Canberra has a revenue problem – with no obvious solutions

Mar 16, 2023
Parliament House in the evening. Canberra, Australia

Before the election I wrote our leaders were dancing on the edge of calamity shutting their eyes to the obvious gap between the Commonwealth’s revenue stream and its growing spending commitments. Decades of giving long term tax reductions funded by short term spurts of revenue, usually from mining, had come home to roost. Albanese, spooked by the 2019 Shorten election loss, had wiped anything resembling tax reform from the platform and backed the Coalition initiated Stage 3 tax cuts which will primarily advantage the wealthy.

On an accrual basis the October 2022 Labor budget forecast total Commonwealth expenses to rise from 26% of GDP to 27.2% of GDP over the forward estimates period. Revenue will nudge up from 25% of GDP to 25.7%. Unsurprisingly net Commonwealth debt rises from 25% of GDP to 28.5%. These estimates might prove to be optimistic.

Expenditure growth continues apace and options for limiting it are few. Of the major functional areas Social Security and Welfare account for just over a third of total budget outlays. The growth in spending flows from the NDIS, Aged Care and Pensions and Child Care. Aged care and pensions are largely driven by demography and community demands for more effective responses to the Age Care Royal Commission. Disability support and improved child care are essentially bipartisan commitments.

Health expenditure, the next largest element at around 15% of outlays, is set to rise faster than GDP. Again this is unsurprising – a combination of an ageing population and, principally, the increase in the cost of medical interventions.

Defence spending is now approaching 2% of GDP. If an already fraught international strategic outlook deteriorates, defence and resilience spending might well accelerate rapidly – that is the one thing that Hugh White and Peter Jennings would likely agree on. A defence budget of 2.5% of GDP seems likely with the risk on the upside if our strategic situation is perceived to deteriorate.

Achievement of our 2030 and 2050 climate goals require a rapid and radical restructuring of our energy infrastructure at huge cost. Most of that investment will be financed by the private sector, but governments will be called on to help facilitate that with seed finance and guarantees.

There is simply very little room to cut our major areas of expenditure other than by trimming at the margin. The focus has to be on how to lift revenues to sustainably fund what is frankly going to be a bigger government.

Our tax system is creaky. It fails in its first task – providing adequate revenue to fund essential government expenditure. It isn’t as equitable as it has been in the past. It doesn’t support economic growth. It isn’t simple to understand or easy to administer. It allows ample opportunities, even incentives, for legal tax avoidance/minimisation. It treats different forms of savings very differently, encouraging what many think to be over investment in housing

The last 12 years have seen a series of attempts to fix the system’s problems starting with the seminal Henry Tax Review published in 2010. All have either been wrecked on the rocks of entrenched special interests or been sucked into a whirlpool of public suspicion. Abbott’s attempts at reform rapidly fell apart. Commitment to modest tax reform was claimed to have doomed the ALP in the 2019 election. Understandably politicians have become reform shy. The prospects of a Grand Bargain linking a change to the tax mix with transfers and superannuation seem slim.

Successful, electorally acceptable, major tax changes have only happened at times of real income growth for the majority of the electorate and strong revenue flows to enable generous voter bribes (think of the introduction of the GST) or publicly acknowledged crisis – quintessentially World War 2 which saw the public accept soaring Commonwealth revenues and steeply progressive marginal tax rates, but also the 1985 reforms introducing the fringe benefits and capital gains taxes, and dividend imputation along with reduction of the progressivity of income tax as one of the means to address economic stagnation.

It is a truism in politics that you cannot sell a reform unless the public understands the problem you are aiming to correct. The public needs to know why reform is unavoidable and desirable and why the Commonwealth’s total tax take has to increase. Chalmers seems to be trying to bring the issue of revenue inadequacy to front of mind for the public – but Albanese repeatedly steps in to rule out the most attractive solutions.

So that leaves the government stuck with the existing heavy reliance on income and company tax (remembering that GST goes directly to the States and Territories) and fiddling at the margins to make a series of small but useful changes to tax expenditures including superannuation tax breaks, imputation credits, profit shifting by multinationals and so on. This is good but it isn’t enough.

A brave government, if it is still in a commanding poll position in the run up to 1 July 2024, would be brutally frank about the fiscal pressures we face and axe the stage 3 income tax cuts. It would go to the next election saying that bigger government is inevitable and desirable to deal with our strategic outlook, an ageing population and a truly radical restructuring of our energy infrastructure and echo the Hawke-Keating commitment to an early tax summit to consider the best way to lift Commonwealth revenues.

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