG is on the 2002 budget, but I would surmmise they would approve of a number of measures that have been announced both yesterday and over the last few years. However I am sure they are terribly disappointed that the inefficient and inadequate assistance to families has not been addressed, and as far as we know is not being addressed, with the caveat that the government has instituted a program to identify material hardship. In the interim child poverty, despite being widespread and having long run impacts on the welfare of the nation, is simply not high enough on the public policy agenda.

Getting it higher is one of the main tasks of the CPAG. And that is why I have been happy this morning to come here and speak on their behalf, and commend to you their efforts to make the welfare of children a national priority.

Susan StJohn’s website: Susan.StJohn

Centrifugal Forces

This entry was posted in Listener, Political Economy & History on 18th May 2002 by Brian Easton.

Listener May 18 2002

Keywords: Political Economy & History

The breakup with the Alliance was probably inevitable, although had the government not committed troops to Afghanistan it may have happened after the election. While there were particular and personal elements in the party breakup, it also must be seen in the context of the conventional political spectrum. Labour, under Helen Clark, has command of the political centre of New Zealand, the party shifting from its centre-left traditions. No centre-left party could have readily engaged with Afghanistan (not after Vietnam) while its economic advisers include many rogernomes. The impression is its economic policy framework is essentially a continuation of the late 1980s, with a few minor modifications: a kinder gentler rogernomics?

It makes sense to be ‘the’ centre party in an MMP environment. As The Nationbuilders argues, our great prime ministers may have come from the left or right but their success was to dominate the centre while implementing policies which shifted it progressively. That leaves National with a problem. Bill English also sees future government in the centre (that is where his political instincts lie). So had Bolger who was shifting his party there from Ruthanasia, but his successor Jenny Shipley tried to move the party right back. She found there were insufficient votes there, but the return to the centre in her last year of office was too late. English continues to be pressured by right centrifugal forces. For how is an opposition able to challenge a centre government effectively when it is exhibiting the good governance Clark does? Eventually she will make mistakes, some of her weaker ministers will be exposed, unaddressed problems will become increasingly pressing, the economy will (temporarily) turn down, and the electorate will think the skills she brought to office as normal. At which point the opposition can pounce.

This centring of Labour has put intolerable strains on the Alliance, which always consisted of two factions. The Anderton faction has a centre-left vision, happy to work with the centre in part (in the Australian Senator Don Chipp’s famous phrase) ‘to keep the bastards honest’ and to make sure the progress is in a leftward direction. The hard-left faction, led by Laila Harre, has a more radical agenda not captured in its slogan of ‘Family and Social Justice’. For the left no longer has a clear economic vision. It knows what it wants on foreign policy (and that is not what Helen Clark is offering) and human rights (where the government would be judged progressive). But where is ‘the social ownership of the means of production, distribution and wealth’ or whatever is the new economic vision? (The left might coalesce around opposition to free trade agreements, but negotiations there are slowing. In any case, opposition only defers a positive policy.)

The economic policy difference is nicely captured by the records of the factions. Anderton is committed to improving the productive performance of the economy. Harre has been more concerned with distributing the fruits of the economy more fairly (like statutory maternity leave and raising the minimum wage), although perhaps her portfolios limit her. Anderton would argue that better economic performance generates jobs and loosens the fiscal clamp, pursuing social justice that way. Harre would respond these are but promises. People want the justice now.

The problem of tensions of a wing party are not only the Alliance’s. Act has avoided them by not being in government. Were it there, the already evident strains between its populist and purist wings might become intolerable too. It is not getting much purchase from the electorate for its economic policies, and has added ‘law and order’ to its platform. (Apparently it wants to cut back all government spending except on prisons.) The two centre parties have joined that rhetoric.

Off spectrum issues, like law and order, are ways of differentiating a party from others in the melee of the centre. There may be yet a place for a Christian Party (which won 4.3 percent of the vote in the 1996 election), and watch how the Winston Peters’ New Zealand First differentiates itself – it just cant appeal to the oldies. The Greens may be the significant off-spectrum party of the future, combining an old fashioned account of how an economy works with a new fashioned account of where it should go. Given the first factor, it is not surprising that the Alliance’s hard left and the Green’s are talking, but they represent two different political traditions. (Find more about the characteristics of party support in the just published study of the 1999 election, Proportional Representation on Trial.)

To give them credit, Act and the Greens have some of the vision thing. But you may not like their vision, and go for the scrum in the centre. Ultimately Clark is not a visionary: more a Keith Holyoake than a Norm Kirk (although it was Bill Rowling that gave the Kirk administration its good governance). English is yet to prove himself, and the Alliance factions are too entangled in their mutual dislike and nostalgia the past achievements of the left for them to offer a vision (or two).

Keep the Aussie Dollar at Bay

This entry was posted in Globalisation & Trade, Macroeconomics & Money on 7th May 2002 by Brian Easton.

New Zealand Herald 07.05.2002

Keywords: Globalisation & Trade; Macroeconomics & Money

Should New Zealand form a currency union with Australia, just as until recently Argentina did with the United States dollar? A fixed exchange rate between two markets is clearly advantageous to the exporter, whose one ambition is to sell to Australia. But more than 80 per cent of exporters and 90 per cent of the economy have other ambitions.

To argue the case for a currency union we need to go back to fundamentals. Consider the basic weakness of the economic model which the advocates used. It is a one-price model – the only price it has is between money and aggregate production. If relative prices between the various components of production and expenditure do not change, or do not change quickly, the one-price model works reasonably well. But sometimes those prices change rapidly. The Argentinian crisis was precipitated by the US dollar rising relative to other currencies, which hurt exporters who sold outside the dollar zone and import substitutors who competed against imports from non-US sources. For a number of reasons Argentina was not a well-run economy and we could easily get bogged down in the details of its failure.

So consider an example of another country in a common currency which slumped into economic and social turmoil when there was a significant relative price shift. New Zealand up to the early-1930s had a common currency with sterling. When New Zealand export prices relative to import prices crashed as a result of the world depression, much of the policy of the time was focused on how to restructure the domestic price levels. A part of that restructuring was the devaluation of the New Zealand currency against sterling – in effect, the busting of the common currency union we had with Britain.

In the 70 years since, New Zealand has never re-entered a common currency union. Nothing has happened to suggest it will work a second time if we get a major relative price shock, which the Argentine experience shows remains a real threat in the volatile international system. Why, then, advocate a currency union with Australia when at most only 10 per cent of the economy may benefit?

Unfortunately, those who use the exceptionally simple one-price model (the model used by monetarists) are not going to see the treacherous prospects for a real economy with many prices. But there is a deeper issue. A group of New Zealanders suffer from the colonial cringe – an inferiority complex about the prospects for New Zealand. They do not have that sturdy faith in the country being a success that is common in Australia today.

Instead, they believe that New Zealand cannot survive on its own and needs to hook up with some bigger economy. Australia is an obvious candidate. But if New Zealand is too small to go it alone, the likelihood is that Australia is too small, too. Its economy is only six times bigger than New Zealand. The two countries combined would be but 2 per cent of the OECD. A currency union between them solves nothing, and exacerbates everything.

By ignoring the complexity of a real economy, the single-price economic model does not require any policy instrument to deal with an external shock from changes in relative export prices or international exchange rate relativities. The economy would still adjust to such shocks. In the case of a terms of trade collapse, it would go into a long period of disinflation, depression, unemployment and stagnation. As Gordon Coates judged in the 1930s, it is better to change the exchange rate and get expansion under way. (If export prices rise sharply, the economy is likely to experience sharply rising inflation.) Even were there never any such shocks (New Zealand gets a major one about once a decade), the strategy would be wrong, because it sees New Zealand’s economic destiny with Australia, even though we send but a fifth of our export merchandise there.

To get too close to the Australians, as the limited-vision, little New Zealanders want us to do, diverts us from the big project on which New Zealand’s survival depends – engaging with the whole world.

Listener columns which explore some other aspects of the ideas in this article include:
DONT CRY FOR US ARGENTINA February 9, 2002.
WALTZING WITH MATILDA September 15, 2001.

Cutting off the King’s Head:

This entry was posted in Governance, Listener, Political Economy & History on 4th May 2002 by Brian Easton.

The Bill of Rights and the National Library and Archives
Listener 4 May, 2002.

Keywords Governance, Political Economy & History

While I have considerable sympathy for historian Jamie Belich’s plea to teach more New Zealand history in our schools, the Seventh Form course on the Tudors and Stuart periods is attractive, given its foundational role in the development of Westminster style governance. Or I thought it was attractive, until I learned that the study ends in 1660. …

… Students never get to the 1689 Bill of Rights, the culmination of the political struggles of the times. The Act is so important, it is still applied by New Zealand courts, most memorably when in 1976 some of Prime Minister Rob Muldoon’s actions over superannuation were struck down as being outside the law.

England’s seventeenth century struggle, which included civil war and a period of kinglessness, was about such rules of governance. Charles the First wanted to govern independently of parliament. Parliament wanted to constrain what he could do. The 1689 settlement, 40 years after his execution, involve the Bill of Rights which requires the government to act only with the authority of parliament. Yet the tension between the Executive (the ministers and their public servants) and Parliament and the people it represents continues unto this day. Only recently an official who had got carried away with his own self importance and contempt for ordinary New Zealanders had to be told, ‘they cut off a king’s head for that sort of sentiment.’

We can see the tensions in a couple of pieces of proposed legislation, the National Library Bill, already before Parliament, and a proposed bill to replaced the antiquated Archives Act. There has already been considerable consultation between officials and the stakeholder groups. (We are all stakeholders, but the groups try to represent us.) Their meetings, usually chaired by the minister, Marian Hobbs, have sometimes been quite tense for there are some fundamentally divergent views. Understandably, the officials want the maximum amount of freedom to do their jobs without the constraints of specific legislation. Equally understandably, the stakeholders are unwilling to give the officials too much freedom. (It is a small rerun of the seventeenth century isnt it?)

The Minister has attempted to get as much consensus as possible before the bills go to Parliament where they will be considered by a Select Committee – a subcommittee of all the MPs, which listens to submissions from officials and the public. It seems likely that some stakeholder groups will submit to the Committee that the public servants’ discretion should be limited further than as already proposed by the bills. Once Parliament has passed the statutes, perhaps after amending them, they become law.

