Talking Economics with Jan Libich

Last Wednesday, I spoke with La Trobe University economist Jan Libich about some of my academic findings - from teacher pay & aptitude to child gender & divorce - and possible policy implications. If you want to read more, the research is available at my academic website:

And if you'd like to watch Jan's other interviews (including with Eric Leeper and Don Brash), they're available on his YouTube channel.

Dr Jan Libich: Welcome to La Trobe University in Melbourne. My name is Jan Libich and I’m privileged to have Dr Andrew Leigh here. Welcome Andrew. Thanks for joining us.

Dr Andrew Leigh: It’s a pleasure.

Dr Jan Libich: People see you now as a politician, due to your seat in the Australian House of Representatives for the Labor Party. But it should be mentioned that you were actually previously an Economics Professor at the Australian National University. I think one of the most prolific economics researchers. So, what we’re doing today: we’re going to try and merge your expertise in both economics and politics, and we’re going to focus on economic policy.

Specifically, we’re interested in how academic research can actually contribute to policy design and improve policy outcomes. Let’s start with education. In one of your papers, I think in 2006 with Chris Ryan, you’re looking at the quality of school teachers in Australia. You find a downward trend, you find a decline in the quality of the teachers. Then you look at possible explanations and you come up with teachers’ pay as one of the variables. Can you tell us what happened to teachers’ pay over time, and how it may link to teachers’ quality?

Dr Andrew Leigh: Absolutely. So the story of the academic aptitude of new teachers is that in 1983 the typical teacher was at the 70th percentile of the aptitude distribution – in the top 30 per cent of her class. By 2003, she was at the 62nd percentile – the top 38 per cent of her class. Chris (Ryan) and I talk about a number of possible explanations. One is this trade-off that policymakers made from the late 1980s to the early 2000s between cutting class sizes, but not increasing the overall salary budget commensurately. So roughly you saw a 10 per cent cut in teacher pay, relative to other occupations, and a 10 per cent cut in class size. So it’s almost like the new teachers were being paid out of the wallets of the existing teachers.

Then, you had some other factors going on. You had the fact that gender pay discrimination in the professions was rampant in the 1950s and 1960s. So it was almost like we were corralling Australia’s most talented women into teaching and nursing and as those gender pay gaps fell, we then saw a drop off in the share of suitably talented women entering teaching.

Thirdly, I think there’s also an increase in earnings inequality in the rest of the labour market, which posed a particular challenge for teaching. Teachers traditionally operated off uniform salary schedules.

Dr Jan Libich: Let’s think of the consequences. You have a 2009 paper where you’re actually looking at student outcomes. You look at the numeracy and literacy scores for Australian school children and you find a worrying trend. You find that there has been a decline in the scores. Given the increases in the expenditure per student, at face value it would imply a fall in the school productivity.  Can you tell us a little bit about that and how it actually links to your previous study about lowering of teachers’ pay?

Dr Andrew Leigh: Yes. School productivity is one of these ugly phrases that economists love and educational policy makers hate. But essentially, what you described is the trend we found. We went back through the dusty archives to try and find instances in which precisely the same maths or English question had been asked of successive cohorts. So, same wording, certain share of kids get it right in one test, another share of kids get it right in another test. We find flat or perhaps even declining test scores across a couple of different tests. One possibility is that the trade-off between dropping teacher pay relative to other professionals, and cutting class sizes, was actually the wrong trade-off to be making in that period.

Then there’s other possibilities, such as potentially changes in curriculum affecting outcomes.

There’s also a set of social changes, but to the extent that Chris (Ryan) and I can hold them constant, it doesn’t look as though things like more TV watching or a rise in single-parent households, or rise in kids from non-English speaking backgrounds explains much of it.

You’ve actually got trends that go in the opposite direction. Not just the spending, but also the fact that more kids than ever before have a parent with a tertiary education. So, it’s a bit of a black box. We can tell that Australia’s school kids in Year 8 or 9 aren’t scoring better than they did a generation ago, and I think that poses a pretty big challenge for policymakers like me.

Dr Jan Libich: If you combine the two findings, it kind of seems like a no-brainer. You have lower teachers’ pay, you’ve got lower quality teachers and then you have worse student outcomes. You’re suggesting that might be too simplistic. It may not explain the whole story.

