Wednesday, January 2, 2008

Growth spurt draining the state dry

Cyclone Odette may have been the last chance to receive drenching rain to top up the parched dams of the southeast corner before the winter, and it passed by leaving just a few drops.

In the same week, the Federal Government announced it will fund the long-awaited $2.3 billion Goodna bypass, and yesterday I received a rebate from the State Government for installing a water tank.

The connection between these three events is water, and more specifically, the lack of this precious resource in the dams around southeast Queensland. As we enter our dry season under the imposition of level 5 water restrictions, residents are being expected to cut their domestic water use to a scarce minimum. To offer further incentive, the state and local governments are offering grants to install water tanks for residential buildings. But if the State Government and Brisbane City Council were truly serious about the issue, and serious about the long-term sustainability of the region, why are they now spending many billions on large infrastructure projects designed to encourage rapid development?

The connection between the water crisis and the rapid scale of development in Queensland is clear to many people. Not only do more people need more water, but the development of new homes, workplaces and infrastructure requires massive amounts of water before and during construction.

The water required in the production of goods is known as embodied water, and has been overlooked in the decision-making processes for development in the southeast corner. In construction projects, the volumes of embodied water are extremely high. Recent studies from Deakin University show that the embodied water of a three storey office building designed to high environmental standards is about 54,100 litres per square metre of space. This is the equivalent of 18 3000 litre domestic water tanks, six months' domestic consumption by one person, or enough drinking water for one person for 37 years.

In the Brisbane CBD alone there is an estimated 100,000sqm of office space expected to be constructed this year, which would use about 5.4 billion litres of our supply – almost equal to the domestic consumption of Bundaberg with a few million litres to spare.

To offer some ballpark figures on embodied water, the CSIRO has found there is about 140 litres of embodied water for every dollar's worth of steel, and 15 litres for every dollar's worth of concrete. Other less reliable evidence suggests there is in the order of 40 litres of embodied water per dollar spent on construction.

Based on these figures, one might wonder how much water is going to be required to build Campbell Newman's TransApex plan. The North-South Bypass Tunnel alone will use 280,000 cubic metres of concrete and cost in the order of $3 billion (or will it cost us 120 billion litres of water?)

And what about the other infrastructure projects which have been proposed, such as the Goodna Bypass, or those under construction?

Putting enormous pressure on residents to save every drop seems ludicrous among this wastefulness. Even if every person in Brisbane saved 10 litres per day this year, it would be the equivalent of about 4 percent of the embodied water of the NSBT.

If the State Government is serious about water, it must get serious about limiting the scale of development in southeast Queensland. When you find yourself in a hole, you stop digging. When you find that you have outgrown your natural resources, you stop growing.

First Home Owners Grant has driven the housing affordability crisis

There has been much publicity recently about Australia’s growing housing affordability crisis. And quite justifiably. The 3rd Annual Demographia International Housing Affordability Survey released earlier this year puts Sydney, Hobart, Perth and Melbourne in the 25 least affordable housing markets in a study of Australia, New Zealand, United Kingdom, Republic of Ireland, United States and Canada. Shocking research such as this study has put pressure on the Federal Government to relieve pressure through tax reforms and incentives. 

Young Liberal Micheal Janda, in an award winning essay, proposed that the First Home Owners Grant was a positive move to combat unaffordability, yet this has simply not been the case.

The FHOG was intended to assist first home buyers to offset the impact of the introduction of the goods and services tax (GST). Apart from the obvious indirect relationship that GST and home buying have (since residential dwellings are GST exempt) and that the GST had impacts on all people, not just potential first home buyers, there is startlingly clear evidence to suggest that the FHOG was the stimulus for a reduction in affordability since 2000.

From the 1st July 2000, home buyers who had not previously owned their own property were given $7,000 by the federal government. Immediately, the price of housing in all areas would rise by at least this amount, for a first home buyer could offer for example $5,000 more for a property and still be $2,000 better off than another buyer. 

 In an instant, prices all residential markets rose by $7,000. 

Not only were the buyers who were already in a position to buy now helped along, but those who could not have been in the market except for the grant had started buying. This lead to an increase in potential buyers in any given area, thus an increase in aggregate demand for residential property, and following basic economic principles, an increase in prices. So not only were prices increased by $7,000, but also the flow on effects of a larger pool of buyers lead to further rises. Of course, looking at other flow on effects, or transformational effects, it could be stated that this rise in prices stimulated even more speculative investment, thus leading to a positive feedback cycle where as prices are seen to rise, more investment is made, raising prices even further. In property terminology this would be labelled a boom.

Addressing housing affordability is not a simple task, and like many other crisis, there is no silver bullet. Solutions will need logical foundations and sufficient time to wind back the crisis without causing other new crises. The call from the property development lobby to rezone more land for development is another counter-productive suggestion. There is already surplus land with development potential. But developers must wait for prices to rise before they can develop it. Can you imagine a property developer moving in to an area and selling below current market prices to forse the market down? It will not happen.