Afterwards there will continue to be consultation between minister, officials and stakeholders about the nation’s library and archives policy. But if that breaks down, the stakeholders could be off to court, as has occasionally happened before. That is the effect of law. A failure to follow a statute is dealt with by the Courts. Officials want to avoid this possibility. Hence their desire to have as few as possible constraints in the acts that regulate them. I understand the officials have given stakeholders some assurances about what they will do. But such assurances could be worthless when the officials move on. The stakeholders want them, not just in writing, but as the law of the realm.

MMP has dramatically changed the nature of Select Committees. Once the Executive could invoke a majority on every one, and so drive through its requirements, oblivious of stakeholder concerns. It regularly did. Some officials seemed to think their Minister’s role was to pass legislation in the public servants’ interests, with only the vaguest commitment to stakeholders’ interests. Ministers, the most senior members of the Executive, are also members of Parliament representing the people, and find themselves torn between these two functions.

Today, Select Committee seats are allocated in proportion to the party vote, so the Executive does not have a majority. The government could use its authority in the full Parliament (after side deals with other parties) to overturn a Select Committee decision. But it is unlikely to call a snap election over the statutes regulating the National Library or Archives New Zealand. That is the fascination of these particular bills. Comprehensive government records are crucial to holding any government to account. The two institutions deal with matters terribly important to the nation’s heritage (and they may be specifically important to individual New Zealanders by preserving records and artefacts of their ancestors). But the are not important enough to bring down a government, so Parliament has considerable freedom to amend the legislation according to its best judgement.

We may see, then, the Select Committee treating the issues in the two bills on their merits, balancing the concerns of officials and stakeholders, reaffirming the right of parliament to determine that balance. For MMP has changed the balance of power between the government and the people. No wonder the elite loathe it. At least any tension will not result in the chopping off the heads of minister, national librarian or chief archivist.

Beware the Median

This entry was posted in Distributional Economics, Social Policy, Statistics on 2nd May 2002 by Brian Easton.

SPRC Newsletter No 82, November 2002, p.6-7.

Keywords: Distributional Economics; Social Policy

In their article Beware the Mean!, Peter Saunders and Tim Smeeding argue that median household is a superior reference point for establishing a poverty line than mean household income, concluding ‘Put bluntly, the use of a poverty line linked to mean poverty income produces excessively high poverty rates that tend to increase by more when poverty is rising but to fall by less when poverty is falling.’ The purpose of this note is to demonstrate that poverty lines based on a fixed proportion of the median income are subject to a fatal flaw, illustrating the consequences of the flaw with recent New Zealand experiences.

A fundamental requirement of any poverty line is that it should be policy neutral, that is a change in distributional policy should not change the line (although it may change the numbers above and below the line). The justification for this assertion is simple. Suppose a poverty line was dependent on distributional policy. Then the policy could deliberately reduce the poverty line, thereby reducing headcount poverty, without changing the material circumstances of the poor.

To illustrate the possibility, median income is policy dependent. In particular, tax and other income transfer policies mean it is possible to transfer income from those in the middle of the income to the rich (as we shall see this happened in New Zealand), where there is no change in national income (and hence average income). Such a transfer is unquestionably an increase in inequality, and does not affect the material standard of living of the poor. However the median income falls, and so a poverty line which uses the median as the reference income also falls. Thus headcount poverty falls.

So we have the following paradox with a median based poverty line: a policy which transfers income to the rich, reducing the incomes of those below them and decreasing their material standard of living, appears to result in a reduction in headcount poverty even though the poor experience no change (or even a reduction) in their material standard of living. (An (impractical) extreme would be to eliminate all headcount poverty based on a poverty line which is a proportion of median income by allocating all household income to the rich.)

Something like this happened in New Zealand in the late 1980s and early 1990s. Between 1981/2 and 1992/3, mean household real income fell 6.1 percent, largely as the result of neo-liberal policies which stagnated the economy. However the share in the top decile of households rose from 20.1 to 25.1 percent of all household income (so they experienced an increase in their real incomes of 17.0 percent while the real incomes of the bottom 80 percent of households fell by 14.7 percent). The Gini coefficient of inequality rose from .291 to .305. Not surprisingly the median income for the population fell more, some 19.2 percent over the eleven years. (Easton 1995)

The main distributional changes were the result of government policy. Income taxes cuts on top incomes (the top marginal tax rate was reduced from 66 percent to 33 percent) were paid for by higher taxes on those lower in the distribution, and by social security benefits cuts. There is plenty of evidence to suggest that their was a marked reduction in the quality of life of those at the bottom of the distribution, with a sharp rise in numbers using food banks as the most prominent.

The effect on head count numbers of these changes is predictable. If an absolute poverty level is used the numbers below the poverty line rose sharply (the population proportion rose 26.2 percent if the standard poverty line – based on the assessment of the 1972 Royal Commission on Social Security – is used). Headcount poverty based on the mean as a reference income rose modestly while those that used the median as a reference income fell (the population proportion fell by 18.3 percent for a poverty line based on 60 percent of median household income).

Extraordinarily, both the New Zealand Treasury and the neo-liberal New Zealand Business Roundtable used the median based headcount number to claim that the policies of the previous decade had been a success. They got little support from the poor.

Perhaps neither the median or the mean household income is satisfactory reference income for establishing a workable poverty line. My view is that there is a need to look outside the income distribution at the actual living standards of those on low incomes, and make a social judgement as to an appropriate income line which reflects the community judgements on poverty. Ideally it should be updated, perhaps every five years because any calibration exercise is costly. If it is necessary to make interim adjustments, changes in the mean income are likely to be more satisfactory than changes in the median income. However in my experience, if the mean income changes are large discussion is likely to get confused between changes in absolute incomes and changes in relative incomes. (If they are small, adjustment may be unnecessary.)

This does not resolve the problem which the Saunders-Smeeding paper addresses of international comparisons. A procedure which established a poverty level based on information from outside the available statistical distributions as discussed in the preceding paragraph is probably not practical, although given the existence of international price comparison data, some progress may be possible in the comparison of country poverty lines in real terms. The obvious options using the distributions themselves are the mean and the medians as discussed in the Saunders-Smeeding paper. Given that the median is not policy neutral we seem left with the mean.

We can deal simply the problem of the fact that the mean is higher than the median, and so generates more headcount poverty, by asking what is particularly sacred about using the relativity of 50 percent of the mean or median. On the basis of their Table 1, it looks as though typically 50 percent of the median equals about 45 percent of the mean. So why not set the standard poverty line at 45 percent of the household mean? (Better still, give the data for 40, 45 and 50 percent of the mean.)

This does not resolve the problem of changing mean incomes over time. The response depends upon the judgement one makes of the meaning of a poverty line. If the notion of poverty is intended to reflect some absolute standard of material comfort, the approach may be to identify a particular year (say 1992 which was a decade ago) and use the 45 percent (or whatever) of the mean of that year as an absolute poverty line thereafter. On the other hand if the notion is of a relative standard because the community judges the poor should share in its rising standards of living, then the poverty line should be 45 percent of the current year mean (or an average over surrounding years, if an adjustment for the business cycle is deemed necessary because the poor are entitled to greater income stability). With current computing power it is no great difficulty to provide all the data and leave specialists to chose for themselves, with a careful justification of their decision. Non-specialists might best use the 45 percent of mean income in a base year (even though it is a different proportion, say 43 percent, a decade later).

The final point to be made is the Luxembourg Income Study, which precipitated the Saunders-Smeeding paper, is a heroic venture in international comparative statistics, but the journey is a long one with many difficult obstacles to be overcome. (For instance how to incorporate the differing nationals of income in kind – health and education spending the most prominent – in international comparisons.) It may be that we are asking too much from the program at this stage to give us precise answers on international poverty comparisons. Yet as the Saunders-Smeeding paper shows, careful analysis can throw useful light on some international distributional trends.

References

Saunders P. & T. Smeeding (2002) ‘Beware the Mean!’ SPRC Newsletter, No 81, May 2002, p.1,4.

Easton, B.H. (1995) “Poverty in New Zealand: 1981-1993”, New Zealand Sociology, Vol 10, No 2, November 1995, p.182-213.

Brian Easton Reviews the Nationbuilders

This entry was posted in Political Economy & History on 1st May 2002 by Brian Easton.

Letter to “N.Z. Political Review”, Autumn 2002.

Keywords: Political Economy & History

While there is some dispute as to what a reviewer owes an author there is no doubt that he or she has obligations to the review’s readers, obligations which Simon Boyce manifestly fails to meet in his so called ‘review’ of my The Nationbuilders (Nov/Dec 2001).

At the very least, readers of the N.Z. Political Review would expect to have it mentioned that the book’s Envoy is devoted to the life of Bruce Jesson, and that his ideas play a central role in the thesis the book develops. Many readers would be interested that the book includes the lives of F.P. Walsh, Bill Sutch, Norman Kirk, Sonja Davies, and Bryan Philpott, among others. They are likely to be interested in the book’s theme of how some New Zealanders sought New Zealand solutions for New Zealand problems, rather than adopting a colonial mien, and how they were betrayed after 1984. The theme is illustrated with economic development, cultural policy, foreign policy and union, among other examples, all again of interest to N.Z. Political Review readers. They may also want to ponder on the story the book tells of the rising of the women’s, Maori and environmentalist movements.

Yet there is not a single hint of any of this in the Boyce review. Indeed it hardly touches on the book at all, instead wandering in areas of arcane monetary policy, so distant from The Nationbuilders, one fails to see the connection with the book. It would be most regrettable if readers thought The Nationbuilders focussed on the issues with which Boyce is obsessed. It hardly mentions them.

The occasional points where there is a touching usually involve Boyce making gross or misleading blunders. It would be tedious to deal with all them, so I confine myself to but two.

Boyce says that the book included Bernard Ashwin because of an ‘apparent conversation with Coates in which he decided to found a Reserve Bank.’ That is simply not true: the book does not say that, offering a totally different story of Ashwin’s significance, and in fact the incident is recounted in the chapter on Gordon Coates, not the one on Ashwin. (Boyce compounds the calumny by a pseudo-academic footnote referring to a secondary source. If he had bothered to look at the book’s citation, he would see it uses the primary one of Ashwin’s account. What is the point of citing a secondary source except to mislead the reader?)

