#12 June 2006 Melbourne Institute News

Melbourne Institute News June 2006 ISSN 1442-9500 (print)

ISSN 1442-9519 (online)

Print Post Approved PP381667/01204

Issue 12

Effects of Household Joblessness on Subjective Well-Being

Economic Evaluation of Obesity Prevention This article gives an overview of an exciting new multidisciplinary project being jointly run by the Melbourne Institute and the University of Aberdeen.

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Opinion by John Freebairn Professor John Freebairn gives his opinion on the current energy supply debate.

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Poverty and Disadvantage Dr Bruce Headey gives an overview of a new report on poverty and disadvantage in Australia.

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Analysis of the 2006–07 Federal Budget Drs Hielke Buddelmeyer and Guyonne Kalb and Professor John Freebairn have analysed the recent Federal Budget and report some interesting findings.

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It is widely assumed that the economic and social costs of unemployment must be exacerbated where joblessness is concentrated within families and neighbourhoods. This hypothesis is tested in a recent working paper written

by Dr Rosanna Scutella and Professor Mark Wooden.

Data from the first three waves of the HILDA Survey are used to test whether jobless individuals score worse on two indicators of well being—a measure of overall life satisfaction and a measure of mental health—when they live in households with other jobless people.

Consistent with a wealth of previous research, unemployment is found to be associated with lower levels of well-being, but there appears to be very little additional disadvantage from being both unemployed and living in a jobless household.

Females involved in home production and not actively searching for work are the only group for whom it can be confidently concluded that living in a jobless household reduces well-being.

The full copy of this Melbourne Institute working paper (10/06) can be downloaded for free from www.melbourneinstitute.com.

www.melbourneinstitute.com Melbourne Institute of Applied Economic and Social Research - Page 1

Economic Evaluation of Obesity Prevention Development Office, the Economic and Social Research Council and the Medical Research Council. The initiative is coordinated by the Medical Research Council.

Researchers in Aberdeen and Melbourne have launched a multidisciplinary study with the objective of finding effective and efficient ways of helping to prevent adults from becoming obese and then suffering the ill-health caused by the condition.

The study involves specialists in economics, public health, clinical nutrition, systematic review, epidemiology and sociology. They are joining forces to carry out an economic evaluation of lifestyle interventions, such as dieting and exercise, which aim to prevent obesity in adults.

Obesity is a major cause of ill-health in the UK. The number of people who are overweight and obese has trebled over the last 25 years. By 2004 there were roughly 24 million men and women who were either overweight or obese in the UK. It was estimated by the House of Commons Health Select Committee that the cost to society of obesity and of people being overweight is between £6.6 and £7.4 billion per year. This figure includes over £2.5 billion for the costs associated with premature death and absence from work.

The research has attracted £495,656 (A$1.15m) from the National Preventive Research Initiative—a major consortium of funders, including the British Heart Foundation, Cancer Research UK, Diabetes UK, World Cancer Research Fund, the Department of Health, the Chief Scientist Office of the Scottish Executive Health Department, the Welsh Assembly, the NHS Research and

The research team will spend three years taking a multiphased approach to the study. It will begin with a review of existing data about methods for preventing obesity.

As part of this study, the researchers hope to speak to people who may be obese or at risk of becoming overweight about their perceptions of obesity and its prevention. This area of research also will aim to establish other factors thought to induce behaviour that results in obesity, such as self-image, e.g. do people want to lose weight because they want to look thinner as opposed to becoming healthier?

Researchers will gather information on good and bad lifestyle interventions by speaking to GPs, regional health boards, NHS Health Scotland, NHS Health Quality Improvement Scotland, NICE (National Institute for Health and Clinical Excellence) and the UK Department of Health. They will analyse also the large amounts of data that have been collected over many years within the UK to estimate how changes in lifestyle might lead to changes in the risk of obesity and in the incidence of diabetes, coronary heart disease and cancer, and their related costs. They hope that by identifying the best methods of preventing people from becoming overweight or obese, they can reduce the risks of cancer, heart disease and diabetes, which are caused by obesity, and which put a huge strain on National Health Service resources.

The Melbourne Institute team, which consists of Professor Kostas Mavromaras (the original Principal Investigator of the project), Ms Alison Goode and Professor Tony Scott, looks forward to this collaboration and the possibilities it opens for further innovative multidisciplinary research on obesity in Australia.

