Microeconomic Policy in Australia

How has Australia's use of microeconomic policy supported productivity, efficiency and competitiveness?

Insights

What has happened?

Microeconomic Reform (MER) is a set of policies or an economic stance in which product and factor markets are targeted in an effort to increase the efficiency, productivity and the competitiveness of the Australian economy.

 Australia has upheld a progressive and proactive MER stance since the 1970s. This has included;

-   Deregulation

-   Reforms to Public Trading Enterprises

-   National Competition Policy

-   Industry and Innovation Policy

-   Trade Liberalisation

-      Labour market reforms; a shift from a centralised to decentralised system


Australia’s strong focus on trade liberalisation instigated long term national microeconomic reforms, and has continued into 2020.

In January, the Federal Government announced the implementation of planned tariff reductions on Australian farming and business exports as part of the ‘Transpacific Partnership’. This will improve access into emerging Chinese, Korean, Japanese, Mexican and Canadian markets, focussed on

  • Lamb exports, directed toward China and South Korea - now worth $1bn
  • The developing South Korean Market; the value of Australian exports to South Korea have increased by 18% 
  • Inroads developed into Mexico, considered the new ‘China’ - 800% increase in exports.

Further, following the debilitating effects of the COVID pandemic, Australia and the United Kingdom have begun negotiations surrounding a new Free Trade Agreement in June. This has the potential to increase Australian exports, and improve the quality of imported goods. Currently, the UK is Australia’s 7th Largest two way trade partner ($30bn), and the 3rd largest services trading partner. This will drastically increase with the opportunity for free trade, representing Australia’s commitment to trade diversity as an integral aspect of the economy’s post pandemic recovery. 

MER is a long-term policy response, and typically have the longest implementation and impact time lags of all government policies, typically greater than 5 years. Not only do they require acts of parliament to inflict impact, but they also induce structural change in the economy; that is, changes in the composition of Australia’s industry over time, usually leading to Aggregate Supply improvements.

Efficiency increases under microeconomic reform because this ‘supply side’ focus reduces business costs, increases competition and improves resource allocation. Efficiency in this context also means improvements in allocative, technical and dynamic efficiency

-   Allocative efficiency refers to an improvement in the economy’s ability to shift resources to where they can be used in the most effective ways

-   Dynamic efficiency accounts for the economy’s ability to shift resources between industries in response to changing consumer demand. A dynamically efficient.         economy is one which responds quickly to changing demand domestically and globally and adopts new technology and innovation

-   Technical efficiency is achieved when a firm produces at its technical optimum, the minimum of the long run average cost curve, and therefore produces at the.         ‘lowest cost per unit’.

LRAC (Long run average cost) curve. Technical Efficiency predominately assists the Australian economy in reaching Q2 levels of output, at C1 price levels (technical optimum), but all efficiency improvements help the economy produce the highest quality goods, with the most effective technology, at the lowest costs, with optimal resource allocation.

Syllabus Links

Deregulation

Refers to the simplification or removal of rules which constrain operation of market forces, therefore improving market efficiency. Deregulations have been evident largely in the financial sector, in what the Australian Treasury calls the ‘first wave of microeconomic reform’.  Financial changes included the floating of the Australian dollar from the previous managed flexible peg, the removal of the RBA/central bank’s direct monetary control over consumer banks and removal of barriers to foreign capital and banks entering Australia.

 

This has increased foreign inflows of capital, strengthened investor confidence and upheld Australia’s economic consistency. Financial Deregulation has also supported the implementation of macroeconomic policies.

§  deregulated banks are more competitive in their transmission of monetary policy

§  A floating exchange rate provides the government greater resources to increase fiscal expenditure and provide Aggregate Demand stimulation

 

Additionally, the floating exchange rate also functions as an automatic stabiliser. In periods of negative global economic growth, exports reduce which consequently results in a depreciation of the Australian Dollar via decreases in currency demand. This therefore increases the demand for exports as an injection, and reduces import expenditure, a leakage, thus improving economic growth

Increase in Aggregate Supply: This market shift is fundamental for long term economic growth as it reduces the price level from P to P1, whilst improving economic growth (quantity). A decrease in Aggregate supply can often lead to 'stagflation' where output reduces and price levels increase, causing significant policy concerns.

Australia’s agricultural industry has also faced significant deregulation, including the removal of industry subsidies and pricing regulations. Instead, Wheat Exports Australia has been implemented to maintain a competitive industry structure and monopoly marketing boards have been removed.

As a result, Australia’s agricultural production has increased by 26% over the past 15 years whilst the number of farms have reduced by 16%, reflecting greater technical and allocative efficiency. Furthermore, technologies have been implemented in the industry faster than average levels over the past 20 years, indicating greater dynamic efficiency.

