Melbourne Institute of Applied Economic and Social Research - Page 1

ISSN 1442-9500 (print) ISSN 1442-9519 (online) Print Post Approved PP381667/01204 Issue 22

Melbourne Institute NewsDecember 2008

Phillips Curve and the Equilibrium Rate of

UnemploymentThis Working Paper discusses the negative relationship

between wage inflation and the unemployment rate, and shows that the Australian equilibrium unemployment

rate has been around 4.5 per cent.Page 3

Australian InnovationThis article outlines some observations and opinions

on innovation in Australia, based on data analysis from the IBM – Melbourne Institute ‘Innovation Index of

Australian Industry’ and the Australian Patent Applications Scoreboard 2008.

Page 5

Education and Skill Mismatches in the Labour

MarketDuring November the second workshop on Education

and Skill Mismatches in the Labour Market 2008 was held in Melbourne.

Page 7

www.melbourneinstitute.com

Early Childhood Education: Director’s OpinionThe Commonwealth will fund universal access to early childhood education for 15 hours a week in the year before a child commences school, delivered by a four-year university degree-qualified teacher. However, it is debatable whether this is the best use of scarce resources (especially quality teachers) to maximise education outcomes.

Advances in neurological science, together with new data that allow researchers to track individuals over time, have improved our understanding of how skills are formed. US economist James Heckman and others argue that ‘skill begets skill, learning begets learning’ through a multiplier process. Children who start their education poorly are likely to remain disadvantaged throughout their education and through life. The development of both cognitive and non-cognitive skills can be affected. Non-cognitive skills relate to attributes like motivation, perseverance, self-esteem and self-control.

Children’s skills and attitudes start to develop well before their school years. Their development reflects a wide range of parental and environmental factors, including in utero experiences. A substantial longitudinal study that addresses these issues is underway in the UK, the Effective Pre-school and Primary Education 3-11 Project (EPPE 3-11). Their most recent report finds that ‘the quality of the early years home learning environment (HLE) and parents’ (especially mothers’) qualification remain the most important background factors relating to a child’s attainment in Reading and Mathematics in year 5, followed by low birth weight, need for support with English as an additional language, early health or developmental problems and socio economic status’. A number of studies, including those using Australian data,

Continued on page 2

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Early Childhood Education: Director’s Opinion(continued)

show that higher literacy and/or numeracy attainment is associated with better post-school labour market opportunities and outcomes. Heckman argues that non-cognitive skills attainment can also have persistent effects.

Accumulating evidence that a poor start can reflect in persistent disadvantage lies at the heart of the growing interest in intervening early to ameliorate skills development deficiencies. Note, though, how disadvantage is defined. It relates to the quality of the home learning environment and the quality of the relationship between children and their adult carers. As an earlier EPPE study put it: ‘What parents do is more important than who parents are’. Heckman et al. define market failure here as the inability of children to buy skilled parents or the lifetime resources that parents provide, and not access to financial resources or even, it can be said, education services per se.

Poor parenting skills can be found across socio-economic groups. Even so, universal pre-school for four-year-olds, however, may be an expensive option to address the poor parenting skills of some; while specific interventions in families to address poor parenting directly can be both intrusive and difficult to construct.

The cost-effectiveness of universal early childhood education (and how this compares to alternative education-based interventions) is still to be established empirically. This is partly because few programs have well-resourced evaluation strategies that follow children for the many years necessary to assess both short- and long-term effects. While some studies suggest that most children will benefit somewhat from ‘quality’ early childhood education, the most significant payoffs clearly come from interventions that are targeted on disadvantaged young children. But these studies do not of themselves support a conclusion that universal access to early childhood education is necessarily the most cost effective approach.

The EPPE 3-11 study examines whether beneficial effects of early childhood education persist. This study suggests that the quality of pre-school interventions matters. Attendance at better quality pre-schools is associated with modestly better reading and (slightly less strongly) maths outcomes at year 5; however, there is no statistical difference in attainment between children who did not attend pre-school and those who attended poor quality pre-schools (other factors equal).