Professor Mavromaras says ‘There are many lessons to be learned about making a dent on the development of the obesity epidemic. This study will use the largely untapped resource of economic behavioural modelling in obesity research in order to inform policy. Modelling behaviour will help us understand better the response of people to their own obesity. This research will get us closer to the mix of underlying causes of obesity (physiological, social, economic and other), and will improve the ability of the policy makers to treat obesity in a preventive fashion rather than only treating the symptoms of obesity after a lot of the damage has already been done’.

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Australian Economic Review The latest issue of the Australian Economic Review (AER) contains an article by Daina McDonald on the history of the AER, from its beginning in 1968 to the June quarter of 2005, entitled ‘150 Issues of the Australian Economic Review: The Changing Face of a Journal over Time’.

The list of other articles is as follows: Contributed Articles

Happiness and the Human Development Index: Australia Is Not a Paradox, Andrew Leigh and Justin Wolfers On Leigh–Wolfers and Well-Being in Australia, David G. Blanchflower and Andrew J. Oswald Policy Forum: The Future of Energy Markets Energy Markets: From the Dawn to the Present, Anthony D. Owen World Energy Prospects and Challenges, Fatih Birol Prospects for the Australian Energy Sector: An International Perspective on Climate Change Policies, Melanie Ford, Guy Jakeman, Anna Matysek, Andrew Gurney and Brian S. Fisher

The Emergence of Structural Faults on the Supply Side in Deregulated ‘Energy Only’ Electricity Markets, Paul Simshauser

Evaluating the Costs and Benefits of Renewable Energy Technologies, Anthony D. Owen

Is Post-War Economic Growth Exponential?, Sören Wibe and Ola Carlén

Aggregate and Industry Productivity Estimates for Australia, Dean Parham and Simon Zheng

Comparative Analysis of Ownership Transformation and Performance Relationship among Major and Regional Banks in Australia, Kandiah Jegasothy, Mai Pham and John Tippet

For the Student

Data Surveys

Efficient Urban Water Pricing, Hugh Sibly The AER can be subscribed to online at www.blackwellpublishing.com/aere.

Making the Boom Pay The Melbourne Institute and The Australian will be hosting their fourth major Economic and Social Outlook Conference on Thursday 2 and Friday 3 November 2006, entitled ‘Making the Boom Pay: Securing the Next Generation of Prosperity’.

This year the theme will be about adjusting to the current economic boom and how Australia can best set itself up for continual opportunity and prosperity over the next decade. The conference will be a unique gathering, bringing together political leaders, public service policymakers, community leaders and academics.

Topics will include the new workforce system, schools, childcare and welfare reform, health reform, water policy, tax reform, urban congestion, skills shortages and aged care.

Invited speakers include cabinet ministers and shadow cabinet ministers, senior public servants, academics, business leaders, representatives from community groups, and leading journalists from The Australian. Once again the conference will be held at the University of Melbourne. A Gala Dinner will be held on Thursday 2 November at the Grand Hyatt, Melbourne.

For information about the program and booking details, or the online expression of interest form, please visit our conference website at www.melbourneinstitute.com or contact our information service on: Tel: +61 3 8344 2151 Fax: +61 3 8344 2111 Email: melb-conf@unimelb.edu.au

Melbourne Institute of Applied Economic and Social Research - Page 3

Opinion

by John Freebairn

From the Director: The Energy Supply Debate The Prime Minister has called for a thorough review and public discussion of the relative merits of different forms of energy, including fossil fuels, nuclear, wind and biomass, to meet anticipated growing energy needs of the future and to replace existing ageing electricity generation plants. I suggest key issues to be considered, and some general principles to guide the collection of information.

No doubt the devil lies in the details, but some agreement on a framework should guide the debate we have to have.

The ideal solution lies in ďŹ nding those sources of energy with the lowest marginal social cost, and then in setting prices equal to marginal social cost. Social costs include the construction costs of generators, both in total and an annualised cost for depreciation and the opportunity cost of funds invested, operating costs associated with materials and labour, decommissioning costs, and any costs associated with the disposal of waste products.

Much of the debate will be about the magnitudes of the marginal social costs associated with the waste products from burning fossil fuels, and from the storage of spent nuclear materials.

The reality is that current Australian institutional arrangements for internalising the potential external costs of burning fossil fuels and for using the nuclear power option are ad hoc, very uncertain, and almost certainly inconsistent with signalling the appropriate marginal social cost. The debate on the choice of future energy options requires data on the relative social costs of the different options. Presumably reasonable agreement can be obtained for the capital and operating costs, although they constantly evolve with new technology. In the case of the external costs associated with wastes, one option is to develop breakeven budgets for electricity from, say, coal versus nuclear versus wind versus biomass for different (hypothetical) marginal costs per tonne of greenhouse gases and nuclear waste. This information would then help to focus the debate on reasonable estimates of the social costs of wastes generated per kilowatt of electricity.

