A deficit of budget surplus sense

Behind all the blathering about a government spending spree, both budget numbers and the broader economic environment show spending-to-GDP ratios are clearly well contained.

It has been three and a half months since Treasurer Wayne Swan delivered the 2012-13 budget. That was the one where Swan was forecasting a return to surplus in 2012-13 ($1.5 billion) and then small, but rising, budget surpluses out to 2015-16.

A lot has happened in those three and a half months. It has been long enough for the Gillard government to initiate some budget impacting policies and for the economic parameters that underpin the spending and revenue estimates to be assessed in the light of new information.

Attracting most attention are some items that will, in isolation, reduce the size of the surplus. The NDIS, changes to carbon pricing, dental funding, offshore processing of asylum seekers and education reform are all expensive big-ticket items.

A monkey with a calculator can add the cost of these programs and, in isolation, suggest the government is on a spending spree or that the budget surpluses will be blown out of the water.

But of course, anyone with any knowledge of government and budgeting knows these changes to policy will not be delivered in isolation.

The government has said, ad nauseam but to little avail it seems, that when the Mid-Year Economic and Fiscal Outlook is released in November or December, there will be a raft of other policy changes – many of which will be offsets or savings (yes, spending cuts) to cover the cost of the items mentioned above.

This is, more or less, how every responsible government has run fiscal policy for decades.

To think that prudent economic managers don’t adjust spending from time to time and address policy priorities without savings elsewhere is to show a poor understanding of government. Well, of this government anyway. There will be spending cuts in low priority areas to cover the cost of these new higher priority programs.

In all of the blathering about reckless spending or government spending spree, let’s have a look at the government’s accounts.

In 2012-13, the budget papers show the government "payments” (spending in other words), will be 23.5 per cent of GDP and will average 23.6 per cent of GDP in the three years of the forward estimates out to 2015-16. For some context on these numbers, the Howard government in its 12 budgets had the spending-to-GDP ratio averaging 24.2 per cent. And there were three years where it was 25 per cent or more. Recall that 1 per cent of GDP in today’s dollar terms is more than $15 billion a year.

The spending-to-GDP ratios as they stand are clearly well contained, which makes a mockery of claims of ”spending sprees”.

Of course, the budget numbers will change as policy is rolled out and developments in the economy unfold.

The performance of the economy and the economic parameters that determine the revenue collections and other spending levels are a critically important part of the equation that drives the budget balance. A very strong economy normally equals more revenue and less spending; a slow economy normally means less revenue and more spending.

Based on the performance of the economy and the economic parameters since budget time, there is no reason to think that the budget surplus for 2012-13 is in jeopardy. In other words, the economy is probably performing much as expected by Treasury when the budget was framed in May.

The unemployment rate remains around 5.25 per cent (it is forecast to rise to 5.5 per cent in June 2013); nominal GDP growth is still close to 5 per cent (which is the forecast for 2012-13); wages growth is actually a touch higher at 3.8 per cent (assumed at 3.5 per cent in June 2012 and then rising to 3.75 per cent in June 2013) although the terms of trade look to be falling a little more than forecast (down 5.75 per cent in 2012-13), and agricultural prices are likely to be significantly higher as a result of the price impact of the US drought.

It is also worth noting that the government is likely to save a few hundred million dollars a year because the bond market rally will lower public debt interest costs. The 10-year government bond yield was around 3.75 per cent as the budget was framed. This week, Treasury issued $500 million of 10-year bonds with a yield of 3.13 per cent, having issued bonds in recent months with yields below 3 per cent.

At the same time, the Australian Office of Financial Management is holding huge volumes of in-the-money residential mortgage backed securities which, it’s possible, will see it pay a dividend to the government of a billion dollars or two.

And a final point.

If there was any legitimacy about the grossly inflated concerns about the fiscal position of the government, it would show up in financial markets. A true, as opposed to a made up, problem with the budget would see foreigners exiting Australia faster than you can say "triple-A”. They are not.

This morning, the Australian dollar is trading at $US1.0350, more or less where it has been for months; bond yields remain very low – in fact the whole Australian yield curve is below the official cash rate; and the stock market is trading as it always does, in line with global market moves.

A government spending spree? Reckless spending? I think not.

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