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Cut red tape to boost small business growth

Analysis

South Australians have little to lose and many good jobs to gain from a program of business deregulation focussed on small businesses, writes Richard Blandy.

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One of the more feasible options for revitalising the South Australian economy is deregulation.

The reason this option is more feasible is that it does not involve more government spending by a government that is financially struggling. We know that the South Australian Government is financially struggling because it is selling (our) assets to balance the books (in a cash sense only), while its net debt is projected to rise (once the new Royal Adelaide Hospital comes on to its books) to more than $6.5 billion – a record.

If this is supposed to be providing Keynesian-style stimulus, it is not working.

Keynesian pump priming by running government deficits does not work in small open economies. The leakages interstate and overseas are too large, particularly as we have a fixed exchange rate with the rest of Australia and are too small to affect the Australian exchange rate much.

The Keynesian multiplier could even be negative if expectations of future tax rises in South Australia become stronger as a result of the Government’s deficits.

This is why it makes no sense for local governments to run deficits to try to stimulate their tiny local economies.

The only thing that works to stimulate a small, open economy like South Australia’s is stimulating investment in the private sector, by cutting its costs and deregulating its working environment. Only when private business investment picks up and stays up will we know that the economic battle in South Australia has been won.

One major difference between the economic performance of continental European countries and other OECD economies, especially the United States, is that the heavy regulation of Europe has reduced its growth. Work published by the National Bureau of Economic Research in the United States (Alesina, Ardagna, Nicoletti and Schiantarelli, Regulation and Investment, NBER Working Paper 9560, March 2003) provides substantial and robust evidence that various measures of regulation in the product market – raising entry costs of new firms, in particular – are negatively related to investment.

Regulatory reforms, especially those that liberalise entry, are very likely to spur investment. Tight regulation restricts investment and kills small, open economies.

This theme has been extensively explored by the Australian Treasury looking at Australian data, including in Justin Douglas’s Deregulation in Australia (Economic Roundup Issue 2, 2014, pages 53-78). This study finds that the direct compliance cost impact of regulation across the Australian economy could be equivalent to more than 5 per cent of GDP each year.

The deregulation of the Australian economy in the 1980s and 1990s was very successful in raising Australian living standards. Australia’s GDP per capita had fallen from fifth highest in the world in 1950 to ninth highest in 1973 and fifteenth highest in 1990. By 2001, following the deregulation of the 1980s and 1990s, Australia’s GDP per capita had recovered to seventh highest (Douglas, page 56).

Despite this success, the amount of regulation and the rate of regulatory change have continued to grow in recent decades, probably because of changing societal expectations. British Prime Minister Tony Blair said in 2005 to the Institute for Public Policy Research in London (Douglas, page 58): “In my view, we are in danger of having a wholly disproportionate attitude to the risks we should expect to run as a normal part of life. This is putting pressure on policymaking, not just in government but in regulatory bodies … to act to eliminate risk in a way that is out of all proportion to the potential damage.”

A few pages later in Deregulation in Australia, Douglas writes: “Between 1901 and 1970, the amount of national legislation passed each year in Australia rose slowly from an average of about 130 pages per year … to an average of around 750 pages per year … So far during the 2010s, there have been more than 6500 pages of legislation passed, on average, each year.”

Further, he adds: “The economy-wide benefits of deregulation are potentially much greater than simply the savings from reducing compliance costs.” Douglas quotes Productivity Commission chairman Gary Banks, who told the Conference of Economists in Canberra in 2003: “Regulations not only create paperwork, they can distort decisions about inputs, stifle entrepreneurship and innovation, divert managers from their core business, prolong decision-making and reduce flexibility.”

Efforts to reduce costs associated with existing regulations are also unlikely to be effective in reducing the overall regulatory burden unless the flow of new regulation is also stemmed.

What needs to happen in South Australia is excluding small businesses (with fewer than 10 employees, say) from the application of all state business regulations, old and new, while halting completely the flow of new regulations affecting businesses. This would lower entry costs for new and expanding businesses setting up in South Australia, and stimulate business investment, the rate of growth of the state economy and full-time jobs in South Australia.

Various studies have confirmed that small businesses face proportionately larger compliance costs than mid-size businesses. This implies that it is more likely the costs of regulation applied to a small business will outweigh the social benefits of the regulation than is the case for larger businesses. This is even more likely if small businesses represent a proportionately smaller risk in relation to the harm that regulation is seeking to minimise (Douglas, page 71).

The Australian Treasury’s own analysis implies that significant deregulatory savings may be possible from “tiering” regulations to better reflect both the relative costs of compliance and the risks posed by small businesses. Further, the learning provided by the deregulated environment for small business provides evidence as to which of the regulations should be lifted for all businesses.

My proposed program of business deregulation focussing on small businesses will be opposed by interests that benefit from having a slowly-growing economy, where businesses survive partly as a result of a close relationship with (and subsidies and other kinds of preferential treatment of one sort or another from) the State Government.

Small businesses, and start-ups especially, are the primary agents of economic growth and increased employment through their innovative activity, because they are not exact replicas of existing businesses. Even in manufacturing, in the United States, most start-ups employ fewer than eight people. The start-ups that have viable differences from existing firms will prosper, while those that don’t will fail.

The community as a whole should not be misled by the propaganda coming from bodies with vested interests in the status quo, including those parts of the public service whose work involves applying business regulations.

South Australians have little to lose and many good jobs to gain from a program of business deregulation focussed on small businesses. Faster economic growth, more and better jobs, and rising incomes with less-regulated social and environmental outcomes is a better result than falling real incomes and high unemployment in an over-regulated state in decline.

Richard Blandy is an Adjunct Professor of Economics in the Business School at the University of South Australia and a weekly contributor to InDaily.

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