Government as Risk Manager

In the latest Quarterly Essay, I've penned a response to Laura Tingle's discussion of the role of government, social spending, and whether Australians are congenitally cross.
Response to Laura Tingle’s Quarterly Essay ‘Great Expectations’
Published in Quarterly Essay #47 (2012)

In 2002, David Moss described the role of government as being the ultimate “risk manager.”[1] Governments, Moss believed, ought to act as a backstop for things that might go wrong in our lives. Just as we buy private insurance to pool our risk with other customers, so governments allow us to pool social risk across other citizens. You can think of your taxes partly as an insurance premium.

The notion of government as risk manager doesn’t cover the full gamut of what governments do, but it does encapsulate many of their important roles. For example, governments help guard against overseas threats and keep our streets safe. Managing risk explains why we have a social safety net to guard against the risk of poverty, a public health care system to deal with the risk of illness, and a public education system to remove the risk that a poor family might not be able to afford to educate their child.

In the personal tax system, progressive taxation reflects the fact that those of us who earn above-average incomes tend to have been fortunate in our family background, educational opportunities and career breaks. The company tax system considers risk in the way it allows a firm to carry forward losses from bad years to offset profits in good years. The rubric of risk also reminds us that governmental responses to floods and bushfires need to be compassionate, yet not perversely encourage people to build homes in even riskier places.

Risk isn’t the only framework through which to view policy. For example, my colleague Bill Shorten prefers to describe government as consisting of four pillars: the minimum wage, the age pension, compulsory superannuation and Medicare, to which we have now added a National Disability Insurance Scheme. But as an economist, I’d prefer to view the NDIS as a form of risk management. Each of us is just a car crash away from a profound disability, a dice roll in the genetic lottery from giving birth to a child with a congenital abnormality.

If government is the ultimate risk manager, then society needs to decide which risks should be borne by citizens, and which should be taken on by governments. There’s no right answer to this, but it’s easy to see differences across countries. Many of the risks that are borne by individuals in the United States are carried by the government in Sweden. In some contexts, governments should be encouraging risk-taking (we want our scientists and entrepreneurs to take a chance). In other situations, we need to ensure that we don’t privatise the gains and socialise the losses, as Wall Street seems to have done over recent decades.

How a government manages risk says a lot about its values. Reading Laura Tingle’s analysis of Howard-era social policy, I was struck by how daily politics utterly dominated good policy. In place of risk management, we got – in Tingle’s memorable phrase – “endless avuncular tax cuts and new cash entitlements.” I am yet to meet anyone who can persuade me that the proper role for government includes providing the Baby Bonus to a millionaire.

All this came at a cost. As John Howard expanded non-means-tested benefits, he once said: “People like getting a cheque from the government.”[2] What he failed to mention was something known as the deadweight cost of taxation. For every $100 raised in revenue, around $20 is lost in decreased work effort and entrepreneurial activity.[3] Churning money for its own sake means that there’s less to go around. As George Megalogenis noted recently, “The competition for handouts affected the [Howard] government itself.”[4] On social policy, Howard seemed incapable of lowering expectations when the times called for it.

Tingle is right to focus on the difficult politics of who gets what in Australia. Her story of the Adelaide family that earns over $258,000 and rails against the government for means-testing the private health insurance rebate reminds me of several constituents who wrote to make the same point. And yet our government is not the first to have made hard decisions on means-testing. When the Hawke government put an assets test on the pension in the mid-1980s, Opposition leader Andrew Peacock called it “the latest of this Government’s assaults on the elderly,” and promised to repeal it if the Coalition won office. Today, the pension assets test is an accepted part of our social policy.

What I find a bit harder to cop is Joe Hockey lecturing from London about the need for the “Age of Entitlement” to cease. When Labor froze indexation on a Family Tax Benefit supplement and scaled back the out-dated Dependent Spouse Tax Offset, Hockey fulminated in parliament: “Your budget is indifferent to the plight of your people.” On Sky TV, he said, “I think this is madness.” To the Australian newspaper, he said, “I despise this envy; this envy and this jealousy.” His former leader Malcolm Turnbull used similar language when we means-tested the Baby Bonus to families earning under $150,000 (excluding the richest 6 per cent of parents).[5] Hockey’s London speech raises some interesting questions, but when you put it together with his views about means-testing, it’s hard to avoid the conclusion that Hockey wants the Age of Entitlement to end for the poor, but continue for the rich.

