The ABC of policy failure

The dust has hardly settled after the collapse of ABC Learning, and already the sages are counselling us about the lessons of this sorry tale. The federal government, in all its wisdom, is suggesting that this is yet another example of excessively greedy capitalism and the free market gone wrong. Apparently, ABC’s fall illustrates how desperately the children industry needs re-regulation.

But before the lack of regulation becomes the scapegoat and policy is made based on intuition and prejudice, let’s all take a deep breath and analyse the real causes of ABC’s failure, and what this tells us about the real problems in the child care market.

The fundamental reason ABC collapsed was because it borrowed an enormous amount of money to rapidly expand both in Australia and overseas. In the wake of the global financial crisis, it couldn’t refinance its huge debts, so the administrators were called in.  In the end, ABC got too big for its own good. This was not the fault of the free market, quite the opposite, in fact. The root cause was the high level of regulation that already exists in the child care industry.

No other child care market in the world has a player as dominant as ABC Learning. ABC held an extraordinary 25% of the Australian market. The only reason it could establish this dominant position was over-regulation. The high cost of complying with accreditation and staffing standards erected significant barriers to entry and prevented competition from coming on stream.

Of course, when we are talking about an industry where adults look after small children, good regulation is needed, particularly in areas like health and safety. Parents need to have confidence in centres before entrusting them to care for their children.

But while too little regulation is a problem, over-regulation has unintended bad consequences as well. The unnecessarily high-cost of child care is perhaps the major problem. Working families are constantly aghast at how much they have to pay each week for child care. 
The high price is simply a reflection inadequate level of supply. Child care is expensive because there is a shortage of places, which raises the price. Less regulation, meaning lower compliance costs and lower barriers to entry, would mean more suppliers. More competition and more choice for parents would lead to lower cost and less expense.

The industry in not a capital intensive one and should be intensely competitive and supporting many more entrants. As ABC has demonstrated, there is plenty of money to be made in the childcare business. So why don’t more companies enter into it?

The chief reason is that cost of complying with state and federal legislation is onerous enough to put off small companies. Centres are responsible for collecting financial data from each customer and passing it on the government – an expensive process, which a big provider like ABC can manage more cost effectively.

Regulations also cover the smallest detail, such as how much play-space should be available. New entrants have to comply with a bevy of planning, environmental laws, and operators are even told how many rooms their businesses need to have. There also needs to be one degree qualified person in the room at all times. And, above all, strict supervision ratios reduce the choice available to parents.

A better strategy would be for the government to allow child care operators to offer a range of services and parents could choose with their wallets. Parents who prefer cheap and cheerful childcare are forced to pay more for a level of care they might think is excessive.
Parents also wonder why child care costs so much when the government hand-outs huge subsidies to the industry which are meant lower the cost of their fees? Again, the billions of dollars in government subsidies the industry receives is part of the problem and contributed to ABC’s demise.

The biggest beneficiary was ABC, which accumulated nearly 45% of its revenues from government subsidies. The subsidies were being offered to combat high prices, which were a reflection of short supply. But giving demand a shot in the arm while doing nothing to make market entry easier meant that prices simply rose and the subsidy was captured by existing centres. Indeed, childcare costs have continued to rise rather than fall, while the subsidies went straight to the bottom line of providers.

ABC and others were able to earn more money instantly, without opening a new centre, hiring more staff or attracting new customers. Easy money made it more attractive for the company to take on so much debt and expand too quickly. The subsidy is also highly distortionary. By only applying to institutional childcare places, it made institutional childcare more attractive relative to other forms, such as nannies or at home varieties.

The problem in the child care market is anything but the free operation of the market. The real story is that excess government regulation has kept competition at bay, leading to high prices, while government subsidies have pushed prices even higher.  Now that ABC has gone belly up, the government says the problem all along was lack of regulation. Before intervening again, the government should learn the correct lessons of twenty years of child care policy failure. The lessons are as simply as ABC.

Dr Jeremy Sammut and Gaurav Sodhi are researchers at The Centre for Independent Studies.