Also apparent from the study, however, is the central role played by primary schools. An effective primary school can help boost the year 5 results of children who had not attended pre-school or who had attended a poor quality pre-school compared to ‘those children who had attended a more effective or higher quality pre-school’. But the family environment is also pervasive. The highest predictor of achievement in year 5, especially in reading, remained the home learning environment in the early years. Year 5 maths (but not reading) of children with a low home environment benefited somewhat from access to a good quality pre-school, but those from a high home environment who attended a good quality pre-school received an even bigger boost in attainment. (How ‘quality’ is defined is another issue, beyond this piece.) The study acknowledges that such statistical results do not imply causation.

Clearly the quality of provision matters. One of our scarcest resources is quality teachers. It seems sensible that we should at least examine whether, as an alternative to funding universal access to pre-school, better education outcomes would be achievable by targeting pre-school provision on the (parentally) disadvantaged and devoting resources so released to ensuring that primary schooling is effective for every child. It is to be hoped that quality longitudinal data will be collected and made available in Australia to allow researchers, including interested economists, to examine cost-effectiveness issues like these.

Economics Forums, March 2009The Melbourne Institute will host its next Public Economics Forum in Canberra on 19 March 2009 at the Hyatt Hotel, Canberra, and the Economics Forum in Melbourne on 25 March 2009 at the Sofitel, Melbourne.

These will be the first of our quarterly Melbourne Institute Economics Forums for 2009. The theme of the Forums will be Skills and Vocational Education and Training. Further details are available from Penelope Hope, Functions Manager, at the Melbourne Institute: <p.hope@unimelb.edu.au>.

Melbourne Institute of Applied Economic and Social Research - Page 3

The aim of this Melbourne Institute Working Paper, by Professor Guay Lim, Professor Robert Dixon and Dr Sarantis Tsiaplias, was to determine whether there is a negative relationship between wage inflation and the unemployment rate and how both the negative relationship and the equilibrium rate of unemployment have changed over time. To this end the authors estimated a time-varying Phillips curve for the period 1960:1–2007:4. A new series for the equilibrium rate of unemployment rate was generated. Three results followed from an analysis of the series.

First, the analysis showed that since 2001 the equilibrium unemployment rate, which is compatible with the condition that real wages equal productivity, is around 4.5 per cent.

Second, the analysis points to the major role played by the fall in wage rigidity, since 1993, in reducing the equilibrium unemployment rate. This finding suggests

that the success of inflation targeting (politically as well as in its role as a system of economic management) was clearly helped by the improvement in real wage flexibility (hence a reduction in the real costs of unemployment). It also suggests that the long boom (and the low unemployment associated with it) which followed the recession was not only due to the successful winding down of inflation expectations associated with the monetary policy of inflation targeting, it was also due to the reforms in the labour market under the Keating and Howard governments which markedly reduced real wage rigidity.

Third, the approach yields the most timely measure of the inflation–unemployment trade-off. The authors find that the deviations of actual from equilibrium unemployment rates (the unemployment gaps) performed remarkably well as measures of inflationary pressures.

The full version of this Working Paper (21/08) can be downloaded from the Melbourne Institute website at <http://www.melbourneinstitute.com/publications/working/wp2008.cfm>.

Phillips Curve and the Equilibrium Rate of Unemployment

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Tribute to Dr Ernst Boehm 1920–2008

February Conference: ‘Commercialising Inventions – What’s the Story?’

A conference to be held in February 2009, ‘Commercialising Inventions – What’s the Story?’, will provide an excellent forum for discussing innovation and the commercialising of inventions.The Intellectual Property Research Institute of Australia (IPRIA) and the Australian Institute of Commercialisation are hosting this one-day conference, which will be held in both Brisbane and Melbourne.

The dates and venues are:

Brisbane, Tuesday 17 February 2009, at Customs House, at The University of Queensland, and

Melbourne, Thursday 19 February 2009, at The University of Melbourne.

This conference will include results from several national surveys of inventors, including a survey of 4000 Australian inventors. Keynote speakers include Professor Bronwyn Hall, University of California, Berkeley, and Professor Alfonso Gambardella, Bocconi University, Milan.

