insights volume 1 april 2007

Melbourne Economicsand Commerce

volume 1 april 2007

China in international imbalancesYu Yongding

International trade and poverty: cause or cure?L. Alan Winters

Making the boom payJohn Freebairn

Australian labour market reformsJoe Isaac

Andrew LeighMark Wooden

The corporate political environment and big business response

Geoff Allen

Stock return predictability in rational markets Bruce D. Grundy

Passive profits from accounting indicators John D. Lyon

Occasional addresses by Alumni Tom Elliott and Peter Yates

I N S I G H T S

Welcome

Welcome to the first issue of Insights, a new publication of the Faculty ofEconomics and Commerce at theUniversity of Melbourne.

Every year, distinguished visitors and academic staffgive important public lectures at conferences andseminars connected with the Faculty. Some of thelectures find their way into learned journals. Othersare lost to those who were not present at them. Thedevelopments in the various disciplines within theFaculty are an ongoing process and for many, it is a challenge to keep up with new findings and ideasrelevant to their professions and the communitygenerally.

The aim of Insights is to record condensed and editedversions of these lectures in a language accessible to the general reader, and to be both informative andenjoyable. In some cases, reference will be made to where the lectures are printed in full. This willprovide an opportunity for sharing knowledge andideas from a variety of perspectives with a widerpublic. Business and community leaders, alumni,students and researchers will have easy access tocontemporary material. For future researchers, thejournal will be an archival resource of Faculty events.

I hope you will find the articles in this inaugural issue of interest and we look forward to receiving your comments and feedback.

Professor Margaret AbernethyDean

Insights: Melbourne Economics and CommerceISSN:1834-6154

Editor: Emeritus Professor Joe Isaac, AOAssociate Editor: Ms Brooke YoungSub-editor: Ms Rebecca Gleeson, Squidink Communications

Advisory Board: Dr Robert DixonProfessor Bruce D. GrundyAssociate Professor Bryan Lukas

Illustrator: Ms Max MaxfieldDesign: Ms Sophie Campbell

01Insights Melbourne Economics and Commerce

03 China in international imbalances

By Yu Yongding

China’s fast-growing economy faces anunprecedented problem: how to deal with its unsustainable ‘twin surpluses’ withoutdamage to itself and the global economy

09 International trade and poverty: cause or cure?

By Alan L. Winters

The impact of trade liberalisation on poverty is not black and white; differentcountries experience different effects

15 Making the boom pay

By John Freebairn

As Australia enjoys riding a prosperouswave, key economists and strategists examine how it can be sustained long into the future

21 Australian labour market reforms

21 Reforming Australian industrialrelations?By Joe Isaac

The debate over WorkChoices willcontinue for some time as its effects are felt across the workforce

25 Minimum wages and inequality By Andrew Leigh

Are minimum wages justly promoted as a crucial tool in the battle againstpoverty?

28 Does the Fair Pay Commissiondecision matter?By Mark Wooden

Employers and unions have differingopinions about the merits of a minimumwage rise on both employment levels and living standards

31 The corporate political environmentand big business response

By Geoff Allen

The complex task of corporate management in the modern world

35 Stock return predictability in rationalmarkets: on the impossibility ofinformationally inefficient markets

By Bruce D. Grundy

Understanding the debate betweenbehaviouralists and neo-classicists pays dividends for all researchers

41 Passive profits from accountingindicators

By John D. Lyon

Can superior long-term share market returns be earned from basic accountingindicators?

43 Occasional addresses by Alumni at University of Melbourne graduations

43 A ‘Battle of Ideas’ is taking place around the globe Graduates of the University of Melbourne can assist in itsresolutionBy Tom Elliott

45 On painting one’s life pictureBy Peter Yates

insights vol 1Table of contents


Global imbalances

The global economy is suffering from serious imbalancescharacterised by a persistent deterioration of the UScurrent account deficit, marked increases in oil and rawmaterial prices and excessive international liquidity. TheUS Bureau of Economic Analysis announced on March14 2006 that the US deficit reached seven per cent ofGDP in 2005. The deficit is expected to increase furtherin the future, due to growing consumer demand forimports and to a rapid growth in interest payments toforeign holders of US government securities. Rapidlyrising oil prices and imports explained about two-thirdsof the increase. But US trade deficits increased withevery major region of the world and the largest increasewas with China, from whom the US does not import oil.

At the same time, the Chinese economy is sufferingfrom serious imbalances of another kind, characterisedby a rapid increase in the so-called ‘twin surpluses’(where China has, at one and the same time, both acurrent account surplus and a capital account surplus),a persistence of excess investment, acute energyshortages, a deterioration of the environment and arapid widening of income gaps, while the economy isgrowing at breakneck speed.

Few people in China believe that its current accountsurplus is sustainable in the long term and even fewerbelieve that running a large current account surplus isdesirable for the country. The changes we are likely tosee in China’s growth strategy will have major implic-ations for global imbalances and international finance.

China’s ‘twin surpluses’

The economics of development assumes thatdeveloping countries should run current accountdeficits and capital account surpluses, using foreignsaving to achieve an investment rate higher thanwhat their domestic saving rate can support. As their economy matures they will reduce their debtliability until finally they become a country with a positive net international investment position.

China does not fit this pattern. Although adeveloping country with a very large capital account surplus every year since the early 1980s,China has also been running a current accountsurplus consistently since the early 1990s. Thesepersistent ‘twin surpluses’ have resulted in acontinual increase in foreign exchange reserves. By the end of 2006, China’s foreign exchange reserves will have surpassed 1 USD trillion, making it the largest foreign exchange reserveholding country in the world.

The twin surpluses imply that foreign funds obtained through foreign direct investment (FDI) and exporting are not fully utilised to buy foreign goods, technology or managerial skills, butinstead have flowed back to the US governmentbond market. So why does a developing country like China run a large current account surplus andwhy does it attract so much FDI given that it hasexcess savings?

A condensed version of the 2006 David Finch Lecture delivered on 17 October at theUniversity of Melbourne. The Lecture was established through the generosity of C. DavidFinch, a distinguished alumnus of the University. The full paper has been published inAustralian Economic Review, March 2007, 40: 1.

china in international imbalances

by yu yongding

China’s fast-growing economy faces an unprecedented problem: how to deal with its unsustainable ‘twin surpluses’ without

damage to itself and the global economy

04 China in international imbalances

The current account surplus

The first and most popular explanation for China’scurrent account surplus is the saving-investment gap. While China’s investment rate is very high, its saving rate is even higher.

The second factor contributing to China’s currentaccount surplus is government policies – especially the three export promotion policies, the so-called ‘self-balancing’ regulation, exchange rate policyand tax rebates. In the early stage of reform, thegovernment demanded foreign investors guarantee the self-balancing of foreign exchanges for importantforeign investment projects. In other words, FDI was to be entirely export-oriented. It is also undeniablethat China’s exchange rate policy is conducive toChina’s trade surplus and current account surplus.Before the Asian financial crisis, China’s exchange ratewas set according to the production costs of exports inorder to maintain these exports’ competitiveness.During the Asian financial crisis, the Renminbi(RMB) was pegged to the US dollar. Besides arelatively undervalued currency, tax rebates are anothervery important policy instrument. Tax rebate-relatedfrauds are rampant and as a result many enterprisesexport solely in order to obtain tax rebates.

The third factor is China’s position in the globaldivision of labour. Commencing in the late 1980s, a new international division of labour began to take shape. The lowering of communication andtransportation costs together with the liberalisation of trade and investment regimes enabled corporationsto fragment and internationalise the productionprocess. As a result of the development ofinternational production networks, processing tradebecame the dominant form of trade among lessdeveloped countries.

China’s current account surplus and trade pattern were shaped to a large extent by FDI that flowed in as vehicles for the formation of internationalproduction networks. The destination of FDI inflowsinto China was in turn facilitated by the Chinesegovernment’s policy in favour of processing trade,which was motivated by its fear of a current accountdeficit and its desire to allow China’s comparativeadvantage in labour intensive products to have fullplay. Because of the increasingly important role playedby multinationals from developed countries and by

Taiwanese Original Equipment Manufacturer (OEM)firms, the bulk of FDI flowed into manufacturingsectors such as electronics, automobiles, familyappliances, office machines, measuring and checkinginstruments, telecommunications equipment,pharmaceuticals and chemicals. As a result of changesin the regional and sectoral distribution of FDI, Chinawas more and more deeply locked into theinternational production networks and its tradebecame increasingly dominated by processing trade.

Since China entered the World Trade Organisation(WTO) in December 2001, FDI from multi-nationals has increasingly been concentrated incapital-intensive heavy chemistry, large-scale infra-structure, highly technological industry and theservice industry. Each of these bear less relation to the international production network. At the sametime, multinationals grow more interested in China’sdomestic market rather than using China as aplatform for re-export. However, these new develop-ments will not change the dominant position ofprocessing trade in China in the near future.

The FDI puzzle

We can see that China attracts plenty of FDI. Thequestion is why, given that it has excess savings?

First, due to the under-development of the financialmarkets, though there may be excess savings for the economy as a whole, it is very difficult for manypotential importers of capital goods to raise fundsdomestically to finance imports. Yet it is easy toattract foreign funds thanks to preferential policytowards FDI. Sometimes enterprises simply sell their foreign exchange obtained via FDI to thecentral bank (the People’s Bank of China) and useRMB to buy capital goods produced locally. As aresult, while there are increases in the levels of FDIand in foreign exchange reserves, there are little orno changes in the current account. Essentially,China’s domestic savings are being intermediated by foreign capital markets for domestic investment.

Second, even if funds can be raised domestically, due to capital controls it is difficult for potentialimporters to convert their RMB funds into foreignexchange so that foreign goods can be brought.Attracting FDI is still a better option.


Third, despite the fact that the returns required on FDI are much higher than the yield on UStreasury bills, FDI is the cheapest form of foreigncapital for myopic enterprises and localgovernments. In other words, under currentgovernance arrangements, from the point of view oflocal governments and individual state-ownedenterprises, FDI is a ‘free lunch’. Who cares aboutpayments in the form of investment income, if thepayments are due in five to 10 years’ time? Facedwith excessively lavish concessional conditions – lowtax rate, long tax holiday, hidden subsidies in energyuse, lax regulations of environmental protection, free infrastructure and low or negative rents on landuse – what more can foreign investors hope for? Sothe interests of local governments in attracting FDI and those of foreign investors in providing FDIcoincide perfectly.

Fourth, China’s fiscal system and institutionalarrangements give local governments great incentive to attract FDI. One reason is that FDI isindispensable for increasing tax revenues at local levels.Another reason is that it is a common practice inChina that officials at all levels of government areassigned targets for FDI attraction. Those who attractthe largest amount of FDI are the most likelycandidates for further promotion.

Fifth, in order to give new impetus to the recentreform of state-owned enterprises and commercialbanks, the merger and acquisition of Chinese firms byforeign investors and the acquirement of shares by ‘international strategic investors’ in China’scommercial banks are encouraged. Consequently,capital flows in and adds to the existing stock offoreign exchange reserves.

Where does all this FDI come from? The singlebiggest FDI provider is Hong Kong, followed by the Virgin Islands. The latter alone accounted formore than 19 per cent of China’s total attraction ofFDI in 2005. Though difficult to verify, anecdotalevidence suggests that a very large proportion ofChina’s FDI is rent-seeking round-tripping FDI.

Why China must take action

Inside China, a consensus has been reached that thetwin surpluses are neither desirable nor sustainable.There are a number of reasons why China will take

action to correct its imbalances, and these actions will undoubtedly have important consequences forthe global imbalances.

First, as already explained, China’s current accountsurplus is achieved as a result of severe marketdistortions. For example, the competitiveness ofenergy-intensive export products is achieved throughhidden subsidies in the form of the under-pricing ofenergy resources. The same is true of land-intensiveexport products.

Second, the over-dependence on processing trade for the current account surplus, which in turn is basedon the availability of low-skilled but well-disciplinedcheap labour, is damaging the potential for futureimprovement in China’s human capital and riskspermanently locking the Chinese economy into a low level on the ladder of the international division of labour.

Third, with trade being dominated by processingtrade, China’s economy can be very vulnerable toexternal shocks.

Fourth, trade frictions will worsen as a result of the increase in the current account surplus. China’sexports are already targeted by the US, the EuropeanUnion and many developing countries, such asMexico, Brazil and so on. China’s economic growthwill be gravely damaged if these countries take actionto restrict Chinese imports.

