Rent-Seeking, Rent-Extraction and the Role of Trade Unions in Australian Society

Ray Evans*

Dedication This paper is dedicated to the memory of Ross Parish, (1928-2001), who was an enthusiastic member and benefactor of the HR Nicholls Society from its inception; who served on its Board for many years; and who contributed much to the social and economic analysis of the problems which beset Australians as a consequence of the Higgins legacy.

Introduction

The Royal Commission into the Building and Construction Industry has drawn attention to trade union involvement in '...significant corrupt and quasi-corrupt conduct and widespread coercive and collusive practices' in the industry.[2] This raises two questions, both of which are outside the purview of the Royal Commission but which are, nevertheless, of great public interest. The first is whether the condition of the construction industry and the role of trade unions within that industry is a special case within the Australian economy; or is it merely a more visible manifestation of union and employer behaviour which occurs, but more discreetly, in other industries? The second is the extent to which the scandalous behaviour characteristic of the industry is a consequence, direct or indirect, of de jure and de facto privileges granted to trade unions over many decades, by governments, arbitral tribunals and courts, either under policies devised deliberately for political reasons, or through passive acceptance of what would be normally seen as illegal behaviour.

Some important insights into these questions can be gained from a relatively recent and important chapter in the history of economic thought known as the theory of 'rent-seeking'. This term was invented by Anne O Krueger,[3] in a landmark paper entitled 'The Political Economy of the Rent-Seeking Society' published in 1974 in the American Economic Review. Because rent-seeking theory explains a range of corrupt or otherwise objectionable behaviour commonly observed in the interface between markets, governments and statutory laws and regulations throughout the world, Krueger's paper has been widely and frequently cited in the literature of economics, and the term 'rent-seeking' has permeated into the general discourse of public debate. Costs associated with rent-seeking have been shown to be especially damaging to economic growth and living standards in developing countries. In what follows we sketch a model of rent-seeking which provides insights into the objectionable practices in the building and construction industry identified by Royal Commissioner Terence Cole QC (these practices are listed in the Appendix). Not only can this model can be used to benchmark other industries, particularly industries which are known to have suffered from trade union violence, but it also indicates pathways to effective reform.

Legal Privilege and Incentives for Rent-seeking

The basic thesis of the theory of rent-seeking is that people, acting individually or as interest groups, seek to manipulate political and legal processes with the objective of creating a legal and institutional environment which enables them to extract transfers of wealth, outside the normal processes of voluntary market exchange, from other people in society. In essence, rent-seeking groups seek to acquire, through statutory and/or legal privileges, the power to restrict the quantities supplied of particular goods or services, thereby acquiring for themselves the monopolistic power to set prices for those goods or services above those that would prevail in openly competitive or contestable markets. The resultant wealth transfer is known as an 'economic rent' because it derives from an asset with especially valuable characteristics which, in this case, is the exclusive, politically or statutorily based power to set prices significantly above corresponding competitive market prices. Economic rents are conceptually completely distinct from commercial rents, the latter being money paid for leasing property such as a house, an office, or a shop, which are part and parcel of everyday commercial life. In addition to the perverse effects of such wealth transfers on income distribution, rent-seeking also damages living standards by distorting consumer prices, and therefore the value people derive from the goods and services they consume.

The prospect of success in manipulating political and bureaucratic processes to gain access to rents, creates incentives for rent-seekers to spend time, energy and money to persuade governments to introduce the legal and regulatory restrictions which give them effective monopoly power, and to then ensure that they are maintained and, where possible, extended, over time. Because resources devoted to creating and maintaining these government-supported restrictions on competition produce nothing of value to society Columbia University's Jagdish Bhagwati, another major contributor to the rent-seeking literature, has coined the term 'directly unproductive profit-seeking activities' (DUP activities) to describe the rent-seeking process. The implication, of course, is that rent-seeking is detrimental to productivity and living standards generally in a society. Because of its scale and pervasiveness, development economists consider rent-seeking to be a major impediment to economic growth in many developing countries.

Protectionist policies provide the archetypal example of rent-seeking and economic rents created through the political process. Producers of particular traded goods in a country can effectively create and extract rents by persuading the government to restrict imports through tariffs, quotas and other less transparent barriers to trade. These restrictions allow them to set prices for domestically produced goods and products which are higher, often much higher, than international prices for these goods, thereby extracting rents from domestic consumers. The flip side of the rent-seeking process is that those industries or groups which are particularly damaged by rent-extraction have incentives to invest time and money in attempts to roll back the privileges granted to the rent-seekers. This compounds the social cost of rent-seeking although, if the anti-rent-seekers are successful, significant welfare gains can be realised.