Dr Andrew Leigh: I certainly think that teacher quality is important. One of the things that always surprises me is that parents worry a huge amount about which school their child attends. Yet, they worry very little about which teacher their child is taught by within a school. Yet, we know that the within-school variance is higher than the between-school variance. So I think that does suggest that we ought to be focusing on teacher quality. I think programs such as ‘Teach For Australia’ and ‘Teach Next’ are important in attracting alternative career entry. I think it’s also really important to think about retention of great teachers in the profession. That’s a key issue for policymakers. It’s not the only one. Test score accountability and the right level of principal autonomy matters as well, but teacher quality is pretty much my number one educational issue.

Dr Jan Libich: Okay, so what would be some of the policies to try to reverse this. You mentioned class size. Does that matter so much, as much as it was believed?

Dr Andrew Leigh: Certainly, we know that cutting class sizes down from 40 to 30 has a big impact on student outcomes. Cutting class sizes once they fall below 30 probably has smaller impacts. The research is varied. You have ‘Tennessee Project STAR’ suggesting still positive effects going from 22 down to 18. But I think now you’re probably down to a point where you want to think about teacher quality and teacher pay as being the top priority.

Dr Jan Libich: One of the critiques of the approach, and it’s not just the Labor Party’s approach, it’s the approach across the globe, is that it’s more of a top-down approach. The politicians kind of have an idea what the education system should look like. They try to impose it and a lot of critique is around school autonomy and there is some evidence that it is important for schools to have the autonomy to set various things like exams and other things. What do you think about this trade-off?

Dr Andrew Leigh: I think determining the right level of school autonomy is the most important thing. That partly turns on what principals feel they’re able to do. If you’ve got a principal who is comfortable managing the lawn mowing contracts and wants the flexibility to save money on lawn mowing so they can spend it on textbooks, then that’s fine. But if you’ve got a principal who mainly wants to be an educational leader and actually doesn’t want to spend a lot of their time working out how the budget’s going to look, then you don’t want to thrust upon that principal more autonomy than they’re ready to handle. So I think this is one of these areas where the people who become principals are important to thinking about the autonomy we should give them.

Dr Jan Libich: Let’s move to tertiary education because there are similar themes that apply. You have a study from 2007 where you look at the various returns to education. Specifically regarding tertiary education, you find that there’s a high personal benefit. Something in the order of 15 per cent increase in salary for every year of tertiary education. Now in regards to that, there’s a recent Grattan Institute report that is making the very same findings. And they argue based on that, that we can actually start reducing the education subsidies because students are basically getting all the private benefits, so we don’t need subsidies. What’s your view on this?

Dr Andrew Leigh: So clearly the private benefits are very large, as you said, 15 per cent a year. So a three year Bachelor’s degree is earning a student something in the order of (up to) 50 per cent increase in earnings. Most of that is through productivity.

Then the question is: how much are the private returns also matched by social returns? And sadly the social returns are easier to list than they are to measure. So you can list returns such as better productivity, so if you have more education and we’re sitting next to each other in adjoining cubicles, I might learn a lot from you and become more productive. A higher education might also mean that you have less of an impact on the health care system. It’s probably unlikely to have much of an impact on crime. Increased secondary schooling I think could well have social payoffs in crime. I’m less sure about universities.

And there might be political participation payoffs of which I think we’re fairly uncertain. So all of that adds up to, I think, big confidence intervals around what the social payoff to education is.

The Grattan Institute report seems to take a strongly rational view on debt. It seems to say we can ramp up student contributions without affecting equity outcomes. But what I worry about is there might be some degree of debt-aversion which even if it isn’t backed up by a rational model, could still lead kids from disadvantaged backgrounds to balk at a high sticker price. And to refuse to take on a university education. It would be good for them and would have big social payoffs.

Dr Jan Libich: Well I think the report does a pretty good job to try to present evidence that people from lower socio economic backgrounds would not be disadvantaged and it wouldn’t impact too much on them actually entering university. Also, there’s international evidence to that effect. So you still worry that that could occur?

Dr Andrew Leigh: But they’re testing out of sample, Jan. So the two best experiments we have are the ones that Bruce Chapman and Chris Ryan look at. The introduction of HECS and then the introduction of differential HECS in the late 1990s, which sees higher HECS bills again. But those increases are of a much smaller magnitude than is proposed in the Grattan Institute report. So students now may be asked at the end of their university education to pay back a debt equivalent to a small car. I don’t think that then tells us that we could increase their debt to be enough to pay off a small plane, and they wouldn’t balk at it.