Last, but by no means least, the accumulation offoreign exchange reserves, as a result of the twinsurpluses, is making the Chinese economy vulnerableto US policy decisions. According to some Americaneconomists, the US dollar should further devalue by20-30 per cent. If that happens, China’s losses in itsforeign exchange reserves will be tremendous as morethan half of the reserves are in US dollars. Thedilemma facing China’s central bank is unparalleledin history. With such a huge amount of foreignexchange reserves, it is extremely difficult for Chinato protect itself.

The twin surpluses have compromised China’smacroeconomic management and are harbingers of inflation and asset price bubbles. Since the middle of the 1990s, the increase in foreign exchangereserves has become one of the most importantcontributing factors to the increase in reserve money.

06

In order to control the increase in reserve money, large-scale open market operations have been carried outinvolving the sale of government bonds held by thePeople’s Bank of China (PBOC). However, owing tothe enormous scale of open market operations aimed atneutralising the expansionary impact of the increase inforeign exchange reserves, in just a couple of years the PBOC sold out all the government bonds it hadaccumulated as a result of the previous open marketoperations aimed at increasing money supply tostimulate the economy. Commencing in 2003, thePBOC was forced to sell central bank bills to mop up the liquidity.

The sterilisation debate

One important question is whether sterilisation canbe implemented without limit. This is a debatablequestion. Theoretically speaking, as long as theinterest rate paid by the central bank on its bills islower than the corresponding interest rate on (say) UStreasury bills, the central bank should be able to carryon with full sterilisation indefinitely, and hencemaintain an effective control of the monetary base.

However, there are several obstacles to thecontinuation of full sterilisation. One is that thecontinuous purchase of low yield central bank bills andthe increase in the share of low yield assets in the totalassets will worsen the commercial banks’ profitability,which in turn will create a long-term negative impacton the fragile banking system. Therefore, faced with acontinuous increase in foreign exchange reserves, thecentral bank will have to make choices among threecontradictory objectives: a tight monetary policy, ahealthy financial system and exchange rate stability.Faced with an extremely high growth rate of fixedassets investment and a steady increase in theinvestment rate, the PBOC will have no choice but totighten monetary policy greatly. At the same time,comprehensive policy measures will be taken to reducethe increase in foreign exchange reserves.

Sustainable solutions to restorebalance

China’s current balance of payments position is notsustainable in the long run. If China fails to utiliseforeign capital effectively and obtain a decent return

on its outbound investment and lending, it maysuffer from current account deficits as a result ofballooning investment income outflows.

To reduce the current account surplus, the saving-investment gap should be reduced by increasingeither consumption or investment. Because China’scurrent investment rate is already too high, the focusshould be on increasing consumption. In order to doso, government expenditure on public goods must beincreased in areas such as social security, health care,transport infrastructure and education. The govern-ment’s recent decision to increase funding for ruraldevelopment will achieve the result of ‘killing twobirds with one stone’.

It is worth noting that the most important source of high saving is not the household sector but theenterprise sector. State owned mega-firms haveparked huge amounts of funds in banks. This must beaddressed.

Preferential policies towards FDI should be scrappedso that domestic and foreign investors are given equaltreatment in terms of credit access, tax arrangements,environmental requirements and so on. As a result,the level of round-tripping FDI will be reduced andthe flow of FDI that is not viable without all sorts ofsubsidies will cease.

The export promotion policy should also be graduallyscrapped and policies which particularly favourprocessing trade should be adjusted. Imports should be allowed to increase, especially of strategicallyimportant goods and materials. Of course, while doingso, international markets should not be destabilised.

Financial reforms should be speeded up. Small andmedium enterprises should not be discriminatedagainst. Corporate bond markets should be developedand stock markets made more effective. The reformsshould seek to allow domestic savings to bechannelled effectively to enterprises, thereforereducing the need to attract FDI to obtain credit.Foreign-funded enterprises should be allowed to tap China’s domestic capital market, reducing theneed for new cross-border FDI. At the same time,Chinese enterprises should be encouraged to investabroad both in the form of greenfield investment andmergers and acquisitions.

China in international imbalances


Capital account liberalisation should be carried out in a smooth and orderly manner. However, thecompletion of financial reform and the revitalisationof China’s financial institutions (and banks inparticular) must precede the final liberalisation of thecapital account, that is, to make the RMB convertible.

The RMB exchange rate should continue toappreciate gradually. However, empirical evidence has shown that the so-called ‘expenditure-switching’effect of nominal exchange rate changes is small inChina as well as in the US. As a result, to use theexchange rate change as an instrument to achievetrade balance might lead to considerable exchangerate volatility. Abundant experience also shows thatoveremphasis on exchange rate policy in thecorrection of current account imbalances may notonly fail to achieve the goal of correcting the tradeimbalance, but may also cause tremendous hardshipto the countries concerned. After the 1985 PlazaAccord, and despite the dramatic revaluation of theJapanese Yen and the slide of the US Dollar, the UStrade deficit failed to improve in any significant way,but nonetheless caused tremendous hardship to theJapanese economy. While recognising the limitationof exchange rate policy, I personally support action onthe exchange rate front.

In conclusion

Over the past 26 years, China has achievedtremendous success in reforming and opening up its economy. China has become the fourth largesteconomy in the world, the third largest tradingnation and the largest foreign exchange reserveholding country. Yet it faces increasingly seriousstructural problems. Its investment rate isapproaching 50 per cent of GDP and rising. Itscurrent account surplus surpassed USD102 billion in 2005, and will probably be higher in 2006.China’s foreign exchange reserves will surpass the threshold of USD1 trillion very soon. China’senvironment is deteriorating continuously, and its energy shortage is acute.

To correct the imbalances, the Chinese governmentmust adopt a comprehensive program aimed atachieving a more balanced and sustainable growthpattern. Whether this strategy will be successful is

dependent on how well the Chinese government isable to balance the short run necessity for highgrowth with the long run necessity for structuraladjustment. On the one hand, China’s twin surplusesare a result of long-term imbalances and cannot bechanged overnight. On the other hand, caution is notan excuse for inaction.

Global imbalances are not sustainable in the sense that these imbalances are not in the long-terminterests of China and other Asian countries, and theyshould be and will be corrected, no matter what theUS government says and does. However, a drasticcorrection is neither inevitable nor desirable. Toachieve an orderly correction, more internationalconsultation and policy coordination are needed. To my mind, this is the key task faced by national andinternational agencies around the world today.

Professor Yongding is Academician of theChinese Academy of Social Sciences, theDirector-General of the Institute of WorldEconomics and Politics at the ChineseAcademy of Social Sciences, Professor in theAcademy’s Post-Graduate School and President of the China Society of WorldEconomics. He was formerly the academicmember of the Monetary Policy Committeeof the People’s Bank of China and a memberof the National Advisory Committee of the11th Five Years Plan of National Reform andDevelopment Commission.


international trade and poverty: cause or cure?

by l. alan winters

The impact of trade liberalisation on poverty is not black and white; different countries experience different effects

This paper asks how we might think about the effectsof international trade on poverty, how we mightmeasure these effects and what the results of suchmeasurement efforts have been. The basic argumentis that trade liberalisation generally stimulatesmedium-term economic growth and that thisgenerally alleviates poverty. But it usually createssome losers, some of whom may be poor or pushedinto poverty. For public policy, such effects shouldmake us careful to protect the poor, but not stopliberalising our trade regimes.

Economic growth

Economic growth is the key to sustained povertyalleviation. It creates the resources to raise incomes,and even if, improbably, ‘trickle-down’ wereinsufficient to bring any immediate benefit to thepoor, it at least gives governments scope for financinginvestment, by complementary or redistributivemeasures, to help them.

Economic theory offers many reasons to expect acountry’s own trade liberalisation to stimulate itseconomic growth: for example, specialising in goodsfor which world prices exceed home prices, reapingeconomies of scale, improving performance in the faceof new competition, and benefiting from betterinputs and technologies available from abroad.

None of these is guaranteed, however, so ultimatelywhether trade stimulates growth is an empiricalmatter. Over the 1990s several highly visible globalcross-country studies suggested that openness wasgood for growth, but the technical hurdles toabsolute proof are very high. These hurdles include:measuring the restrictiveness of trade policyaccurately; establishing causation – opening up maystimulate growth, but growing countries might bemore willing to liberalise; isolating the effects oftrade reform from other reforms that typically comewith it, especially if it depends on those reforms towork – e.g., having flexible labour markets in orderto respond to trade incentives; and allowing for theeffects of openness on other policies and institutions,the latter of which are now universally believed to becritical to growth.

Despite these difficulties, the weight of experienceand evidence seems to strongly support the idea that openness enhances growth. And even the criticsconcede that there is no coherent evidence thatopenness is bad for growth.

The evidence also strongly suggests that economicgrowth reduces absolute poverty. This is not the same as saying that it reduces income inequality.Indeed, some argue that for low-income countries tradeliberalisation could be unequalising.

A condensed version of the Fourth Annual Max Corden Lecture delivered at the Universityof Melbourne on 12 September 2006. The full paper is to be found in The AustralianEconomic Review 39(4): 347-58. Max Corden is a Professional Fellow in the Department ofEconomics at the University of Melbourne, and Emeritus Professor of InternationalEconomics at the School of International Studies and John Hopkins University.

10 International trade and poverty

This probably arises because only the relatively well offare equipped with the skills or locational advantages tocapitalise on the opportunities that trade opens up. Butthese results do not necessarily mean that the pooractually get poorer: all incomes could be rising.

Direct effects of trade shocks

Treating the household as the basic unit over whichpoverty is defined, the question is posed as to howtrade reforms impinge on poor households. This isprimarily a matter of how the price changesgenerated by the reforms affect their consumptionand sources of income. Three channels of causationmay be distinguished – the prices of goods andservices, the market for labour and the role of taxationand government expenditure.

The last is important but not very sophisticatedanalytically. There is no simple link between tradereform and tariff revenues. In many cases tariffreductions increase revenues since they are associatedwith reductions in exemptions, less evasion and an enlargement of the tax base as trade increases. But,of course, as tariffs fall towards zero, revenueeventually falls to zero. But even this does notnecessarily translate into worse services or higher taxesfor the poor. That is essentially a political decision.

A more interesting link is between world prices andtrade policy, and the prices of the goods that poorhouseholds consume and produce. The bulk of theworld’s poor are self-employed in either low-levelagriculture or the informal sector of the economy.Thus their incomes are directly affected by pricechanges induced by international trade. An increasein the price of something that the household sells will increase its real income, while a decreasereduces it. Equally important are the prices the poor pay for what they consume.

An important question, then, is whether trade policychanges, which occur on the border, get transmittedinto price changes for poor or nearly poor households.This depends on factors such as transport costs andother costs of distribution; the structure of markets;and domestic taxes and regulations. Some impedi-ments, such as transport costs, are inevitable althoughthey may be increased by policy decisions such as tolevy fuel taxes or provide inadequate infrastructure.

Others, on the other hand, represent direct economicinefficiency, such as permitting marketingmonopsonies or monopolies.

Price transmission is likely to be particularlyineffective for poor people living in remote rural areas and could prevent families from making markettransactions almost completely. Such isolation savesthe poor from any negative shocks emanating from theinternational economy but it also prevents them fromexperiencing the positive shocks and secular benefitsthat I discussed above. Their problem is too littleglobalisation, not too much.

A household’s ability to adjust to a trade shock – say to switch production towards goods whose priceshave risen – clearly affects the size of any impact itsuffers. Hence one needs to ask whether the poor areable to make such adjustments. For many of them, a major constraint on improvements in agriculturalproductivity following the external liberalisation has been shown to be the absence of key productiveassets (draft animals, implements), capital, credit, or information.

For the self-employed, the main determinant ofincome is the prices commanded by their output andpaid for their inputs, but for employees it is wagesand employment opportunities. Obtainingemployment is one of the surest ways out of poverty,while the loss of a job is probably the most commonreason for the precipitate declines into poverty thatcatch most public attention. The structure of thelabour market is critical to how trade liberalisationgets translated into wage and employment changes.Maybe everyone’s wages are bid up a bit, but if wagesare inflexible a positive shock is more likely to showup in the creation of a few new jobs at wages wellabove subsistence levels. If so, who gets the jobs isimportant. Sometimes they will be the poor, butother times the jobs will go to additional workers inhouseholds that already have formal employment orto more skilled workers.

Where unskilled labour is relatively abundant, the goods it produces will be plentiful and hencerelatively cheap in the absence of international trade. These are the goods, then, that will be exportedwhen trade increases and hence trade liberalisationwill generally relieve poverty.


However, not all developing countries fall into thisclass. For example, many Latin American and Africancountries have large endowments of natural resourcesand so liberalisation will stimulate these sectorsrather than labour-intensive ones.

