Skilled labour immigration removes incentives for Australians to invest in education

The shrill from commentators warning of Australia’s apparent skills shortage is deafening. But there are a number of reasons why this claim, and the inevitable recommendation for government to increase quotas of skilled migrants, is flawed, and why the solution is not in the best interests of Australia in the long run.

For the acute observer the transparent falsehood of the claim jumps right out at you.

… skilled labour in an area like project construction is an international problem, so poaching what we need from overseas is not going to be easy.

ACIL Tasman points out that LNG project specialist workers are globally mobile, moving from site to site (and often between projects at varying stages of development) – wherever their services command the highest price. As the consultants warn, opting for less-experienced personnel carries with it the dangers of higher error rates in construction and resulting delivery delays and still more expense.

Translation: if you want the skills you need to pay.

A government with backbone, and an eye on long term prosperity, would tell industries crying poor to sort it out themselves. Large mining and gas projects have very long lead times - long enough in fact to train some of the existing workforce in skills that may be required for future projects. If you need the slam-dunk of skills and experience, you are inevitably poaching people from another project - experience only comes from a finite number of places.

Generations of housing affordability

The degradation of housing affordability is widely acknowledged, but unfortunately mainstream explanations miss the fundamental stories of easy credit and tax rules encouraging property speculation.

One of the best collections of Australian residential property analysis on the web has emerged at The Unconventional Economist.  Leith's latest article explores changes to housing affordability since the 1970s and the key drivers behind the change. 

He summarises the article as follows:

• It is the demand for, and supply of, credit that is the key determinant of house prices. Whilst demand-side factors such as tax concessions, benign economic conditions, and population growth might increase people's willingness to borrow for property, ultimately, if you cannot obtain the finance, you cannot pay a high price. Similarly, tight housing supply would have little impact on house prices when credit is not readily available.
• Lower interest rates and easy credit do not make houses more affordable. Rather, they quickly get capitalised into house prices, increasing the amount that home buyers must borrow.
• When examining interest rates and their effect on housing affordability, it is real interest rates (i.e. the mortgage interest rate less inflation) that matters. Whilst mortgage interest rates averaged a seemingly high 9% in the 1970s, due to high inflation (averaging 11%), real interest rates were negative, resulting in borrowers' mortgage debt being 'inflated away'.
• Importantly, be very weary of offers of more credit and the promise that it will "improve housing affordability". Any scheme that increases home buyer's borrowing capacity, such as shared equity loans and the Never Ending Mortgage, will instead fuel further house price growth, thus eroding affordability.
• Beware the property spruiker. Always be sceptical when reading property-related articles in the press, or when listening to politicians talk about housing affordability. Whilst they might, on the surface, sound reasonable, they are often talking their own book. Instead, think critically about their motives and who their constituents really are.

Election 2010 just got serious!

Effects of dwelling composition in the property market

Much popular property market analysis based on flawed principles.  A secret to identifying rubbish analysis is to note the following meaningless buzzwords and phrases; underlying demand, housing shortage, urbanisation or population growth.

These buzzwords are based on a fallacy.  The problems they have in common is that they are quantity based (thus ignore prices), and they ignore changes in the composition of dwellings.

Commentators calculate underlying demand by dividing the quantity of population growth in a given period by the average occupancy rate.  This is supposed to give a measure of quantity of dwellings that ‘should’ be constructed of the period.  Unfortunately, the occupancy rate itself changes over time.  It has been declining dramatically for three decades.  If the trend continues we may soon be able to calculate a housing shortage even if we build a new home for every new person!

Calculating a ‘housing shortage’ is then a simple matter of subtracting the number of dwellings constructed over a time period from the underlying demand.  The graph below shows the result of this calculation for Australian from 1994 – 2009 using quarterly data (and the occupancy rate at each quarter – not the current occupancy rate).

Spruikers use this measure to justify the likelihood of price gains, yet the price changes observed seem to in fact be inversely correlated to underlying demand.  We had a price boom from 2002-2004 at the same time as a housing surplus!

