Superannuation and the Allocative Efficiency of Capital Supply

JAMES A GIESECKE, PETER B DIXON AND MAUREEN T RIMMER, CENTRE OF POLICY STUDIES, VICTORIA UNIVERSITY

30 August 2015

We explore the consequences for the allocative efficiency of capital supply of a one percentage point increase in the proportion of the national wage bill directed to the superannuation sector. We find that this generates a positive allocative efficiency effect, because it promotes the relative expansion of sectors with above-average rates of return on capital and dampens the relative expansion of sectors with below-average rates of return on capital.

This paper expands on our previous paper, which used a new type of computable general equilibrium (CGE) model to explore the macroeconomic effects of the superannuation sector in Australia. Here, we examine the effects of superannuation expansion on the allocative efficiency of capital supply. As before, we decompose the effects of this into two parts:

  • the intermediation effect, representing the effects of a rise in the proportion of a given level of national savings that is intermediated by the superannuation sector rather than allocated across financial instruments by the household sector directly
  • the savings effect, representing the idea that a rise in the superannuation contribution rate might raise the national savings rate through its effect on the savings rates of those households who would have saved less if not for the influence of compulsory superannuation.

Our analysis recognises that units of investment undertaken in sectors where rental rates on physical capital are high relative to the construction cost of capital (i.e. where the rental-weighted sector-specific capital stock exceeds the asset-weighted sector-specific capital stock) will generate contributions to effective capital supply (and thus real GDP) in excess of that given by the value of the investment alone. We show that a sector can make a positive contribution to the gap between deviations in the rental-weighted and asset-weighted aggregate capital stock measures if:

  • a)the sector has an above-average rate of return and the sector’s capital stock has grown faster than the national average
  • b)the sector has a below-average rate of return and the sector’s capital stock has grown slower than the national average.

Our analysis highlights four sectors as making important positive contributions to the allocative efficiency effect. We summarise our findings below:

  • The dwellings sector experiences a below-average capital stock growth rate, but it also has a below-average rate of return on physical capital (it is thus in category (b) above). Relative to previous work by Giesecke et al.,  a large part of the explanation for the comparatively smaller expansion of the dwellings sector is the negative deviation in private consumption spending (because dwellings services are sold to households for private consumption purposes);
  • The mining, construction, and professional and technical services sectors make relatively large positive contributions to the gap between rental-weighted and asset-weighted capital stock deviations. For these sectors, their positive contributions to the allocative efficiency gain lie in the fact that they experience above-average capital deviations, while also having above-average rates of return. The above-average output rankings for these sectors can be traced to real exchange rate depreciation (for mining) and the expansion in physical capital formation (for construction and professional and technical services).

Conclusion

In this paper, we explore the consequences for the allocative efficiency of capital supply arising from a one percentage point increase in the proportion of the national wage bill directed to the superannuation sector. We find that this generates a positive allocative efficiency effect, because it promotes the relative expansion of sectors with above-average rates of return on capital (particularly mining, construction, and professional and technical services) and dampens the relative expansion of sectors with below-average rates of return on capital (particularly dwellings).

By the last year of the simulation period, this effect explains just under one-third of the deviation in the (rental weighted) capital stock, with the remaining two-thirds explained by the expansion in fixed capital formation generated by the reduction in the weighted average cost of financial capital caused by the expansion in superannuation contributions. In the simulation’s final year, the (rental weighted) capital deviation is approximately 0.42 per cent. This explains the bulk of the real GDP deviation in that year. Hence, the positive deviation in the allocative efficiency of capital supply explains just under one-third of the deviation in real GDP in the simulation’s final year, with the remaining two-thirds being explained by the reduction in the weighted average cost of financial capital.

The financial CGE model underlying the simulations reported in this paper continues to develop, and we expect the model to generate further new insights into the allocative efficiency effects of the superannuation sector. Two future developments are likely to be particularly relevant in this regard. First, we plan to link the activities of the real-side financial sectors to their intermediation activities in the model’s financial theory. Second, in future work, we plan to model the effects of a speculative bubble in real estate.

This paper indicates that dampening the relative growth rate of the dwellings sector opens a positive gap between the deviations in rental-weighted and asset-weighted capital stocks. With modelling of a real estate bubble in place, an interesting avenue for future application of the model will be to explore the effect of the superannuation sector in dampening (or augmenting) capital supply to the dwellings sector under alternative real estate asset price growth scenarios.