Testing and measuring poverty effects

The obvious questions – at least to an empiricist – arecan we test or measure these effects and howimportant are they? Even the simple direct effects aredifficult to pin down with complete confidencebecause (a) we don’t know what would have happenedin the absence of trade liberalisation and (b) it isdifficult, as argued above, to separate tradeliberalisation from all the other reforms that dynamicgovernments pursue at the same time.

One effort from my own work concerns Vietnam,which liberalised and experienced dramatic declines inpoverty over the 1990s. Observing the same 4,300households both early in the process (1992/3) andlater (1997/8), we looked at the influence of certainobviously trade-related factors on households’ abilityto escape from poverty. For example, rice production,where the removal of Vietnam’s export restrictionscaused an increase in prices by 29 per cent and a hugeexport boom; fertilizer use, where trade liberalisationreduced real prices by 23 per cent over our sampleperiod; coffee production – Vietnam hugely increasedcoffee output and exports, partly responding to a largeincrease in world prices; and employment in one of thebooming manufactured/processed export sectors –seafood, food processing, footwear and clothing.

12 International trade and poverty

All of these proved statistically significant inexplaining the escape from poverty and overall, it wasestimated somewhat heroically that they cut povertyby about 17 per cent.

A second approach to estimating the importance of trade reform is simulation modeling, in which thepossible consequences of future trade reform usingnumerical models are explored. Remembering, ofcourse, that these are hypothetical not factualexercises, this is also attractive in allowing the effectsof trade liberalisation to be isolated precisely – it isthe only change made in the simulations. One recentexercise tries to estimate the poverty effects of reforming developed countries’ agricultural policy– both a total liberalisation and what we might get ifthe Doha Round comes to a successful close.

Effects on different countries

The current apology for preserving European andAmerican agricultural protection and support is that it supports poor farmers in the North and thatliberalisation would benefit only rich land owners in the South. Both assertions contain grains of thetruth but the predominant effects are the veryopposite.

In the US, only two per cent of the population livesin farm households and on average only eight per centof their income comes from the farm. If we arrayfarms by total wealth, the poorest half make almostno income from farming, but the higher wealthbrackets get a large share of their income from it.


The richest farmers specialising in the most protectedcommodities – rice, cotton, sugar or dairy – get up to90 per cent of their income from farming. Thusliberalisation hits richer farmers far harder than poorones (up to 20 per cent losses of income), whichexplains the strong political opposition to reform.

Turning to developing countries, which varyconsiderably, and recognising the many differentways in which the poor earn their living, there aregreat differences between countries. Rich countryagricultural trade liberalisation raises world agri-cultural prices and boosts real returns in agriculture –for land and farm workers. In Brazil, for example, thisgreatly reduces poverty, whereas in Mexico, with itsmuch larger non-agricultural workforce (who nowpay more for food) it increases poverty. In Zambia,farmers gain, and there are lots of them, but they startoff so poor that very few actually make it above thepoverty line as a result of these reforms. Overall,agricultural liberalisation would be poverty reducing,but country experience varies hugely.

Another interesting result is that the package ofreforms discussed in the Doha Round could be mademore poverty alleviating. It contains the abolition ofrich countries’ export subsidies – which does little ornothing for poverty in most developing countriesbecause the poor are either isolated or net purchasersof the commodities affected. It also calls for littleliberalisation by developing countries themselves –which we find would have had very strong poverty-reducing effects in nearly all countries.

One final observation: Not only are the povertyeffects of trade reform heterogeneous, but they arealso far from sufficient to remove the scourge ofpoverty altogether. Trade reform will be moreeffective if it is accompanied by policies to relaxconstraints on the productivity of the poor – forexample, access to credit and information – and long-run growth requires advances in other areas such aseducation, security of property, infrastructure andfinancial development. Even the staunchest advocatesof trade liberalisation recognise that it is not the onlything needed for development.

L. Alan Winters is the Director ofDevelopment Research Group of the WorldBank and Professor of Economics at theUniversity of Sussex. He is one of the world’sleading specialists on the empirical and policyanalysis of international trade, havingpublished over two hundred books and articlesin areas such as regional trading arrangements,non tariff barriers, European integration,transition economies’ trade, internationallabour mobility, agricultural protection, tradeand poverty, and the world trading system.The findings, interpretations and conclusionsexpressed in this note are entirely those of theauthor and do not necessarily reflect the viewsof the Board of Executives of the World Bankor the governments they represent.


making the boom pay

by john freebairn

As Australia enjoys riding a prosperous wave, key economists and strategists examine how it can be sustained long into the future

A personal summary of the 37 papers presented at the Fourth Economic and Social OutlookConference jointly organised by the Melbourne Institute and The Australian newspaper, heldat the University of Melbourne on 2-3 November 2006. Copies of the Conference program,papers and presentations are available at: www.melbourneinstitute.com/conf2006/

The 2006 Economic and Social Outlook Conferencebrought together 37 of Australia’s leading thinkers.Under the rubric ‘securing the next generation ofprosperity’, presenters supplied answers to somepressing economic questions.

Drawing on the expertise of speakers from politics,business, not-for-profit organisations, the publicservice and academia, the focus of the Conference wason the economic policy challenges and options facingAustralia over the next decade.

After two decades of a reform program that hastransformed the Australian economy, the luckycountry currently finds itself blessed by a China-driven resources boom. Previous commodity boomshave ended in tears, and raise many questions. Howcan we manage the boom properly? What policiesand strategies should Australia adopt to set itself up for continued prosperity and opportunity for all?In the process, how might we best tackle areas ofentrenched disadvantage? What are the pros and consof different options for confronting the longer termchallenges associated with increased pressures onnatural resources and the ageing of the population?How can we use the windfall fruits of the boom tobest invest in education and training to provide skills

for the future workforce in an evolving globaleconomy, and at the same time provide for equality ofopportunity?

Looking at the broader picture of economic growth, several presenters concluded that Australiahas learnt to become a good manager in times ofprosperity. Fourteen years of sustained economicgrowth has moved us up the international relativeincome league ladder from the bottom third ofOECD countries to the top third. In part, thesustained economic growth reflects good economicmanagement associated with the productivity gains and greater flexibility encouraged bymicroeconomic reforms of the 1980s and 1990s. In addition, credible monetary and fiscal policies haveprovided a low inflation and stable economicenvironment. We have better managed the housingand commodity price booms of the last decade whencompared with preceding booms in the last century.

Slower economic growth

Looking to the future, there was general agreementthat Australia faces lower rates of economic growth and more urgent challenges from lowerproductivity growth, an ageing population and new environmental tests.


Several speakers were optimistic that China willcontinue to experience rapid economic growth, aswill other countries including India, and that globaleconomic growth will further push the demand forAustralia’s resources and maintain downwardpressure on the prices of low technology and labourintensive manufactured goods and services. However,over the medium term, supply is expected to catch upwith demand and current high commodity prices willfall back towards, but not as low as, historicalaverages. Inevitably, the rest of the traded sector ofthe economy will need to undergo structural changeand respond to changes in Australia’s comparativeadvantage.

Other potential drivers of longer term structuralchange are likely policy responses to the challenges ofclimate change, and then changes in relative prices,with the possibility of carbon taxes or tradeablecredits; the further development of water markets;some internalising of the costs of urban congestion;and changes in the demands by and the labour supplyresponses of an ageing population. Many inter-national comparisons find that productivity in manyparts of the Australian economy is below world bestpractice, and often by 20 per cent or more.

However, whether it is reform fatigue, complacencyor because further microeconomic reforms are morechallenging, over recent years governments at alllevels and the general community appear less willingto accept the structural and other changes that gohand in hand with productivity growth. A new waveof productivity growth will require new politicalthinking and courage, and it will requiregovernments to draw the electorate into an open andtransparent discussion of the options and theircomparative effects.

Unfortunately, business cycle fluctuations from theglobal economy and our own making are unlikely to disappear, although they may become moremoderate than in the past. Also, the Australianeconomy of the future will have to adjust to irregularshort term shocks such as droughts and other natural phenomena, and political instability in keyglobal markets.

The benefits of the rapid economic growth of recent decades have spread to most Australians,although there are significant pockets of continueddisadvantage. On average, real disposable incomeshave increased by about a quarter over the last tenyears associated with increased employment levels,higher wages, and some re-jigging of the tax andsocial security systems. Couples with children and theelderly have gained more than single adults and soleparents on low private incomes. The distribution ofdisposable incomes by level of income has remainedfairly constant.

By conventional measures of poverty, including the Henderson measure of an income less than a halfof the median, up to 15 per cent of households areassessed to be in poverty in any one year. Alternative,and arguably better, measures of poverty based onconsumption or on income over several years reducethe measured incidence of poverty to around sevenper cent of households. More graphic signals ofparticular pockets of unfairness include the statisticsfor indigenous Australians (with very much lower lifeexpectancy and school completion rates, and muchhigher unemployment and incarceration rates), the100,000 homeless, the 700,000 children in householdswhere no one has a job, and long waiting lists forpublic dental care. Low capabilities, particularly ofeducation and health, were shown to be highlycorrelated with, if not causal forces of, those notsharing in the fruits of the boom. Perhaps of most concern is that such measures of extremedisadvantage have, if anything, become larger inrecent years, and in terms of the policy debate thereis concern about whether we have the policy levers toachieve significant changes for the better.

Education opens doors

Education was pinpointed as critical to both future prosperity and equity in many sessions of the conference. Here, education extended from pre-school and school to vocational and tertiaryeducation. Skilled labour – as the largest productioninput by cost – will become even more important in the future to support higher labour productivityand real wages in an evolving and more competitiveglobal economy.


Links between the quantity and quality of educationon both participation and productivity rates thatdrive the level of GDP and its growth rate are nowwell established. At the individual level, there isample evidence that more educated peopleexperience higher employment rates and lowerunemployment, higher wage rates, better health, andmore agreeable social lives. Education for botheconomic growth and equity has to be seen as a longterm investment with high rates of return – probablyin excess of 20 per cent.

On several criteria, the provision of education inAustralia was found to be deficient and falling behindworld’s best practice. Australian funding of educationas a share of GDP is in the second half of OECDcountries. In terms of outputs, Australian completionrates for secondary schooling and tertiary educationare below the OECD average, and 20 per cent belowthe best performers.

For example, and perhaps of most concern, is that athird of students did not complete secondary school,and for those who did not complete year 10, only ahalf of those of workforce age were employed.

Many suggestions were made to change policy towardseducation over the next decade, affecting pre-school,school and vocational and tertiary education. Morefunding, while clearly important and requiring betterdelineation of Commonwealth-State responsibilities,was only a part of the picture. Other areas of structuralchange to address included: enhanced community and other support for parenting; curriculum; a betterpay and career structure for teachers; opening upgreater competition between alternative suppliers,providing more autonomy to providers who are moreaccountable for education outcomes, and allowing for specialisation among providers; and providingfunds more attuned to the needs of individual studentsand the different costs of supply.


In many cases the links between different actions andoutcomes are not well understood, and severalspeakers emphasised the need for experiments,measurement and monitoring to improve knowledgeof what works better.

The combination of technological change and anageing of the population is expected to increase theshare of GDP allocated to health and aged care to wellabove the current 10 per cent, with much of thisgrowth being government-funded. While the currentarrangements, together with the importance ofequity objectives, make major structural reforms forincumbent governments a daunting task, theindependent speakers argued that considerableefficiency gains in the costs of the supply of healthand aged care are available. In particular, there arecosts of duplication and overlap between the differentlevels of government.

Other candidates for policy reform within each levelof government were also identified, notably unclear

and confused objectives, the lack of appropriateincentives in payment schedules facing public-fundedsuppliers to improve efficiency, and inconsistentregulations, especially for aged care.

Current policies towards the environment, includingwater, greenhouse gas emissions and urban congestion were placed high on the reform agenda overthe next decade. While these are areas of classic marketfailure, speakers argued that where possible acombination of market forces and government inter-ventions to internalise external costs was desirable.Prices reflecting social marginal costs elicit privateinformation on preferences and new technologicalopportunities in reaching better allocations of scarcenatural resources, and they provide incentives andrewards for investment, including R&D, to expandsupply at minimum cost. Government inactioncreates uncertainty and defers required investment,which, in turn, hampers both economic growth andthe achievement of better environmental outcomes.


Inter-government coordination

A key to achieving improved productivity in the future repeatedly turned to the area ofCommonwealth-State (and to a lesser extent Local)government relations. In the areas of health andeducation, regulations, finances, water, otherinfrastructure and climate change, many speakerstook the view that the current system is a major blockto future prosperity.

Current arrangements are characterised by unclearand questionable objectives with governmentpolicies, overlaps, duplication and complexity,unwarranted differences and excessive regulation, andlack of accountability, buck-passing and blameshifting between the different levels of government.It was conceded that the constitution will not bechanged, and therefore any solution must involvecontinuation of the three tiers of governmentworking together in more effective ways.