Boyce complains that The Nationbuilders does not give a chapter to Walter Nash, leaving the reader of the review mystified why. Readers of the book would have no such difficulties. Peter Fraser, who is not mentioned in Boyce’s review, was chosen from the triumvirate of himself, M.J. Savage and Nash. (While the Bassett -King biography has done much to redeem Fraser, he is still undervalued, and I hope my chapter helps further remedy that.) Boyce’s contrasting of Rob Muldoon and Ashwin is an inept reading of the book. Readers will see it brackets Fraser and Ashwin, and Muldoon and Henry Lang.

It is generally not the done thing for an author to complain about a review, even one as manifestly as incompetent as Boyce’s. Perhaps I will be forgiven if I explain the book began in part as a dialogue between a number of intellectuals, one of whom was Bruce Jesson. I tested out many of my ideas on Bruce, for his knowledge was wide, his counsel perceptive, and his enthusiasm for the thesis encouraging. The Nationbuilders is not his book, except where I specifically cite his ideas, but he influenced it directly and indirectly. He often told me how much he was looking forward to its publication. Regrettably he never saw it on this earth. I know he would have been appalled by that review in a journal of which he was a proud editor.

This won “N.Z. Political Review’s” prize for the best letter for the issue

Science and Nationbuilding

This entry was posted in Growth & Innovation, Political Economy & History on 1st May 2002 by Brian Easton.

Revised paper presented to the Rotorua Branch of the Royal Society of New Zealand, 1 May 2002

Keywords Growth & Innovation; Political Economy & History

The Nationbuilders is a book about the economic social and cultural development of New Zealand from 1932 to 1984 when a group of visionary New Zealanders developed the nation. The story is told through a set of biographical essays, but while some have read the chapters separately for the individual stories, in fact the book has a series of themes, which the lives illustrate.

Thus while there may be no specific chapter devoted to science – although I shall add important caveats shortly – science permeates the book, as you would expect in any study of twentieth century national development. I did contemplate a biographical chapter on the DSIR, which would also illustrate the development of a government department other than Treasury, one of the themes of the book. The intention would have been to give prominence to the Grasslands Division which may be the most spectacular single scientific contribution to New Zealand’s development. However space was limited. My original plan was a 60,000 word book, but my publisher began to show signs of agitation as I cruised up to 100,000 words – 320 pages – so something had to go. And to be honest, I would have given higher priority to the Dairy Board.

But you will find a science story there in the book if you look. The first minister of the DSIR was Gordon Coates, the first full chapter biography. It is a typical Coates story. He had just become Prime Minister, he had a report from a British expert in March 1926, and the man ‘who gets things done’ implemented its recomendations by the end of the year, apparently without a lot of consultation, and he took the portfolio himself. (He also began the planting of the Kaiangaroa Forest and established Massey University – a truly remarkable New Zealander.)

The book also has two major applications of science in its story of Tasman Pulp and Paper which occurs in the chapters on Bernard Ashwin and James Fletcher, and there is a separate chapter on New Zealand Steel. Ross Galbreath’s history of the DSIR devotes an entire chapter to the scientist’s contributions to the processing of ironsands to steel. (I also add, that it gave me considerable pleasure to learn that the two business were both the result of tectonic activity. A Taupo volcanic eruption led to the Kaiangaroa Forest, and a much older eruption from Mt Taranaki generated the ironsands. In his summing up of my address, Roland Burton added to my pleasure by adding that a recent paper reports that the hydrocarbon depositis in the Tarankai area are also in part due too volcanic activity.)

Two scientists have chapter biographies. I shall use to Douglas Robb to describe the conduit role in science, so I merely mention here that he was a key New Zealand player in the transformation of New Zealand surgery from artisan craft to applied science, albeit one where craft skills remain vital.

The other scientist was Bryan Philpott, who followed the best scientific traditions of economics of progressing the subject by the empirical testing of hypotheses. One of the purposes of this paper is to assure you that economics can be a science, although many ideologues like to treat it as otherwise. The book uses Philpott’s science to explore the development and application of economic theory. I want to tell this story in a slightly different way tonight.

One of the book’s interests is the way that economic theory developed and became applied to New Zealand. Many commentators assume that economic theory is static and does not progress. In fact there is ongoing paradigm development, paradigm conflict and paradigm displacement. While at the time it is hard to see anything but a melee of controversy, one of the functions of the intellectual to make sense of it – at least with the advantage of hindsight. Nationbuilders describes the revolutionary paradigmatic clash, in which the institutionalist paradigm was displaced by neoclassical synthesis in the early postwar era. I am not going to describe this clash tonight – it is in the book – but I would caution that without understanding it, it is very hard to make sense of the late part of the nationbuilding period, in which Rob Muldoon operated from largely the institutionalist paradigm and was challenged by the neoclassical one. Rogernomics was, intellectually, an extreme – and incompetent – application of neoclassical economics, which has many attractions – including its mathematical rigour – but which does not dominate institutionalism on all dimensions.

In the 1950s the neoclassical paradigm had two major progressions which had significant policy applications some years later. The first might be called general equilibrium theory. Its basic idea is that prices are a signalling system which individuals use to make economic decisions. The best set of prices for making economic decisions are market one for which the government does a minimum of intervention, where there are no subsidies, where there are no taxes (or if they are necessary they are flat like GST), where there are no artificial barriers to entry such as a licensing regime or external protection, and so on.

The merits or demerits of this approach belong to another presentation. For our purposes we observe that there was a tendency to implement the policy conclusion – reduce government interventions – from the 1950s increasingly through to 1984, a tendency which Muldoon did not totally resist. After 1984 the policy conclusion – eliminate government interventions as much as possible – was implemented with a vengeance. The promise was that the existing resources would be allocated more efficiently with the result that there would an increase in the level of output for the available resources.

In fact there is little evidence for an overall boost in the level of economic activity after 1984 which the theory predicts should have occurred. The economy actually stagnated, although that might be attributed to other factors. Even more surprisingly there is no evidence of an increase in productivity which should have occurred if the theory on which the policy conclusions is based is correct, independent of whether the economy expanded or stagnated. The discrepancy between the prediction of the theory and outcome of its application is so enormous that it must qualify as a critical experiment, which so challenges the dominant paradigm that it has to be ignored until another scientific revolution resolves the inconsistency.

Even had there not been this paradox, the theory would have been vulnerable to quite a different criticism. General equilibrium theory is not a theory of economic growth, but a theory of a static economy, assuming there is a growth process, rather than explaining it. At best, the efficiency improvements that its policies promised would have lifted output and provided a foundation for economic growth, but in themselves they would not have generated any.

Fortunately, another progression in the neoclassical paradigm offered some account of the growth process. Neoclassical growth theory might be attributed to Robert Solow. A particular paper of his, written in 1957, is widely quoted in the New Zealand science debate, as if he wrote nothing else of significance, and there had been no progress since then. It has always astonished me that scientists who would be shocked if an economist used as their only source on scientific topic a paper that was 45 years old, should do the same for an economic research paper. I mention this because one of the oddities of the debate I am about to describe is that scientists did not tackle the policy issue with the sort of scientific discipline they expect in their own work.

Bryan Philpott did. He pioneered the application of the measurement of the aggregate production function in New Zealand, often literally with his own bare hands creating the data base, updating it for forty odd years until shortly before his death, and interpreting it right to the end. But he was not an uncritical user of that approach and he would not dissent from anything I have to say about it today. The only surprising thing about his record is how little recognition he got for this work and how, since he has died, there has been so little interest in preserving and maintaining his research program. I suspect that is because we are happy to rely on rhetoric to justify policy conclusions, and are not really interested in the scientific content of the research. Forgive me then if I talk about the paradigm a little, as free from the rhetoric as I can make it.

Solow’s central finding, replicated for many other data sets, for other periods and for other countries – including by Philpott for New Zealand over all the periods for which he had data – can be summarised this way. Suppose the amount of capital and labour and other inputs increase in an economy by 10 percent over a period. Then we might expect the economic output to increase by 10 percent too. In fact it increases by more than that, measurably more than that. So there must be something else which is increasing output over time on top of the additional labour and capital and so on.

Solow’s seminal paper is a beautifully written and worth reading for its elegance, but also for its scientific discipline. There is actually a mistake in the pre-computer days calculation, but unaware it is a mistake, Solow did not explain it away by an ad hoc theoretical adjustment , but remarks ‘for the present, I leave this a mystery’. How terrible it would have been had he completely explained the anomaly by a theoretical modification to learn later it was but a computational error. The scientist did not.

The paper described the other source of output, and hence the main source of economic growth, as ‘technology’, a term which has been seized on by the science community without any understanding what was meant, and how it was used in such expressions as ‘80 percent of economic growth can be attributed to technology’. Solow defined his concept:

‘I am using the phrase ‘technical change’ as a shorthand expression for any kind of shift in the production function. Thus slowdowns, speedups, improvements in the education of the labour force, and all sorts of things will appear as ‘technical change’. (Solow’s italics)

In fact the technical change – today it is called total factor productivity or TFP – is anything that cannot be explained by increases in labour and capital – a residual. A couple of British economists, Tommy Balogh and Paul Streeten went as far as saying that the residual was a ‘coefficient of ignorance’. You could say that those who think that we can increase economic growth by higher technical change are saying we should increase our coefficient of ignorance. Given the way they go about their advocation, they may well have.

Economists have of course tried to reduce the coefficient of ignorance by directly estimating the other factors contributing to economic growth. The results are largely unsatisfactory for various reasons, and even so often there remains a residual – albeit a smaller one. One result is that some of the residual can be attributed to the increasing economic quality of the labour force (although there are some theoretical difficulties with the measurement). While each generation is no better than its ancestors, each acquires more economically useful skills which contribute to it being able to perform more productively. This is a complicated area and I want to draw here but two points.

The first is that while those skills usually come from scientific knowledge (although in poorer countries there may also be substantial economics gains from a healthier work force), the knowledge is embodied in workers. Thus education and training can also claim to have a substantial contribution to economic growth. Not only do we need to be aware of the danger of double counting, but we can see there is a transmission and application issue. Even if knowledge is the primary driver of rising productivity, it is far from clear how it works. I will return to the transmission and application issue, but it is further complicated by the second point.

