Michael Keating. Part 3. An Alternative and Better Budget Structure

May 21, 2014

In two previous blogs I have argued that the Government’s Budget broadly got the economics right, but it failed the test of fairness and it attacks our traditional values. In that case, however, what would the alternative Budget structure look like?

Fundamentally the Budget should have relied much more on taxation and less on expenditure cutting. As I have already shown it is low revenue that created our fiscal problem and not excessive expenditure.  However, increasing taxation will be easier if it can be shown that expenditure has been properly reviewed and screwed down tightly, and so I will first consider the opportunities for expenditure reduction using a different approach to the Government’s Budget and its Commission of Audit.

Expenditure reduction choices

There are three broad strategies for expenditure reduction:

  • Tightening eligibility for payments or services
  • More user pays
  • Improving the cost efficiency and effectiveness of services

In my view the Budget relies too heavily on the first two strategies and not enough on the third. The difficulty is that the Hawke/Keating governments relied heavily on tighter targeting of welfare payments and increased use of user pays, and that cupboard is now bare or nearly bare.

Indeed Australia now has by far the most efficient income support system in the world. Along with Denmark, Australia redistributes more than any other country to the poorest 20 per cent of the population, but because the Danish tax-transfer system is much less tightly targeted than ours, Denmark taxes and spends 80 per cent more relative to average household pre-tax income than Australia does to achieve the same amount of redistribution. It is ironic that further tightening in Australia now risks increasing the already very high effective marginal tax payments for those people receiving income support, but this is what is advocated by people who argue for greater targeting and then want to use the savings to further reduce the already much lower marginal tax rates for high income people.

A similar situation applies for user charging. The present level of university fees supported by the delayed payment arrangements under HECS were carefully calibrated to ensure that there was not much impact on student enrolments. The overall rate of return on a university degree prior to this budget was sufficient to make it worth having. By comparison a recent study of universities across the US found that the life-time return on an Arts/Humanities degree from about  a third of the US universities was insufficient to justify the cost of studying. The students would have been better off if they had started working at age 18 and invested in Treasury Bills. In another instance the salary for a Science graduate teaching in a public high school in the US was similarly insufficient for him to repay his student loan from the bank several years after graduating.

In the case of health, consumer co-payments already account for 12 per cent of the cost of medical services, 16 per cent of PBS medicines, 56 per cent for dental services, and 69 per cent for aids and appliances. Recent OECD data show that among the rich countries the only countries where consumer co-payments are higher are Switzerland and the US. So given our already high level of co-payments, it might be doubted that the further increases proposed by the Budget will achieve any reduction in unnecessary visits to the doctor; rather the risk is of Australia deteriorating towards a US style standard of access to health care.

On the other hand, and notwithstanding the familiar bleating from the State Premiers, I consider that there are still opportunities for improving the cost effectiveness of publicly funded services, such as school education, health care, and infrastructure, and achieving significant savings. First, according to the latest available data, the real public funding per student in primary government schools increased by 31 per cent between 1999 and 2011, while there was a 20 per cent increase for government high schools. There is no evidence that this increase in funding (and the further increase since 2011) has led to improved student results. Instead the key objectives of the Gonski reforms should be capable of being realised by redeployment of funding within the education system. Indeed the priority should be to transfer funding from schools to vocational education and training (VET) which experienced a 25 per cent reduction in real funding per annual hour between 1999 and 2011, and has now had its funding further cut in this Budget. It is VET which gives people a second chance, often after the school system has failed them, and despite all the additional funds lavished on schools.

Second, in the case of the health system there are huge differences between hospitals and even within hospitals in the cost of providing the same forms of care and treatment. The introduction of case-mix funding so that funding is based on the average efficient cost of each service is meant to enable hospitals to realise savings. Beyond hospitals more investment in prevention through better public health measures would help lower the costs in the long run, and new approaches to funding and coordinating the care of chronically ill people would improve their quality of life and help keep them out of hospital and lower costs. The Rudd Labor Government had started these types of reforms, but their future is now most uncertain.

Third, Australia has a long history of over-investment in infrastructure with the costs exceeding the benefits, and under-charging the beneficiaries so that they demand more and more. It is therefore most reprehensible that this Budget prides itself that new spending decisions will add $58 billion to total infrastructure investment, when none of the projects announced have been ticked off by Infrastructure Australia as having completed proper cost-benefit appraisals; probably because a great deal of this investment never could pass any proper evaluation. And this from a Government that was properly critical of the former government and its approach to the NBN.  Clearly this improper use of the nation’s savings is not an acceptable reason for the other Budget cuts, and the increase in petrol excise should not be tied to an increase in uneconomic road funding.

Clearly the opportunities for savings in major spending areas such as these should be pursued by the States before they all line up to increase the GST. But in the long run a sustainable fiscal strategy for Australia is bound to require an increase in taxation if we want to preserve those aspects of our society and social system that we value. The scope for increasing taxation is discussed in the next blog.

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