Michael Keating. Part 1 The Budget and what it means for Australia’s Future

Each day this week I will be running a series of blogs by Michael Keating on the Budget and its repercussions. The posts will be 

  • Australia’s Fiscal Challenge
  • The Budget and our Values
  • A Better Alternate Budget Structure
  • Taxation
  • Federalism

I am sure that these five posts will make a substantial contribution to our understanding of the Budget and its implications for Australia. Mike Keating was formerly Secretary of the Department of Prime Minister and Cabinet. Perhaps more relevant to his comments on the Budget is that he was Secretary of the Department of Finance under the Hawke/Keating governments, during which time real outlays were reduced in three successive Budgets. This has never happened before or since. These reductions in real outlays occurred while still introducing many of Labor’s major reforms of social welfare that led to substantial increases in assistance to the poor. Much of the credit for this of course belongs for the Cabinet, particularly to Paul Keating and Peter Walsh. But I know that quite a few of the ideas that were implemented came from the Department of Finance when Mike Keating was Secretary.  John Menadue

Mike Keating. Part 1. The Budget and what it means for Australia’s Future

In the run up to the last election Tony Abbott told us that the nation’s finances were in a mess, but notwithstanding that mess he promised to match all Labour’s new spending initiatives, protect education and health, increase defence spending, and all without any increases in taxation.  Frankly none of us, not even the fawning Murdoch press, should have believed him.

Understandably Labor is now tempted to harp on about the broken promises. But that would be to miss the real point.  The real point is that for several decades Australia, like many other developed countries, has had a continuing problem of meeting the public’s expectations for publicly funded services and how to pay for them.   Trust in government will not be restored until one or other political party offers a credible way forward that reconciles these conflicting public expectations of government.

So what is the immediate fiscal challenge that this budget needed to address and how well has it responded to that challenge? In this series of comments I want to consider:

  1. how bad is our fiscal situation and the fiscal strategy required from  here on
  2. the choices before us in terms of the values that we espouse and what the Budget decisions and Audit Commission recommendations imply for the future nature of our society
  3. the consequences and efficacy of many of the specific policy decisions in the Budget

 

Australia’s fiscal challenge

Is public debt a problem?

The Government has talked incessantly about Australia’s debt problem, and government debt is undeniably higher than when the previous Coalition Government lost office in 2007. The Commission of Audit for its part thought that low or even zero debt is such an important objective that the first priority for the fiscal strategy should be the achievement of an arbitrarily chosen debt ceiling.

Others, however, have noted that Australia has a triple AAA credit rating, whatever that is worth. More pertinently general government net financial liabilities in Australia in 2013 represented only 11.8 per cent of GDP, compared to an average of 69.1 per cent for the OECD as a whole, including 81.2 per cent in the US, 40.4 per cent in Canada, 65.4 per cent in the UK, and as high as 137.5 per cent of GDP in Japan, and all these countries have low interest rates and no particular difficulty in financing their debt. Furthermore, although low debt is properly seen as providing increased scope to intervene in the event of an economic downturn, each of these countries had much higher debt than Australia in 2008 and they were still able to intervene and further increase their debt in response to the Global Financial Crisis (GFC).

Instead Australia’s problem is not so much the financing of its government debt, but the extent to which we rely on foreign capital to finance total investment in Australia. Essentially our national savings from all sources, both public and private, fall well short of the investment opportunities. In particular, Australian households increased their borrowing very substantially during the Howard Government years up to the onset of the GFC. Consequently by the end of 2013 the amount that Australian households owed was nearly 1.8 times the amount of household disposable income received in that year. Moreover this level of household debt in Australia was not only high by Australian standards, but also by international standards, with household debt in Italy and Germany, for example, being less than a year’s worth of disposable income.

So on balance the Government’s fiscal target to achieve budget surpluses on average over the course of the economic cycle seems a worthwhile goal, but it is not an absolute imperative and should not be pursued at all costs.

How quickly should the Budget return to surplus and how?