These measures also fail to acknowledge the heterogeneity of housing.  Counting a studio apartment and a 5-bedroom house as equal in the calculation of a housing supply is a mere fallacy.  Clearly these two different dwellings will house different numbers of people.

Furthermore, the size of existing homes changes over time with renovations and extensions.  It has been widely acknowledged that many home owners have chosen to renovate instead of relocate in their search for more spacious accommodation.  It is easy enough to imagine a street of heritage homes, for example, being renovated and extended to allow a large increase in the population of the street.  No new homes, plenty of new people, and no housing shortage.

What we have seen in the latest property boom is a continuation of the trend to build larger homes with more bedrooms, while the occupancy rate continued to decline.  At some point you would expect the occupancy rate to bounce back before we all ended up living alone with three spare bedrooms.  And it did. 

The ABS summarises the long-term change in dwelling composition and occupancy as follows:

The average number of persons per household has declined from 3.1 in 1976 to 2.6 in 2007-08. In the same period, the proportion of dwellings with four or more bedrooms has risen from 17% to 29% and the average number of bedrooms per dwelling has increased from 2.8 to 3.1.
In 2007-08, most households enjoyed relatively spacious accommodation. For example, 86% of lone-person households were living in dwellings with two or more bedrooms; 75% of two-person households had three or more bedrooms; and 35% of three-person households had four or more bedrooms. Over a fifth (21%) of three-bedroom dwellings, and 8% of four-bedroom dwellings, had only one person living in them

Important demographic reasons explain why we should expect the declining occupancy trend to come to an end.  The aging population including baby-boomers downgrading is a key way in which this will occur (others include a rise in share housing by the forever young Gen-Y who are delaying family formation).

For example, the parents of a family whose adult children have moved out with friends or partners might find that the upkeep of a large house conflicts with their ‘grey nomad’ retirement plans.  They can sell their 5-bedroom house and move into a new 2-bedroom unit, pocketing the price difference for their retirement. 

In this scenario, the construction of a 2-bedroom apartment resulted in a 5-bedroom home being available to meet the housing needs of population growth.

The final fallacious buzzwords that provide property bulls justification for their position are urbanisation and population growth.  If we were discussing any other good or service the pattern of habitation would be of little consequence to the expected prices.  Increased urbanisation doesn’t drive up the price of food, petrol or any other goods – nor does population growth.  

Increased urbanisation can lead to increased land prices, but that doesn't necessarily lead to increases in median housing price measures due to compositional change.  Because new dwellings in outer areas are typically inferior locations to existing homes, the prices one would expect for identical dwellings in new estates would be lower.  Since there is more land at the fringes of cities, we would expect that proportionally more cheaper dwellings to be added to the mix of housing.  Prices for existing homes can rise, but due to the greater proportion of housing in outer areas in the mix, a price index can remain flat at the same time.

The table below shows a hypothetical city made up of identical dwellings, where new supply is mostly added at the fringes.  Even though the price of each individual dwelling increases 10% over the period, a city-wide mean price index would remain flat due to the greater proportion of cheaper dwellings.  The same effect can happen with new apartments in traditional detached housing areas.

Also constantly overlooked is the fact that urbanisation can only occur AFTER new urban dwellings are constructed unless driven by an increase in occupancy rates.  Until the end of 2005 prices was rising fast, urbanisation and population growth were occurring, but the occupancy rate continued to decline.  

Analysis of the property market should focus on returns in comparison with other investments, with renting (user cost approach), and historical returns.  Counting dwellings, and implying demand from population growth or urbanisation is problematic due to compositional factors.

Automation and the housework rebound effect

As I have previously argued, innovations that aim to save time, increase safety, decrease energy consumption can be subject to flow-on rebound effects that lead to the opposite result. These counter-intuitive results have lead to ineffective government intervention and bizarre social norms.

A typical challenge to the idea of rebound effects goes like this.

“If a business has to pay each worker more due to government intervention on wages, they are clearly going to employ fewer employers. Are you challenging the Law of Demand? If the price of labour is higher, demand will be lower.”

No, I don’t argue that if we hold everything in the world outside of an individual business constant that the business will employ more people. I argue that to believe the world is held constant robs you of the vision to see flow-on effects to society and the ability to estimate the real net effect of a policy or action.