Just as knowledge is systematically embodied in human beings, it is also embodied in physical capital. Indeed all the complications of transmission and application of knowledge we see with human capital apply here too, and probably interactively between labour and capital, since capital with newly embodied technology is of little use unless there is the labour with the knowledge to use it and vice versa. Moreover it is not just the labour and the capital with their embodied knowledge, but a key factor may be how they are organised in the workplace, in the firm or establishment, in the industry and in the economy. General equilibrium theory implies that the organisation of the economy is very important, but sophisticated levels of organisation are probably as important, although harder to address in policy terms.

Ultimately the problem is the Solow approach is so aggregate it obscures the really interesting issues. For instance, the method, and much of the discussion based on it, assumes that capital is a well defined and readily measured notion, but how does one aggregate together a one horse shay with a 747 into a single index? Solow was aware of the problem of aggregation, neatly sidestepping:

I would not try to justify what follows [that is the measurement of technical change and the aggregate production function] by calling on fancy theorems on aggregation and index numbers. Either this kind of aggregate economics appeals or it doesn’t. Personally I belong to both schools. If it does, I think we can draw some crude but useful conclusions from the results.

‘Crude but useful’. Exactly. That is the best that we may hope for from such analyses. And Solow’s marvellous paper is just that. It points out the issue of economic growth is not just additional capital per worker. There appears to be some other important phenomenon which contributes to economic growth, and without which there would be little improvements in productivity. But we are far from clear what is this ‘technical change’. To become more enlightened we cannot simply pursue the Solow’s aggregate approach, we need to investigate at the microeconomic level.

There is a mass of research done at this level on the role of technology in economic growth, although virtually none of it in New Zealand. Other than Galbreath’s chapter, and that is history not science, We do not have a comprehensive study of the extraordinary success of the Grasslands Division in their research, transmission and application of pasture management principles. (Gerard Horgan, with whom I stayed, reminded me that the radiata pine project was also a great achievement, but there is even less written on that.) More generally, there are extreme difficulties in this research and economists do not yet have a comprehensive account of how knowledge turns into prosperity.

The problem is that it is very rare that economics or science policy issues can be studied via traditional experiments. Economic research has to use a different approach because no one will let us properly experiment on the economy, except by accident.

Consider the Rogernomics experiment. Before and after analysis of the New Zealand economic performance shows that not only did the promises for outcome of the reforms generally fail miserably – the exception is the disinflation where price stability was attained even faster than was expected – but very often the reforms led to a worsening of the outcomes the reformers highlighted. (Incidentally, Bryan Philpott was one of the few that worked on the careful measurement of these indicators). There is even a contrast for Australia approached the problem of economic reform differently to New Zealand from a similar baseline. The comparison shows Australia performed much more successfully than the extremism of New Zealand. Yet a decade later the reformers prance in the public arena as though there had been no test on their theories or that an impartial scientific one had found they were a success. This is Lysenkoism. Just imagine someone advocating a new fertiliser. The outcome following application is a reduction in crop yield. Yet they still promote it as if it would give a major boost to biomass, while the scientists who drew attention to the evidence of failure were condemned.

Hans Christian Anderson was wrong in the way he finished his story The Emperor’s New Clothes. By the time the boy draws attention to the Emperor’s sartorial inadequacies, the onlookers have followed the fashion and are cavorting around in the nude. So they beat the little boy. A few years later the fashion has changed, everyone is now heavily dressed and they studiously ignore the boy who had the courage to point out the past absurdity – after all who wants to recall making a fool of themselves, and in any case the current fashion may be as absurd.

I have spent a little time on the peculiarities of my own science in public debate, because there is a parallel development in science policy. For it was as ideologically led as was the economics reform one was, and the science leaders often let their scientists down. The problem was that science was absorbing substantial fiscal funds and demanding more. Aggregate production analysis’s conclusion was that technical change had a significant impact on the economic growth process, suggested that science was an investment in economic growth, so that by spending more on science there would be higher economic growth. (Educationalists, facing the same problems, came to the same conclusion. Treat education as an investment in economic growth to justify large and increasing expenditures on education. This lead them down a commercialization path too.)

Now the analysis is broadly true, but it leaves the critical policy issues totally unresolved. What science should we be investing in, and how do we transmit and apply the scientific findings into economic performance? The aggregate production approach cannot answer these questions, for that requires detailed microeconomic investigations. Unfortunately the profession’s leadership had seized on the idea of the science as investment without trying to understand the underlying theory nor seeing its weaknesses, and certainly not looking at the microeconomic evidence that was trying to address those weaknesses. This was the rhetoric of policy ideology not the rational analysis of science.

It is not surprising then, that the leaders linked up with another ideological rhetoric, that of the Rogernomes, who argued that if an activity was an investment then the most effective strategy was to treat it as private property in a competitive market environment – that is to commercialise science research. Basically, the approach was quack medicine, not just a placebo but something that made the patient worse, because it damaged the science industry rather than enhanced it.

There is not a lot of evidence that this commercialisation resolves the transmission of knowledge problem, except relatively late in the application cycle when property rights becomes practical – the effect of a patent is to privatise an idea. The industry in which this has been most successful is pharmaceuticals. However perhaps the pharmaceutical industry could have been better organised on different principles. In any case the way it is organised today is not a good general model for creating, transmitting and applying other science to promote economic growth.

A good counterexample is the Grassland’s Division, which was not organised on good commercial principles, which was extremely scientifically creative, and which transmitted its knowledge effectively to farmers who successfully applied it to the benefit of the pastoral industry and the New Zealand economy. But counterexamples rarely dissuade ideologists.

A nice illustration of this point appears in a recent NYRB by physicist Freeman Dyson. He wrote of the author whose book he was reviewing:

[His] argument makes sense if you accept the rules of theological argument, rules which are different from the rules of scientific argument. The way scientific argument goes is typically as follows: We have a number of theories to explain what we have observed. Most of the theories are probably wrong or irrelevant. Then somebody does a new experiment or a new calculation that proves Theory A is wrong. As a result Theory B now has a better chance of being right. The way a theological argument goes is the other way around. We have a number of theories to explain what we believe. Different theologians have different theories. Then, somebody, in this case [the author], declares Theory A is right. As a result, Theory B now has a better chance of being wrong.

The scientific problem seems to be that the neoclassical account which underpins the commercialisation policy assumes that price signals are sufficient to organise the production processes in the (competitive) industry. My current work in this area is more concerned with the health industry, where it seems that the conditions for good quality price signals in a competitive market do not exist, as is evident in the professional ethics of doctors. The same seems to apply to science, including that the reward system for scientists gives priority to early publication that being in the best interests of scientific progress if not commercial profit.

Perhaps it is not surprising that the hardline commercialist reforms of the government science sector (and indeed the health sector and elsewhere besides) soon fell apart. We are still trying struggling with how to incorporate science research and development into an overall economic strategy. A critical part of the answer may lie in the intricacies of the production process.

In order to discuss recent developments in knowledge policy, I want to identify a wider remit of science than just commercial policy. I can identify five Cs of science, only one of which is commercial.

Science is also a cultural phenomenon or, using the current government terminology, a ‘creative’ one. What that means is one does science not just for reasons of commercial outcome but because like reading and theatre and music and dance it enhances cultural life as it promotes the creative, curiosity and a sense of wonderment in the individual human being. Recall my pleasure at how tectonic plate activity linked the origins of Tasman and NZ Steel. Even if geology had no other use – it does of course – that better understanding of where our beloved land came from is a contribution to our welfare. If we spend public money on recreation – as we do for the arts and sport – perhaps we should spend public money on recreational science. For instance it seems highly unlikely that astronomy research in New Zealand will give any commercial benefits. But there exists throughout the country amateur astronomy societies whose members are passionate about the awe of the multitude above us. There is a case for supporting them, not by purchasing telescopes – the equivalent of cricket fields and theatrical facilities – but by funding a small but active national astronomy research program. It is not obvious how much the government should spend on science for such creative/cultural purposes but, then again, it is not obvious how much it should spend on rugby or symphony music. Whatever the practical answer, science betrays itself if it designs science policy which ignores the creative/cultural role of science.

The third C of science, is the need for a capability to deal with scientific issues which may arise, but not with certainty. It is said that the last bee scientist in the public service was about to be made redundant when the threat of the bee mite turned up. We will soon be spending $100m a year on quarantine protection of our external boundaries, and ten times that on a defence force we hope will never be used. Competence in science can have a similar protective role. Nuclear power is statutorily prohibited in New Zealand, and yet we need to have scientists who are knowledgeable – to advise on international issues and because we need a competency for the unexpected: suppose a nuclear reactor in a dying satellite fell on a piece of New Zealand; suppose a nuclear power ship in distress asked for haven in a New Zealand port.

The fourth C of science is the conduit, a mechanism which channels international scientific knowledge into New Zealand. Douglas Robb was among those who had this role in mid-twentieth century medicine. Scientific surgery was blossoming just before the First World War in a few centres such as the John Hopkins Medical School. Robb seems to have picked up the approach when he was trained in England in the mid-1920s. It certainly made him unpopular with the craft surgeons who flourished in New Zealand at the time of his return. They were most disturbed when he tried to introduce medical auditing into surgery practices and tried to train the house surgeons in new techniques in the 1930s. His writings advocating a public health service involves a collegial approach to medicine with research, libraries and ongoing continuing education. This may be conventional today, but it was new then. When the American forces came during the war, he organised demonstrations by their doctors from which our doctors could learn. He was constantly visiting overseas hospitals, and in the late 1940s visited John Hopkins to learn of developments in heart surgery which were soon applied here. He was vitally concerned with Auckland University, being on its Council for 35 years and it was his vigorous leadership which speeded up the foundation of the Auckland University Medical School. This was not a conduit which dumped the new science into New Zealand. He was energetically and sensitively adapting and applying it. The outcome of his Greenlane Heart Unit gained a world class reputation.