Recently, Australia has been reaping the benefits of our ‘twin peaks’ model: the Australian model for regulation of the financial system comprised by two independent ‘peaks’ – the Australian Securities Investment Commission (ASIC) and the Australian Prudential Regulation Authority (APRA).

In 2018/2019, APRA increased its attention to the housing market by tightening lending requirements. This helped ‘cool’ the housing market which had been severely ‘hyperactive’ since 2013, whilst helping to improve the quality of bank’s mortgage portfolios.

Public Trading Enterprise Reforms

The government reforms Government Business Enterprises via two processes:

corporatisation: eliminating political supervision and making PTE’s operate like private firms, with aims for sustainable returns and effective management in competitive markets (Australia Post, Energy Australia)

Privatisation: selling off PTE’s and thus making them private enterprises (Qantas, Telstra, Kingsford Smith Airport). This helps increase efficiency, encourage stronger management and facilitates decreased wasteful spending, allowing for increased allocative efficiency. This is because existing public enterprises are distant from profit motives or competitiveness.

National Competition Policy

The implementation of Australia’s National Competition Policy in 1995 aimed to increase competitive pressures within the economy and increase innovation – this will increase economic activity, reduce prices and ensure greater consumer utility.

Governing bodies such as the ACC, formed under the Competition and Consumer Act 2010, prevents anti-competitive behaviours such as price fixing, price discrimination, abuse of market power and collusion. This forces firms to remain competitive and reduce prices, improving price stability, consumption and economic growth.

Innovation and Industry Policy

Industry policies aim to encourage firms to develop new goods and services, become more competitive by adopting new technologies and to improve labour productivity of the workforce. Such microeconomic reforms include the;

2017 Budget: 23.5% R&D tax credit for small firms to encourage research spending by companies

The 10-year enterprise tax plan will improve the IC of Australian firms and encourage greater business investment – this aims to increase Australia’s AS in the long term and provide greater economic growth, per capita incomes and competitiveness

Tax cuts to the company tax rate to 27.5% has encouraged higher firm investment, which has been further supported by the $30000 instant asset tax write off, which will allow firms to bring forward investment, leading to improvements in productive capacity.

The proposed flattening of the tax system (2019-2020 budget) with the removal of the 37% tax bracket to create a larger 32.5% bracket for those earning $41,000-200,000 will similarly reduce the disincentive to up-skill and increase personal incomes, currently presented in the progressive income tax system. Negatively, Australia’s tax rate is 22% above the OECD average – this represents increased tax costs and reduced investment levels.

Trade Liberalisation

Potentially Australia’s most significant and impactful microeconomic reform, Australia has pursued the sustained reduction in protective barriers since 1970. In 1983, the Whitlam government introduced a 25% ‘across the board tariff reduction’ and ignited Australia’s unilateral stance on trade liberalisation, which has materialised into participation in both multilateral and bilateral trade agreements such as AANZFTA and ChAFTA.

As a result of Australia’s trade lib. Policy, rate of protection in the manufacturing industry reduced from 60% in 1960s (during periods of protection) to only 15% in 1990 and 0% in 2019 – similarly, agricultural protection declined from 25% to 1.5% in 2018 to increase efficiency.  Australia’s average tariff rate is now 1%. In the short term, this reduces inflation and the cost of imported goods, increasing imports and maximising consumer choice, providing greater economic welfare.

In the long run, domestic industries have also been compelled to become more efficient and internationally competitive, which has resulted in increased productivity and higher dynamic efficiency as well as lower cost push inflation, therefore helping to support the credibility of Australia’s inflation target, whilst protecting the purchasing power of consumers.

trade liberalisation policy has caused inefficient firms to downsize and even force closure, whilst promoting the rise of efficient industries – this has led to short term unemployment and a reduction in output of inefficient industries such as manufacturing, as the industry has declined from 14% to 6% of national output over the last 20 years.

This has also exacerbated structural unemployment – reflected by the 50000 jobs lost within the PMV industry and the closure of Ford, Holden and Toyota production in 2017 – responsively, government structural adjustment packages can assist in re-skilling employees in skills, moving into efficient industries, therefore increasing employment in the medium term.

Consequently, it is best to describe trade liberalisation as a microeconomic policy which predominantly creates ‘winners and losers’, where the winners are more dispersed and the losers are greater concentrated. The structural change of microeconomic reform is evident largely in regional centres such as Port Kembla and the Illawarra, where Steel production has withered away. However, the way Microeconomic reform has ‘reorganised’ the economy has promoted long term economic growth through Aggregate supply, both increasing output and reducing inflationary pressures.



 

Feel free to ask any questions on our discussion board and hope you are back for next week’s articles!


Sign up below to be notified when our new articles are published.

Thank you! Your submission has been received!
Oops! Something went wrong while submitting the form.

References