This year Treasurer Joe Hockey learned the same lesson as former treasurer Wayne Swan: he’s managing an economy fundamentally different to the one enjoyed by John Howard and Peter Costello.
But rather than face up to those facts and treat the Australian public with respect, the federal government is still obsessed with a mostly meaningless economic residual: achieving a budget surplus.
The Australian public has been conditioned to believe that running a surplus is a sign of sound economic management. It ignores the fact that Australia has run a federal budget surplus only a handful of times in the past century. Almost all of those occurred during our recent terms-of-trade boom, which saw the government coffers flooded with cash.
That’s the sphere through which today’s mid-year economic and fiscal outlook (MYEFO) should be judged. The federal government might want a surplus but that’s unrealistic on the back of a mining boom, with iron ore prices and the terms of trade in freefall. It’s increasingly unlikely in the presence of an ageing population, and declining labour force participation.
According to MYEFO, the federal government will run a $40.4 billion deficit in 2014-15 (compared with a deficit of $29.8bn at the May budget). Over the next four years, there will be a $43.7bn deterioration in the budget over the forward estimates.
Around three quarters of that ($31.6bn to be precise) is due to revenue downgrades; more specifically, the collapse in iron ore prices and the weaker terms-of-trade and weaker wage growth. The lower terms of trade is weighing on income growth -- the so-called ‘income recession’ -- and that has pushed nominal GDP growth lower and hit tax revenues.
The rest can largely be explained by the federal government’s failure to pass May budget measures through a hostile Senate. This includes everything from university fee deregulation, cuts to youth welfare and the $7 GP co-payment.
As a result, the federal government clearly has a revenue problem. Sure, it could lower spending further, but the real gains can be made through tax reform and addressing tax concessions, of which Australia is a world leader (It’s time to fix Australia’s leaky tax sieve, January 31).
Hockey was quick to make excuses for the result (though that’s entirely normal for politicians), but he was wrong when he said that nobody could have predicted the sharp fall in iron ore prices and the terms of trade.
Treasury’s iron ore outlook was always implausible, even at the time, and it takes only a rudimentary understanding of demand and supply dynamics to recognise the risks. What does the Treasurer think will happen when Australia -- the world’s largest iron ore producer -- ramps up production on an unprecedented scale?
He also said that the May budget was formed on conservative assumptions. To some extent he was correct -- his unemployment rate assumption, for example, received a lot of undeserved flak -- but as I noted at the time Treasury’s outlook was far too optimistic (Optimistic figures ignore Australia’s harsh reality, May 13).
On balance, that remains the case although Hockey has made steps in the right direction. I fear, however, that he is making the same mistake that Swan: overpromising and under-delivering. The risks to the budget are clearly to the downside, particularly with regards to nominal and real GDP, and that could punch a further hole in both revenues and spending.
The answer to Hockey’s problems is clearly tax reform, but he requires bipartisan support to get it moving. Unfortunately tax reform doesn’t seem to be on the agenda despite the fact that it could increase revenue, reduce costly distortions and boost efficiency (Australia can’t run away from tax reform, September 12).
More broadly, we need to ditch our obsession with running a budget surplus. We need to recognise the Howard years for what they were -- a brief period of unprecedented economic success -- rather than assuming that it was the norm.
That isn’t to say that we should ignore fiscal conservatism, but perhaps it is time that we recognised that running a modest deficit -- as we have for most of the last century -- is a perfectly reasonable approach to public spending. That approach has led us to where we are today: government debt levels that are the envy of the developed world.