Finally, there should be no running away from the necessity of consumers of energy, both households and businesses, paying prices which include the marginal social costs of wastes produced in the energy production process. Only then will they too face the social costs of energy, and have the incentives to conserve energy use. For example, energy prices equal to social marginal costs help households and businesses to choose among the many options to conserve energy from adjusting air conditioning temperatures, building construction and machinery design and even location, and to choose among options to augment water supplies.

If the private sector were to meet all marginal social costs, including of waste materials, we could leave the choice of energy production options to the proďŹ t motive of businesses. Bringing the social costs of wastes into the private cost calculations is much of the argument for introducing carbon taxes or carbon trading permits in the case of fossil fuels, and for setting appropriate property rights or fees for the safe storage of nuclear wastes. Businesses then would face the incentives and reap the rewards from ďŹ nding the least cost source of energy, from reducing costs, and from developing and introducing new technology, much as we observe in competitive energy markets such as Victoria.

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China-Australia Free Trade Agreement Project The proposed Chinese Free Trade Agreement will pose some crucial issues for Australian intellectual capital.

A multidisciplinary team of intellectual property and trade specialists is undertaking a large survey of Australian businesses to ascertain their experiences in China to date.

This research is funded through the Intellectual Property Research Institute of Australia. The team comprises Jongsay Yong and Beth Webster from the Melbourne Institute along with Kim Weatherall, Don MacLaren and David Morgan from the University of Melbourne.

Poverty and Disadvantage The Melbourne Institute is undertaking a project to review and implement multidimensional approaches to the measurement of, and policy improvement towards reducing, poverty and disadvantage.

As a contribution to the project, a recent Melbourne Institute report sets out a framework for assessing disadvantage which is influenced by Sen’s (1999) ‘capabilities’ and ‘functionings’ approach.

The framework is, in part, implemented using the first three years of HILDA panel data (2001–2003).

It is hoped that a modified version of the framework, together with appropriate additional data, could be used

by Australian governments to revive efforts to prevent and reduce disadvantage.

are assessed: financial, employment, health, and family/ social. The aim of policy would be to ensure that as many citizens as possible are equipped with the capabilities to exercise effective choice and lead satisfying lives in a modern society and economy.

The value of the HILDA panel data is that, for the first time in Australia, we are able to measure the persistence of poverty and disadvantage. Clearly, from a policy standpoint, medium- and long-term disadvantage are of greater concern than short-term. The analysis indicates which groups in Australia have low capabilities and suffer medium-term disadvantage in the financial, employment, health, and family/social domains.

Low capabilities are shown to be strongly related to low social and economic functionings and to low levels of well-being.

It is considered that a new framework is needed for both political feasibility and academic reasons. No Australian government has ever adopted an official poverty line or quantitative target for reducing poverty.

In particular, relative income poverty lines favoured by academics have been ignored. A multidimensional approach based on ‘capabilities’ could perhaps attract the support of policy makers. Four domains of capability

The concluding section outlines a life cycle approach to capabilities and functionings, which may be one way for Australian governments to move forward in this field. In any event, the aim is to develop a suite of measures of poverty, disadvantage and low capabilities, which should be updated on an annual basis.

The full report, written by Dr Bruce Headey, is entitled ‘A Framework for Assessing Poverty, Disadvantage and Low Capabilities in Australia’ and is available for free downloading at www.melbourneinstitute.com.

Melbourne Institute Economics Forums Dr Mark Crosby of the Melbourne Business School will focus more specifically on Australia, and report on some scenario analyses of the effects of sharp falls in Australia’s terms of trade.

Upcoming Forums in July Special Topic: Are Deficits a Problem?

The special topic for these forums will ask whether government deficits, private sector debt, the current account deficit and overseas debt are a problem for the economy, and an issue for economic policy to address.

The forums will consider the issues from a global perspective, and specifically for Australia.

Melbourne Institute Public Economics Forum Old Parliament House, Canberra Tuesday 11 July 2006, 12.00noon – 1.45pm

Professor John Freebairn will begin with an overview and some of the key issues.

Professor Max Corden, a Professorial Fellow of the University of Melbourne and a noted international trade analyst, will consider the global issues with imbalances and trade deficits/surpluses across different groupings of countries.