The conference will be of particular interest to senior business managers, IP lawyers, patent attorneys and policy analysts. It will cover how inventions are developed; how many are successfully commercialised; the main characteristics of success; and the value of most patents.

Dr Ernst Arthur Boehm passed away on 10 November 2008. He will be remembered for the many significant contributions he made during his 45-year association with the University of Melbourne.

Ernst was a Principal Fellow of the Melbourne Institute, since January 1986. Prior to joining the Melbourne Institute he was Reader in Economics in the Department of Economics at the University of Melbourne.

Among his many contributions to the study of economics, he was the author of two well-known books on the history of the Australian economy and he pioneered the methodology for analysing business cycles. Above all else, Ernst is remembered as a wonderful and charming colleague and a friend to many. Dr Ernst Boehm

Melbourne Institute of Applied Economic and Social Research - Page 5

Australian Innovation

The Melbourne Institute undertakes quality applied research and produces policy-relevant papers on economics and innovation issues.This article outlines some interesting observations and opinions on innovation in Australia, based on data analysis from the annual IBM – Melbourne Institute ‘Innovation Index of Australian Industry’, and the Australian Patent Applications Scoreboard 2008, produced by the Intellectual Property Research Institute of Australia (IPRIA) and the Melbourne Institute, in collaboration with IP Australia.

The IBM – Melbourne Institute ‘Innovation Index of Australian Industry’, which tracks patterns in the rate of Australia’s innovative activity by using a wide range of innovation indicators, reveals that Australia’s innovation system is behind many rich OECD countries. The Index also shows that Australia’s innovative performance grew by only 0.7 per cent in 2006—a figure which is much lower than the average rate of increase since 1990 (2.0 per cent per annum). The report was written by Dr Paul Jensen, Senior Research Fellow, and Associate Professor Elizabeth Webster, Principal Research Fellow, from the Melbourne Institute. Associate Professor Webster said that the slowing down in the intensity of innovation, as a proportion of overall economic activity, is largely because many innovation investments do not result in tangible output, so when aggregate demand softens, firms tend to contract their investment in risky innovative activities.

Some industries performed well above average in the Innovation Index, in particular the mining, communication, and finance and insurance industries. In contrast, there was a slump in other industries such as manufacturing, construction and business.

‘It’s important to identify which Australian policies are successful. Should we increase the level of public sector research spending? Should we put more resources into public–private sector collaborations? What are the most cost-effective policies to aid the commercialisation pathway? Unfortunately Australia doesn’t have the scientific evidence with which to answer this raft of questions, and we have limited and dated information on the success of the R&D tax concession’, Associate Professor Webster said.

Although the government is yet to respond to the National Innovation Systems Review (the Cutler Review), it seems likely that the government will increasingly look at ways to stimulate incremental private R&D expenditure, and to enhance synergy between public R&D and industry.

The Australian Patent Applications Scoreboard 2008 reports data and analysis on the number of patent applications made in Australia each year, and demonstrates how patterns of innovation are changing over time. The Scoreboard shows a strong growth in the number of patent applications to IP Australia—especially in the proportion of foreign applications filed through the Patent Cooperation Treaty (PCT) protocol, as seen in the chart. The emerging dominance of applications made under the PCT illustrates increasing globalisation of the patent system and growth in the use of modern systems to facilitate lodgement of applications.

In the report, patent applications are categorised into 30 technology areas. Analysis identifies an increasing incidence of patent applications in the area of pharmaceuticals and cosmetics, now the largest proportion of all applications, and in the area of medical engineering. In contrast, there has been a decrease in telecommunications patent applications as a proportion of the total.

To order the Australian Patent Applications Scoreboard 2008 visit the IPRIA website at <http://www.ipria.org/publications/scoreboard.html>. The second edition of the IBM – Melbourne Institute ‘Innovation Index of Australian Industry’ is downloadable from <http://www.melbourneinstitute.com/publications/innovation/> or contact Melbourne Institute for a copy.