Within this constraint, a number of ideas weresuggested as options for further consideration. These options included: referral of powers to one level of government to improve accountability andreduce overlapping responsibilities; and greatercooperation between the different levels ofgovernment accompanied by measurable, transparentand accountable objectives of performance. Thecooperative model may need to be supported byindependent performance reviews which provide for financial incentives and rewards, and by anindependent body charged with providing thedifferent levels of government with research-basedassessments of the case for government intervention,the form such intervention should take, includingwhich government level does what, and ways tomeasure and monitor performance.

Other potential roadblocks to prosperity discussed atthe conference were the supply of appropriate skillsand infrastructure. In both cases it was proposed thatmarket forces be given the primary role in signallingareas of relative shortages and in providing theincentives for additional investment in both humanand physical capital. In the case of workforce skills,this means allowing relative wages to vary over time,and in the event of higher wages for particular skillsand regions of labour scarcity not to have theseincreases flow onto higher wages in other parts of the economy.

In some cases more flexible and family-friendly work conditions can be as, or more, important thanhigher wage rates. Supportive government policiescan provide information, ensure recognition ofqualifications, provide funds for people to gaingeneric skills (as grants or as income contingentloans), actively encourage competition andinnovation in the supply of training, and assist the short term bridging of areas of particular skillshortages via immigration. In the case of physicalinfrastructure, where government regulations areimposed, it was argued that they should be based on sound principles of demonstrated market failure, and that they be national regulations. It was recognised that markets will not alwaysanticipate areas of infrastructure and skill shortages,but they are likely to make less mistakes thangovernment planners, and when forecast errors are made, markets provide their own corrections.

Professor Freebairn is Professor ofEconomics in the Department of Economicsand Director of the Melbourne Institute ofApplied Economic and Social Research.


A condensed version of the 21st Foenander Lecture delivered at the University on 28 August2006. The full paper will appear in The Journal of Industrial Relations, 49, 3, June 2007.

The WorkChoices legislation has produced the mostradical change in our industrial relations system in100 years.

Prime Minister John Howard says that the Australianeconomy has performed very strongly in recent years.Australians have enjoyed higher living standards froma combination of prudent economic management,strong jobs growth, higher real wages, low inflationand interest rates, lower taxes, increased familybenefits and improved Government services.

In such circumstances, why do we need WorkChoices?

The case for change

The Government rests its case on assertions ratherthan evidence. The Prime Minister has said that we‘must press ahead with economic reform if we are toprosper in the 21st Century.’ He maintains furtherthat the measures in WorkChoices represent ‘the nextlogical step towards a flexible, simple and fair systemof workplace relations…Only through this will thefull potential for productivity gains in the Australianeconomy be realised.’

The main elements of the change include:

– A substantially national system;

– A new tribunal, the Australian Fair PayCommission, to fix the minimum wage;

– A smaller safety net;

– More limited powers for the Australian IndustrialRelations Commission (AIRC), whose mainfunction now is voluntary mediation andadministering industrial action;

– New Australian Workplace Agreements (AWAs);

– Unfair dismissal rights confined to firms with100+ workers;

– More restrictions on collective bargaining and rightto strike; and

– Several anti-union features.

The various pieces of legislation need to be consideredjointly because they are inter-related and theircombined effect will change the balance of industrialpower greatly in favour of employers.

WorkChoices in context

This paper examines WorkChoices against a number ofconditions/assumptions regarded as necessary for aneconomically efficient and socially fair industrialrelations system. Some of these conditions may bedisputed but this would at least allow the basis of anydisagreement on the new system to be identified.

In summary, the suggested conditions are as follows:

1. A system that promotes economic growth throughhigher employment and productivity.

austral ian labour market reforms

by joe isaac

The debate over WorkChoices will continue to rage for some time as its effects are felt across the workforce

reforming australian industrial relations?

22 Reforming Australian industrial relations?

2. Recognition that labour is not a commodity but ahuman resource. On certain issues, economicconsiderations may need to be balanced againstsocial considerations, especially in view of theimperfections of the market.

3. Norms of fairness are a feature of most labourmarkets and need to be recognised in the interestof long term economic efficiency.

4. There needs to be provision against unfairdismissal and discrimination in accordance withILO Convention 158, which Australia has ratified.

5. While there is a great deal of common interestbetween workers and their employers, there aregenerally differences on the terms of employmentthat need to be resolved.

6. Generally, individual employees have weakereconomic power than do employers. To rectify theunbalanced power, collective bargaining with theright, within limits, to industrial action, should beavailable to the parties in accordance withConventions 87 and 98, which Australia hasratified and which underlies the UN 1948Universal Declaration of Human Rights.

7. Legislation is necessary to provide limits onindustrial action and to override the strictures of

the common law on unionism and effectivecollective bargaining.

8. There should be machinery to mediate bycompulsory conciliation and arbitration inindustrial disputes.

The Government’s argument for a national system is that the present dual system is complex and costly.While there is a good case for a national system, thecomplexity and costs of the existing arrangement areexaggerated. The obvious reason for the incorporationof State systems is to prevent State governments andtribunals from frustrating the Federal government’sindustrial relations objectives.

The Government has decided to establish a newtribunal to fix the minimum wage on the spuriousargument that the existing procedures under theAIRC are ‘adversarial and legalistic’. Even if true,which it is not, the remedy is to rectify it bylegislation rather than setting up another body. The most plausible explanation is that theGovernment believes that the AIRC has pitchedminimum wage increases at too high a level at the expense of employment growth. The figuresbelow do not support such a view. Unemploymenthas come down to its lowest rate for many years.

Relevant statistics on movements in the minimum wage (percentages)

Real minimum Real AWOTE Labour hourly Real unit labour costwage (C14) full-time adults productivity per person non-farm

annual average

* * ** **+12.6 +20 2.0@ minus 7

2.5#

* May Quarter. Safety Net Review, 7 June 2005 AWOTE = Average Weekly Ordinary Time Earnings

** Years ended June. @Non-farm sector. Treasury Website

# Market sector. ABS Cat. No. 5206.0. Multifactor productivity = 1.3%

May 1996–June 2005


The role of AWAs and bargaining

Individual bargaining has taken place over the yearsand can continue to do so as common law contractsbetween employers and individual employees, subjectto relevant minimum awards. They have providedscope for flexibility in pay and working conditions.

AWAs are a more formalised version of common law contracts. The object of the new legislation is to increase their number, and various provisions in the Act will facilitate this. The new AWAs are, of course, a downgraded version of the old AWAsbecause the No Disadvantage Test base on the oldSafety Net has been replaced by the more limitedstandard. The new ‘safety net’ will be limited to five items known as the Australian Fair Pay andConditions Standard, in contrast to the previous 20 award items. The standard 38-hour week is nowan average over 12 months. This will allow variousestablished conditions of work – overtime and otherpenalties – to be taken away from workers in thename of flexibility. Those employers who may bedisinclined to resort to cost cutting in the waysfacilitated by the legislation, may be pushed bycompetitive forces to follow suit.

The expectation that the new system will generatehigher productivity growth is illusory. Indeed, it may even reduce the pressure for productivitygrowth and allow employers instead to rely on cost-cutting through wages and conditions. Historically,productivity rises and falls from year to year, largelyunrelated to the wage fixing system. The sources of sustainable productivity growth are technologicaldevelopments, increased capital and skills, and acompetitive market.

Until WorkChoices, the size of the employer was not relevant to the application of the unfairdismissal provision, defined as ‘harsh, unjust andunreasonable’. What constitutes ‘harsh, unjust andunreasonable’ depends on the circumstances of eachcase but in general it means that dismissal is notgenuinely connected with the performance andconduct of the worker in relation to the requirementsof the firm. Casual workers (some 25 per cent ofemployees) and those with less than six months(increased under the new law to 12 months) ofemployment with a firm, would not be protected bythis provision.

Now well over 90 per cent of firms and well above 50per cent of employees will be excluded from theprovision. Even a portion of the small minority oflarge firms may be able to escape this provision ifthere are ‘genuine operational reasons’, defined as‘economic, structural or similar reason’, for termin-ation. However, the anti-discrimination provisionwill still apply to all firms. The Government’sjustification for the substantial exclusion of the unfairdismissal right is that the provision discouragesemployment. The evidence for this argument is thin,to say the least. There are, of course, many caseswhere the provision has been misused by employeeswho see it as an opportunity of squeezing a cashsettlement out of the employer. The same may be saidof some discrimination claims, yet these are stillallowed. Furthermore, even if an employer is willingto include an unfair dismissal procedure in anagreement, the Act forbids it from doing so.

In dealing with the unfair dismissal issue, it is amatter of striking a fair balance between therespective rights of employer and employee, andproviding speedy and less costly proceedings,particularly affecting small employers whoseactivities may be seriously disrupted by having toengage in such proceedings. There is undoubtedlyscope for procedural improvements. It is arguablethat, for reasons of expediency, small firms, say, with less with than 10 employees as applies in someEuropean countries, would seem to be a reasonablecompromise on size for exclusion from the provision.

Beyond AWAs

There has been a tendency in public discussion toregard AWAs as the main issue in the legislation.However, AWAs as such are not a problem. It isimportant to consider the combined effect of thevarious pieces of legislation rather than to focus on one in isolation. Thus, the restriction of the unfairdismissal provision should be considered inconjunction with the ability of employers to avoidcollective bargaining as well as intervention by theAIRC, and to foist AWAs on workers on a morerestricted safety net protection. Together, theseprovisions provide the potential for employers with less than 101 employees, on the expiry of an existing agreement, to dismiss workers and to provide them with re-employment on AWAssubject only to the new lower safety net standard.

24 Reforming Australian industrial relations?

These provisions together with others – employer‘greenfields’ agreements enabling employers to setwages unilaterally, placing undue restrictions onindustrial action, and so on – have the potential tomarginalise unions and blunt the bargaining power of collective action in violation of ILOConventions. It is ironic that one of the stated objectsof WorkChoices is ‘to give effect to Australia’sinternational obligations in relation to labourstandards’. All this despite the fact that over the last10 years, the annual average loss from strikes is barelyone hour per person – a small fraction of the loss fromabsenteeism and industrial accidents.

There have been occasions in the past when certainunions misbehaved in an industrially and sociallydestructive manner. This has been occasionally truealso of business corporations. For both, restraints andsanctions are appropriate when they misbehave.However, it is difficult to justify making occasionallapses in the behaviour of some unions the basis for aset of restraints, particularly when these restraintshave the potential to substantially frustrate theircapacity to achieve objectives by procedures inkeeping with our international obligations. The fall-out in these circumstances is not simply felt byunions, but especially on those who are disadvantagedby weaker union power and those who are forced intoindividual bargaining.

In conclusion

Trade unions, collective bargaining and collectiveaction have gone hand in hand to rectify theunbalanced bargaining power in favour of employersunder individual bargaining. In most developedcountries, this development has been supported bylegislation consistent with ILO Conventions. InAustralia, the balance has also been underpinned bycompulsory conciliation and arbitration. Overall, theeconomy has done well under these arrangements,and certainly so in the last 10 years. The object andphilosophical basis of WorkChoices appears to be tounravel these arrangements and open up theprospects for a return to the master and servantmentality of the 19th Century.

The Government asserts that WorkChoices will providea ‘flexible, simple and fair system of workplacerelations’. It is neither simple nor fair. Its legalprovisions are complex, running into 1300+ pages.

The choices are mostly for employers. The degree oflabour market flexibility in Australia is already amongthe top five of the OECD countries. The assertion thatonly through WorkChoices will ‘the full potential ofproductivity gains’ be realised does not rest on anypersuasive argument or economic evidence.

The new system goes against the Australian ethos of a fair society. It will result in uncertainty andlitigation. These consequences will not be evident fora year or two because a large number of agreementswere processed before WorkChoices came into effect andbecause of the prevailing shortage of labour. However,the straws blowing in the wind since the newlegislation came into being give an indication of whatcould happen on a large scale.

In 1992, Mr Howard, then in Opposition, announcedJobsBack, an industrial relations programmesubstantially in line with WorkChoices. Yet, since1992, without that programme, we have enjoyed theeconomic benefits noted by the Government itself.There are no signs on the economic front, at least inthe medium term, suggesting the case for such aradical change in our industrial relations system.

Joe Isaac is Professorial Fellow, Departmentof Management and Marketing, University ofMelbourne.


Minimum wages are sometimes promoted as avaluable tool in the battle against poverty. Yet theeffect of minimum wages on the income distributiondepends crucially upon who earns them. If minimumwage earners are disproportionately teenagers fromaffluent families then a minimum wage rise will haveless of an impact on poverty than if minimum wageearners are mostly lone parents.