The Government acknowledges that at present the economy is soft, although some improvement is expected through the next financial year. Accordingly something close to a neutral budget in terms of its impact on the economy might have been the best strategy, with monetary policy left to fine tune the level of economic activity. By contrast, Treasury project that the structural Budget deficit will decline by about 1 per cent of GDP. On the face of it this is a fairly rapid rate of contraction of government support for the economy, although probably not devastating. Furthermore, the projected rate of fiscal consolidation over the next four years – 0.6 per cent of GDP – is reasonably well paced, so overall in terms of its impact on the economy this Budget seems to have got it broadly right.

How fair is the fiscal strategy

In the current financial year, 2012-13, government payments are expected to represent 24.1 per cent of GDP; a bit less than their long term average over the previous twelve years since 2000-01 of 24.5 per cent. By comparison, government revenue represents only 23.1 per cent of GDP compared to an average of 24.3 per cent over the previous twelve years. In other words if we have a fiscal problem it does not seem to have been caused by excessive expenditure, but by a drop in taxation revenue, and the prime cause of that was miscalculations by the Howard/Costello Government when they embarked on their 2001 tax reforms, which have turned out to cost more than expected at the time.

So in the first instance it might have been expected that restoration of a fiscal surplus would have been sought primarily by way of increases in revenue. But consistent with government rhetoric and the demands of its supporters, 80 per cent of the projected budget consolidation  is from net savings in expenditure, and only 20 per cent from increased taxation. This in itself raises basic questions of fairness, which will be explored in the next comment.

 

 

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6 Responses to Michael Keating. Part 1 The Budget and what it means for Australia’s Future

  1. Don Aitkin says:

    I appreciate the thought and wisdom in this post, and look forward to those to come. My question is why comparisons to other countries in terms of the government debt/GDP ratio are helpful, since Australia managed to survive the GFC in part because it had substantial reserves in 2008, and the countries mentioned didn’t. The fact that other countries have awful ratios surely does not mean that we ought to move towards them.

  2. What a relief to read a balanced account of the debt issue.
    The hysterical outpouring by both major parties,but particularly the LNP,will not win them support.
    Thank you Michael and John.
    I look forward to the rest of the series.

  3. robbie says:

    Since I were a kid, the political franchise operated the public purse pump thus.

    Build infrastructure, barnsale infrastructure,build infrastructure, barnsale infrastructure….

    Honest, just how inane, insane is that for social engineering stress model.

    Today’s road building project is next budget reducing barnsale gift to offshore no doubt.

  4. Azita Bokan says:

    Firstly thank you for sharing your advance knowledge and information with us and I wonder In our country wereThe latest tax statistics show 75 ultra-high-earning Australians paid no tax at all in 2011-12. Zero. Zip. Also the politician filling their pocket with high salary and corruption money. eg NSW ICAC investigation. why not have a better monitoring system to stop the above, but let this people get away, but cut money from the old pensioner or health and education to fix the budget?

  5. John Hermann says:

    Although I agree with much that has been written here, I disagree with the assertion that Australia would be better off with federal budget surpluses.

    If a currency issuing central government was disposed to use budget surpluses to impose upon the economy a sustained regime of contracting public debt, leading ultimately to zero public debt, then open market operations would become increasingly difficult to implement because there would be a growing shortage of government securities for the central bank to purchase (the stock of securities would tend to zero over time, at which stage the central bank would lose all control of monetary policy).

    The real dire effect of a federal budget surplus is that it forces the private sector to reduce its net savings and/or to replace some of its assets with riskier assets, and to borrow in many instances, in order to maintain its spending desires (Australia from 1996 to 2007). This is a financially unsustainable regime. It eventually forces the private sector to abandon many of its spending desires and to focus on its net savings (paying back its debts). When this happens, private-sector spending quickly collapses. Federal government surpluses are a sure way to set an economy up for financial collapse. Australia’s last major recession in 1990-91 followed a budget surplus in 1989.

  6. Wayne McMillan says:

    I agree with John Hermann’s astute comments and I would suggest that some of economists in the Commonwealth Treasury should take note of the criticisms of prolonged budget surpluses by economists such as Stiglitz, De Long, Hudson, Kelton, Wray and Mitchell, who take an opposing credible view.

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