One thing that Rogernomics taught us was that even where knowledge is being conduited there is an application stage in New Zealand. It cannot be used raw. There was little attempt in the 1980s and 1990s to adapt the ‘international’ (that is American based) theories to a small open economy like New Zealand, and they were applied as if New Zealand was the United States of America. The problem of the failure to adapt sound foreign research for New Zealand circumstances persists in economics today. Last year’s Treasury report on the inclusive economy was primarily based on foreign research with a minimum of New Zealand input (the official’s own papers aside) and they also used an American as a referee. It would have been a much better report – more intellectually advanced and relevant – had it responded to the past New Zealand debate, rather than ignoring thirty years of New Zealand analysis.

The implication is that there is a need for local scientists to be working at the end of the conduit in order to understand the paradigm and adapt it for New Zealand. They may not be world class researchers, and do not need to be, although as Robb’s record shows sometimes they will end up that good. Different conduits will function in different ways. Sometimes the scientists will be based in the relevant business or public agency, sometimes they may be in a private or public research institution but contracted to do work for a business or agency, the need for the institution arising from the requirement of a critical mass of science activity. And the public agency may be a government research institution such as a Crown Research Institute or a tertiary institution such as university or polytechnic. There is no single arrangement that applies to everyone. Individual circumstances require pragmatic responses to the institutional and funding arrangements, not the one size fits all of commercialisation.

Sometimes science for creativity, capability or conduit of basic science will result in an unexpected commercial or other application which enhances economic growth. That is a serendipitous gain. While we should ensure that such potential beneficial outcomes are captured, it is important that the primary purpose – creativity, capability or conduit – remains the principal purpose.

However science also has a role of increasing our capacity to contribute to the generation of prosperity and progress. This is more than the commercial object of science, with its concerns of making a profit for private businesses and thereby, so it is argued, contributing to economic growth. That is both a too narrow an account of the growth process, and too narrow an account of how science adds to the nation’s capacity. If the Grasslands Division had been funded on a user-pays basis, our pastures would be thinner and the nation the poorer. That leaves open of how to get science to contribute to capacity, and how to get the right balance between that capability and its cultural, capability, conduit and commercialist roles (not to mention how to do so efficiently).

The government has been feeling its way to a capacity role of science, as in the recent SIAC report Innovators to the World, and the government response Growing an Innovative New Zealand. What strikes one about such reports is that they are stronger on general directions than they are on detail: one might say we are in still in the rhetoric rather than the research phase of science policy. There is too much use of the term ‘innovation’ as an undefined public good, and insufficient rigorous analysis about what it actually means in practical terms. Perhaps that is excusable in that we are still recovering from the damage that occurred when the rhetoricians exclusively defined the role of science to be a commercial one, and the seeking of a balance is commendable. However we cannot stop there. We need to think systematically about the creation, transmission and application elements of capacity science.

Actually we know a lot about how to promote scientific creativity, and quite a bit about how to apply it. It is the transmission that is problematic. For instance some of the most creative scientific cultures – Britain does well on most measures – have a poor record on the applications front as judged by the output of the economy. On the other hand there are post-war economies with poor pure science records – Germany and Japan come readily to mind – have often been among the most technically innovative.

One of the costs of the rhetoric that drove science policy in the past – by rogernomes and the scientists themselves – is that it was anti-science, as ideology must be. The result was to reduce our capacity to think systematically about science policy. It is extraordinary there is no centre for research into science activity in New Zealand. One of the indicators that we have moved out of the ideology phase is when a serious program of science policy research is instituted.

And we need to be clear that it is not simply a matter of how we organise and fund science. I was recently looking at an international comparison of post-secondary qualifications in Britain, Germany, Japan, Korea and Singapore. By far the least qualified workforce was the British, which suggests that one of the reasons British science has a poor transmission record may be to do with the quality of its workforce. Out of curiosity I added New Zealand’s record to the list. It seems that our workforce is as poorly qualified – perhaps slightly worse – than the British one. In a scientific framework this suggests hypotheses about where we might be able to improve the transmission mechanism by improving the workforce, but I would want to look more carefully at the evidence before I came to a policy conclusion. Ideologues will, of course, be able to immediately jump to their preferred policy conclusion on the basis of this one fact.

A related concern is the overall quality of the nations’s scientific understanding. Some crucial public issues are suffering as result – the genetic modification debate is an example in which blind prejudice has too dominant a role, but it is not unique. My concern is not whether New Zealanders know scientific ‘facts’, such as hydrogen is an element, although the population may be weak on them too. The concern is a lack of understanding of the scientific method. Could the anti-scientific approach of rogernomics have made as much progress as it did, if more than a handful had seen through its ideological content to its lack of scientific clothes?

So while the government’s evolving science policies seem to be in the right directions, there is still a lack of the rigorous thinking and application of research which, hopefully, is being addressed. The transmission process is failing again, is it not? Unless we add to science policy a more scientific disposition it will fail to achieve the aims the government has set itself. Invite me back in three years and we will assess how much progress and the nation has achieved. By then we should have some glimmer as to whether we have returned to the pragmatic nationbuilding described in my book, in which science played a vital role.

Does Professionalism Matter? in Health and Education It Still May

This entry was posted in Education, Governance, Health, Labour Studies on 20th April 2002 by Brian Easton.

Listener April 20, 2002.

Keywords Education; Governance; Health; Labour Studies

In Graham Scott’s Business Roundtable published Public Sector Management in New Zealand”, the ex-Secretary of the Treasury provides an account of the late 1980s public management reforms with which he was closely involved. The book includes a few pages on critics of the reforms, including a half-hearted account of my views in The Whimpering of the State (and these columns). Scott writes, ‘Easton makes the extraordinary claim that reformers ignored, or sought to undermine, the personal responsibility and professionalism of the core public sector.’ I am not sure I went that far, but I did report American expert Alan Schick’s concern that there appeared to be an unaddressed tension between the reform’s managerialism with its emphasis on accountability, and professionalism which emphasises responsibility. Curiously (I will not write ‘extraordinarily’), Scott’s book does not provide much evidence that professionalism is a central concern, for its few mentions are desultory. There is more concern about ‘professional capture’, the danger that professionals will administer the system in their interests rather than the wider public good. (The issue echoes the corporate management/shareholder tension I wrote about in my last column Guard Dogs That Fail to Bark.)

In management theory there is a dichotomy between the ‘scientific management’ and ‘human relations’ approaches. Scientific management emphasises a pyramid of control topped by a single chief executive, with a need to provide mechanisms to ensure that those at lower levels do what is required. The human relations approach was a reaction, arguing that effective work processes require a more decentralised management style, in which social norms and non-economic rewards are crucial, and collegial relations important. The public sector reforms were dominated by scientific management notions. Universities, once preeminently collegial, are now by law required to be hierarchal, with the vice chancellor the chief executive rather than the ‘primus intra pares’ academic.

We are so seduced by the notion of ‘scientific management’ that we become insensitive to it. That those who deal with employment relations are likely to be in a ‘human resources’ divisions, suggests the workers are to be treated just like any other input in the firm, not as human beings. Or consider the State Services Commission report, Review of the Centre’, released in January, on how the core public service should be managed. It uses the ‘accountability’ notion 36 times, but ‘responsibility’ gets only 14 mentions, and ‘professional’ a mere four.

The core public service may be moving away from notions of professionalism and individual responsibility. But the public still requires them in the education and health. A doctor recently complained to me that a manager had closed beds in his ward without any discussion with the staff involved. He was not questioning whether the beds should have been eliminated – how could he know all the issues if he was not informed. His concern was the lack of consultation, for under scientific management those lower in the hierarchy need not be involved, even though the upper level managers do not have the professional competence to evaluate the effect of a decision on patients. Their competence is its impact on costs. Another doctor has complained publicly that entire wards have been closed down, without any appreciation of the implications for cross-infection in the closely packed remaining ones. He says that patients have died as a result. Not however, I imagine, to any consternation to those who made the decision, since they are only accountable. It is the professional and responsible doctors and nurses who grieve over unnecessary deaths. Their concern was sufficient to force an enquiry about emergency services at the Christchurch Hospital, which proved very critical of the managers’ competence.

One may ask just how competent the new managerial hierarchies are. They may be good at creating corporate plans and mission statements – do they have any real effect? – but while the impending shortage of radiation therapists to treat patients was known in 1998, it took last years’ crisis for any action to be taken. What does that say of the strategic capacity of health sector managers?

The universities are in suppressed turmoil too. Academics complain that once their administrations were to service the teaching and research, whereas nowadays the academics’ main function seems to be to earn sufficient fees to fund the administration. When universities need to reorganise, it is usually done without consulting their staff, who are bewildered rather than informed. The same happens to clinicians, who find a big chunk of their medical budget unilaterally charged to overheads. In a hierarchical system there is no accountability to those at the sharp end below.

The tension between the managers and professionals in our hospitals is most evident in Christchurch, but exists less publicly elsewhere. The new District Health Boards, with their elected representatives, may become the arbiters between the antagonists. They remain accountable fiscally to the central government, but they are likely to insist that managers recognise and respect the professionalism of the doctors and nurses and involve them in the resource decisions. The most important effect of the current health reforms may be a better balance between scientific management and human relations.

Note The arguement in greater detail appears in DOES PROFESSIONALISM MATTER? (NZIPA Paper)

The Origins Of Four Books

This entry was posted in History of Ideas, Methodology, Philosophy on 16th April 2002 by Brian Easton.

Part of submission for the degree of Doctor of Science from the University of Canterbury. (April 2002)

Keywords: History of Ideas, Methodology & Philosophy;

I began studying economics at the University of Canterbury in 1962, while doing my honours science degree in mathematics, and in late 1963 took up the position of Research Assistant at the N.Z. Institute of Economic Research, completing my B.A. in economics at the Victoria University of Wellington. As a result I got a very wide training in economics – in macroeconomics, microeconomics, development economics, and public policy – covering both theory and applied economics.

I went to the University of Sussex in late 1966, initially as an assistant lecturer in economics but I was later promoted to a lecturer in economics and social statistics. Again I was required to teach across a broad range of economics, my research reflecting this range of interests. By the time I returned to New Zealand at the end of 1970, as a lecturer in economics at the University of Canterbury, I had been working almost nine years as an economics student, teacher and researcher.