Today's rebound effect concerns time saving and housework.

End of Financial Year Wrap Up

HOUSING MARKET
All things considered, the Australian housing market looks ready to dive.  My conversations with real estate agents are the only ones they've been having - no buyers are willing to even make a call at the moment.  Home lending is down, prices are taking a u-turn, sales are down, and first home buyers are lost somewhere in the mist of winter mornings.

There has been some interesting analysis from Steve Keen lately, along with the more spruikung from renouned pro-housing, anti-commerical property, anti-shares, anti-all other investments, man on the spot Chris Joye.

My outlook – a surprise drop in home prices leading a significant decline in economic activity in Australia. The Reserve Bank will act promptly to reduce interest rates while pointing fingers to troubles abroad. Bulls will then promptly join the finger pointing, noting how exceptional strong Australia’s housing market has been and the supply shortages still threaten to create future unaffordable housing.

Aspirational home buyers should take a look at a true financial comparison of home ownership and renting before making any major decisions.

AUSSIE DOLLAR
The Australian dollar will not be safe.  Think September 2008 all over again.

BLOGOSPHERE
Two new blogs worthy of mention are Delusional Economics, where you will be enlightened by some straight talking no-nonsense commentary, and a special mention for the Unconventional Economist for some very high quality articles on the Australian property market.

REBOUND EFFECTS
My attitude on helmet law rebound effects has been seen as quite controversial. But for those interested this site articulates my position quite accurately. 

Experience shows helmets give only limited head protection. Studies in Australia show some prevention of superficial injuries (such as scalp lacerations) but only marginal prevention of “mild” head injuries and no effect on severe head injuries or death. When helmets were made compulsory in Australia, admissions from head injury fell by 15-20%, but the level of cycling fell by 35%.

To summarise, helmet laws led to a major decline in cycling.  Fewer cyclist on the road decreased awareness of them by drivers, leading to cycling in general becoming less safe.  Further, helmets themselves offer limited head protection in a limited number of crash circumstances - a helmet doesn't help much if you go over the handle bars and land on your face for example. And if you get hit by a truck (the classic pro-helmet argument) you are stuffed whatever you are wearing on your head.

THE LAST WORD
If the financial and economic circus of 2009/10 has been all too mauch, it might be time for a holoiday.  For those who take this advice but want to optimise their holiday time, have a read of this quality article.

Creating road space without building roads

This unreliable article suggests that each passenger trip on the QR passenger network is subsidised in the order of $9 – probably double the average fare price. How this figure was determined is anyone’s guess, but the issues surrounding such apparently high subsidies are interesting.

While at first the $9/trip figure may seem high, it is important to acknowledge that the benefits of subsidising public transport do not go solely to the users. Each time a person uses the rail network they are not using the road network (either car or bus trips) - thus simultaneously improving traffic conditions for road users. What looks like a rail subsidy could easily be classified as a road subsidy. The reduction in road usage has a similar effect to increasing road capacity.

Most public transport systems around the world are subsidised from the public purse. If you subscribe to the belief that a degree of government support is warranted due to external benefits for road users, the two key questions to consider are:
1. How much of a subsidy is acceptable?
2. How can incentives be provided to improve the efficiency of the whole transport network?

Some guidance on the first question could be gained by looking at a cross-country comparison; however the second question is far more interesting.

We can see examples of the failure to consider multiple types of transport as a single efficient solution to urban (and regional) mobility. The profitability of the Airtrain has been completely undermined by subsidised expansion of competing road networks. Had the government instead heavily subsidised the Airtrain link itself (to make ticket prices an attractive alternative to taxis and car pickups), the demand for road space would have reduced as train use increased.

Further, the success of the rail network rests on the failure of its competition. We can never reach a situation where there is high public transport patronage while at the same time having cheap uncongested private automotive alternatives. These two networks are in competition and the direction of government assistance can tip the advantage either way it chooses.

The ignorance of this reality and the external benefits from new transport connections may be one reason that the traffic forecasting for Brisbane’s major road projects grossly overstated traffic demand.