Analysing the effects of minimum wages is morerelevant to inequality and poverty in Australia than inmost other developed nations, for the simple reasonthat Australian minimum wages are high. What istypically referred to as the ‘Australian FederalMinimum Wage’ (the lowest step on a scale of federalawards) is $13.47 per hour, which is approximately 68per cent of median hourly earnings.

In weekly terms, the Federal Minimum Wage is$511.86. This equates to about 58 per cent of full-time median weekly earnings, as compared with 45per cent for the United Kingdom minimum wage,and 34 per cent for the United States minimum wage.In 2003, the United Kingdom Low Pay Commissionfound that – relative to median earnings – our FederalMinimum Wage was the second-highest among 12developed countries, with only France having ahigher wage floor. Assuming a similar distribution ofhourly wages in these countries, this suggests that theFederal Minimum Wage will affect proportionallymore workers than the minimum wage in the UnitedKingdom or the United States.

Understanding the distribution of minimum wage workers (those earning at or just above theminimum wage) and subminimum wage workers(those earning just below the minimum wage) is alsoimportant for knowing what impact an increase inthe minimum wage might have on inequality. Whilethere is no disputing the fact that an increase in thewage floor reduces hourly wage inequality amongthose who keep their jobs, it is possible thatminimum wages also have disemployment effects. Ifthese effects are sufficiently large, then it isconceivable that an increase in the minimum wagemight actually reduce the total market incomereceived by low-wage workers.

The impact of minimum wage rises

The impact of minimum wage rises on the socialwelfare of low-income households depends on threeparameters: the distribution of minimum wageearners across more and less affluent households; the elasticity of hourly wages with respect to theminimum wage (the degree to which minimumwages increase hourly wages); and the elasticity of labour demand with respect to the minimum wage(the degree to which minimum wages reduceemployment).

One way of estimating the impact of minimum wagerises on inequality and poverty is to focus on the firstquestion: who earns minimum wages?

minimum wages and inequality

by andrew leigh

Are minimum wages justly promoted as a crucial tool in the battle against poverty?

A condensed version of the paper ‘Does Raising the Minimum Wage Help the Poor?’ whichAndrew Leigh delivered at a Symposium on the Australian Fair Pay Commission’sMinimum Wage decision on 15 November 2006.

26 Minimum wages and inequality

Combining seven Income Distribution Surveysconducted by the Australian Bureau of Statisticsbetween 1994-95 and 2002-03, two categories of near-minimum wage employees are defined.‘Minimum wage workers’ are those earning between100 per cent and 120 per cent of the minimum wage.‘Subminimum wage workers’ are those earning belowthe Federal Minimum Wage (e.g. juniors, workers onstate awards, and employees in the undergroundeconomy).

Regression analysis reveals that those who earn near-minimum wage in Australia are disproportionatelyfemale, unmarried and young, without post-schoolqualifications and overseas born. The agedistribution of subminimum wage workers peaksaround 21, while the age distribution of minimumwage workers peaks around 32. Across family types,subminimum and minimum wage workers are over-represented in single-person families, andunderrepresented in couple-only households.Individuals with and without children are equallylikely to be earning the minimum wage (implyingthat the minimum wage is not a particularly well-targeted instrument for affecting the wellbeing ofchildren). About one-third of subminimum andminimum wage workers are the sole breadwinner in their household.

Another way of asking the question ‘who getsminimum wages?’ is to consider the relationshipbetween hourly wages and family income. If eachfamily had one full-time worker, the correlationbetween hourly wages and family income would be about one. In practice, the correlation betweenhourly wages and family income is 0.43.

Comparing hourly wages and family income acrossthe distribution, individuals in poor families aredisproportionately likely to be out of the labour force.If individuals from poor households are in the labour force, there is a greater than 50 per centchance that they will be in the bottom quintile ofhourly wage earners. But due to low labour forceparticipation rates among poor households,subminimum and minimum wage workers tend to be clustered around the middle of the familyincome distribution. Across all adults, the mediansubminimum wage worker is at the 44th percentileof the family income distribution, while the medianminimum wage worker is at the 53rd percentile of the family income distribution. Even excludingthose aged over 55 years, the typical subminimumwage worker is in a household at the 35th percentileof the family income distribution, while the medianminimum wage worker is in a household at the 45thpercentile of the family income distribution


Using these figures, it is possible to consider how raising the minimum wage might affect thedistribution of hourly wages, the distribution ofindividuals’ weekly earnings, and the distribution ofpre-tax family income. As noted earlier, there arethree relevant parameters in determining the impactof a minimum wage rise on the distribution ofincomes: the hourly wage elasticity, the employmentelasticity, and the distribution of minimum wageearners across households.

While there is a robust debate in the Australianliterature over the elasticities, most estimates of the hourly wage elasticity lie between zero and one,while most estimates of the labour demand elasticity(extensive and intensive margins combined) liebetween zero and -1. In effect, the extreme cases arethat a 10 per cent minimum wage rise will lead to allminimum wage workers getting a 10 per cent payrise, will cause 10 per cent of minimum wage workersto be fired, or both.

Distributional effects of minimumwages

Simulations demonstrate that under all scenarios, an increase in the minimum wage reduces hourlywage inequality. It is straightforward to see why thisshould be the case. If raising the minimum wageboosts hourly wages for the low-paid, and has nodisemployment effect, then the minimum wage rise will reduce hourly wage inequality by pushingup the bottom of the distribution. If raising theminimum wage does not boost hourly wages at all,and only has a disemployment effect, then the risewill reduce hourly wage inequality by truncating thebottom of the distribution.

Simulating the effect of a minimum wage rise on thedistribution of income assuming a large positivehourly wage elasticity and a zero labour demandelasticity, earnings inequality and income inequalityfall slightly. Assuming a zero hourly wage elasticityand a large negative labour demand elasticity,earnings inequality and income inequality risesubstantially. And assuming a large positive hourlywage elasticity and a large negative labour demandelasticity, simulations also suggest that earningsinequality and income inequality will rise.

In effect, the disemployment effect in this simulationoverwhelms the hourly wage effect, since firings havea much larger impact on the family incomedistribution than modest wage rises. (Note howeverthat these estimates do not take account of incomesupport and taxation. Since income support andprogressive taxation typically act as a buffer against falling family incomes, the disemploymentsimulations likely overstate the extent to whichincreasing the minimum wage would raise disposablefamily income inequality.)

Since the scenarios modelled above are extreme cases,one can also estimate the hourly wage and labourdemand elasticities that would be necessary for aminimum wage rise to reduce pre-tax family incomeinequality (as measured by the Gini coefficient).Assuming an hourly wage elasticity of one (allminimum wage workers receive the full amount ofthe increase), a minimum wage rise will lowerinequality if the elasticity of labour demand issmaller than -0.4. Assuming an hourly wageelasticity of 0.5 (minimum wage workers receive onaverage $0.50 for every $1 increase), a minimumwage rise will lower inequality if the elasticity oflabour demand is smaller than -0.2. Given that thetypical minimum wage worker lives in a middle-income household, it appears unlikely that raising theminimum wage will significantly lower familyincome inequality.

Dr Andrew Leigh is a Fellow in the Social Policy Analysis, Evaluation andResearch Centre in the Research School ofSocial Sciences at the Australian NationalUniversity. His academic website is athttp://econrsss.anu.edu.au/~aleigh/ and hisblog is at http://andrewleigh.com.

28 Does the Fair Pay Commission decision matter?

does the fair pay commission decision matter?

by mark wooden

Employers and unions have differing opinions about the merits of aminimum wage rise on both employment levels and living standards

A condensed version of a paper delivered at a Symposium on 5 November 2006 on theAustralian Fair Pay Commission’s first minimum wage decision.

A few weeks ago the new Australian Fair Pay Comm-ission (AFPC) raised the Federal Minimum Wagefrom $12.75 to $13.47 per hour, a rise of 5.6 per cent.

This decision was received very differently by differentsectors of the community. Employer groups werehighly critical, claiming that the rise would beharmful to employment, while the Australian Councilof Trade Unions (ACTU) was full of praise, believingthat the decision vindicated their claims that wagerises for the low paid were necessary to protect theirreal living standards and would not be harmful foremployment growth. So who has got it right?

The easiest claim to deal with is the oft-heardargument that minimum wage increases help the poor.The reality is that most of the poor are not employedand so, by definition, rises in the minimum wage cando little to help them. The AFPC, however, appears tosupport the union view, stating in its decision that‘lower paid workers are relatively concentrated in lowerincome households.’ At best, this can only be describedas an interesting interpretation of the evidence.

HILDA survey reveals impact of wage rise

Data from the 2004 wave of the Household, Incomeand Labour Dynamics in Australia (HILDA) Survey –the same data source used in the researchcommissioned by the AFPC – reveals that the lowestpaid are actually spread quite evenly throughout theincome distribution. Indeed, and as shown in Figure 1,the 20 per cent of wage earners with the lowesthourly wage rates (the group most likely to be relianton industrial awards for pay increases) are actuallyunderrepresented in the bottom part of the income

distribution – only 27 per cent of these employees areliving in households in the bottom three deciles (i.e.the bottom 30 per cent) of the distribution.

The picture changes slightly if we focus both onadults (and thus exclude many children who are stillliving at home with their parents) and on the verylow paid – the bottom 10 per cent. The proportion ofthis group that are in the bottom three deciles of theincome distribution now rises to almost 38 per cent,meaning they are slightly overrepresented in thebottom of the distribution. Much of this higherrepresentation, however, can be explained by incomesupport recipients who are able to work part-timewhile still receiving a government benefit. For mostof these people the number of hours worked arerelatively small. Further, beyond some very minimalincome levels, government income is withdrawn atthe rate of either 50 or 60 cents for every extra dollarearned. Together, these two facts mean thatminimum wage rises do relatively little to raise theincomes of these types of workers.

Figure 1: Distribution of low wage employees by equivaliseddisposable household income decile, 2004

Source: HILDA Survey, Confidentialised Data Release 4.1.

15

10

5

0

%

1 2 3 4 5 6 7 8 9 10

Income decile


Even if low-wage workers were, at a single point intime, heavily concentrated in low-income house-holds, it does not follow that such workers willnecessarily benefit much from minimum wage rises.This all depends on how much they would haveearned in the absence of minimum wage rises. We cannever know this with any certainty, but with the newlongitudinal data gathered from the HILDA Surveywe do know how much earnings for low-wageworkers have risen in the recent past.

Specifically, the HILDA Survey tracks earningsgrowth for the same people over the period 2001 to2004 and reveals an unexpected result. As shown bythe solid bars in Figure 2, growth in hourly earningshas been overwhelmingly concentrated among thepeople earning the least at the start of the period. Infact, the median rate of growth in usual hourlyearnings for adult employees (persons aged 21 yearsor older in 2001) who were among the bottom 10 percent of wage earners in 2001 was a staggering 66 percent. For the next 10 per cent the figure is muchlower, but still a healthy 28 per cent. These rates ofgrowth gradually fall until we reach the top of theearnings distribution, where median earningsremained unchanged (meaning a fall in real terms).

Provided they remain in employment, the vastmajority of low-paid workers have experiencedearnings increases that are well in excess of the rate ofincrease in the minimum wage. Indeed, the HILDASurvey data indicates that about 80 per cent of adultemployees in the bottom decile of wage earners whowere also in work three years later experienced earningsincreases in excess of the rate of growth in the FederalMinimum Wage over the same period. For most low-wage workers the minimum wage is largely irrelevant.

Increases in the hourly wage, however, do notnecessarily translate into large increases in annualincome. This depends on what happens to thenumber of hours worked over the year. Figure 2 thusalso reports for all adult employees in 2001 how theirannual labour earnings changed over the next threeyears. As can be clearly seen, a focus on annualearnings, as distinct from hourly earnings at a pointin time, suggests markedly different conclusions. Wecan now see that the lowest paid do not stand out soobviously from other employees. While annualearnings growth has been greatest for the low-paid,the differences across the hourly wage distribution arerelatively small.

In conclusionThe empirical evidence suggests that the decision ofthe AFPC is unlikely to do very much to eitheralleviate poverty or reduce earnings inequality. Mostlow wage employees are not found living in the pooresthouseholds, and among those that are, many areincome support reliant and are only working becausethe income support system enables individuals tocombine part-time hours with receipt of a governmentbenefit. The evidence also suggests that minimumwage increases are unlikely to be all that effective inprotecting the living standards of the ‘working poor’.This is because the large increases in hourly wagesexperienced by most low-wage workers do not alwaystranslate into similarly large increases in annualearnings, presumably because low-wage workers aremost at risk of both spells of unemployment and ofunderemployment (working fewer hours than desired).

