1976 Cabinet release: Advisers and decisions

Transcript of address by Dr David Kemp, given at the National Archives on 5 December 2006

Thanks Anne. My brief today is to offer you an insider's perspective into the key events and issues of 1976 and in line with this brief I want to emphasise that what I am going to offer you is a personal perspective on what I saw as being some of the principal issues that involved the Prime Minister and his staff and his advisers and you'll find that my remarks today focus fairly heavily on the advisory processes around government because during 1976 some quite significant events occurred which I think had a longer term impact on the nature of those processes both on the side of official advice and, interacting with that, political advice.

In opposition Malcolm Fraser had developed a critique of Labor and had developed an alternative program in the second half of 1975 that had been dubbed by Robert Haupt to the Financial Review – 'Fraserism'.

Fraserism was a critique of big government, of centralism, of industrial lawlessness and of excessive intervention by government in people's lives. It was a reassertion of the importance of the private sector in the economy and of individual rights and the family in social life. In the course of 1976, Fraserism was seen to embrace socially liberal policies to do with human rights, Aboriginal land rights, open government and environmental protection.

To understand the course of policy in 1976 I think it is important to recognise the context of government and the settled policy tradition within which Fraser operated. The Australian economy in 1976 and in the decades leading up to that year was a politically managed economy. It might be more accurate to say that it was an economy greatly interfered with by government to a degree that we might now think was incredible and almost unimaginable. While a federation policy settlement, as Paul Kelly has called it, had already begun to be dismantled, White Australia by the Holt government and tariff protection by Whitlam, Fraser was at the transition point in relation to the role of government in the economy and 1976 was a year that saw a number of key turning points in economic management.

From my point of view 1976 was dominated by its policy debates. Debates about economic policy and foreign policy, in particular, but also family policy, health policy (especially Medibank), uranium mining and environment, human rights, Aboriginal land policy, in particular. These debates were in reality political struggles over the direction of the country and the ideas and philosophy that would govern the direction of policy. All involved in the government were drawn into them. Ministers, backbenchers, political advisers, lobby groups and states but at the core of government, above all, there was an epic battle for control over the direction of policy between the Prime Minister and the government's senior official advisers in the Treasury, the Department of Foreign Affairs and the Department of Prime Minister and Cabinet. The Prime Minister has the ultimate power to take decisions, usually with the support of Cabinet, but if those decisions are to be sound and sustainable, they need to be taken with a full consideration of the options. Throughout 1976, Malcolm Fraser found himself often frustrated by the absence of what he considered to be an adequate analysis of policy options from the official sources of advice.

All the participants in these debates were arguing a case that they believed was in the national interest. People with very different view points and different perspectives were each, I believe, acting with integrity, though not always in their conventionally approved roles. Their disagreements led to substantial changes in the way the central institutions of government operate in Australia up to the present day.

The primary task Malcolm Fraser set himself, in 1976, was to repair what he saw as the pervasive damage inflicted over the previous three years by the Whitlam government on both the domestic economy and on Australia's external security. Today, after a decade of remarkable growth, stability and prosperity, it's extraordinary to look back on an inflation rate that has peaked at 16 per cent and a system of quarterly national wage cases that in December 1975 had increased wages by 6.4 per cent against a background of rising unemployment. Whitlam government spending increases of 20 per cent in 1973-74, 46 per cent in 1974-75 and 22 per cent in 1975-76, had undermined confidence and investment in the private sector.

Both Fraser, and his official advisers, saw these circumstances as endangering Australia's economic future. It was this perception that had fuelled the emotions leading to the Dismissal and accounted for the intense heat of the internal debate in 1976 about what should be done.

In 1975, Fraser had wrested control over what he saw as the careening vehicle of national policy before it crashed and he was determined to set it on a stable course and bring it safely home. He brought to that task great personal force and policy daring. It was perhaps less obvious to outsiders then than it is today, that Malcolm Fraser was intensely focussed on policy issues and he was determined to and he brought to those a formidable intelligence. He was determined to get it right and sought out alternative views that he could weigh wherever they were to be found.

The official advisers of the government in the public service were themselves a formidably talented bunch and, for them as a group, Fraser had considerable respect. He admired Sir Arthur Tange, whom he'd worked with in Defence, and Sir Frederick Wheeler, seemed a steady and reliable hand in Treasury. Foreign Affairs, on the other hand, he saw as a Department under the sway of a Whitlamesque belief in détente that he believed was hamstringing countries, such as Australia, in their dealings with the Soviet Union.