Often, the creation and extraction of rents through political processes sets off a chain of rentseeking by other individuals or groups, which perceive opportunities to compete for the spoils. Trade unions and suppliers of intermediate inputs to a protected industry, for example, may perceive that concerted action with producers to strengthen the pressure on a government to maintain or raise trade barriers, is likely to be mutually beneficial from their (i.e. interest group) perspectives, giving the parties involved access to even larger rents. These are shared amongst the rent-seeking groups in various forms including higher profits, higher wages and 'featherbedding'. An important implication of this, discussed in more detail below, is that groups other than trade unions may be able to indirectly 'feed' off the legal and other privileges enjoyed by unions. Beyond this, trade barriers may create opportunities for people to siphon off some of the rent by, for example, bribing customs officials to allow import restrictions to be circumvented. This in turn creates incentives for people to devote resources to seeking appointments as customs officials, both by obtaining suitable qualifications and by bribing those with the power to make the appointments. The chain of corruption set off by rent-seeking can become a very long one.

In conclusion, rent-seeking reflects the scope for individuals and groups to advance their particular and sectional interests through political and legal processes at the expense of the community at large. It is an important manifestation of 'political failure'. It is commonly associated with diverse forms of corrupt and objectionable behaviour, including violence, both in developing and developed countries. However, because the costs are widely dispersed and usually not easily recognised by those who bear them, the underlying privileges on which rentseeking depends are often very durable. The European Union's Common Agricultural Policy and the US farm subsidy programme exemplify spectacularly successful rent-seeking, in these cases by farmers and companies involved in processing farm products. The transfers of wealth that take place in these contexts are astronomic and great hardship, particularly amongst would-be exporters of primary products in developing countries, is a direct consequence.

Trade Unions and Rent-Seeking

The traditional view of economists is that trade unions act primarily as labour market monopolies which exercise their market power to extract rents for their members through their employers. These rents are received in the form of wage premia, diverse perquisites and featherbedding, and help to finance union activities through high membership fees. Tracing the source of these rents is not always easy, but there are good reasons for believing that the larger proportion of the costs fall ultimately on consumers. Revenue from membership fees is reinvested by the unions in maintaining rent flows through rent-seeking activities such as lobbying, litigation, donating to political parties and financing 'industrial action'. To the extent that unions behave as monopolists they not only reduce economic efficiency, and therefore overall living standards in society, but may also contribute to greater inequality throughout society.

It should also be recognised, however, that not all labour unions are in a position to abuse their legal privileges and that unions can have positive effects on economic life and social welfare. For example, in the 19th and early 20th century, trade unions provided unemployment relief and other welfare services for their members. More recently, economists have shown that there are theoretical reasons, supported by evidence, that by giving employees 'voice', unions can and do have positive effects on productivity and welfare. For example, given that labour market transactions are characterised by information asymmetries (employers and employees have different levels of information about each others objectives and capacities) and that people can, and do, act opportunistically, enterprise unions are likely to reduce the transactions costs associated with the employment relationship, notably costs associated with the need to control violations of contractual obligations both by employers and employees.[4]

As the Cole Royal Commission has demonstrated, whatever the ostensible objectives of unions might be, there are some trade unions in Australia which, in their day-by-day activities, give meaning, purpose and substance to their institutional lives primarily (if not wholly) through rentseeking activities---using de facto and de jure privileges to create and maintain monopolies in the supply of labour to particular industries and enterprises. The resultant monopoly power is used to extract continuing streams of economic rents through enterprises which have no choice but to employ, directly or indirectly, only union members on union-negotiated, or more pragmatically, union-imposed, terms and conditions.

There are two prerequisites for union success in rent-seeking. First, if a trade union attempts to extract rents from an enterprise which does not have the capacity to generate rents (revenue in excess of the opportunity costs of productive inputs) then that enterprise will eventually be forced into insolvency. The recent demise of Ansett Airlines exemplifies this. Accordingly, above-market wages and other perquisites can be extracted only from enterprises which can generate rents in the first instance. It is for this reason that militant unions have been concentrated in industries where enterprises have natural advantages (for example, mines based on rich mineral deposits; or natural monopolies attributable to economies of scale or scope such as water, telephone, and electricity distribution networks); or politically created advantages (for example, tariff protection or valuable patent rights). Strong unions are also to be found in the public sector (which is subject to the possibility of insolvency only in times of national economic crisis).

