Treasury's guess as good as any
The Coalition has had Treasury's best fiscal guess for 11 days now. The official pre-election economic and fiscal outlook (PEFO) numbers are virtually the same as those in the economic statement on August 2. A difference of $9 million in the forecast 2014-15 deficit is less than a makeover for a marginal electorate's football ground.
Hockey (right) was getting his denial in early when he declared he didn't believe the economic statement figures and, therefore, he can't believe the PEFO figures either. If the man who would be Treasurer doesn't believe his department's best efforts, one might assume his first big slash at the Canberra public service will be to sack the entire Treasury and put government bean-counting out to tender - departmental secretaries come much cheaper in Mumbai.
While the PEFO numbers are apparently not to be believed opposition education spokesman Christopher Pyne said Joe Hockey and finance spokesman Andrew Robb would consider the numbers and release their costings "in plenty of time". But they've effectively been looking at those numbers for the better part of two weeks, and looking won't change the arithmetic.
About the only real difference between the PEFO and economic statement is that the PEFO authors include an alternative view of what the unemployment rate might be in the "projection" years of 2015-16 and 2016-17. The statement, and the first bit of the PEFO, make the rather heroic assumption that unemployment will suddenly drop from 6.25 per cent at the end of June 2015 to 5 per cent a year later. You don't need the computer modelling grunt of Treasury to think such rapid growth would be extraordinary - and that the Reserve Bank would react to such a fast-growing economy by boosting interest rates to cool it. The more credible PEFO "alternative projection" is a more gradual closing of the output gap, with unemployment easing to 6 per cent at the end of 2016 and 5.75 per cent in 2017 - which would add $3.2 billion in unemployment benefits in those two years. Both sides will no doubt prefer to ignore that alternative rather than pluck another $3.2 billion out of the budget air.
The authors signing off on PEFO, Treasury's Martin Parkinson and Finance's David Tune, also go to some effort to explain the difficulty of forecasting animals as wild and unpredictable as the Australian and global economies.
"Against the backdrop of a still-challenging global outlook, the Australian economy is expected to transition away from resource investment-led growth towards broader-based growth, although this transition may not occur as smoothly as forecast," the document warns. In other words, forecasting is a mug's game and even Treasury's best efforts need to be taken, if not with outright disbelief, with some understanding of the craft's limitations.
PEFO claims the same sort of confidence band as the Reserve Bank's forecasting efforts. Treasury and Finance are 70 per cent confident this year's GDP growth will be between 2 and 3.5 per cent - hence the headline forecast of 2.75 per cent, smack in the middle.
Global factors outside any Australian politician's control could weaken the outlook, but they could also improve it. I don't recall any of the army of commodities forecasters predicting iron ore prices would be enjoying their current lift.
The bottom line, then, is that the PEFO numbers may as well be believed as they are likely to be as good or bad as anybody else's.
And there remains the question posed by Rhys Muldoon on Q&A on Monday night and left unanswered: "When will the Coalition believe Treasury and when will the Coalition not believe Treasury?"
Michael Pascoe is a BusinessDay contributing editor.
Frequently Asked Questions about this Article…
PEFO is Treasury’s official pre‑election economic and fiscal outlook that lays out the government’s best fiscal and economic forecasts. Everyday investors should pay attention because PEFO contains GDP, unemployment and budget projections that influence policy debates, market sentiment and expectations for interest rates — all of which can affect shares, bonds and household borrowing costs.
The article explains the Coalition’s leaders — including Joe Hockey — expressed scepticism about the PEFO numbers, saying they didn’t trust the earlier economic statement figures and therefore couldn’t accept PEFO either. Political mistrust of Treasury forecasts and internal differences about policy costings are given as reasons for delaying or questioning release of costings.
PEFO authors caution that forecasting the Australian and global economies is difficult and uncertain. Treasury and Finance give a 70% confidence band around this year’s GDP forecast (between 2% and 3.5%), and the article concludes PEFO numbers are about as good — or as fallible — as anyone else’s forecasts. Investors should treat them as useful guidance but be aware of their limitations.
PEFO presents a headline projection that assumes a relatively rapid fall in unemployment (to about 5% within a year), but it also includes a more credible ‘alternative projection’ where unemployment eases more gradually to 6% by end‑2016 and 5.75% in 2017. That slower improvement would increase unemployment benefit costs by about $3.2 billion across those two years, according to the document.
The article notes that if unemployment and GDP rose very quickly, the Reserve Bank would likely raise interest rates to cool the economy. For investors, faster rate rises can pressure bond prices, affect dividend yields and change economic sector performance, while a slower recovery could keep rates lower for longer — influencing mortgage costs and fixed‑income returns.
PEFO stresses that global conditions outside Australian politicians’ control can weaken or improve the outlook. The article highlights commodity price swings — for example, unexpectedly higher iron ore prices — as factors that can change growth forecasts and therefore affect the accuracy of PEFO’s projections and market reactions.
According to the article, the Coalition delayed releasing their policy costings while they ‘consider the numbers’ and amid public scepticism about Treasury’s figures. Investors should watch for the actual release of costings, any shifts between headline PEFO forecasts and alternative projections (especially unemployment), and political commentary that could alter market expectations.
Use PEFO as a data point rather than a certainty: note the headline forecasts, the confidence bands and any alternative projections; consider multiple scenarios (faster growth, slower recovery); monitor key indicators such as unemployment, GDP and commodity prices; and keep portfolios diversified to manage the forecast uncertainty highlighted in the article.
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