Former New York governor Mario Cuomo once said that politicians campaign in poetry, but govern in prose. A corollary is that while politicians campaign in “and,” we govern in “or.” Each decision to spend in one area makes it harder to devote resources in another area. And every government decision to spend requires that money be raised from taxes on land, labour or capital. As Milton Friedman famously put it, “to tax is to spend.” These trade-offs – these “or” questions – mean that a government with a thousand priorities might as well have no priorities at all. Tingle might have usefully pointed out that on this score, the Gillard government has been more willing to make trade-offs than our predecessors. For example, Stephen Koukoulas recently observed that during their combined total of more than twenty years in office, the Fraser and Howard governments never once cut their real spending. By contrast, Labor governments have cut real spending on five occasions since the mid-1980s.[6]

Tingle writes fondly about the Hawke–Keating reform era, in which, ‘The political debate was not taking place at the level of what the reforms might mean for the individual, or what citizens could expect of governments in the future; it was being fought at the level of institutions, such as the centralised wage-fixing system, and the national economy.” This is a good principle for reform, particularly as a counterpoint to the “everyone’s a winner” reform mantra of the Howard government.[7] Reforms without losers are rare, but that doesn’t mean governments should eschew all reform.

This dynamic is particularly complicated when one realises that politicians are often forced to carry out reforms during an economic crisis. At this point, leaders can more credibly say, “The system is broken; we cannot go on like this.” And yet from an economic standpoint, it is far preferable to carry out reforms in boom times, since there are more resources available to compensate those who are made worse off. In the mid-1980s, the strong economy allowed tariff cuts to be accompanied by a Steel Plan, a Car Plan, a Textile, Clothing and Footwear Plan, a Shipbuilding Plan, and a Heavy Engineering Adjustment and Development Program. And yet there were many who looked at the strength of the macro-economy and wondered why we needed to reduce industry protection at all.[8]

Perhaps I’ve spent too long walking on the sunny side of the street, but I think the ‘angry Australian’ Tingle describes is a passing mood rather than a national trait. Yet that doesn’t take much away from her astute analysis of the challenge of reform. Governments will always be able to think of more good ways to spend government dollars than the Treasury coffers permit. So rationing our spending – and clearly explaining the reasons for our choices – is a challenge that will always be with us. It will probably also place more challenges on parliamentarians like me to define the boundaries of a good government. For that, the notion of government as risk manager may not be a bad spot to start.

Andrew Leigh is the federal member for Fraser, and a former professor of economics. His most recent book is Disconnected (2010).

[1] David Moss, When All Else Fails: Government as the Ultimate Risk Manager, Harvard University Press, Cambridge, MA, 2002. See also Nicholas Barr, The Welfare State as Piggy Bank: Information, Risk, Uncertainty and the Role of the State, Oxford University Press, Oxford, 2001; Bruce Chapman (ed.) Government Managing Risk: Income Contingent Loans for Social and Economic Progress, Oxford University Press, Oxford, 2006.

[2] Interview with Alan Jones on radio 2GB, 19 April 2006.

[3] Harry Campbell and K.A. Bond, “The cost of public funds in Australia,” Economic Record, Vol. 73, No. 220, 1997, pp. 22–34.

[4] George Megalogenis, The Australian Moment: How We Were Made for These Times, Penguin Books, Melbourne, 2012, p. 302.

[5] Baby Bonus statistics from Wayne Swan, “Means Testing Report Misleading,” media release, 18 May 2008.

[6] Stephen Koukoulas, “That’s the last big myth blown,” Australian Financial Review, 9 May 2012, p. B32.

[7] At this point, it’s also worth acknowledging the contribution of the Labor Opposition, which spent much of 1999–2000 talking about which individuals would lose out from the introduction of the GST, rather than whether the tax reform package as a whole was in the national interest.

[8] On the fragile public support for some of the 1980s reforms, see Possum Comitatus, “What Australians Believe,” 11 June 2012

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