Dr Jan Libich: Okay. Let’s move to other microeconomic policies. You were quite instrumental in your research in highlighting the fact that some government policies badly implemented can have severe distortionary effect on people’s behaviour. The study that pops into my mind is your 2006 study with Joshua Gans where you look at the introduction of the baby bonus and the timing of births. Can you tell us what it was about?

Dr Andrew Leigh: Sure. The baby bonus study centres around a policy change put in place by the Howard Government. They said any baby born on or after the 1st of July will receive $3,000. They were asked: what about a baby born on the evening of the 30th of June? And the Minister was very clear that such a family would not receive the baby bonus. There were rumours around this time that this had caused shifting of births and overcrowding in maternity wards. Joshua (Gans) was very close to the issue because his wife had one of their children in the July just after the baby bonus came into effect.

Dr Jan Libich: Was his child one of those that was moved?

Dr Andrew Leigh: Well, they had some difficulty getting an obstetrician at the time and that’s indeed what we find from the data. This is one of those studies where you actually don’t need much fancy econometrics. There is one day in Australia in which more babies were born than any other day in Australian history. And that’s the first day the baby bonus was introduced. You just see the graph spike up and then what’s troubling is that you see the birth rate higher even in the second week of July than it should have been. Suggesting, that of the thousand births that were shifted from June into July, a non-trivial share - may be a few hundred - were shifted by a couple of weeks. Generally, when we’re thinking about the health of babies, we’re worried about premature births but there’s also some evidence that babies that are in the womb well past term might suffer health consequences as well. So, while we didn’t find anything that was conclusive, we were concerned that the sharp introduction of the baby bonus had actually had adverse health consequences.

Dr Jan Libich: You basically warned against this, but then there was another step increase in the level of the baby bonus, I think twice, and the same thing happened. Although the spike was a little bit less.

Dr Andrew Leigh: That’s right, yes. So the Howard government then went and increased the baby bonus. Having introduced it in July 2004, increased it in July 2006, and just in case you’d thought the first result was a fluke, we saw the same effect in July 2006 again. We had released our study just prior to that in order to try and persuade the government to just step in the change. They didn’t and you again saw births shifting.

Dr Jan Libich: So, you’re basically now moving onto the question of how we can improve the design of policies to avoid these kind of distortionary outcomes.

Dr Andrew Leigh: Yeah, I think we want to think about introduction effects - it’s what Joshua (Gans) and I call it. So normally when we think about policy distortions, we think about the steady state effect of a policy. I think we ought to also make sure that when a policy is put into place, it doesn’t generate perverse incentives. Those introduction effects are not as critical as the enduring effects, but they matter and there’s simple ways to get around it. So for example, the Health Minister wrote to obstetricians prior to Labor’s increase of the baby bonus to make them aware of the fact that there had been births shifting previously and to encourage them to make sure that birth timing was only done with the health of the baby and the mother in mind. I hope that had some effect in reducing the degree of births shifting.

Dr Jan Libich: It’s peculiar because the government could easily change the policy. But instead they’re going to write an email to all those obstetricians asking them to do something, rather than actually changing the policy.

So far we’ve assumed that the baby bonus was actually a good policy, but is it really the case? Do you think that it’s something that’s desirable?

Dr Andrew Leigh: Well the best argument you can make for the baby bonus is that if families are credit constrained at the time of the birth, then this provides extra liquidity for families at the time the baby is born. And that any drop in expenditure at the time of the birth could have substantial adverse consequences. So, think about a family that has difficulty keeping the heat on, providing enough food, making sure that the parents are in good harmony. If you can stop there being shouting in the household in the first few months of a baby’s life, you might well improve the child’s life overall.

Dr Jan Libich: But this effect’s kind of reduced now that there’s not a once-off bonus, but it’s actually phased out over time – it’s paid fortnightly I think. So that’s probably not going to be very helpful to a credit constrained family.

Dr Andrew Leigh: Well, why so? It just means that family then has payments that they receive through the ensuing six months or so. Either through a baby bonus or paid parental leave. I would’ve thought potentially that’s even better for liquidity constraints, if you’re worried that a lump of cash might not be spent entirely on baby-related things.

Dr Jan Libich: Okay.

Now, in terms of the baby bonus, the original assumption, at least on my part, was that it’s trying to do something with the undesirable demographic trends. The fact the populations are aging in Australia as well as in other advanced countries. So that’s not the intention you think, trying to provide extra incentives for people to have kids?