This last observation leads naturally to the question ofwhether minimum wage rises do more harm thangood, by damaging the long-run employmentprospects of both the unemployed and the low-skilled.The AFPC (correctly) emphasises that effects onaggregate employment depend on both demand andsupply responses, and that given our income supportsystem, the incentive to work may not be great forsome groups at the minimum wage. In other words,higher wages may be needed to induce some people towork. Nevertheless, this seems small consolation forthose people (mostly young single people with few jobskills) who want work but are unattractive toemployers at the minimum wage.

Professor Wooden is Deputy Director ofthe Melbourne Institute of Applied Economicand Social Research, University of Melbourne,and Director of the HILDA Survey.

Figure 2: Median % change in earnings between 2001 and2004 by hourly wage decile, 2001 (adult employees)

Source: HILDA Survey, Confidentialised Data Release 4.1.(FY=financial year)

70

60

50

40

30

20

10

01 2 3 4 5 6 7 8 9 10

Hourly wage decile, 2001

% change in hourly wage % change in FY earnings


by geoff allen

In the early 1970s, Professor Neil Jacoby of thebusiness school at UCLA was searching for anadequate theory of the firm to describe behaviour ashe saw it. Two major theories had succeeded eachother in academic discussion.

One was the classical market model, which was built onassumptions of owner entrepreneurs responding tomarkets to maximise profits in the interests of ownersin a competitive environment. The other was themanagerial model, which emerged through the 1940sand 1950s on the observation of widespreadseparation of ownership and control and the perceivedpower of professional managers – free of effectivecontrol of stockholders in an environment only looselyconstrained by competition.

His proposed new model was:

... the explicit recognition that corporate behaviourresponds to political forces, public opinion, andgovernmental pressures. Whereas both classical andmanagerial theory ignored the impact of politicalforces, the social environment theory analysescorporate behaviour as a response to both marketand non-market forces because both affect the firm’scosts, revenues and profits.1

Emerging pressures and responses

Since the 1970s many factors have combined to makethese social and political pressures more significantfor corporate management. These include the growthin participative democracy, distrust of traditionalinstitutions, a more sophisticated and critical media,a growth in the role and status of interest groups, and

the privatisation of former government monopolybusinesses, requiring new forms of regulation.

The new and more challenging environment whichemerged in the 1970s led to a rise in corporate politicalactivism. Business leaders came to apply concepts andtools of corporate political management as theyevolved in a small number of US business schools, andsome consultancies.

One was issues management – a structured processfor the early identification, evaluation and strategicmanagement of social and political issues critical tothe firm.

While issues management was normally seen asdefensive and directed at managing hostile agendas,some creative business people used its concepts to settheir own agendas and manage those agendas throughto desired outcomes, including the achievement ofcompetitive advantage. An obvious example ofcompetitive use of issues analysis was Shell’s earlyfocus on lead in petrol, leading to investment inresearch that gave a substantial break over othercompanies for a useful period.

The rapid expansion of multinational companies sawparallel growth in academic publishing oninternational political risk. Much of this was in searchof methodologies to bring down to manageableelements: risk analysis; a maze of facts andjudgements concerning the stability of regulatoryand political systems; and the complex web of hiddenpolitical and social relationships surrounding hostgovernment actors.

the corporate political environment and big business response

The complex task of corporate management in the modern world

A condensed version of a public lecture sponsored by the Melbourne Business School andthe Faculty of Economics and Commerce delivered at the University on 26 July 2006.

32 The corporate political environment and big business response

Academic attention given to stakeholder theoryfocused mainly on theoretical and ideologicaldiscussion on the role of the corporation in society.However, attention shifted to the nature ofengagement with external stakeholders, and inparticular those with social or political agendas. Therehas been a tendency to move from a confrontationistorientation to initially seeking alignment betweeninfluential stakeholders’ real concerns and interests,and so remove barriers to corporate growth.

Related to this have been the findings of riskcommunication, for example that anxious and upsetcommunities will come at issues from a differentperspective than the cold arguments of businesses’economic and scientific paradigms. It has alsodemonstrated that listening respectfully to concernedstakeholders not only provides useful information,but is a pre-condition for meaningful communicationand influence.

Another pervasive and recent shift has been from‘cheque over the fence’ philanthropy to the use ofcorporate social investment for deeper strategicpurposes. This acknowledges the business case for socialinvestment and the general concept of enlightened self-interest. Using social investment to build relationshipswith business-sensitive stakeholders, including criticalNGOs and foreign governments in the developingworld, has been one useful application.

There has also been a recent burst of attention onbusiness reputation, its determinants, and attemptsto assess its non-tangible value. Such values includebeing employer of choice, neighbour of choice,investment of choice, business partner or licensee ofchoice, having enhanced access to political decisionmakers, and receiving the benefit of doubt in relationto regulatory intervention.

Most of the determinants of reputation relate to theeconomic and technical aspects of a businessincluding, for example, its products, financialmanagement and treatment of customers. However, alot also has to do with how a business is aligned withsocial and political values, and this is frequently putat risk by insensitive management.

The ecology movement has focused community andconsequent corporate attention on ‘sustainability’, aconcept subsequently broadened to include such issuesas community impacts, employment conditions and

human rights through the whole supply chain. Lastyear, 70 per cent of Australia’s major companiespublished reports on sustainability or the triplebottom line.2

Tapping socio-political opportunities

There have been a number of examples of businesscollectively responding to challenges in the social andpolitical environment by proactive adaptation of theconcepts and techniques of political activism. Theseinclude: reframing issues of ‘protection’ and ‘freetrade’ to ‘competitiveness’; centralised versusdecentralised wage fixation; enterprise industrialrelations; keeping business constituencies together;and winning stakeholder support with agenda-setting advocacy for business friendly reform.

But it is socio-political vulnerability and opportunityat the corporate level which I believe is the maingame. A glance at the Financial Review on only arandom couple of days in 2006 shows how persuasivethese issues are and how significant their impacts oncorporate performance.

The attitudes of utilities and infrastructure regulatorsemerge across a range of issues: consumer pricing andcompetitor access to company railways, entry to thehighly regulated aged and child care markets, sugarlevies for food and beverages, issues around subsidiesfor ethanol in petrol and greenhouse emissions,government to government negotiations over livecattle exports, bilateral and multilateral tradenegotiations affecting major interests, media ruleswhich have shaped the industry and locked companiesinto limited structures and technologies, oppor-tunities afforded by business regulation reform arisingfrom Council of Australian Governments,negotiations over criteria for market entry withprovincial governments in China, access to new airlineroutes, the politics of the sale of Telstra equities,liquor and gaming mandates – the list goes on.

Of course, these higher profile issues are in addition to the daily grind of negotiating market entrywith a myriad of complex political environmentsaround the world, working through regulatory riskassessment and approvals for new products or majorinvestments, dealing with local communities on trafficor noise, and so on. All the while, the world watchessuspiciously and demands ever increasing obeyance tocommunity sentiment.


The capacity to deal with these high profile issues,including managing them better than competitors,has become a key factor in competitive advantage.

Australian companies have adapted to these challengesin a variety of ways. Most of the top 100 or so invest inspecialist support. One of the best kept managementsecrets has been the emergence over the past 15 yearsof a new coterie of public affairs executives acting as‘strategist’ and ‘corporate coach’ in these areas.

A majority of executives who head this function aredirect reports to the CEO, are members of the seniorexecutive committee, and make regular presentationson issues to their company boards. Where fullymatured, the function typically has a specialist stafffor public policy and government relations, media,community relations and internal communications,and would have oversight of corporate brand andcommunity investment programs.

CEO of BHP, John Prescott, said of his public affairsteam:

In essence, they are the acknowledged authority onthe social and political environments and theireffect on our business. As such they are playing anincreasing role in planning, issues management,and the creative use of public policy to furthercompany goals.

Yet it is fundamental that dealing with social,political and industrial issues is integrated into thenormal line management role, and becomes part of acompany’s culture. Most of the expensive problems forbusiness – and lost opportunities in this area – arisefrom a lack of sophistication in line management.Accordingly, performance here is fast having tobecome a core function of general managers; and in anincreasing number of companies it is now an elementin assessment of individual performance.

Theory and practice

One challenge for management researchers andeducators is to develop coherent theories for corporatesocial and political engagement, and to congeal thisfledgling discipline into a fully formed academicdiscipline.

While frameworks are developed around issuesmanagement, stakeholder engagement, ideologicaltheories of the firm, political risk analysis, riskcommunication and so on, a lack of an integrating

grand theory should not deter us from deeperacademic analysis of these issues and integration intothe training we give business executives.

Professor Duane Windsor of Rice University arguesthere is no overarching theory here, but anintersection of a range of disciplines. These, hesuggests, might include:

– Business in societies and business ethics (includingcorporate citizenship and social responsibility,corporate social performance theory andstakeholder management);

– Communications theory;

– Ecological systems (including appreciation ofcorporate and stakeholder impacts on naturalecological systems and the issues generated bythem);

– Economics (including collective action, publicchoice theory, transaction cost theory and gametheory);

– Organisational sociology;

– Political science; and

– Strategic management (including agency theory,behavioural theory of the firm and integratedstrategic management theory).

I do not believe it is enough to cobble togetherisolated specialists in these disciplines to teach in thisfield. To be useful to business this needs to beintegrated in a holistic way and examined from themindset of management and corporate strategy.

Mr Geoff Allen is Founder of the AllenConsulting Group, Chairman of the Centrefor Corporate Public Affairs, and Chairmanof two major Commonwealth GovernmentAdvisory Councils, Company Director andDeputy Chairman, Melbourne BusinessSchool.

1 Neil H. Jacoby, 1974, ‘The Corporation as Social Activist’, in S Prakash Sethi (Ed), The Unstable Ground: Corporate Social Policy in a Dynamic Society, Wiley: New York

2 Centre for Corporate Public Affairs, 2006 Public Affairs Survey,Corporate Public Affairs Newsletter, Vol 16, No 2


stock return predictability in rational markets:

on the impossibility of informationally inefficient markets

Understanding the debate between behaviouralists and neo-classicists pays dividends for all researchers

The apparent predictability of share returns has ledmany to conclude that share prices are driven byinvestor behavioural biases. But are they? My researchshows that, even when returns are apparentlypredictable, the final price set after a sequence of tradescan fully and rationally reflect all available informationand can therefore serve as a clear signal of value.

The primary goal of this paper is to demonstrate howresearch in finance is influenced by both the minutia ofcompeting theoretical and empirical approaches andthe broad sweep of market bubbles and crashes. Thesecondary goal is to acknowledge the social element ofa research career: friendships with co-authors,admiration for past teachers, joy when a former studentpublishes their own work, and the respect one feels forall protagonists in a debate you find fascinating.

The neo-classical approach

Neo-classical finance has long referred to share marketsas ‘efficient’ without always being clear as to what theword meant. In its earliest incantation, ‘weak-formefficiency’ was described as a situation where apparentpatterns in past share prices and trading volumes couldnot be used to improve one’s prediction of futurereturns. The logic seemed compelling: if some pastpattern did imply a high future payoff, then everyonewould buy that share, bid up its price and any highreturn would have already occurred. In the 1970s, aview of markets as efficient was revolutionary andlargely confined to academia. The profession oftechnical analysts, also known as ‘chartists’, wasvigorously attacked by academics for claiming to be able to use past returns to predict the future.

Academics viewed charting as a bygone relic, no morerelevant than the 1830s political movement of thesame name.

It was an exciting time to be an undergraduatestudent of Finance. The subject lecturer coulddemonstrate his purported proof of weak-formefficiency by inviting a group of technical analysts toview what was described as a recent history of valuesand then asking them to predict what would happennext. The chartists would obligingly identify ‘head-and-shoulders’ and other patterns in the data and givetheir predictions. Only then would the lecturer revealthat the set of values was not a series of past shareprices, but had come instead from a random numbergenerator. The duped share analysts were under-whelmed by the academic’s attempt to educate themthrough humiliation. Although the students loved it,such encounters hardly encouraged donations fromthe brokerage industry to fund further academicfinance research.

The term ‘semi-strong-form efficiency’ was used tomean that all publicly announced information wasfully reflected in stock prices. ‘Strong-form efficiency’was viewed as the holy grail of capital markets – allpublic and private information impounded intoprices. In other words, shares prices would be equalto the values that would prevail if insiderinformation were instead posted on Internet bulletinboards. Since information is costly to acquire, aconundrum arises if markets are strong-formefficient. If prices do reflect all information, no-onewill want to bear the cost of producing information.

by bruce d. grundy

A condensed version of his Inaugural Lecture delivered on 3 May 2005.