The second prerequisite for success in creating and extracting rents is the ability to eliminate competition from non-union sources of labour. A necessary condition for unions to negotiate above-market wages and conditions is the power to prevent employers from hiring non-union labour. This power is based ultimately on the capacity to mount credible threats of violent resistance to any attempts to cross a picket line. Thus, as part of the rent-seeking process, some trade unions have fought tenaciously for many decades not only to legitimise peaceful picketing, but also for the right to prevent people and vehicles from crossing picket lines. Such power necessarily implies the power to physically coerce (a power traditionally reserved solely to the state). The term 'scab', when used to vilify people who attempt to cross a picket line, is a relatively low-level coercive measure aimed at preventing the replacement of workers who have 'withdrawn their labour'. But violence of a life-threatening kind has often been seen on Australian picket lines in recent years, and 'peaceful' pickets have to be recognised as usually only the first stage of an escalating campaign of threats and intimidation.[5]The picket line not only is designed to prevent the employer from engaging non-union labour, but also prevents intermediate products and finished products from entering and leaving the plant. When these two conditions are satisfied, the union then has the capacity to mount a very credible threat to impose severe costs on a business by closing it down with a strike.

A strike forces the owners of an enterprise (or the managers who are responsible to the owners) to choose between earning no revenue, or acceding to union demands. To the extent that these demands exceed prevailing labour market terms and conditions (e.g. above-market wages and working conditions, and/or excessive staffing) they constitute extraction of economic rents from the business concerned. Such a process of rent-extraction is, quite simply, extortion by hold-up. The funds thus diverted deprive other people (primarily the business owners and/or the ultimate consumers of the products of the business) of income at least equal to the value of the extracted rents (often substantially more). Today the business owners are often other workers whose superannuation funds are channelled into share ownership and other commercial investments.

Much of the history of trade unionism and the arbitration system in Australia, since 1904 (when the Watson Government, with HB Higgins as Attorney-General, passed the Conciliation and Arbitration Act), is best understood from a rent-seeking perspective. There is a close interconnection between our industrial relations system and protectionism, which is succinctly described in GO (Gerry) Gutman's book, Retreat of the Dodo published in 1982. Tariffs and quotas provided the rents, often equivalent in magnitude to federal government budget outlays. Arbitral tribunals were quick to perceive that their place in the system could be consolidated by claiming the very popular role of distributing the rent proceeds between the owners and the workers in the protected industries. Although Australian consumers as a whole paid much more for a wide range of goods, in sectoral terms the farming and mining export industries had the greatest incentive to seek to roll back the burdens which protectionism imposed upon them.

Paradoxically perhaps, it was the Hawke Government, supported by the Coalition in Opposition, which in 1983 began unwinding protectionism in Australia. The extraordinary resiliency and dynamism of the Australian economy since the late 1980s, manifest most clearly in the rapid growth and increasing diversity of Australian exports, demonstrates how severely the protectionist policies of the Deakin Settlement of 1902-1908 (and the chain of rent-seeking it set running) impeded economic growth and development in Australia for nearly 80 years.[6]

As protectionism has been wound back, the role of trade unions, as key institutions in the rent creation and distribution process, has correspondingly declined in many sectors of the economy. The decline of trade union membership in the private sector is, today, an uncontroversial fact of life. As tariffs continue to be phased out in those industries which still enjoy a significant measure of protection (such as textiles, clothing and motor cars) the purpose and vitality of trade unionism in those industries will also decline.

Trade Unions and the Law

As a general rule, successful rent-seeking requires statutory or governmental support. It is difficult to imagine a situation in Australia in which trade unions could create and extract rents without the legal privileges which registered trade union have enjoyed since 1904. It is official recognition---registration---by the Industrial Relations Commission (formerly the Arbitration Commission), which grants to trade unions legal privileges which are unique in Australian society. The Cain Government in Victoria, exasperated at the delays and scandals associated with the construction of the lighting towers at the MCG, finally and successfully sought deregistration of the Builders Labourers Federation. The BLF's legendary leader Norm Gallagher ('The General') was so confident of his power that he belittled the significance of deregistration. But within months the BWIU had usurped his position in the construction industry and the BLF was broken. The inference was inescapable: No registration: No legal privilege: No Norm Gallagher.