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Page 6 - Melbourne Institute of Applied Economic and Social Research

Australian Economic Review

The December 2008 issue of the Melbourne Institute’s quarterly Australian Economic Review (vol. 41, no. 4) contains a range of interesting articles, and the Policy Forum section contains a focus on urban water pricing and supply.Contributed Articles

Competition and Competition Policy in the Trans-Tasman Air Travel Market, Tim Hazledine

The Dynamic Efficiency Gains from Introducing Capacity Payments in the National Electricity Market, Paul Simshauser

A Consistent Poverty Approach to Assessing the Sensitivity of Income Poverty Measures and Trends, Peter Saunders and Trish Hill

A Note on Perry’s Reconsideration of Macroeconomic Evidence from New Zealand, Paul Dalziel and David Peetz

Rejoinder to ‘A Note on Perry’s Reconsideration of Macroeconomic Evidence from New Zealand’, L. J. Perry

Policy Forum: Urban Water Pricing and Supply

Urban Water: An Outline of the Issues, Ross Williams

Towards Urban Water Reform, Neil Byron, Alan Johnston, Rick Baker and Andrew Barker

Urban Water Reform: An Industry Perspective, Kerry Schott, Stuart Wilson and Sally Walkom

Water for Today, Water for Tomorrow: Establishment and Operation of the SEQ Water Grid, Daniel Spiller

Reform, Risk and Reality: Challenges and Opportunities for Australian Urban Water Management, Stuart White, Kate Noble and Joanne Chong

Urban Water: Is Efficiency Enough?, Geoff Syme

Data Surveys

Producer Price Indexes: Properties, Problems and Potential Applications, Neville R. Norman

For the Student

Primary Phases of Australian Economic Development in the Twentieth Century, Boris Schedvin

To subscribe to the Australian Economic Review, visit <http://www.blackwellpublishing.com/aere>.

2009 HILDA Survey Research Conference

The 2009 HILDA Survey Research Conference is being held on Thursday 16 to Friday 17 July 2009, at the University of Melbourne. The aim of the conference is to provide a forum for the discussion of research, based on the Household, Income and Labour Dynamics in Australia Survey. Attendance at the conference is open to all, but should be of special interest to users of the HILDA Survey data and persons with an interest in the outcomes from longitudinal survey research in the broad field of economic and social policy.

Submissions of papers are now being sought. Competition for places is expected to be high, with priority being given to papers that exploit the longitudinal nature of the data. Papers on methods and cross-national comparisons are also welcome.

Details on how to submit your abstract or full paper and the submission deadlines are available on our HILDA website <http://www.melbourneinstitute.com/hilda/Biblio/conf2009papers.htm>.

Melbourne Institute of Applied Economic and Social Research - Page 7

During November the second workshop on Education and Skill Mismatches in the Labour Market 2008 was held in Melbourne.It was jointly organised by the Melbourne Institute of Applied Economic and Social Research, University of Melbourne, together with the National Centre for Vocational Education Research (NCVER). The NCVER is a not-for-profit organisation responsible for providing independent information about vocational education and training (VET).

The purpose of the Education and Skill Mismatches workshops is to provide a regular forum for an in-depth examination of topical applied economic and policy issues relating to human capital development and labour market mismatches. The 2008 workshop focused on the importance of overskilling as a measure of skills under-utilisation and labour market mismatch. The specific topics were ‘Different Measures of Labour Market Mismatch’, ‘VET and Overskilling’, ‘Job Satisfaction and Overskilling’, and ‘Job Mobility and Overskilling’. Attendees included representatives from Victorian and Commonwealth government departments, as well as other universities and organisations.

Professor Kostas Mavromaras, Head of Labour Economics and Social Policy at the Melbourne Institute, and Dr Tom Karmel, Managing Director of the NCVER,

opened the workshop. Four speakers followed, and the workshop concluded with a panel discussion at the end of their talks.

Professor Peter Sloane, Director of the Welsh Economy and Labour Market Evaluation and Research Centre, Swansea University, UK, presented an update of the literature on skills mismatches, reviewed the core unresolved issues in this research area and linked them with the relevant policy questions. The key question in his talk was ‘What is the most appropriate measure of labour market mismatch from the policy perspective?’