My initial research project was a study of the New Zealand income distribution which led to Income Distribution in New Zealand (1983) and to my ongoing work in distributional economics. This topic is not being submitted as part of the application, despite my work being substantial and pioneering. It is mentioned here because it forced me to think about macroeconomic issues from a microeconomic perspective, and led to my interest in the multisectoral nature of the New Zealand economy.

To give a brief illustration. The New Zealand economy has a substantial self-employment. The sector is given little prominence in overseas writings of rich economies, and has a very different role in poor countries, where it is often backward and traditional rather than dynamic and modern as it is in New Zealand. About half the self employed were farmers, so to understand the self employed sector with its crucial impact on the income distribution, one had to investigate farming. Thus one was led here, and in other ways, to looking at the production sectors in some detail.

Early in the research program I struck upon another key element which was important to my subsequent thinking. It is worth detailing the story. In 1974 I had constructed two rates of return on capital series which were in serious conflict. One showed a statistically significant secular rise over time, the other a secular fall. Because they were from different statistical sources – albeit in principle conceptually broadly the same – they were over slightly different periods, and it occurred to me that they might be opposite sides of the peak of a quadratic. A test for this curvature supported the conjecture. Moreover the peak in about 1967 proved to coincided with structural breaks in numerous other statistical series on the supply side. (See ‘!966 and All That’.) And so I constructed a story of the economic disruption, which is centred around the fall of the terms of trade in late 1966 (See chapter 5 of In Stormy Seas.) What is important here is not only am I working between prices and sectors (as the previous paragraph described), but I begin modelling the economy as subject to external shocks with long term impacts, which affected different sectors of the economy differently. It reinforced that central (but not original) vision that the evolution of New Zealand has been dominated by the impact of the world economy.

(There is a widely held view that the end of the post-war boom occurred in 1973 rather than 1966. This seems more based on a nostalgia for the British connection, rather than any systematic evidence. Some expenditure series show breaks in their secular trends in about 1975 or 1976, but these seem to be the result of policy responses to the earlier production changes. However I had picked up the production breaks in 1974, too early to identify any 1973 one.)

Thus at the University of Canterbury in the 1970s I was working on two broad topics: the income distribution and the post-war history of the New Zealand economy (although I kept pushing back the time frame back before the war, and into the nineteenth century – I joke that perhaps ‘post-war means after Musket Wars). A summary of my macroeconomic research at the university is encapsulated in my inaugaral director’s address to the N.Z. Institute of Economic Research, External Impact and Internal Response (1982).

The research program continued vigorously at the NZIER and is reported in my valedictory director’s address The Exchange Rate since 1981: Performance and Policy (1986).

The work continued through the late 1980s and into the 1990s as I worked as a consultant, usually funding it from any ‘surplus’ from the consultancy, teaching and writing. This led to the publication of In Stormy Seas in 1987, although it should have been out a couple of years earlier, except for publishing delays. In the interim there were other publications including a couple of commissioned policy oriented booklets Open Growth (1990) and Getting the Supplyside to Work (1993). Each is based on the research program that underpinned In Stormy Seas, a program which was always a scientific one, attempting to understand the world, rather than a policy oriented one, with a policy agenda to be justified or identified.

As In Stormy Seas shows, the policy response of the period after 1967 is an attempt to deal with a major supplyside shock, without a comprehensive understanding of it, and at first trying to respond without substantially changing the income distribution either through changes in factor prices nor employment conditions. This constraint made the task impossible but what really strikes the analyst is that the policy response had a substantial endogenous component. Policy makers like to present themselves as if they are in control of the options, but practically they are usually dealing with a problem outside their control (and often their understanding).

This is not to argue for pure economic determinism. Ideas are important and individuals and accidents of history matter. However it differs from the standard approach to the theory policy making, as expounded in Wellington for instance, which almost completely ignores that the economy sets a context in which the decisions are made, and which both generates problems, and limits the available solutions.

This approach dominates my next major book, The Commercialisation of New Zealand (See the book’s appendix for some discussions on methodology. In fact the whole book – indeed the research program – is pervaded by the Popperian approach in which I was bathed as an undergraduate at the University of Canterbury.) The transitional work here is The Making of Rogernomics, a book I edited in late 1980s, where there is both a mixture of macroeconomics (Chapter 4) and the microeconomics (Chapter 5). My attention had turned to microeconomic analyst, in part because the book is based on a public policy course, whose students were adequately trained in macroeconomics. In the mid 1980s was that the dominant policy group identified a strategy which they thought would resolve the problems which the previous government had not solved, by relaxing the distributional constraint (see Chapter 3). I called this approach ‘commercialisation’, partly because I wanted to break away from the populist expression ‘privatisation’, and partly because the approach was broader and more subtle than simply privatisation. (Today, of course, the expression is widely used, without appreciation of how recently it was coined.) The first part of the book describes the origins of commercialisation as a policy idea and how it became politically dominant, the second illustrates its application to various policy areas.

The following book, The Whimpering of the State: Policy After MMP is a continuation of the argument using a nice economic approach – in the tradition of Mancur Olsen (See In Stormy Seas Chapter 13) – in which a set of logical propositions leads to a behavioural outcome. In particular it suggested how a government elected by an MMP system (strictly, any system which results in a non-majority party government) will function in policy terms. (See pages 16-21) This led to a review of the evolution of policy as a single party government lost its parliamentary dominance. This book is in the same two parts as its predecessor. (Note chapter 4 is an update of In Stormy Seas, confirming the story it tells, but offering no new theoretical insights.)

About this time I was asked to prepare an entry on Bernard Ashwin, the founder of the modern Treasury, for The Dictionary of New Zealand Biography. This lead to The Nationbuilders which covers the period from 1931 to 1984 when the approach developed in the 1930s ended (although as implied above it was becoming less effective somewhat earlier). While the book can be read as a series of biographical chapters, it is really a study of the policy community of the period with various themes threading through the chapters, most notably that of macroeconomic policy development. Thus the book can be thought of as a complementing In Stormy Seas, that book being the story of the economy over the period, while the later one is an account of the policies accompanying the economy (ending earlier because other books deal with the post-1984 policy regimes).

This brief description of the four books has the purpose of showing that while each is a standalone work, there are intricately related both in terms of their construction and conception. To round off, I add that my current research program (other than the ongoing ones in heath economics and the income distribution) is on globalisation, and is a logical successor of the one described above.

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References
‘!966 and All That’, Economics for New Zealand Social Democrats (McIndoe, 1981) p.18-20.
External Impact and Internal Response: The New Zealand Economy in the 1970s and 1980s (NZIER Discussion paper No 26, 1982)
Income Distribution in New Zealand (NZIER, 1983)
The Exchange Rate Since 1981, Performance and Policy (NZIER Discussion Paper 30, 1986)
The Making of Rogernomics (Auckland University Press, 1989)
Open Growth: A Response to the Ministerial Task Force on International Competitiveness (NZEU, 1990)
Getting the Supply-side to Work (NZEU, 1993)
In Stormy Seas: The Post-War New Zealand Economy (University of Otago, 1997)
The Commercialisation of New Zealand (Auckland University Press, 1997)
The Whimpering of the State: Policy After MMP (Auckland University Press, 1999)
‘Ashwin, Bernard Carl 1896-1973,’ C. Orange (ed) Dictionary of New Zealand Biography (AUP, 1998) vol IV, p.21-2.
The Nationbuilders (Auckland University Press, 2001)

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Guard Dogs That Fail to Bark

This entry was posted in Business & Finance, Governance, Listener on 6th April 2002 by Brian Easton.

Management and Shareholders
Listener 6 April, 2002.

Keywords: Business & Finance; Governance

In 1932 Adolph Berle and Gardiner Means showed that there was an increasing separation between the shareholders who legally own the corporations and the managers who control it. Their seminal insight suggests that managers may have sufficient independence to pursue their own objectives – higher pay, better conditions, prestige, technological excellence – at the expense of shareholders. (The New Industrial State by J.K. Galbraith is the best know book setting out the case.) Those committed to the pure market approach responded that the shareholder can sell the shares of under-performing companies to others whose managers would produce higher shareholder returns. They described the sharemarket as the ‘market for management’, where competition would result in higher returns to shareholders, as efficient managers took over inefficient businesses.

This ingenious argument suggests firms specialising in takeovers, such as Brierlys in the 1970s, serve a useful economic purpose. ‘Asset-stripping’ was shifting assets (and labour) into more productive uses and eliminating inefficient management. Meanwhile managers of other firms, fearful of takeovers, would raise their performance.

The purests went on to argue that privatised businesses were more efficient than nationalised ones, because their managements were under pressure from the threat of sharemarket takeovers, while publicly owned businesses were not. (Derek Frew cited a Journal of Economic Literature survey to dispute my assertion that privatised firms were not necessarily more efficient than nationalised ones. (‘Listener Letters’, December 15) But the article has many more cautions than he implied. Even had it not, he missed the point. Many nationalised firms become more ‘efficient’, in a particular meaning of the term, when privatised because their objectives are shifted from social purposes – say job creation – to shareholder value. The dispute is about the extent to which nationalised firms with the same efficiency objectives are less successful than privatised ones. The research suggest they need not be.)

Firms take the threat of takeovers seriously and have numerous strategies to repel them. Management grants itself ‘golden parachutes’ – generous redundancy payments following successful takeovers – form alliances with managers of friendly firms (‘white knights’) to protect one another, and create ‘poison pills’, ‘sandbags’, and other devices to protect them from takeovers. Sometimes the largest shareholder in the firm is its worker’s pension fund whose trustees are the management. None of these seem especially efficiency seeking, or in the shareholder interest.

Is the ‘market for management’ efficient? The research evidence shows that on many, but not all, occasions the effect of a takeover is to lower the unit shareholder value of the successful firm (although usually the shareholders of target firms do better). Apparently management typically overestimates its ability to improve the efficiency of the firm it is taking over.

More recently, another serious objection to the theory has appeared: how to measure the shareholder value. Measurement of a corporation’s profits and net worth is basically the management’s task and they have a strong incentive to bias the figures, which are an indicator of managerial competence. (Usually managers try to make them as large as possible, although when there is a loss that gets magnified too, unwinding past overstated profits.)