Dr Andrew Leigh: I think it was always principally income support, trying to top up payments at around the time of the birth. To the extent that it was a birth incentive, I think that was given life by then-Treasurer Peter Costello’s statement to radio on budget night: that mums and dads should have one for him, one for her and one for the country. That, I think, is probably a pretty weak argument for the baby bonus. Joshua (Gans) and I didn’t look at it, but there’s a Melbourne Institute study by Mark Wooden and co-authors that estimates that for every extra baby born thanks to the baby bonus the cost to the budget is over $100,000.

Dr Jan Libich: So, talking about the demographic trends, are there any other policies you can think of that can be implemented or reformed to try to cater for the fact that when baby boomers retire it’s going to have a pretty big negative impact on the budget. Can you think of any policies that should be implemented?

Dr Andrew Leigh: So the aged-care reforms that are going on at the moment are aimed at a lot of that. One of the things that we just announced yesterday, which I think is quite clever, is thinking about training of aged care workers. At the moment we train aged care workers and doctors very differently. Doctors are trained in teaching hospitals, which have regimented curriculum programs and experienced doctors to mentor them. Aged care workers tend to just find themselves in whatever aged care home they work in. So we’re actually setting up teaching aged care centres to try to improve the quality of care. And try and also think about the way in which aged care is financed. I think it’s also important.

Dr Jan Libich: Yeah, because this is only going to impose more expenditure on the budget. It’s not actually going to help solve the situation.

Dr Andrew Leigh: Well it imposes more expenditure on Australians as a whole. And I think one of the ways in which you’ve seen the debate shift in the last 15 years is away from the notion that government ought to pay for everything, to the notion that if an elderly couple finds themselves in a situation where they have substantial assets and they want a better quality of aged care, it might be appropriate to ask them to pay for it. Because, really who’s ending up paying for it is the children who are receiving slightly smaller inheritances while their parent receives a better quality of aged care.

I think that conversation’s gotten better in Australia than it was in the 1990s. And structuring sort of appropriate bonds, protections around reverse mortgages – to make sure reverse mortgages can work. These are natural policies to economists to make sure the tax system doesn’t generate perverse incentives not to make a contribution, for those that can afford it, to getting better quality aged care.

Dr Jan Libich: I think the extent of the demographic problem is much bigger than even most people realise. I mean if you look at the projections over the next 25 years, the proportion of people over 65 in Australia is going to increase by about 50 per cent. From about 0.2, to maybe 0.35. So, it’s a major impact, and it’s not only on the pension scheme – Australia’s done a pension reform, which has been copied by many other countries – but it’s mainly health care. I mean, most of the health expenditure occurs in the last year or two of life. So if we had 50 per cent more aged people, that’s going to have a severe impact on the health care budget.

Dr Andrew Leigh: But I think one of the good things that economists have brought to this debate, Jan, is the notion that we ought to not just think of a 64 year old as a 64 year old. In some sense, you know, as Paul McCartney actually said when he turned 64, it’s quite different from what he thought it would be. And you see this. David Cutler has some nice work where he looks at the functional physical mobility of someone who is 64 now and someone who was 64 a generation ago. And you’re finding increases in the order of about 10 years. So today’s 64 year old is as mobile as a 54 year old a generation ago. And so that means people enjoy longer life spans. And another thing I think the demographers miss is that demographers often ignore price effects. As prices change, you also see demands change as well. So I worry that a little bit too much of this modelling is driven by simple age structure and not enough by the way in which we would think about it as economists with the prices included.

Dr Jan Libich: Okay, let’s move onto a different microeconomic policy which regards the minimum wage legislation. You have a 2007 study where you’re trying to assess to whom the minimum wage actually goes. Who’s the recipient? And surprisingly to some people, you find that it’s actually not the low income families but it’s the medium income families. And when you run the simulations the scenario that I found most realistic is actually going to lead to an increase in income inequality rather than a decrease. So, we think of minimum wages as a way to reduce poverty and reduce inequality, but it seems your research would imply that that’s actually a bad idea. So as a politician now, where do you see the minimum wage legislation?

Dr Andrew Leigh: So I find the minimum wage debate enormously frustrating. There’s one side of the debate that doesn’t acknowledge that there’s benefits in terms of earnings - to raising the minimum wage. And there’s another side of the debate.

Dr Jan Libich: Income effects?

