The Productivity Commission 2014 Auto Report A Critique Phil
Toner [email protected] Political Economy Department The
University of Sydney Roni Demirbag [email protected] 1
Slide 2
Overview: Rationale for the PCs opposition to industry policy
Modelling results and assumptions Criticism of the PC approach.
2
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PC Arguments Against Assistance Misallocation of resources due
industry specific assistance. Dynamic efficiency losses: dulls the
incentive for firms to improve productivity (PC 2014a:77) Crowding
out: one industrys expansion usually results in anothers
contraction (PC 2012:26), Tariffs do not have any significant
impact on the total level of employment in the economy as a whole
(PC 2000:22) Adjustment costs modest compared to the benefits from
reduction in distortions. All Industry specific assistance is
measured by the PC as a deadweight loss. Promotes rent-seeking
behaviour 3
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6 Common Arguments in Support of Industry Policy Unemployed
resources Distorted International Markets Increasing Returns
Technological Spillovers Leontief Multipliers Excessive Exchange
Rate Appreciation 4
Slide 5
Modelling Results -1 5
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Modelling Results - 2 6
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Modelling Result - 3 7
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Modelling Assumptions Employment is fixed in the long run:
employment effects of a shock to the economy are largely eliminated
after 5 years (Dixon and Rimmer 2002, [.205) Resource allocation
based on neoclassical production function. Capital is malleable but
labour is not. Different occupational groups Constant returns to
scale: The model also does not capture factors such as economies of
scale or scope that change the commercial viability of production
units or lead firms to concentrate new production at a particular
plant or in a particular location (Productivity Commission 2014b:
7) Unemployment floor is determined by the natural rate. High rates
of substitution of domestic production for imports and vice versa
(High Armington Elasticities) High export demand elasticity with
respect to prices of Australias commodity exports. Australia has
little influence over world prices of the products they sell.
8
Slide 9
Lower level Assumptions for the Car Industy Modelling
Under-estimating the impact of passenger car industry: Only direct
and first round effects. After closure of the car industry at the
end of 2017 $621m is reallocated as a lump-sum to households.
Closure of the passenger car making industry and its supply chain
results in the unemployment of 40,000 workers and associated
capital stock. These initial effects trigger changes in prices of
products, labour and capital which lead to output changes
throughout the economy (Productivity Commission 2014b: 12). 9
Slide 10
Criticism Two approaches: Challenge the validity of the various
parameters and closures that are commonly accepted to be inherently
subjective yet very crucial in the results obtained from the
modelling. Investigate the broad theoretical framework of the model
and assess whether or not they support the bold claims made by the
PC. In this study we focus on the latter rather than the former.
10
Slide 11
MMRF Model Each state and territory is treated as a separate
economy. 64 industries and commodities in each state 8 occupation
groups in each state labour market, labour free moves interstate
due to changes in 'occupational- specific real wages'. A household
sector in each state and territory 8 state and territory
governments the Australian Government 11
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Breakdown of 64 Industries: 6 agricultural and related
industries 6 mining industries 21 Manufacturing industries 8
Utility Industries 2 Construction industries 4 trade, repair and
food and accommodation industries 8 transport industries 9 finance,
government and other service industries 12
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Production functions 3 levels of nested production function.
First level fixed proportion to output Second level is represented
by the CES production function. Third level is also represented by
the CES production function. The economy as a whole is represented
by the Leontief Production function Difference between MMRF5 and
MMRF-Auto 14 13
Slide 14
What is MMRF? Is it a general equilibrium model? Computable
General Equilibrium (CGE) Model. Johansen 1960, Extension of the
ORANI model Applied General Equilibrium (AGE) Models Herbert Scarf
Velupillai (2006) AGE non computable. Why is the difference
important? Assumption of full employment and Efficient resource
allocation. 14
Slide 15
Capital Theory Debates Three key neoclassical parables: 1.An
inverse, monotonic relation between quantity of capital and rate of
interest; 2.Return on capital is based on the natural or technical
properties of the diminishing marginal productivity of capital; and
3.Distribution of income between capital and labour depends on
relative scarcity and marginal products. Wicksell effects
reswitching and reverse capital deepening Demand curve for capital
is not always sloped downwards. 15
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Samuelson concedes The phenomenon of switching back at a very
low interest rate to a set of techniques that had seemed viable
only at a very high interest rate involves more than esoteric
technicalities. It shows that the simple tale told by Jevons,
Bhm-Bawerk, Wicksell, and other neoclassical writersalleging that,
as the interest rate falls in consequence of abstention from
present consumption in favor of future, technology must become in
some sense more roundabout, more mechanized, and more
productivecannot be universally valid. (Samuelson 1966a; emphasis
added) 16
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Two alternate paths Lowbrow: Admit the logical problems but
challenge the empirical significance. Highbrow: Admit the logical
problems and move on to General Equilibrium theory to avoid
aggregation of capital. 17
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Lowbrow The Crux of the matter is that economists may be unable
to make any statements concerning the relation of production to
competitive input and output markets....I believe they can; but
that is a statement of faith...(Ferguson, 1969, p.269) Solow: I
have never thought of the macroeconomic production function as a
rigorously justifiable concept. In my mind, it is either an
illuminating parable, or else a mere device for handling data, to
be used so long as it gives good empirical results, and to be
abandoned as soon as it doesnt, or as soon as something better
comes along (1966, pp.1259-60). 18
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Empirical verification Underlying accounting identity. Phelps
Brown (1957) Shaikh (1974, 1980) Humbug production function Herbert
Simon: 'Fitted CobbDouglas functions are homogeneous, generally of
degree close to unity and with a labor exponent of about the right
magnitude. These findings, however, cannot be taken as strong
evidence for the [neo]classical theory, for the identical results
can readily be produced by mistakenly fitting a CobbDouglas
function to data that were in fact generated by a linear accounting
identity (value of goods equals labor cost plus capital cost'
(1979, p.497). Can Neoclassical Economics afford to be roughly
correct? 19
Slide 20
General Equilibrium Arrow-Debreu General Equilibrium
Disaggregated, all goods (including capital goods) are treated
separately. Hahn: representing the invisible hand Equilibrium was
proven to exist (Arrow and Debreu) Was equilibrium Unique and
Stable? Sonnenschein-Mantel-Debreu theorem (SMD): Anything goes!
Solow: in the aggregate, the hypothesis of rational behaviour has
in general no implications (Arrow 1986, p.S388). Income effect and
substitution effect. 20
Slide 21
General Theory of the Second Best Lipsey and Lancaster
(1956-1957) if the theoretically optimum cannot be attained because
of one Paretian condition being unattainable due to constraints,
then other Paretian conditions may be attainable, but they are, in
general, no longer desirable 21
Slide 22
Dynamic Efficiency Static allocative efficiency (Neoclassical
theory) Dynamic efficiency PC recognises the difficulty of dynamic
efficiency but ignores it in their analysis. Their model cannot
capture the dynamic change let alone quantify it. Ignoring dynamic
change implies that PC is ignoring productivity! Carveth Read It is
better to be vaguely right than exactly wrong (1914, p.310) 22