Nevertheless, it wasn't long before it became evident that there were significant differences between the economists in Treasury, the Prime Minister's Department and the Reserve Bank, on the one hand, and the Prime Minister, on the other, over budgetary policy, over the deficit and expenditure cuts, wages policy, monetary policy and the management of the exchange rate. The Reserve Bank, in particular during much of the year, appeared to the Prime Minister to think that its primary task was to support whatever view the Treasury put forward. This frustrated Fraser immensely.

The key protagonist of the official view was Treasury's rising star, John Stone, whose brilliant mind, acerbic tongue and deeply held values, were accompanied by a determination to win the policy debates in what he saw as the national interest. That was no less than the Prime Minister's. (Mr Stone is here this morning.)

Stone, like the Prime Minister, believed that political will was needed to pull Australia back from the economic abyss it was approaching. In Cabinet submissions, presumably drafted by Mr Stone for the Treasurer, that are remarkable when you read them today, I believe, for the clarity and power of their argument, a policy case was presented that was compelling throughout the government's advisory institutions and beyond. The Prime Minister, however, was far from being convinced by this case. He thought the damage to the private sector had been greater than Treasury conceded and that a failure to recognise this could lead to further industry collapse with its attendant unemployment and social, and not to mention political, consequences.

I want to make a brief comment now on, on, social liberalism in the Fraser government and then move on and spend the rest of my time looking at the foreign policy area, again fairly briefly, and then a focus on economic policy.

The year began as a year through to its finale with a ceaseless round of meetings and decision-making to address what Fraser said was a much more serious situation than he'd believed at the election. Sir Henry Bland, a respected mentor of Fraser, was reporting on administrative saving and large cuts were decided on in January with more to come. There was a risk of backbench members, especially the social liberals in the Senate, feeling that their agenda had been abandoned. The social liberalism, with which Fraser is identified, was not only a matter of personal belief, but as he saw it, political prudence, if the Coalition was to remain united in the difficult task of pruning back government spending. On 29 March he held a significant meeting in his office with Senators Missen, Chaney, the two Baumes, Peter and Michael, and Ian Wilson from the House and interestingly, John Hyde, later leader of the drys, to consider the development of a package of socially liberal reforms which he saw as the key to maintaining unity within the government parties when spending cuts were rousing deep concern. The Cabinet submissions and legislation on the Ombudsman, freedom of information, Aboriginal land rights, the Human Rights Commission and the decision to end sand mining on Fraser Island, were examples of policy decisions that flowed from this approach.

In foreign policy the major issue that concerned Fraser was the global balance between the Soviet Union and the United States. He saw Australia as having profound national interests in the state of this balance and he was concerned that the balance had been upset by the unwillingness of the West to match the Soviet forces in Europe and by America's demoralisation after Vietnam. The result particularly affecting Australia was the forward push of the Soviets in the Pacific with little balancing from the United States. The policy debate in this area and early in 1976 was centred on a major speech Fraser determined to give in the Parliament establishing a new strategic posture for Australia, which we called in the office, the State of the World speech, and the visits he was to make in June-July to Japan, China and the United States.

The internal debate over this statement lasted three months, from March until the statement was delivered on 1 June. The reason for this was the difference of view of the Prime Minister and his official advisers. The head of the Department of Foreign Affairs, Alan Renouf, was strongly against the Prime Minister's proposed stance. On one occasion, he said of the Prime Minister's view, 'even if it is true, a small country like Australia can't say it'. He feared provoking confrontation with the Soviet Union while Fraser, with his experience in the management of power was confident that a stronger stance by Australia would win respect.

Because of his dissatisfaction with the advice from Foreign Affairs, Fraser found himself turning to advice from Sir Arthur Tange, who commented on at least two drafts of the statement, and Alan Griffiths, First Assistant Secretary of the area, in his own department. Peacock, using his diplomatic skills to encourage wider consultation, was able to push forward the views of Owen Harries who'd worked with him in the Opposition's election statement and was promoting the concept of 'enlightened realism'. The low point in relations with the official advisers came during the China visit with a leak to Peter Costigan of a distorted version of confidential discussions between Fraser and his official advisers that occurred one evening at the official guesthouse in Peking, suggesting that Fraser was actually looking to set up an alliance between China, Japan, the United States and Australia to check the Soviet Union. This was not accurate as Fraser had merely been musing about possibilities in the far distant future. He, himself, later acknowledged such musings can be dangerous and that he should not have taken the discussion in that direction.

However, the Prime Minister believed the leak was a deliberate attempt to embarrass him by the Department of Foreign Affairs and it further lowered trust. Throughout the whole internal debate, Fraser had shown himself scrupulous in seeking and getting alternative advice. He had confidence in his capacity to weigh alternative advice and on several occasions modified his stance in the light of that advice. He also showed, however, that massive determination to achieve the outcome he thought best for the country and was highly satisfied with the final outcome.