An insider's description of these privileges was given by Clyde Cameron, Minister for Labour in the Whitlam Government, who had spent years fighting Tom Dougherty, the all-powerful National Secretary of the AWU. In 1973, Cameron introduced legislation which gave rank and file trade union members some means of redress against tyrannical union officials.

The then General Secretary of the Plumbers' and Gasfitters' Union, Mr George Crawford, objected to this legislation and Clyde Cameron wrote to him in as follows:

Let the unions run their own affairs you yelled ... I have never heard you object to the law giving your union monopoly rights to enrol plumbers and gasfitters. I have never heard you object to the law that permits you preventing another union seeking award coverage for plumbers and gasfitters. Nor have I ever heard you complain against the law that permits the Commission to give preference of employment to plumbers and gasfitters who belong to your union. I have never heard you object to the law that prohibits victimisation against your union members. I have never heard you complain about the law which gives you right of entry to places employing plumbers and gasfitters. I have never heard you protest against the law that permits your union to sue for breach of award and for wage arrears ... I could go on and on, for I have already listed 23 additional powers which go with registration under the Conciliation and Arbitration Act.

Clyde Cameron described the monopoly rights of worker representation which the union enjoyed in 1973, and which they had enjoyed since 1904. Those monopoly rights have now been wound back in some small degree by the 1996 Workplace Relations Act. For example, preference to unionists is no longer lawful, but it continues de facto under the rubric of seniority. And if companies can get through all of the difficulties involved in establishing Australian Workplace Agreements, then their employees can escape being roped into the award system which enables the unions, through their privileged access to the Industrial Relations Commission, to cast their net far beyond their actual union membership.

One of the most important privileges which unions enjoy is the right of access to workplaces where people who could become union members (in terms of the coverage bestowed by the IRC) are employed. A person who came uninvited to a workplace and demanded access to employees would normally be told to leave, and if persisting in his demands could be charged with trespass. But an employer is obliged by law to invite union officials to enter his business premises. From there it is a short step to intimidation, not so much with threatening words (which might be recorded on a hidden tape recorder) but with threatening body language, and the use of coded language, often with respect to health and safety issues. Union officials also have the right (on 24 hours' notice) to inspect the books relating to employment matters of any business which employs people (not union members) who could be covered by an award to which the union is a party.

One of the most important contemporary examples of judicial re-interpretation of parliamentary statute, is how the Federal Court took the 'freedom of association' provisions of the 1996 Workplace Relations Act, and turned them upside down, so that the old Section 5 provisions of the Conciliation and Arbitration Act, the 'victimisation provisions' were restored to a far higher place on the ladder of legal privilege than had ever been the case prior to 1996. This was Justice Tony North's Alice in Wonderland contribution to the Waterfront dispute of 1998, and it was upheld by a Full Bench of the Federal Court comprising Wilcox, von Doussa and Finkelstein JJ.[7]

The 'freedom of association provisions' were thereafter used by the unions to ensure that workplace reform could not take place in those highly unionised, rent-rich industries which were most urgently in need of reform. This particular episode demonstrates the folly of avoiding fundamental issues, in this case the massive legal privileges enjoyed by the unions, by seeking to finesse the issue, in this case by giving some legal standing to non-unionists.

Another important example of legal privilege is the 'no-costs' rule in the IRC. This enables unions to litigate without fear of being on the losing side. All they lose is their own legal costs, which their membership fees are designed to cover. But for the businesses they take to the IRC, legal costs can be a nightmare, and when there is no possibility of winning costs from the unions, even under the most bizarre situations, the advice such businesses usually receive is to settle, even under the most outrageous circumstances. The no-costs provisions for unions are now being interpreted to apply in the common-law courts, a truly ominous development.

The most important element of the British Trade Union Disputes Act of 1906 was that it gave trade unions immunity from tort. Thus, under its protection, British unions could lawfully engage in conduct which (through strikes, pickets, secondary boycotts, etc) could bring a business to bankruptcy. The targeted company or employer, however, had no means of redress to the courts. This effectively put the unions above the law, and the noted US author and economist, Thomas Sowell, has recently cited this Act as a major cause of British economic decline from 1910 until the Thatcher reforms of the 1980s.[8]

Apart from Queensland for the period 1915 until 1976, trade unions in Australia have never enjoyed such a blatant measure of extraordinary privilege as this, but today they still stand on a different plane to everyone else with respect to tort law. If an 'ordinary Australian' commits a nuisance, for example by parading up and down outside a business with placards denouncing the proprietor, then the aggrieved party can seek immediate injunctive relief, and have it granted, straight away. If the offending party is a registered trade union, then such relief is only available from the IRC, and three days expires before any ruling is forthcoming, by which time considerable damage can be suffered. During this period of anxious waiting and financial haemorrhaging, advice to the injured party to compromise will appear more and more reasonable.