Professor Mavromaras talked about how the persistence and wage effects of mismatches in the labour market differ for individuals who undertake VET relative to other education pathways.

Dr Nigel O’Leary, Reader, School of Business and Economics, Swansea University, UK, talked about the extent to which mismatch results in lower levels of job satisfaction.

Dr Seamus McGuinness, Research Officer, The Economic and Social Research Institute, Ireland, talked about the relationship between overskilling and job insecurity and examined how job mobility may help achieve better labour market matches.

Education and Skill Mismatches in the Labour Market

The World Credit Crisis: Understanding It, and What To Do

In a recent Melbourne Institute Working Paper (25/08), Professor W. Max Corden explains the world credit crisis. Professor Corden addresses the international ‘savings glut’ that made credit more readily available; the risk-taking reaction to low real interest rates; the use of new complex financial instruments; and the panic, bank lending dries up. The paper also discusses the relationship of this crisis to global imbalances and outlines various policy implications.

The full version of this Working Paper (25/08) can be downloaded from the Melbourne Institute website at <http://www.melbourneinstitute.com/publications/working/wp2008.cfm>.

Melbourne Institute NewsViews 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: Cliff Howard tel: 03 8344 2154, fax: 03 8344 2111, email: howardc@unimelb.edu.au. Sub-Editor: Nellie Lentini. Contributors: Professor Robert Dixon, Penelope Hope, Dr Paul Jensen, Professor Guay Lim, Professor Kostas Mavromaras, Dr Alfons Palangkaraya, Professor Anthony Scott, Professor Stephen Sedgwick and Dr Sarantis Tsiaplias.

Recent 2008 Melbourne Institute Working Papers25/08 ‘The World Credit Crisis: Understanding It, and What To Do’ W. Max Corden24/08 ‘Retirement Expectations and Labour Force Transitions: The Experience of the Baby Boomer Generation’ Diana Warren23/08 ‘Australia’s Retirement Income System: Historical Development and Effects of Recent Reforms’ Diana Warren22/08 ‘The Dynamics of Welfare Participation among Women Who Experienced Teenage Motherhood in Australia’ Sung-Hee Jeon, Guyonne Kalb and Ha Vu21/08 ‘Phillips Curve and the Equilibrium Rate of Unemployment’ G. C. Lim, R. Dixon and S. Tsiaplias20/08 ‘Minimum Wages and Employment: Reconsidering the Use of a Time-Series Approach as an Evaluation Tool’ Wang-Sheng Lee and Sandy Suardi

Working Papers can be downloaded for free from <http://www.melbourneinstitute.com>.

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

Staff Matters

Professor Anthony Scott, Professorial Research Fellow at the Melbourne Institute, has been awarded $243,000 from the Australian Primary Health Care Research Institute (APHCRI) for a project entitled ‘Incentives and the Quality of Primary Health Care in Australia’. The aim of this review is to examine the role of explicit financial incentives for General Practitioners to improve the quality of primary health care in Australia. For details email <a.scott@unimelb.edu.au>.

Professor Anthony Scott and Dr Stefanie Schurer were commissioned by the National Health and Hospitals Reform Commission to write a discussion paper on ‘Financial Incentives, Personal Responsibility and Prevention’. This paper reviewed the evidence on the effect of financial incentives for patients in encouraging their use of preventive health services such as health checks and screening. This paper is available at <http://www.nhhrc.org.au>.

Faculty Research Grants

Research staff at the Melbourne Institute were awarded the following grants.

Melbourne Institute Staff Member Title of the Grant FundedSam Tsiaplias Exchange rate modelling using single source of error models $15,000Edda Claus Stock market integration in the Asia Pacific: Evidence from discount factors $15,000Pu Chen Inferred causation in empirical economics: Methods and applications $15,000Stefanie Schurer An investigation of the validity of the relative income hypothesis using

Australian longitudinal data$15,000

Chew Lian Chua Regime changes and time-varying parameters in the TRYM model $10,000