The accounts of a business involve numerous judgements over which honest accountants may differ. There are rules of ‘Generally Accepted Accounting Practices’ (GAAP), which limit the range of difference, but even then valuations still have a judgmental element. Moreover such rules cannot be comprehensive. (Some country’s are better than others. I am told that New Zealand’s would get a B measured against international best practice.) Meanwhile management uses the gaps and uncertainties to its advantage.

Auditors are meant to restrain management from fiddling the figures. Officially they are appointed by the shareholders and are meant to act on their behalf, but their appointment is normally the decision of the corporation’s board who are usually allies of management. Auditors’ practices are being increasingly questioned, especially following the demise of the American ‘energy-giant’ Enron. (The quotation marks are because the company’s collapse had little impact on energy markets. It was primarily a financial company posing as a major energy player.)

Enron’s auditors appeared to have been deceived by the Enron management. Some commentators have suggested that they may even have connived with them, a suspicion reinforced by the consultancy fees they received from Enron which exceeded their audit fees. Extraordinarily, despite the potential conflict of interest, there is no prohibition in America – or New Zealand, for that matter – on accountancy firms doing other work for the businesses they audit. Providing auditing and consultancy services to the same business is rife. Personal integrity may be insufficient to prevent impropriety. The auditing watchdog may be too busy chewing the (juicy) consulting bone.

The autopsies on Enron are incomplete, and the litigation and reflection will take years. In the interim shareholders would do well to ponder on the insights that develop from Berle and Means. This is not to say all corporate management is inefficient and corrupt, or even entirely self-serving. But again we see how an unregulated market does not fulfill the tasks the ideologists claim of it. At the very least there appears to be a need for major reforms in auditing and accounting practices.

Subjects Business economics

Who Goes to the Doctor?

This entry was posted in Distributional Economics, Health on 5th April 2002 by Brian Easton.

Overheads for a presentation to an Independent Practitioners’ Association Seminar, April 2002.

Keywords: Distributional Economics; Health;

*******

This work comes from a report on research being prepared by Brian Easton and Suzie Ballantyne.

This research arises from a limited grant from the Health Research Council.

It uses Statistics New Zealand data. However they only provided the data, and the results presented in this study are the work of the author, not Statistics New Zealand.

The data is based on unit records from the Household Economic Survey for the three years between 1994/5 to 1996/7. Access to the data used in this study was provided by Statistics New Zealand in a secure environment designed to give effect to the confidentiality provisions of the Statistics Act 1975.

*******

The results reported here are preliminary, and should not be quoted without permission of the researchers. The intention of presenting the preliminary data is to illustrate some general principles. The final report will look at a much wider range of issues.

Note that the samples are large:
21332 people
7298 households
But the explanatory power is limited, suggesting there are many elements, other than those the survey records, which contribute to the observed behaviour.

The Household Economic Survey is a random sample of New Zealand Households, in which various household characteristics are surveyed including:

*******

INDIVIDUALS
– age, gender and ethnicity.
– holder of a Community Services Card (CSC), High Use Card (HUC), or Medical Insurance.
– utilisation of 13 types of health services in the previous 12 months, including visits to GPs.
– health status (excellent, good, not so good or poor). (This health status and utilisation data is used to construct a health status index..)

HOUSEHOLDS
– household disposable income
– housing tenancy, location, size.
– house hold expenditure, including 12 types of health care, one of which is outlays on primary care. Almost 50 percent of the households outlayed on primary care. (Only 23 percent spent nothing on medical care.)

*******

WHO USES A GENERAL PRACTITIONER?

These results come from an econometric equation. It predicts the probability of a person with a particular specific characteristic going to the doctor, relative to another with a different state of that specific characteristic. All other measured characteristics are taken to be the same.

The results are ‘odds ratios’ which tell of the likelihood of the individual utilising the doctor, relative to the base case.

asterisks show statistical difference at level of
10% (*),
1% (**), and
.1% (***).

Age-Gender Determinants of Number of GP Visits: Odds Ratio females 65+ Reference Group)

AGE	F	M
0-14	1.160	1.622*
15-24	1.448	0.808***
25-34	1.743	0.554***
35-44	0.935	0.422***
45-54	0.766	0.681
55-64	0.942	0.813
65+	1.000	0.709**

statistical test is on gender difference at same age.

Ethnicity Determinants of Number of GP Visits: Odds Ratio (Pakeha Reference Group)

Pakeha	1.00
Maori	0.96
Pacific Island	0.97
Other	0.93

Eligibility Determinants of Number of GP Visits: Odds Ratio (None Held Reference Group)

None	1.00
High Use Card	4.99***
Communisty Services Card	1.53***
Medical Insurance	1.41***

Health Status Determinants of Number of GP Visits: Odds Ratio (Excellent Health Reference Group)

Excellent	1.00
Good	2.27***
Not so Good or Poor	10.75***

Income Determinants of Number of GP Visits:
Odds Ratio for an additional $10,000 p.a. of Disposable Income = 1.13

The overall conclusion is that access to GPs seems to be primarily on the basis of health need

but

1. Note CSC and Medical Insurance holders high use. Is this a price effect? (They may have above average poor health in a manner not picked up by the other measures.)

2. There are personal characteristics which we have/can not measure.

Question
What does this tell us about the “gateway” role of GPs?

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WHO PAYS THEIR GP?

These results come from a (log linear) econometric equation which predicts how much additional spending is caused by a change in a variable.

These results reflect household – not individual – spending, and they apply for all primary care services – not just GPs.

Generally these estimates are for the percentage increase/decrease if the household is not the base case.

Age-Gender Determinants: Percent Increase on Primary Care Spending (Females 65+ Reference Group)

AGE	F	M
15-24	-22.7	-38.8
25-34	-3.2	-25.6
35-44	-2.1	-22.5
45-54	4.2	-17.5
55-64	6.4	-15.8
65+	0.0	-20.9

The econometric equation specification meant it is not possible to do statistical tests on gender difference at same age. However the overall gender difference is statistically significant.

Ethnicity Determinants: Percent Increase on Primary Care Spending: All Pakeha Household Reference Group

Pakeha	0.0
Maori	-13.3
Pacific Island	-20.6
Other	1.2

None of the differences are significant.

Eligibility Determinants: Percent Increase on Primary Care Spending (None in Household Reference Group)

None	0.0
High Use Card	-4.9
Community Services Card	-17.7***
Medical Insurance	-13.8***

Health Status Determinants:
Percent Increase on Primary Care Spending of a household all of whom are in 0% excellent health, compared to a household all of whose members are in 100% excellent health = 64.2%***

Income Determinants:
1% increase in Household Disposable Income increases spending by .17%**

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SOME CONCLUSIONS

The following conclusion uses other results from the research – especially total household spending on medical care.

Underpinning the financial analysis is the earlier conclusions about utilisation.

The Sick

A household with sick people spend relatively more on primary services (and all medical care) than one in which all are well.

High Use Card

Households with people with high use cards spend much the same as others on primary services, even though they have higher utilisation.

However they spend less on prescriptions, more on specialists, and more overall.

Income

Why do high income households spend relatively more on primary services (and all medical care) than low income ones?

1. Utilisation does not seem to be a factor in regard to GP use. It may be relevant for other primary services.

2. GPs might charge them more or they might go to more expensive GPs.

3. The might use free provided services less.

Because the coefficient is less than unity, the rich spend a lower proportion than the poor of their income on primary care. (This is true for all medical care spending.)

Ethnicity

Why do Maori and Pacific Island households spend relatively less on primary care (and most other medical care) than Pakeha and Asian ones?

1. GP utilisation is same as average (but lower utilisation for many other services).

2. GPs might charge them less or they might go to less expensive GPs.

3. The might use free provided services more.

Community Services Card

CSC spend relatively less on primary care and on each and all medical services, despite being higher utilisers of health services.

Does this reflect a success of the CSC?

High utilisation may reflect better access to free services or possibly a higher rate of sickness which the other measures are not picking up. (Also possibly they are more likely to be not-in-employment, which makes visiting easier.)

Medical Insurance

Those with medical insurance use more primary services and pay more than those without. The recorded payment is often before refunds are deducted.

They also utilise relatively more of all medical services and pay more for all their medical care if medical insurance and refunds are included.

Higher utilisation may reflect cheaper access to services.

There is also some evidence that the insured are relatively sicker. (Is ‘moral hazard’ – the effect of the sick insuring – stronger than ‘adverse selection’ – where the company discourages the sick from joining its schemes.)

*******

SUMMARY

The sick pay more. Primary care charges contribute to their higher payments, but other components make substantial contributions too.

The Community Services Card appears relatively effective in reducing their holder outlays, despite greater utilisation rates. The High User Card reduces outlays, but holders till pay more overall.

Those poor who do not have the CSC or HUC pay a larger share of their income in medical expenses than the rich.

Medical insurance seems to generate utilisation behaviour a bit like the CSC.

Reviews Of Two Books on Labour Skills and Social Progress

This entry was posted in Education, Labour Studies on 1st April 2002 by Brian Easton.

High Skills: Globalisation, Competitiveness, and Skill Formation by Phillip Brown, Andy Green & Hugh Lauder (Oxford University Press, 2001).
Capitalism and Social Progress: The Future of Society in the Global Economy by Phillip Brown & Hugh Lauder (Palgrave/Macmillan, 2001)
NZ Journal of Adult Education April 2002.

Keywords Education; Growth & Innovation; Labour Studies

‘Knowledge-driven economies are associated with polarization and inequality rather than convergence and equality’ is the sort of challenge that our ‘Knowledge Wave’ adherents, wrapped up in rhetoric rather than analysis, would want to ignore. High Skills goes on ‘How societies tackle the problem of social exclusion and positional competition fro education, training and jobs is therefore an important pressure point for all countries’. So the writers are not rejecting the potentiality of the knowledge based economy, and its benefits – higher living standards of more and new products and better quality jobs. Rather, both books consider how we need to organise society given the knowledge-driven economy which is a response to globalisation.