The law may be very clear on what is lawful and what is unlawful, but if the police decline to enforce the law, and their disinclination goes unchecked by the government of the day, then criminality is institutionalised and major social and economic problems will develop. It is now accepted by police forces around Australia that police should not enforce the common law at picket lines. This refusal by police forces to uphold the law lies at the heart of trade union rentseeking power.

In recent years, as contestability and competition have become more entrenched in Australian business life (the Trade Practices Act has contributed much in this regard) many of the rents that were available from collusion and other anti-competitive practices have vanished. Businesses that had been sharing the rents with unions found they were caught between a rock and a hard place, and were facing bankruptcy if they were unable to wind back the awards which formalised the rent transfers. This was usually impossible, so the alternative was to sell the business to someone else who could do so. However the courts have now interpreted the Workplace Relations Act so that a new owner has to accept the industrial awards and agreements, as well as all the other liabilities and assets of the failing business. Ansett, in its death throes, was unable to find a buyer because the Transmission of Business rulings would have brought bankruptcy to any new owner in its train.

More than a century ago Henry Bournes Higgins's idea was to bring unions that had, during the 1890s, engaged in continuing violence, arson, and other crimes, into a new legal framework by offering them a special and privileged place within that framework. The assumption behind all his thinking was that the common law had failed to provide peace and concord in the workplaces of the colonies and that a 'new province for law and order' was required. His legacy is, today, a set of institutions which enjoy privileges which exceed those of any other organisations in the nation, and it is the consequence of those privileges which now bedevil the construction industry, amongst others.

It has to be emphasised that the rent-extraction process is based on the capacity of a trade union to enforce its position as a monopoly supplier of labour. The ability to call a strike is a necessary condition for establishing a labour monopoly but, by itself, not a sufficient condition. The sufficient condition is that the union must have the power to prevent non-union labour from offering labour services to targeted employers on terms and conditions different from those demanded by the union (that is, market-based rather than monopoly-based terms and conditions). Since other people would not voluntarily offer labour services to the targeted employers unless they expected to be better off, union coercion is necessary to prevent them from doing so. The most effective means of doing this is to mount a credible threat of violent retribution for crossing a picket line, although lesser measures such as vilification can also be effective.

A strike without the threat of intimidation or violence against strike breakers is essentially a mass resignation, which is almost always lawful, and morally unexceptional, since the workers who have left their job, en masse, are relying on their superior experience and skill, in the marketplace, to be able to rewrite their contracts of employment if they should wish to do so. This is a risky strategy, of course, and the risks taken by the employees in putting themselves in hostage to the employer, dramatically change the legality and the morality of the situation. Such a scenario, however, is of the textbook kind rather than of any real experience in Australian workplaces over the last century,

In reality, the threat to strike, or its implementation, when backed up by a readiness to use intimidation and violence for crossing a picket line, is no different in kind from the offer which a Mafia boss puts to a prospective victim, telling him that it is 'too good to refuse'.

For this reason, as an integral part of their rent-seeking strategy, labour unions have, for more than a century, sought to identify the 'right to strike' as an essential part of democracy, along with the right to free speech, and the right to vote. These notions have been persistently 'stretched' by the labour movement to try to gain public acquiescence for violent picketing. To this end the labour movement has invoked Marxian ideas of class warfare and the need for employment contracts to be governed by special rules based on the Marxian distinction between labour services and commodities.

Common-law courts have, however, always regarded strikes as a breach of contract, and picketing, depending on the violence employed, as a criminal act. Breen Creighton, one of the most prominent of the labour lawyers within the ACTU orbit, and whose book (with Andrew Stewart) provides an excellent source of information on the history and the development of the common law in these matters, summarises the position thus:

[13.06] It is hardly surprising that strikes and other forms of industrial action should encounter significant difficulties with the legal process, given that their essential purpose is to exert pressure upon other parties through the imposition, or threatened imposition of economic loss. This is reflected in the fact that so many of the early legal problems encountered by the early unions in both Britain and Australia related to strikes in general and the activities of pickets in particular. Indeed so far as the common law is concerned, virtually all industrial action would be unlawful as a tort, a breach of contract, and frequently a crime.[9]