Melbourne Institute Economics Forum Park Hyatt, Parliament Square, Melbourne Thursday 13 July 2006, 12.00noon – 2.00pm Registration forms are available from www.melbourneinstitute.com

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Melbourne Institute Analysis of the 2006–07 Federal Budget The 2006–07 Federal Budget, presented in May, is one with significant changes in incentives to join the workforce and to work more hours.

3. Raising the 30 per cent tax threshold from $21,600 to $25,000.

The Melbourne Institute analysed the effects of changes in labour supply incentives of the 2006–07 Federal Budget on changes in the number of people participating in the labour force and on average hours worked.

5. Raising the 47 per cent threshold from $95,000 to $150,000 and reduction of the tax rate from 47 per cent to 45 per cent.

It is important to acknowledge that these policy components are only a subset of all the measures in the budget. Furthermore, these measures were not explicitly introduced to increase labour supply, although as will be shown, they in fact do. The specific measures that were incorporated in the analysis are as follows: 1. Reduction of the benefit withdrawal rate of Newstart and Parenting Payment Partnered of 70 per cent to 60 per cent for income over $250 per fortnight and from 70 per cent to 50 per cent for income between $142 and $250 per fortnight (as announced at the presentation of the 2005–06 Budget). Other allowance payments will also be changed in line with the changes to Newstart, including Youth Allowance (non-students), Widow Allowance, Partner Allowance, Mature Age Allowance, and Sickness Allowance.

People in receipt of student payments (Youth Allowance (student), Austudy and Abstudy) will also benefit from a reduction in the maximum withdrawal rate from 70 per cent to 60 per cent.

2. Reduction of the Medicare levy low-income phase-in rate from 20 per cent to 10 per cent.

4. Raising the 42 per cent tax threshold from $63,000 to $75,000 and reduction of the tax rate from 42 per cent to 40 per cent.

6. Increase the Low Income Tax Offset (LITO) from $235 to $600, which effectively raises the tax-free threshold from $7,562 to $10,000, and an increase of the threshold at which the offset starts to be withdrawn from $21,600 to $25,000.

7. Increase the Family Tax Benefit Part A threshold below which maximum benefits are received from $33,361 to $40,000.

8. Extend the Large Family Supplement to families with three children.

The policy changes have two potentially opposing effects on labour supply decisions: a substitution effect and an income effect. The extra spending in the budget either increases or leaves unchanged a household’s income. This enables households to purchase more leisure, a normal good, which reduces labour supply. In addition to this income effect, the changes also affect the rewards from additional work by changing the amount individuals may keep from an additional dollar of earnings. For instance, the 2 percentage point reductions in the 42 and 47 per cent tax rates unambiguously increase these incentives because they allow individuals to keep a larger proportion

Table 1. Expected Number of Additional Workers Due to the Financial Incentives in the 2006–07 Federal Budget (rounded to hundreds) Couple men

Couple women

Single men

Single women

Single parents

Total

Effect of 2006–07 Budget (1–8)

9,200

10,100

5,800

6,000

16,500

47,700

Effect of the FTB changes only (1,2,7,8)

1,000

–7,000

300

800

3,800

–1,300

Effect of the tax changes only (1–6)

8,400

12,300

5,800

6,000

16,400

49,000

Labour supply changes are compared to the tax and transfer system of March 2006.

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of an additional dollar of earnings, which leads to an increase in labour supply. This is the substitution effect.

However, the substitution effect does not work in the same direction for all of the policy measures. For instance, increasing the LITO leads to some people experiencing an increased effective marginal tax rate.

That is, some people who previously lost only 30 cents of an extra dollar of earnings (with taxable income in the 30 per cent income tax bracket) could now lose 34 cents in the dollar if they are caught in the new higher phase-out range of the LITO. This would reduce labour supply incentives. The substitution effect, which can either increase or reduce labour supply depending on the individual’s circumstances, operates in conjunction with the income effect. The size and the direction of the combined income and substitution effects are an empirical matter and depend on the circumstances one is in.

The Melbourne Institute decomposed the budget initiatives into two distinct parts. The first part consists of the changes to the Family Tax Benefits (FTB) (i.e. points 7 and 8, plus 1 and 2). The second part consists of the income tax initiatives (i.e. points 3 to 6, plus 1 and 2). Note that each part includes the proposed reductions in the social security withdrawal rates and the Medicare levy (i.e. points 1 and 2). The reference against which the labour supply changes are compared is the tax and transfer system of March 2006. Table 1 displays the predicted change to labour force participation in persons.

