Albanese’s big chance to improve inflation, productivity and wages

Are Anthony Albanese and his ministers a bunch of nice guys lacking the grit to do much about their good intentions? Maybe. But this week’s announcement of a review of competition policy raises hope that the nice guys intend to make real improvements.

The review, which will provide continuous advice to the government over the next two years, has been set up because “greater competition [between Australia’s businesses] is critical for lifting dynamism, productivity and wages growth [and] putting downward pressure on prices”, Treasurer Jim Chalmers says.

Prime Minister Anthony Albanese and Treasurer Jim Chalmers.Credit: Alex Ellinghausen

As I wrote on Monday, the great weakness in our efforts to reduce high inflation has been our assumption that its causes are purely macroeconomic – aggregate demand versus aggregate supply – with no role for microeconomics: whether businesses in particular industries have gained the power to push their prices higher than needed to cover their increased costs.

But it seems Chalmers understands that. “Australia’s productivity growth has slowed over the past decade, and reduced competition has contributed to this – with evidence of increased market concentration [fewer businesses coming to dominate an industry], a rise in markups [profit margins] and a reduction in dynamism [ability to change and improve] across many parts of the economy,” he says.

The former boss of the Australian Competition and Consumer Commission, Rod Sims, had some pertinent comments to make about all this at a private business function last week.

Australian economist and former ACCC chair Rod Sims. Credit: Dominic Lorrimer

He observes that “companies worked out long ago that the essence of corporate strategy is to gain market power and erect entry barriers. Profits from ‘outrunning’ many competitors from a common starting point are generally small; profits from gaining market power are usually large.

“Businesspeople know that when the number of competitors gets too large, price competition is often the result, and that this ‘destroys shareholder value’ or, alternatively put, helps consumers.”

Sims says the goals of growing and sharing the economic pie are being damaged in Western economies, and in Australia, by inadequate competition leading to market power. But, aside from the specialists, the economics profession more broadly has been slow to realise this and factor it into policy responses.

Australia has an extremely concentrated economy, Sims says. We have one dominant rail freight company operating on the east coast, one dominant airline with two-thirds of the market, two beer companies, two ice-cream sellers and two ticketing companies, all with a 90 per cent share of their markets.

We have two supermarkets with a combined market share of about 70 per cent. We have three dominant energy retailers and three dominant telecommunications companies. We have four major banks, with a 75 per cent share of the home mortgage market.

So next time some business person, politician, Reserve Bank governor or other economists tells you higher productivity automatically increases everyone’s wage, don’t fall for it.

This is much greater concentration than in other developed countries. And, as you’d expect, the profit margins of these companies generally exceed those of comparable companies overseas.

The centuries that businesses have spent pursuing economies of scale explain why we don’t have – and shouldn’t want - the huge number of small firms assumed by the economic theory burnt on the brains of most economists.

But, Sims argues, our relatively small population doesn’t justify the much greater concentration of our industries. For one thing, studies of Australian industry sectors show that the returns to scale stop increasing well before market shares are anything like as high as they are in Australia.

For another, Australia’s modest size doesn’t explain why our industries are getting ever more concentrated, so that our key players are less likely to be challenged by competitors.

And it’s not just our high concentration, it’s also that we see large asset-managing institutions with big shareholdings in most of the firms dominating an industry. Thus, asset managers have an interest in keeping the whole industry’s profits high by limiting price competition between the companies.

One study, of 70,000 firms in 134 countries, found that the average prices charged by our listed companies were 40 per cent above the companies’ marginal cost of production in 1980, and about the same in the late 1990s. But by the early 2000s, average prices were 40 per cent above marginal cost. By 2010, they’d risen to 50 per cent above, and by 2016 it was nearly 60 per cent.

Analysis by federal Treasury has found that our companies’ markups increased over the 13 years to 2017.

The evidence in Australia and overseas is that in concentrated industries we see less dynamism, lower investment and lower productivity, Sims says. Our productivity performance has been very poor at a time when our focus on pro-competition public policy appears to have been lost.

It’s not hard to believe that the latter explains the former. “We run harder when competing versus when we run alone,” Sims says.

Our Treasury’s research also shows that firms in concentrated markets are further from the productivity frontier as there’s less incentive to keep up.

And market concentration also has implications for wage levels. Where labour mobility – the ease with which people move between employers – is reduced, wage levels are lower.

But high industry concentration means fewer firms that workers can move to, bringing relevant skills, and fewer new firms entering the industry. Less competition for workers means lower wages.

“Non-compete clauses” make the problem worse. Recent Australian studies have shown that more than one in five employees are prevented from working for competitors under such contract terms, often even in fairly low-skilled jobs.

Another finding is that the benefits of improved productivity are less shared with workers in concentrated industries. The share of productivity gains going to workers has declined by 25 per cent in the last 15 years, Sims says.

So next time some business person, politician, Reserve Bank governor or other economists tells you higher productivity automatically increases everyone’s wage, don’t fall for it. Used to be true; isn’t any more.

All this says that if the Albanese government is fair dinkum about getting inflation down and productivity and wages up, it will at least ban non-compete clauses and tighten up our merger laws.

Ross Gittins is the Herald’s economics editor.

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