Turning, now, to economic policy. The differences between the Prime Minister and the Department of Foreign Affairs, however, paled beside those that developed over economic policy. These became evident in the course of the preparation of the May Economic Statement, to some extent over the Budget, over the government's role in the quarterly national wage cases and reached a crescendo in November with a 17.5 per cent devaluation of the currency.

Both the Prime Minister and his official advisers put the highest priority on the control of inflation. The difference that emerged between them was over the balance to be struck between this goal and the level of activity in the private sector. Fraser saw the maintenance of strong private activity as fundamental to the social well-being of the community, not to mention, the political survival of the government. Treasury believed that the priority was to bring inflation under control as quickly as possible and that major cuts in government spending were the principle way to do this. It seemed that they viewed the Prime Minister's concerns as threatening sabotage of the anti-inflation strategy and hints of longer term economic recovery. Fraser saw Treasury advice as one-sided and likely to cause great damage to the private economy and lead to unacceptable social consequences.

During the year these differences led to intense debates over the balance to be struck between tax restraint and the deficit, and over tax indexation which Treasury resisted because it disliked all forms of indexation. It believed they undermined the will to fight inflation. Treasury also had no faith in Fraser's attempt to work with moderate Union leaders to restrain wage claims and to attempt to induce their support for this approach through such decisions as the retention of the Prices Justification Tribunal and the hopes of tax cuts and public criticism of companies such as GMH for breaching wage guidelines. I don't think Treasury objected to that. Personal income tax indexation and family allowances fell into Fraser's general strategy, although they had their own independent sources as well. Both Fraser, and later Hawke, saw wage restraint as a political problem to be addressed by political means. Fraser tried carrots, sticks and 'jawboning'. Hawke, in the accord offered real power.

Later deregulation has completely changed the nature of wages policy but no-one was putting this view as a realistic option in 1976. The Treasury view seemed to be that a big enough expenditure cut would force reality onto the commission and the government. On 19 May, as the final elements of the Economic Statement were being put together, I was told that Treasury did not understand the government's wages policy and could not draft the relevant sections of the Treasurer's speech. The section was drafted in Prime Minister and Cabinet. This foreshadowed a much more serious breakdown in the conversation between the elected and the permanent officials that was to come later in the year over the devaluation of the currency.

The centrepiece of the managed economy and its, with its highly regulated labour market and wage system, import and export controls, government owned utilities and industries, anti-competitive legislation, industry subsidies and tariff protection, was the politically managed exchange rate and accompanying exchange controls. A visit from the managing director of the IMF, Johannes Witteveen, on 12 October, as I later learnt, roused the Prime Minister's concern that the exchange rate was overvalued and was holding back Australia's export industries.

In the course of their conversation, Witteveen had spoken about the desirability of a more flexible exchange rate and indicated that if freed, he thought the dollar would float down. He told Fraser that overseas investors were especially concerned with the underlying cost structure. Coincidentally, six days later, Fraser was to meet in his office, Friederick Hayek, probably the most influential liberal thinker of the second half of the twentieth century. Hayek opened the conversation with the suggestion that the exchange rate should be allowed to float. Over the next six weeks a debate about the implications of devaluing the dollar dominated the internal councils of the government.

The policy debate was not just between the Prime Minister and the official economic advisers. It put strain on relations between Ministers and was potentially damaging for Phillip Lynch, as Treasurer, who accepted and voiced the Treasury position. As the weeks went by he began to show the strain. I worried about Phillip. 'I think Treasury are badgering him, the bastards', said the Prime Minister, emerging from Cabinet on 2 November.

We, in the private office, were more concerned by the damage the unresolved debate within the government might inflict on confidence in his economic leadership.

For many weeks the official position was that the external balances were strong. There was no need for devaluation and that such a move would be highly inflationary. The Prime Minister did not believe this, especially with the information he was getting from his industry sources, and from having heard both Witteveen and Hayek's views. He suspected a Financial Review editorial on 12 November had been based on Treasury briefing. He heard Treasury's voice also in other press comment.

Fraser wanted an independent view from the Reserve Bank of Australia and pressed its Governor, Harry Knight, for his views. On 12 November I was told that Knight had provided handwritten advice to Treasury to type up and was shocked to discover in the following Cabinet discussion that not all his response had been included in the typed document. Knight was overheard to speak sharply to Wheeler about the incident.