High Skills is based on research project in which the occupational training systems of Germany, Singapore, Japan (and Korea), and Britain are compared. The 105 pages of description alone makes this a very worthwhile book, showing how skill acquisition can be organised in quite different ways. As is common in these sorts of comparisons, the United Kingdom system appears least successful. The problem is not at the top. The Brits produce as high quality top skilled workers as anywhere in the world. Their weakness is the lack of middle skilled workers, nicely summarised in the table at the end of this review. Of course international comparisons are difficult, given different educational structures, standards and demographic patterns. The book has two-thirds of a page giving the definitions for the original table (so those who want to use the table below need to go back to the book). But the conclusion, reproduced in smaller studies for some decades, is clear enough.

The British production of sufficient graduates, but fail to produce sufficient skilled workers to go with them, reflects an elitist vision of technology. It is imposed by the scientific equivalents of philosopher-kings on those below, who are expected to dutifully follow out instructions. In organisational theory terms, it is that of ‘scientific management’, where there is a strong division of labour and control imposed from the top, in contrast to the ‘human relations’ approach with its more group than individualistic orientation, and where each group has considerable control over its working activities. The choice between the two styles is partly one of philosophy, but it is also a matter of technological development.

I recall a frustrated unionist, whose members were called in by a harassed management because a very expensive, recently imported, piece of machinery was working well below the capacity the German manufacturer promised. The worker’s explanation was that they had never been trained in the use of the machinery, did not know how to fine tune it, and if anything went wrong had to hang around until the specialists came in. At a more mundane level, this word processed document will be transferred into the pages of this journal by a worker who is likely to be less ‘educated’ than the writer but will be bring to bear a whole set of skills which derive from a sound post-secondary school training coupled with occupational experience and a supportive work place. (The way in which the adult population has grasped the personal computer technologies is a fascinating story. There is a brilliant, and instructive, study to be done here.)

These anecdotes illustrate a general proposition: the quality and quantity of post-secondary school training – in formal, workplace, and informal institutions – plays a crucial role in the introduction and management of technology, especially given the relevance of ‘continuous improvement’ where innovation does not only come in quantum leaps, but incrementally as the users (workers rather than those higher up) adapt the technology for the work process.

High Skills is rich in ideas: this review has space only for a one other, which illustrates how different formal institutional arrangements may affect national skills acquisition. How does the skills base of the foreign owned firms (which are among the more advanced technologically) get transferred into the domestic sector when the training institutions are excessively siloed? The book argues that the British system will be much less successful at skills transfer than the German one, with its better national integration which has not only produced relatively more skilled workers, but is also better oriented towards the transfer of skills between workers in different businesses.

The book’s concern with foreign investment is not for illustrative purposes, but because the writer’s see globalisation as intimately linked to skilling strategies. This is even more explicit in Capitalism and Social Progress. The authors see the post-war era split into two roughly equal periods. First there was a ‘Golden era’ of ‘western capitalism … built on “walled” economies of massed-produced goods and services which offered a decent family wage to low-skilled workers.’ More recently border protection has been rolled back – not least because workers want the benefits of international goods and services – and that has also meant that the internal protection of worker’s jobs and living standards has become much more difficult (although some countries have been more successful than others).

The resulting globalisation is the central content of many books, and these two have chapters which will be familiar to most readers. What is distinctive is this book’s perceptions about future possibilities. The ‘Golden era’ cannot be recreated. Instead we need to harness the ‘forces of knowledge-driven capitalism’. Capitalism and Social Progress emphasises ‘collective intelligence’, which is ‘integral to the reinvention of society’, although the other book provides some of the research background to the thinking.

There is a fashion for combining two grandiose words, such as ‘Knowledge Wave’, to give the impression of a deeply significant concept, which on careful analysis proves to be as shallow as the phrase’s creator. ‘Collective intelligence’ would appear to be such a phrase, except the writers are expert. Phillip Brown is a social science research professor at Cardiff University, and Hugh Lauder is professor of education and political economy at the University of Bath. Lauder will be known to many as a long time New Zealand university teacher, a vigorous opponent of the penetration of rogernomics into the education sector, and who also wrote poetry and was the poetry editor of Landfall. (Andy Green is Professor of Education and Co-director of the Centre for Wider Benefits of Learning at the London University Institute of Education)

After setting down the professional understandings of the underlying notions of intelligence, Capitalism and Social Progress argues we must ‘reclaim “intelligence” from the grip of the eugenics movement and from its impoverished representation in the form of IQ tests. … The idea of intelligence in the Golden era is redundant in the world in which we live.’ It now has to encompass the artistic and emotional dimensions of human capability, the ability to solve problems, to think critically and systematically about the social and material worlds, to apply new skills and techniques, to empathize and to have personal skills needed to communicate and live along side one another.

The ‘collective’ comes from the author’s rejection of individualistic accounts of the human condition. ‘Private troubles felt by people require public solutions, which cannot be resolved without collaboration with family, friends, neighbour, co-workers or fellow citizens. In post-industrial societies it is the collective intelligence of families, communities, companies and society at large, which will determine the quality of life as well as competitiveness.’ These notions are used to set out in the concluding chapters a learning strategy for a high skills economy.

These books may be read as a contributions to a contribution to our understanding of what is going to have to happen to post-secondary schooling and education, or to the debate on globalisation and the prospects for the world and its workers. If one’s sole focus is the former, then High Skills is the more relevant book, if the latter go for Capitalism and Social Progress. My grump is that their different publishers chose different book sizes, so they do not sit as easily together on the physical bookshelf as they do on the intellectual one.

Highest Qualification by Percentage of Working Age Population (about 1998)

COUNTRY – (HIGHEST QUALIFICATIONS : Level 3
Post-secondary schooling; Level 4 Sub Degree; Level 5 Degree, etc.: Level 3 & Above:)

UK (18.0; 9.0; 10.0; 41.0)
Germany (50.6; 7.8; 11.3; 69.7)
Singapore ( 9.2; 7.2; 10.2; 26.6)
S. Korea (40.9; 4.7: 13.2: 58.8)
Japan (41.8;11.1: 13.1; 66.0)

Notes:

High Skills, p.76. See original for definitions and sources. (In the original version of this article I included the New Zealand figures based on the Population Census. The definitions proved incomparable and I have deleted that entry.

They’re Thinking Big Again: What Is Wrong with Too Much Foreign Investment?

This entry was posted in Growth & Innovation, Listener on 23rd March 2002 by Brian Easton.

Listener 23 March 2002

Keywords Business & Finance; Growth & Innovation

When you choose a target, make sure it cannot distort your real objectives. Consider the man desperate to diet, who decided at New Years not to eat between meals. He kept strictly to his resolution. By the end of February he was eating his May 23rd dinner.

The Government has made a similar mistake when it said it aimed to return New Zealand to the top half of the OECD in GDP per capita terms. GDP (Gross Domestic Product) measures the total market production in a country, but the income from its production has to be shared between those who live there and the foreign investors who make investments in the country. The share that the locals receive is called ‘National Income’. (Clue: Domestic = ‘inside a country’s boundaries’; National = ‘of a country’s people’. The ‘gross’ refers to the inclusion of depreciation in the total.) In New Zealand National Income is about 93.5 percent of Domestic Production. In Ireland, with its substantially greater foreign investment and debt, the figure is closer to 84.0 percent. While Irish GDP per capita is greater than Britain’s, its National Income per head is less.

(There will be readers – and politicians – who would favour a broader goal that the economist’s National Income, which does not cover non-market activities, including non-material ones, nor the manner in which any prosperity is distributed. I am sympathetic to their concerns, but there is no internationally agreed quality measure which could be used as a target instead.)

The absurdity of the GDP based target, was nicely illustrated by the Boston Consulting Group’s report Building the Future: Using Foreign Direct Investment to Help Fuel New Zealand’s Economic Prosperity, released with the prime minister’s speech which opened parliament. The report is not a carefully thought through economic analysis, but more a public relations effort to get us to adopt a strategy of increasing FDI.

(The companion New Zealand Talent Initiative” by LEK consultants, is also spin. It advocates developing Auckland as ‘New Zealand’s global life style city’ but fails to define what it means. One is left wondering whether they hope that Auckland will catch up to Wellington’s arts, or Christchurch’s ambience, or perhaps they mean Bangkok’s congestion and Chicago’s crime. But at least they recognise Auckland. My copy of the FDI report has a cover map which omits the top third of the North Island.)

The Boston Group want to increase FDI from its current level of $4 billion in 2001 to near $11 billion in 2011. Unfortunately the report does not define what it means by FDI, for it is an even more tricky concept that GDP. For instance some of the data seems to include existing New Zealand firms sold off to foreigners, although behind the razzamatazz the report is primarily concerned with new (greenfield) businesses or significant extensions to existing ones.

I would have liked to have discussed the impact of the proposal on the economy, but the report’s economics is so vague it is not possible. I doubt the writers even thought about the effect of their proposed enormous increase in foreign investment spending. It is possible that the rest of the economy (that is New Zealander’s investment and consumption) would have to be held back to make possible this ‘Think Big’ FDI investment surge from the $4b to $11b a year.

So while the report claims that the FDI will add to GDP, it does not address whether it will add to National Income, or the prosperity of New Zealanders. Indeed the ominous recommendation that the taxpayer should spend money attracting (read that as ‘subsidising’) FDI could mean that New Zealanders may be worse off, if the additional growth in production and more goes to foreigners.

Nothing in this column implies that New Zealand should be opposed to all foreign direct investment. It can be a valuable element of a growth strategy, enabling the country to have technologies, expertise and overseas markets which would otherwise be inaccessible. New Zealand would be much poorer had our European migrants not also brought with them capital and technology. But our prosperity today is the consequence of what we did here with our initiative and our savings. Foreign investment has its place, but ultimately our prosperity depends on us.

We need to be cautious about foreign businesses whose only reason for coming here is the subsidies and tax incentives. We need to be selective about those we assist, expecting them to bring to something which will add to our prosperity. As numerous examples throughout the world show, that does not always happen. The report’s proposed Investment Promotion Agency could be especially dangerous if its remit is as enthusiastic and uncritical as the report’s.

Neither this report nor the ‘Talent’ one have been adopted as government policy. My guess is that by the time the professional economists and other officials have gone through them systematically and rigorously, our FDI and migration strategies will be somewhat more sober than spin. And the resulting policies will probably be more clearly in the interests of New Zealanders.

2002-07-15 16:57:45