Dr Andrew Leigh: Yeah. You raise the minimum wage, a bunch of people get wage rises and while they’re not all poor, they are disproportionately poor. And then there’s another group of people that don’t accept that there could be any dis-employment effects. I think both of those extreme cases don’t make much sense. I think there’s dis-employment effects and I think they’re probably fairly small. I think there’s also positive wage effects, although it actually turns out we have no studies in Australia looking at what the wage effect is, and understanding better how much a minimum wage increase flows through into wage packets is really important. You can write theoretical models in which the answer is ‘none’, or in which the answer is ‘all’, therefore theory tells us nothing and we’d like to have some more empirics. So, I think it is part of an anti-poverty toolkit but I think it will never be the only effective part of alleviating poverty. Things like earned-income tax credits, focusing on the impact of payroll taxes and income taxes, and of course education, are all going to be at least as important in fighting poverty as the minimum wage.

Dr Jan Libich: You have a very interesting study, I think with … just remind me … about predicting …

Dr Andrew Leigh: Ah, with Justin Wolfers.

Dr Jan Libich: Justin Wolfers, yeah, about forecasting election outcomes. And one of the things you do, you compare economic models. You compare the polls and you compare prediction markets. The interesting finding to some people is that you actually find that the prediction markets do very often give you a better answer than the polls. So now as a politician, is your party paying more attention to prediction markets?

Dr Andrew Leigh: Yeah, so you always learn good things from co-authors. With the baby bonus study I was sure when we began it that we wouldn’t find any effects and with the election forecasting paper, I said: Justin why do you want to include this prediction market stuff, isn’t it more interesting just to look at the economic models and the polls? And then he persuaded me that prediction markets were truly fascinating to look at. I certainly look at them, but there’s a large degree of path dependence in politics. That’s true in the commentariat. That’s also true within political parties themselves and so I think the temptation to continuing surveying and the kind of mid-20th century wave is going to be with us for quite a time to come. Despite the fact that it is so extraordinarily volatile. You and I know if you’re measuring something that has a margin of error of a couple of percentage points either way and you want to look at the change in that thing, then if two things measured with a two percentage point margin of error differ by two percentage points then chances are, you’re just looking at noise. But that’s not the impression you’d get if you looked at the front of a major broadsheet on the day they brought out their in-house poll.

Dr Jan Libich: Let me ask you about the influence of academic research, your personal research, on your personal life. So far we’ve looked at policy.

Dr Andrew Leigh: Yes.

Dr Jan Libich: You have an interesting study where you look at how divorce rates, and generally happiness, how it’s affected by the composition of children. You find that if people have a boy and a girl, they are less likely to get divorced. So given that your first child was a boy, I think I can disclose that, were you wishing for a girl as the second child?

Dr Andrew Leigh: So this is what economists would call having convex preferences over child gender. You can tell models in which people ought to enjoy having two children of the same kind for example because they can pass down the blue clothes or the pink clothes to the next child. But in general, you see convex preferences. So, you know, this is partly exhibited in the fact that parents with two kids of the same gender are more likely to go for a third than parents of two kids of different genders. My research also showed they were more likely to split up, not by a great a deal, but 1.7 percentage points which accounts for maybe a thirtieth of the total variation in marriage rates among those families.

But I don’t know whether this is because we’ve talked ourselves into it or whether it was always our preferences. So we’re delighted by the fact that we’re expecting a third boy. I feel like I know how to raise boys. I feel as though I know what sort of holidays we’ll have. They’re going to be active holidays in which we try and all exhaust one another. And I feel as though I know what kinds of empirical lessons I’ll be sitting down to teach my sons. And making sure by the time they turn 10, they understand the fallacy of the sunk cost and they can think at the margin.

Dr Jan Libich: Well, congratulations very much. And I have to say that your wife is due in about a week or so, and it’s exactly the reason why we have to pack up now because you’re catching a plane in about an hour.

We would like to thank you very much for joining us and for your ongoing efforts to contribute to public policy, not only in Australia, but worldwide. So, good luck for the birth – to you and your wife – and we’re looking forward to more of your ideas. And if things don’t work out for you in politics, we’d be very happy to have you back in economics.

Dr Andrew Leigh: Thank you very much. I think there’s maybe an absorbing state but I very much enjoy dabbling in economics and I think the popularisation of economics is enormously valuable and important to the future of our discipline.

Dr Jan Libich: Thank you.

Dr Andrew Leigh: Thanks, Jan.

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Cnr Gungahlin Pl and Efkarpidis Street, Gungahlin ACT 2912 | 02 6247 4396 | [email protected] | Authorised by A. Leigh MP, Australian Labor Party (ACT Branch), Canberra.