Using this case study we can make a couple of pertinent observations:
1. New transport connections provide internal benefits to users, as well as benefits to users of competing transport connections
2. Subsidies to incentivise rail use can provide the net effect of increasing road capacity through road spending.

Is Australia the best place to raise children?

This HSBC report ranks Australia as the best place to raise children for expats. IN fact, the media release suggest that the Expatriate Survey reveals the expats ‘say Australia is the best place in the world to raise children’. What it doesn’t do is justify that claim.

The report is based on a sample of 30 respondents from each country and they are asked to compare the various factors about raising children, such as child care costs, amount of junk food eaten, and time spent playing outdoors, with what occurred in their home country.

This may be interesting, but it is no way to rank a country’s performance. Without knowing the country of origin of the expats it is impossible to make a controlled comparison. For example, if the majority of expats in the sample living in Australia are from the UK, and the majority of expats living in the US are from Australia, we get a nonsense conclusion that Australia is the best country (because the difference between the UK and Australia is highest), even if the US is ranked in preference to Australia.

The rankings are the result of the difference between the country of origin and the new country without knowing the country of origin. The way to be highest ranked is to have the most expats from much poorer countries so that the positive change experienced is greatest.

Don’t misunderstand me. Australia probably is one of the better countries to raise children and could easily be the ‘best’ out of the comparison countries (UK, US, Singapore, UAE, Hong Kong). But this report is a classic example of how conclusions do not match the facts presented.

You don’t have to look far to find other cross-country comparisons of family well-being with utterly unsurprising results.

Negative Gearing Exposed

By far the best analysis of the impact of negative gearing on the residential property market is found here.  The myths that negative gearing increases the supply of rental accommodation and keeps rents down are exposed, and some quality suggestions for improving housing affordability are made.  Highly recommended.

The Proximity and Lateness Rebound Effect

I have a habit of labelling any unintended consequence that works in the opposite way to the intended consequence as a rebound effect. With this in mind, I hereby declare the discovery of the Proximity and Lateness Rebound Effect.

The discovery is not mine of course, but the name is. I learnt of this bizarre social phenomenon here.

The Proximity and Lateness Rebound Effect (I would appreciate any better name suggestions) describes the offsetting behaviour of people to commuting distances. One would initially think that moving closer to their workplace, their relatives, friends or other regular destinations would reduce lateness, but in fact the opposite effect can potentially occur – as your commute decreases your lateness increases (in frequency - you are late more often).

Here’s my proposed theory as to why this may occur.

First, 100% punctuality is surely suboptimal.  Because each trip has a degree of uncertainty, if we budgeted for perfect punctuality we would have to allow for a commuting time under the worst circumstances every time.  We would be far too early most of the time just to ensure that we weren't once a minute late.

Now suppose that being a little late is not a big problem, but being quite late is a serious problem. We might say that we want to be less than 10 minutes late 70% of the time, and less than 20 minutes late 95% of the time.

If your commute is typically 50mins, but traffic congestion and delays mean that the trip takes less than 70mins 95% of the time, less than 60mins 70% of the time, and less than 50mins 50% of the time, you can budget for a 50 minute commute and meet your lateness expectations. You will be on time 50% of the time, more than 10mins late 30% of the time and more than 20mins late a mere 5%.

If instead your commute is a mere 10mins on average, with only a very small variation in time (say less than 2 minutes), and you budget 10mins for your commute you will far exceed your lateness requirement. Therefore you may start allowing less and less commuting time to get to your destination, and soon become accustomed to regularly being a little late, but never very late.

Because of the difference in trip variation, the person with the long commute needs to be more cautious to avoid being exceptionally late. Doing so increases the frequency that they arrive early. On the other hand, those with short commuting distances have very little chance of being extremely late, and therefore need to pay little attention to factoring in their commuting time and may regularly be a little late.

My personal experience of moving closer to work is just this. I almost treat the 10 minute commute as negligible, and am typically a little late to everything. Previously, when the commute was about 30 minutes I would ensure that I had budgeted enough travel time, with a little room for delays.