36 Stock return predictability in rational markets

Everyone will prefer to free-ride on the efforts ofothers. Less information will then be produced.Perhaps everything available might be reflected inprices, but there will be little information reflected.Share prices will prove poor guides for investmentdecisions.

The Grossman-Stiglitz challenge tomarket efficiency

A rigorous view of market efficiency was publishedin the American Economic Review in 1980, by Grossmanand Stiglitz. That seminal paper’s title, ‘On theImpossibility of Informationally Efficient Markets’,inspires the contradictory title of this paper. TheGrossman-Stiglitz model demonstrates that traderswith the lowest costs of generating information willfind that their information is only partiallyimpounded into prices and that their profits fromtrading do cover their information costs. Less-efficient information producers will chose not toacquire information, but will condition their tradeson the fact that they are at an informationaldisadvantage. They still trade for liquidity andrebalancing reasons even though they lose money onaverage to the better informed.

Thus prices in a Grossman-Stiglitz setting are noisysignals of value. Some equilibrium level of noise isnecessary for the informed traders to hide behind. Formost economists, the elegant Grossman-Stiglitzmodel has established that markets cannot be strong-form efficient. Joseph Stiglitz has since gone on towin the Nobel Prize in Economics and publish manyimportant public policy studies based on hisunderstanding of the flaws in markets. SandyGrossman has left academia for the millions he nowmakes as a currency trader.

The empirical challenge to marketefficiency

For some, the nail in the coffin of efficient marketswas sunk on Black Monday, October 19, 1987 when$500 billion dollars was wiped off the Dow. Howcould so much wealth simply evaporate overnight ifprices had been set efficiently on the prior Friday?And even the faith of stubborn believers happy todescribe the ‘87 crash as just one data point, beganto falter with the 1993 Journal of Finance publication

of an empirical study by Jeegadesh and Titman.This study demonstrated that a simple long-shortstrategy of buying shares with prior-year winningperformance in the top 10 per cent of all firms andselling the prior losers with realised prior-yearreturns in the bottom 10 per cent was shown toproduce subsequent six-month profits of around sixcents per one dollar, long and short. Such profits areboth statistically and economically significant. A strategy of buying past winners and selling pastlosers is known as a ‘momentum strategy’. A myriadof academic studies into other long-short strategieshave helped underpin the boom in the hedge fundindustry.

The behavioural challenge to marketefficiency

As the empirical evidence against market efficiencymounted, the field of behavioural finance blossomedand focused directly on individual behaviour as thesource of the noise in share prices. Pioneering researchwas bought together in a 1993 volume edited by thefield’s founder, Richard Thaler. Behaviouralists viewthe battle between their ideas and neoclassicalbelievers in market efficiency as a paradigm shift of the type identified in Kuhn’s classic text, TheStructure of Scientific Revolutions. Kuhn has argued thatscientific advances are not incremental, but insteadinvolve heated scientific revolutions in which oneparadigm supplants another before the professionsettles back down to incremental ‘normal science’.

And yet some still believe

Some financial economists (often Chicago-trained)remain more enamoured with the beauty ofunimpeded capital markets than is fashionable amongbehaviouralists. As an admirer of markets, I do not seeefficiency and costly information as inconsistent. Ibelieve capital markets can in fact solve the twinproblems of providing a reward to those who generateinformation and a guide to those who must makeinvestment decisions. After doctoral studies atChicago, I took my first academic position atStanford’s Graduate School of Business. Most of mynew colleagues were heavily influenced by theirreading of Grossman-Stiglitz and considered efficientmarkets as a passé 1970s view of the world.


In co-teaching a course with an accounting academic,Maureen McNichols, we discovered a joint interest injust how accounting information came to be reflectedin prices. We took Grossman-Stiglitz as given – inother words, we recognised that all informationcannot be revealed through just one round of trade.Yet, we found it interesting to ask what happens ifthe market re-opens after an initial trading round.

A re-evaluation of the Grossman-Stiglitz contribution

One apparent answer is that nothing happens: thequoted price will be unchanged from the prior priceand no further trade will occur. This possibility isincorrectly believed by many economists to be a simplereflection of the Milgrom-Stokey ‘no-trade theorem’published in the Journal of Economic Theory in 1982.

The no-trade theorem states that no trade can occurwhen traders agree on how information should beinterpreted and start from an initial pareto optimumallocation given their information.

Grundy and McNichols showed that how differenttraders interpret a given piece of information andwhether an allocation is pareto optimal given theirinformation are endogenous properties of anequilibrium and not something to be assumed. Theyalso demonstrated that further trade can occur at newprices when the market re-opens. And when this doeshappen, the sequence of prices is fully revealing – thefinal price is equal to the value that would prevail ifany insider information had been posted on Internetbulletin boards. At the end of the first round of trade,traders need not agree on how to interpret theinformation in the first round’s price and need not

38 China in International Imbalances

have traded to a pareto optimum. Our work,published in 1989 in the Review of Financial Studies,demonstrated that the widely-cited no-trade theoremis itself vacuous and should in fact be expressed as: ‘Inan equilibrium in which there is no trade, there willbe no trade.’ Grundy and McNichols established thatproducers of costly information can earn their rewardsin the early, noisy rounds of trade, while corporations’investment committees can rely on the final set ofshare prices as accurate guides for investmentpurposes. When interpreting the final prices, alltraders will be cognisant of the entire price historyand all rational traders are in fact chartists (thoughthe reverse need not be true).

A re-evaluation of the empiricalevidence

Grundy and McNichols went on to show that rareevents like the crash of ‘87 can be the rationalreflection of existing information not previouslyreflected in prices. It is interesting to note that the1988 Securities and Exchange Commission Reportinto the ‘87 crash pinned the blame squarely on theportfolio insurance industry. Portfolio insurance was athen-novel product that had not yet established itsown lobby group in Washington. The actual evidenceunderlying the Report’s conclusion is as convincingas that underlying the conclusion in the earlier 1963


New York Stock Exchange Report into the crash ofMay 1962. That earlier crash wiped 27 per cent offthe Dow and was supposedly due to the fact that thepace of selling by women far out-stripped theirpurchases! By 1987 women were no longer powerlessand portfolio insurers were to be burnt in their place.

What about the apparent profitability of momentumstrategies? Momentum strategies that pick stocksbased on their past returns do on average make money.

If share prices appropriately reflect past prices, pricesare at least weak-form efficient, the average profit toa momentum strategy must be an appropriatereward for the risk inherent in the strategy. In jointwork with Spencer Martin, a former doctoral studentI had supervised after moving to the WhartonSchool, I documented that a momentum strategy isrisky and makes losses 40 per cent of the time. Still,in our 2001 Review of Financial Studies publication,we concluded that the strategy’s average profit is toolarge to be explained by current state-of-the-art riskmeasures. As true neo-classicists, we concluded thatthe fault lies in the finance profession’s presentinability to accurately define and measure risk,rather than in a failure of markets to accuratelyreflect past returns.

Since joining the Department of Finance at theUniversity of Melbourne, I have continued myresearch into how future returns are related to pastreturns. In joint work with Wei Li and Joe Zhang,researchers at Louisiana State University andSingapore Management University respectively, Ihave established that when new information signalsboth higher profits in this period and an additiveincrement to next period’s profits, the shares ofcompanies with higher realised returns in thisperiod will be less risky in the future. These shareswill be expected to earn lower returns in the futurecommensurate with their reduced risk. Stockreturns should then display contrarian rather thanmomentum behaviour. But if good news in thisperiod presages a multiplicative rather than additive effect on future profits, returns are likely to display momentum behaviour. Our ongoing work empirically investigates the importance ofdistinguishing between additive and multiplicativeuncertainty.

Research puzzles continue tofascinate

The debate between behavioural and neoclassicalfinance is misdirected. Just how individuals makeinvestment decisions is important and must affectquantities. For example, an individual’s often biasedpredictions will affect whether he or she buys life-insurance. But an individual’s biases need not affectthe price they will be asked to pay for that insurance.The real promise of behavioural finance lies not inunderstanding stock prices, but in understandinghow best to market financial products to those whomust finance their own retirement. The real promiseof neo-classical finance is the pleasure inherent in aperpetuity of fascinating research puzzles. With theaid of our colleagues we can solve these puzzles and,in doing so, improve the standard of living for allfuture retirees.

Professor Grundy is Professor of Finance inthe Department of Finance at the Universityof Melbourne.


passive profits from accounting indicators

Can superior long-term share market returns be earned from basic accounting indicators?

by john d. lyon

The research indicates that the answer to the questionposed is ‘yes’. Over the past thirty years, research inaccounting and finance has generated many caseswhere above-average returns appear to be earned bytaking investment positions based on simpleaccounting measures. Examples of these measuresabound, but they can simply be the proportionalincrease in year-to-date earnings or a measure of afirm’s level of accruals in a given year.

It is still not clear why this is possible. The currentthinking, however, is that persistent above-averagereturns can be earned by passive investment in sharemarket positions that utilise accounting measures.The interesting point is that this thinking hasstepped beyond the realm of academic discussion, andwe now see a growing number of US accountingresearchers enjoying significant windfalls asemployees of hedge funds designed to exploit theseresearch findings.

Many of these findings have their root in the financeliterature. Progressively, over the last 20 years, it hasbeen documented that, for example, ‘small’ firmsoutperform ‘large’ firms, that stocks with ‘high’book-to-market ratios outperform stocks with ‘low’book-to-market ratios, or that stocks with a ‘high’

historical price momentum outperform stocks with a‘low’ price momentum, to name a few. (The word‘momentum’ refers to the use of past prices to predictfuture prices.) These findings are often classified as‘stock market anomalies’. They are seen to beanomalies since taking a long position in, forexample, ‘small’ stocks and selling short ‘large’stocks, yields consistent positive returns to this zero-investment position.1 Many hedge funds have nowcapitalised on permutations of these findings.

The accounting research literature has also identifieda number of so-called anomalies. The most famous are those based on a firm’s ‘earnings momentum’(using past earnings to predict future earnings) or itslevel of ‘accruals’ in a given accounting period. Thefirst demonstrates that long investment positionstaken in stocks whose earnings substantially beatearnings from the same quarter last year while sellingshort those that are the worst losers relative to lastyear will earn positive zero-investment returns overthe ensuing twelve months. Similarly, long positionsin firms who have a ‘small’ accruals component totheir earnings while shorting firms with a ‘large’accruals component earn positive zero-investmentreturns over the following twelve months.

1 To explain this concept in lay person’s language by an example. Suppose that you expect stock A to go up in price and B to go down. Actingon this expectation, you decide to buy A (called the long position) laying out $10,000 and, at the same time, buy B for the same amount ofmoney by borrowing that sum on a promise to pay the amount in, say, twelve months time (the short position). These transactions would haveeffectively put you today in a zero-investment position. Suppose further that in three months time, the long position has risen by 10 per centand the short position has fallen by 10 per cent. You could sell A for $11,000 and repay the loan from the sale of B, thus making a profit of$2,000 without effectively investing any money! This is the basis of hedge investing.

A condensed version of his Inaugural Lecture delivered on 30 August 2006.

42 Passive profits from accounting indicators

There are two schools of thought that try to explainjust what is occurring here. The first takes the viewthat our understanding of risk in the stock market issimply under-developed. That is, each of theseinvestment strategies really just uncovers an elementof risk for which we have no formal model at this stageof our knowledge. For example, ‘small’ firms are just‘more risky’ than ‘large’ firms, even though our formalmodel of risk encapsulated by the capital asset pricingmodel does not recognise this. However, just whatthis element of ‘risk’ is, has eluded researchers to date.

The second school of thought has to do withindividual decision-making biases in the stockmarket. Proponents of this school argue that stockmarkets are slow to recognise the full impact ofinformation events simply because the nature of theinformation is not instantly transparent to all stockmarket participants. For example, the accrualsanomaly occurs because stock market participantsfocus on the profit figure instead of analysing the truefuture cash flow impact of earnings. Because

accountants report on dry, statistical informationabout the underlying operations of a firm, it takessome time for the stock market to fully appreciate thefuture performance of the firm. And so the stockmarket ‘under-reacts’ to accounting information.

How these points of view will be resolved is not clear.However, what is clear is that there is considerablecapital currently flowing into hedge funds in the USdesigned to exploit these apparent excess returns.Unfortunately for academia, it has also meant anexodus of personnel to the private sector to captureexcess returns to the detriment of academicknowledge.