Table 2 displays the predicted changes to average hours worked per week.

After increasing the FTB threshold, we can distinguish two situations for coupled women: (a) for those women already receiving FTB above the minimum rate there is only an income effect, and (b) for those women who will receive FTB above the minimum rate for the first time, both the income and substitution effects work to reduce the labour supply.

In the case of the income tax cuts, a large positive effect on labour supply is produced. Here the substitution effects of better take home returns from work dominate the income effects of lower average tax burdens.

Combining the FTB and the income tax cuts, it is estimated that the 2006–07 Budget increases labour force participation by almost 50,000 extra workers.

The expected change in average hours worked mirrors the predicted changes to workforce participation, with one exception. The overall effect on participation among single women is positive under the combination 1, 2, 7 and 8 but it reduces average hours worked, indicating that the small increase in participation is counteracted by a decrease in hours worked of those already working before the change.

The budget savings as a result of the increased labour supply, including participation and hours changes, are approximately $900 million per annum, assuming the increased labour supply can be fully realised.

Dr Hielke Buddelmeyer, Dr Guyonne Kalb and Professor John Freebairn

The changes to the FTB are predicted to have a negligible negative effect on labour supply, due to the withdrawal of some secondary earners from the labour market.

Table 2. Expected Change in Average Hours Worked Due to the Financial Incentives in the 2006–07 Federal Budget (hours per week) Couple men

Couple women

Single men

Single women

Single parents

Total

Effect of 2006–07 Budget (1–8)

0.10

0.09

0.07

0.02

1.04

0.11

Effect of the FTB changes only (1,2,7,8)

0.01

–0.06

0.00

–0.02

0.36

0.00

Effect of the tax changes only (1–6)

0.09

0.11

0.07

0.02

1.00

0.12

Labour supply changes are compared to the tax and transfer system of March 2006.

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Recent Melbourne Institute Working Papers June 2006, ‘Those Current Account Imbalances: A Sceptical View’, 13/06, W. Max Corden.

May 2006, ‘Relative Factor Abundance and FDI Factor Intensity in Developed Countries’, 12/06, Alfons Palangkaraya and Andreas Waldkirch.

May 2006, ‘Time-Varying Equilibrium Rates of Unemployment: An Analysis with Australian Data’, 11/06, Robert Dixon, John Freebairn and Guay Lim. May 2006, ‘Effects of Household Joblessness on Subjective Well-Being’, 10/06, Rosanna Scutella and Mark Wooden.

May 2006, ‘Evaluation of Policy Options to Encourage Welfare to Work’, 9/06, Hielke Buddelmeyer, John Freebairn and Guyonne Kalb.

April 2006, ‘Entry, Exit, and Productivity of Indonesian Electronics Manufacturing Plants’, 8/06, Alfons Palangkaraya and Jongsay Yong.

March 2006, ‘Is Firm Productivity Related to Size and Age? The Case of Large Australian Firms’, 7/06, Alfons Palangkaraya, Andreas Stierwald and Jongsay Yong.

Mercer – Melbourne Institute Quarterly Bulletin of Economic Trends The Mercer – Melbourne Institute Quarterly Bulletin of Economic Trends is published by the Melbourne Institute of Applied Economic and Social Research with the sponsorship of Mercer Investment Consulting.

The Quarterly Bulletin aims to provide an authoritative analysis of the international, national and state economic environments, with a particular focus on reading the business cycle. In addition, most issues include one or more special topics considered to be of current interest.

The subscription fee is A$500 per annum.

To become a subscriber to this publication please contact Michelle Best on 03 8344 2196.

Melbourne Institute News Views expressed by the contributors to Melbourne Institute News are not necessarily endorsed or approved by the Melbourne Institute. Neither the Melbourne Institute nor the Editor of Melbourne Institute News accepts any responsibility for the content or accuracy of information contained in this publication. Editor: Laura A’Bell, tel: 8344 2154, fax: 8344 2111, email: labell@unimelb.edu.au. Sub-Editor: Nellie Lentini. Contributors: Dr Hielke Buddelmeyer, Professor John Freebairn, Dr Guyonne Kalb, Dr Bruce Headey, Professor Kostas Mavromaras, Dr Rosanna Scutella, Professor Mark Wooden.

Level 7, Alan Gilbert Building, The University of Melbourne P: (613) 8344 2100 F: (613) 8344 2111 www.melbourneinstitute.com