One of the best suggestions to address this crisis is a gradual movement of tax subsidies away from investment property to owner occupied dwellings. Currently, all maintenance expenses, interest on loans, and depreciation are all tax deductible for investment property. For your own home, you get nothing except a tax break on capital gains tax if you sell.

For a home purchased for $400,000, the tax benefits to the investment buyer over the home owner could easily exceed $15,000 dollar per year. The comprises of tax deductible interest and depreciation of the building, as well as rates and insurance costs. It makes the FHOG look like a token gesture.

Let’s get serious about the issue, and get people into their own homes. The benefits of home ownership to communities around Australia should be acknowledged and acted upon today.

Why phone and internet plans are meant to be difficult to understand

Have you ever spent the morning on the phone trying to find the best deal on a new phone line and internet plan? It seems that every company has something new and different to offer; specials package deals, bonus calls, free modem, or free installation if you sign up for the two-year contract. The options are endless. 

If we measured the competitiveness of a market by the amount of customer choice, the telecommunications market would certainly have to be regarded as highly competitive. Mobile phones are perhaps even worse. With loyalty programs, free phone upgrade and phone insurance, and any number of other nifty deals to persuade customers into believing they have the best deal. In the end, it was the toss of a coin that made the decision for me. Not one of the plans, after strict comparison and scrutiny, seemed any better or worse than the others. In fact, it seemed that all the companies were offering the same product, for the same price, but packaged with any number of confusing ‘bonuses’ and ‘specials’. And there is a logical reason for this situation, which doesn’t quite fit with the Howard Governments belief that privatisation provides more efficiency through more competition.

It must first be stated that the benefits of a perfectly competitive market cannot be ignored. When there are low barriers to entry, new firms can easily enter the market to compete, and since the products are so comparable and customers have complete information, they can make the simple choice of purchasing the cheapest product offered. In this model, the cheapest, and therefore the most efficient producers become profitable, while the least efficient producers are forced out of the market. And if those who remain in the market begin to raise prices, it is easy for competing firms to enter and profit by undercutting the competition until the prices fall. 

Unfortunately, this theoretical market model does not actually exist in the real world. Like in physics, where a theory requires a frictionless environment, there can be no application of this theory until the limitations of the model have been addressed. And the most serious of these limitations for the perfect market are the product comparability and the complete information available to the customer.

By consciously manipulating these two criteria of a free market, all firms in the market are able to avoid a state of true competition that would produce the most efficient allocation of services and are able to artificially inflate the value of the commodity, hence producing more profit for each firm in the market. This is not meant to sound like a conspiracy because indeed each firm does not need to meet in back rooms with the other firms in the market and all agree to limit customer information and the comparability of their products. They each simply need to aspire to the great marketing ideal of product differentiation, a concept that is fundamentally designed to artificially eliminate direct competition by removing direct comparability.

The power of product differentiation, through its ability to remove comparability and create an information gap to distort what could be a perfectly competitive market, can be demonstrated by the case of the term life insurance market in the US in the late 1990s. There was a mysterious and dramatic drop in prices across all firms that did not correlate to price drops in other forms of insurance, which themselves were steadily rising. 

According to economist Steven D. Levitt, this can be attributed to the realisation of a perfect market through the power of the internet. Although term life insurance policies had been quite homogeneous before this period of time, the process of shopping around for the cheapest price had been convoluted and time-consuming, whereas websites such as suddenly made the process almost instantaneous. In just a few years, the value of the term life insurance market in the US had dropped by USD$1bilion because of the new-found ease of comparability. What insurance firm would want this to happen? Even if you were a small player in the market, say a 1% market share, your turnover had just dropped by $10million. It is perhaps one of the great recent examples of the power of perfect competition in allocating resources efficiently, yet possibly one of the greatest blunders by the insurance industry.

Let us now return to the Australian telecommunications market. It is quite possible at the moment, that no two companies offer an identical phone or internet plan. The process of comparing the plans to find the best deal is currently convoluted and time-consuming (much like in the previous insurance example), and the products have been differentiated in seemingly all possible ways. Recent websites are attempting to remove this information lag and do the comparison with a double click, but may only be adding to the confusion as telecommunications providers further differentiate their products through packages and bonuses, and modify their plans more frequently in the name of incomplete information.

Imagine now if all firms in this market offered the same three identical plans - a low use package, a mid use, and a high use, all with identical call rates, fees, contracts and download quotas. What would happen to the market? Would, as in the case of term life insurance, prices plummet and leave the market with a dramatically decreased total value? If we are to believe in the ideas of Adam Smith and other advocates for more competitive markets, the answer must be an astounding yes. The real catch to this whole affair is that more competitiveness would only benefit the customers, and not the powerful and influential telecommunications firms, and not the federal government.

For the ideals of the Howard government of revenue raising through privatisation of public assets to make any sense, you must believe that in private hands, the markets will work competitively and hence benefit the customers, also know as the Australian people. But evidently, it will not.