As the election approaches, and with both parties committed to large tax cuts for high-income earners, the difficulty of financing even modest electoral commitments is becoming evident.
As a result, we are seeing a resort to time-honoured expedients for saving money in ways that appear painless. Labor has promised to reduce spending on consultants and conduct an “audit” of government waste. The government has responded in kind with a plan to increase the annual efficiency dividend imposed on the public service, from 1.5% to 2%.
The efficiency dividend was first imposed under the Hawke government in 1987.
Officially, the idea was motivated by the then-nascent information technology revolution, which was expected to yield spectacular gains in productivity. Behind this rhetoric was a belief held by many in the government that there was plenty of slack in the public service, and that managers could find savings if they had to.
Three and a half decades on, the cumulative impact of the efficiency dividends is a real reduction of between 40% and 50%. That should have produced a massive saving.
But the reality is quite different. As with most office-based businesses, the actual costs of running the public service have risen over time, even after adjusting for inflation. The number of public service employees has risen, as has the average real wage they earn. What has gone wrong, and what are the lessons that should be learned about efficiency dividends?
First, while we have seen amazing progress in technological terms (a smartwatch has more computing power than the fastest supercomputers of the 1980s), this hasn’t translated into massive productivity gains. This was already becoming evident to astute observers when the productivity dividend was introduced. In the same year, the Nobel prize-winning economist Robert Solow observed: “You see the computer age everywhere but in the productivity statistics.”
In fact, across the economy as a whole productivity growth has been slow. The microeconomic reform program of which the efficiency dividend was a part delivered some initial gains but these quickly petered out.
Still, labour productivity growth has averaged about 1.5% annually, suggesting to some observers that an efficiency dividend at this rate is sustainable. The problem with this argument is that labour productivity growth is the source of increases in real wages and living standards. While wage growth has fallen somewhat short of productivity growth, the idea that real wages could be held indefinitely at 1987 levels is a nonsense.
The only way to secure continuing efficiency dividends would be if productivity in the public service grew more rapidly than for the economy as a whole.
How then, has the efficiency dividend been sustained? The answer is that the efficiency dividend amounts to an automatic cut in the provision of public services, with the choice of what to cut being left to individual departments and agencies. The savings are then used to announce new programs, many of which do little more than fill the gaps created by earlier cuts.
It’s easy to see the political appeal of this process to governments of either party. The cuts associated with the efficiency dividend are too small to be noticed in any given year, and can’t easily be identified. By contrast, the new programs they finance give ministers plenty of opportunities to make themselves popular.
As numerous reports and independent analyses have concluded, the cumulative effect of unplanned cuts is to hollow out the core capacities of governments, while loosening discipline on new programs. Two consequences of this process are particularly noticeable.
First, even as the basic functions of government have been eroded, we’ve seen a steady increase in low-level pork-barrelling, exemplified by the sports rorts and station car parks scandal. Projects that should have been undertaken, if at all, by state and local governments have instead been opportunities for federal ministers to hand out novelty checks.
Second, since policy analysis is an easy target for cuts with little initial impact, we’ve seen increasing resort to high-priced consultants to do work that should have been undertaken in-house. And this brings us back full circle, to Labor’s promise to cut spending on consultants. That’s a good idea but not a source of free money to be allocated to fund election promises.
The only sustainable way to reduce spending on consultants is to increase the policy capacity of the public service.
That in turn means scrapping efficiency dividends.
John Quiggin is an Australian laureate fellow in economics at the University of Queensland