At The Lodge, on Sunday 14 November, Fraser said to me that he thought Treasury believed we would not act against its publicly known views. 'I have…', and this is a quote, 'I have seen other governments get into trouble with Treasury in this way… No government can be intimidated by a department in this way.' His view was clear: 'We are using the exchange rate to attack inflation at the cost of no activity. It would be better for overall confidence if there were more activity.' Around 16 November, Fraser heard that the BHP order book was at its lowest for twenty years. With the support of Carmody, head of Prime Minister's, and against Wheeler's written advice, on 18 November, the splitting of the Treasury department was announced along with the expansion of the capacity of the Prime Minister and Cabinet department to evaluate programs and the forward estimates.

The strength of the departmental opposition to devaluation reinforced by our concerns over the political impact of appearing to shift course in such a major way delayed a decision. This ran the risk of political damage to the government. On 24 November, Fraser returned from a visit to the Torres Strait, heard in Cairns of a further wage increase by the Arbitration Commission and told his advisers that he had made the worst decision he had ever made in not insisting on devaluation earlier in the month. He feared economic recovery could be delayed six months. On the Friday, he met with Lynch and Sinclair for over an hour, and followed with a further discussion in the Cabinet room.

It transpired he had received a joint document from the Treasury and the Reserve Bank presenting two policy options: no devaluation, which involved approaching the IMF and raising a loan of around a billion dollars to support the currency, or devaluation. Fraser was appalled that an approach to the IMF could be seen as an acceptable option especially in view of the advice the government had been receiving that economic recovery was well underway. The devaluation announcement was made on Sunday. Fraser later told me how the decision was made. He had asked Harry Knight, the Governor of the Reserve Bank, what would be the lowest figure that would certainly lead to an upward valuation on the first following move. Knight suggested the figure would be around 15.5 per cent to 17.5 per cent. Lynch thought that Knight would not, had not advised a specific figure. The devaluation was, in fact, 17.5 per cent. Fraser said it was a figure chosen to ensure the next adjustment was upward. Nothing would be worse than having a further devaluation shortly thereafter.

The decision was a blow to Lynch and for a while his usual cheeriness gave way to gallows humour. The same cannot be said of the government's official advisers. In the view of the Prime Minister's Department economists, ah, which were presumably the same as Treasury's, the decision had torpedoed the fight against inflation. A senior official in the Prime Minister's Department told me that, in his view, unofficially, both the economy and the government were 'stuffed'. It is a measure of how strong the group consensus among the official advisers had become, that by contrast with the despair of the official advisers, the directors of the board of the IMF supported the decision to devalue and welcomed the new more flexibly managed exchange rate arrangement.

So intense was the reaction against the decision among the government's official advisers that it led to a quite extraordinary situation in which for a week or so neither the Prime Minister's Department nor Treasury would draft the statement for the Prime Minister to give in the Parliament on 9 December. The Prime Minister's Department went through the motions and sent over a few desultory pages. Treasury, under great pressure, managed a paragraph.

This refusal was essentially a strike that threatened to remove the government's capacity to defend its position. It would not occur today and in my view demonstrated how essential it was that elected leaders have their own private staffs and a departmental culture that can accept and work with the decisions of the elected government whatever they may be. Indeed, without his private office, the Prime Minister would have been unable to respond in the way he wanted.

One of the advantages hindsight gives us is that we can tell how it all turned out. The government, of course, survived and Fraser won two more elections. The March 1977 CPI figures demonstrated to the satisfaction of some of the Prime Minister's close advisers that the dire warnings about the inflationary impact of devaluation (had knocked) that the Prime Minister's scepticism had been sound. The more frequent adjustments of the currency that followed led to some revaluation of the currency and the inflation rate did not blow out. The private sector did not plunge into recession. Growth in GDP was 3.2 per cent in 1976-77. Unemployment continued to creep up through 1978, falling again to 5.6 per cent in 1981.

Later governments have accepted that having both the Treasury and Department of Finance to provide separate advice on government spending and economic policy is appropriate. Out of the Prime Minister's demands for alternative advice, the Reserve Bank came to accept that it should put independent advice to the government and the move to an independent Reserve Bank was thus set in train. In 1977, two of the government's ministerial advisers, John Rose and John Hewson, initiated the move toward a more flexible exchange rate to avoid any repeat of the 1976 experience. Elected governments, Hawke, Keating and Howard, continued to strengthen the political advisory functions at the centre of Australian government and assert their control over the public service.

The economic system in which government, politics and business were inextricably entangled has been largely now consigned to the dustbin of history, though the issue of labour market regulation continues to be contested. Nineteen seventy-six was a year in which an Australian government still hoped that this distinctively Australian entanglement of political manipulation and economic life might work, but in which the political resistance to big government began to gather strength.

Copyright National Archives of Australia 2014