Professor Lyon is Fitzgerald Professor ofAccounting in the Department ofAccounting and Business InformationSystems at the University of Melbourne.


by tom elliott

An edited excerpt of his Occasional Address delivered at the graduation on 15 December 2006.

occasional addresses by alumni at university of melbourne graduations

Seventeen years ago, philosopher and historianFrancis Fukuyama wrote an essay entitled The End ofHistory, in which he argued the end of the cold warand the subsequent collapse of the Soviet Unionmeant that the triumph of free markets and liberaldemocracy was complete.

Yet today, it is painfully obvious that Fukuyama’sprediction is yet to come true, and may yet be provedfalse.

Unfortunately, many of the qualities that universitygraduates should hold dear – such as freedom ofexpression, the right to challenge established beliefsand orthodoxies, and the triumph of reason oversuperstition – are under threat by such forces as therise in religious extremism and the watering down ofindividual liberties by many governments in responseto perceived security concerns.

Yet, the outlook is not all bad.

Now, this may come as something of a surprise tograduates who have slaved away at the truly dismaldoctrine of econometrics, but economics in its purestsense is not fundamentally a mathematical science,but a social one that attempts to comprehend howindividuals and groups interact with each other tomaximise welfare.

At its best, sound economics is capable of advancingthe worthwhile goal of human freedom, and I wouldargue that we are at one of those times in historywhen this is extremely important.

Three important factors should make us alloptimistic about the future.

First, the rise of modern communicationstechnologies like email and the World Wide Webmean that, for the first time ever, a majority of theworld’s population has relatively free access to ideasand concepts. In many cases, with this access, peoplerealise that a better life is possible.

Second, while they will be with us for some time, theforces of economic protectionism appear to be inretreat around the globe. Even the new leader of theFederal Labor Party, Kevin Rudd, appears to haveadmitted that socialism and its bedfellowprotectionism might not be the welfare enhancingpolicies they once appeared.

The reduction of economic protectionism, especiallyin agricultural markets, is important because it givespoorer people in developing countries a chance to liftthemselves out of poverty – not by being passiverecipients of Western aid, but by more dignifiedparticipation in the global economy.

a ‘battle of ideas’ is taking place around the globe

graduates of the university of melbourne can assist in its resolution

44 Battle of ideas

The final factor that gives me great hope, however, ismuch closer to home. When I attended MelbourneUniversity in the mid to late 80’s, Australianstudents were very parochial and unlikely to leavetheir own state, let alone their own country to studyat a tertiary level. Indeed, the presence of studentsfrom Tasmania was still considered quite exotic just ageneration ago!

Yet, I understand that the proportion of people whonow attend this University from interstate and,increasingly, from overseas, has risen dramatically.This can only further the cause of goodwill betweendifferent people, cultures and countries.

So what advice can I give to those graduating today?

First, you should feel justifiably proud of what youhave achieved in your academic careers here in theFaculty of Economics and Commerce at MelbourneUniversity. This is clearly the best university inAustralia, and amongst the best in the world.

Second, do not ever assume in life that other people,often referred to as the mysterious ‘they’ in markets,know more than you. There’s no reason why you cannotbe the best at whatever it is you now choose to do.

Third, stay in touch with the friends and colleaguesyou’ve made during your time at university, for youhave a shared experience here that will appearincreasingly valuable as time passes.

And finally, remember this. Right now, you probablyhave more information stuffed in your heads than youever will again. Sadly, much of this will dissipate overtime. But what will never leave you is that which ismost valuable about your university education, andthat is the ability to think, to solve problems in arational and disciplined manner. Maintain thisability, and there’s nothing you can’t achieve.

Tom Elliott is the Managing Director ofMM&E Capital and a University of Melbournealumnus who graduated in 1989.


The degree being conferred on you today is one of themost valuable tickets available for the journey ofprofessional life. Right now, this professional life is ablank canvas of opportunity with a few titles addedtoday to the frame. I ask each of you: how will youpaint your picture?

Twenty-five years ago this December, I completed myCommerce degree. Along the way to being given thishonour to share in your graduation ceremony, I havefound some brush strokes and techniques that havehelped paint my life picture.

I must confess, however, that when it was announcedon Thursday that the Company I run, Allco EquityPartners would potentially become the largestshareholder in Qantas, I felt like a 44 Gallon drum ofpaint had suddenly been used!

But to some more intricate techniques you may finduseful.

Be guided by your values

First, I encourage you to organise your life aroundvalues rather than feelings. Let me explain thisinternal ordering system. If you organise your actionsin response to a feeling, there is danger in respondingto those feelings too often. For example, the feeling ofhunger motivates you to eat, yet you may becomeoverweight and suffer poor health. If, however, youorder your life around values and one of these is goodhealth, then by acting on this value – even thoughyou might feel hungry – you will less likely beoverweight.

This simple paradigm of deciding how to order one’slife plays out in so many ways, particularly where our society is experiencing so much change.

Managing change is not a value. In facing change,fear or excitement are feelings. Will you let thatfeeling determine your action when you next confrontchange or uncertainty? By holding core values anddetermining your actions from those values, you willsee more clearly the signposts to deal with change.

Learn to overcome failure

Second, learn what it really means to take risk – andwhat I’m about to say may challenge some of you.

Today’s graduates are some of the most intellectuallygifted people in our community. You excelled atschool and received an extraordinary TER. Youworked your guts out to achieve your degree (party’saside). You have spent your life learning how tocapture the rewards of a known system – the system ofeducation and the methods through which it rewards.

Your next step may well be to join another institutionwith a known rewards system – a research institute,an investment bank, or a consulting firm. And youwill have a very fulfilling and exciting career. And itis very easy to feel comforted by the boundaries ofthat professional system partly because it feels likethe education system, in which you have becomecomfortable and achieved so spectacularly. But it isnot the same. And herein lies the rub.

I expect many of you have not yet experienced failure.Experiencing failure is to have committed to put yourheart and soul into an activity that you really believedwould do well; to have then shared your dream withfriends and family; and to have benefited from theencouragement and support for that activity frompeople whose opinion you respect. You may have evenboasted about how well your dream was unfolding.And then, wham, it fails.

by peter yates

An edited excerpt of his Occasional Address delivered at the graduation on 16 December 2006.

on painting one’s life picture

46 On painting one’s life picture

This failure is not like others you have experienced –it is not a failure handed to you by an educationsystem because you did not meet the requirements forthe next reward level. You have failed in your ownactivity; your dream has been rejected. You havefailed because of you, not any external system.

To experience failure is one of the most critical ritesof passage, leading to the most important skill in life:getting over failure. Science graduates are probablymore experienced in failure than most commercegraduates, because by definition the evidentiaryprocess, which is attached to the process of discovery,requires you to learn to manage failure.

Learning to experience failure has two particularbenefits. First, it encourages you to take risks.Australia and all the countries from which ourinternational graduates are drawn require that weexpand the pool of business people who are preparedto take a risk.

Second, we need people who are prepared to acceptfailure, as the necessary escape valve for a systemthat has gone wrong. The comfortable shift from thesystem of education and its rewards into a businesssystem is a cloak that can occasionally mask adysfunctional organisation. A common theme foundin some of our most spectacular business disasterswas built around the exploitation of the human fearof failure. It is not uncommon for an investmentbank to cajole its employees into giving up asensible work-life balance by using the line, ‘Well,if we don’t promote you it will be seen as a failurefor you, as it will mean you were not good enoughfor our organisation.’ At Enron, the fear of not beingseen as ‘successful’ within the company or the fear oflosing out on the financial privileges of their bonussystem drove undesired behaviours, which blew upthe company.

The sooner you experience ‘getting over failure’, thebetter. It will give you the freedom to make widerchoices and the ability to conduct yourself properlyunder challenging circumstances.

Many of you know that three weeks after I became theCEO of Publishing Broadcasting Limited (PBL),One.Tel, the telephone company partly owned byPBL, was put into administration. James Packer wasconfronted with a failure. Because of his position, themedia blew the One.Tel issue out of all proportion.

It took James almost two years to get over theexperience of failure – that he recovered in such ashort time, despite the pressure put on him by theAustralian media, is a tribute to his strength ofcharacter. He has now gone on to achieve even greaterthings for PBL.

Ironically, the higher up you are on the totem pole,the harder it becomes to experience your first realfailure. Successful people spend their life avoidingfailure. Accordingly it often comes too late and theyare too senior to cope.

Learn to communicate well

The third brushstroke I recommend you use inpainting your life’s picture is communication. This,of course requires you to both listen and speak. Ihighly recommend equal parts.

The ability to communicate well is probably thedetermining factor for success between two similarlyqualified people. Because if you cannot communicatewell, how can you deploy human capital?

Human capital does not respond to a computerprogram or a baseball bat. It listens, interprets, seeksclarification and then moves. The better youcommunicate, the greater the prospect of efficientdeployment of human capital. We all know a personwho makes almost no sense when they communicate.

I had the privilege of undertaking my masters atStanford University, where the art of communicationis a one-semester course involving weekly sessions ofsharing how you feel about another class member’scommunication skills. It involves the study of what isknown as expanding Chori’s Window. The ChoriWindow is the gap between what a person thinksthey are communicating and what the rest of theworld thinks they are hearing. Like right now. I amthinking about this speech and seeking tocommunicate some congratulations as well as sharesome life experiences. You are the rest of the worldand only after this degree ceremony when I check inwith one or two of you will I know whether you heardwhat I thought I said. The course is designed to openone’s own communication window.

Another approach to opening this window is what Icall the Kerry Packer approach. One evening notlong after I joined PBL, Kerry asked me about myStanford experience and what I had learned most.


I described Chori’s Window to him and drew theHarvard two-by-two box to explain the theory inmore detail. When I had finished he said, ‘Well, son,that’s interesting, but tell me what it cost to do yourmasters at Stanford?’

I replied, ‘About $150,000.’

He then asked me how many employees I hadworking at PBL. Including the part-time croupiers atcrown, we had about 11,000. His response: ‘Well,son, I can’t afford the $1.6 billion to send them all toStanford, so you’re just going to have learn to dosomething really well. Just learn to listen!’

The art of communicating in business is essential fordeploying capital. It is even more important in thefield of science. Many people in our community areconcerned that science is not well communicated,particularly that we have limited exposure to theinformation we need to assist us make decisions onimportant issues of science. Issues such as stem cellresearch and climate change involve non-scientistsmaking decisions about either scientific processes orpublic policy decisions based on scientific researchthey do not understand.

Science is more difficult to communicate because asan information genre it has some peculiar features.Unlike politics or sport, which are two otherinformation genres, scientific stories do not have abeginning or an end. Among scientists, the debate isnot about the outcome, but rather the evidentiaryprocess. This makes for challenging newspaper copy.Additionally, the field is often so specialised that,unlike a media debate on a football match where theinformation ‘exchange’ can fill up a Sunday Age Sportsection and therefore create knowledge, in sciencethere are often so few people who can debate the topicthat there is no actual information ‘exchange’. As aresult, whilst facts have been exchanged, knowledgeis not created. The Australian Science Media Centre,which I chair, was set up one year ago by theAustralian media and science industries in responseto the adverse impact this lack of science in media ishaving on our community. I encourage the sciencegraduates to take it upon themselves to develop theircommunication skills, speak openly and pleasecongratulate those scientists who are prepared to bequoted in the press.

Seek out those smarter than you

And finally, may I share with you one more techniquefor your life’s painting. When I am among a group ofpeople working toward a goal or a decision, I alwaysask myself, ‘Am I the smartest person in this room?’Because if the answer is yes, then I get out. For Ibelieve that either I must be kidding myself and havecompletely lost the plot or else everyone is relying onme. I know that is not a wise thing to do.

As you go out into the world and paint on your life’scanvas, framed with the degree you are beingconferred today, I encourage you to order you lifestarting with values rather than feelings. Look intoyourself to realise the golden opportunity you areseeking resides within. It is not in any system – feelliberated to take risk and do it soon. Encourage theart of communication because it is essential for thedeployment of human capital and the disseminationof scientific knowledge in our community.

As you make the most of your own life, acquiringfurther knowledge and wisdom, you will have agreater opportunity to help those that follow you. Ican also say without hesitation that effort spentconstructively and sensitively helping people lessfortunate than yourselves will bring you greatpersonal rewards.

When I completed my degree twenty-five years ago,I graduated in absentia. It is a great honour to be ableto share in your graduation today. As you go forward,I hope you will share your life’s painting with me.

Peter Yates is the Managing Director,Allco Equity Partners Limited and analumnus who graduated in 1983.

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DisclaimerInsights is published by the University of Melbourne for the Faculty of Economics and Commerce. Opinions published are notnecessarily those of the publisher, printers or editors. The University of Melbourne does not accept responsibility for the accuracyof information contained in this journal. No part of this journal may be reproduced without the permission of the editors.

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Published by the Faculty of Economics and Commerce, April 2007© The University of Melbourne

insights volume 1 april 2007

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