Australian budget

Australia: Horror budget ahead for eastern states

The sense of foreboding in the south-eastern states will ratchet up after Treasurer Wayne Swan’s speech at the Australian Business Economists’ breakfast in Sydney this morning

Sydney Morning Herald,

29 March, 2012.

Swan repeated Treasury Secretary Martin Parkinson’s analysis from three weeks ago, noting there is a gaping hole in the government’s tax revenue in the wake of the global crisis.

He also confirmed that the May budget will contain very little new spending and heavy cuts to existing programs as the Gillard government tries to hold to its promise to balance the budget in the year to June 30, 2013.

The huge risk in this is that the eastern states that are not participating directly in the resources boom will tip into recession, but the political capital invested on both sides of the House in a 2013 surplus means that there will no backing off.

Consumers are spending less, the high dollar is squeezing export receipts and sucking in imports and company profits have fallen 6.5 per cent. Companies are paying less tax as a result, and the crisis has also slashed capital gains, and capital gains tax receipts.

The resources boom is continuing, but investments in resources projects are also pulling tax revenue down, because companies are getting tax breaks as they invest in expansion that is not yet producing taxable profits.

The upshot, says Swan, is that tax as a proportion of gross domestic product has fallen from a peak of 24.2 per cent ahead of the global crisis that began in the second half of 2007 to 20 per cent.

This is the biggest decline in the government’s tax take since the 1950s, and a large part of it has occurred since the middle of last year, when Europe’s sovereign debt crisis flared, and hopes that the world was clear of the global crisis were deflated.

Last November when the government published its mid-year economic statement and fiscal outlook it estimated that its tax take was running at 22.3 per cent of gross domestic product, and that the deficit would be $37.1 billion in the current year to June 30.

But if the tax take is 20 per cent, the deficit will be bigger than that. Swan said this morning that revenue in the current financial year would be $21 billion lower than it would have been if the pre-crisis tax share had been maintained.

The tax take was expected to rise to an average of 22.8 per cent over the two years to 2013-2014, he said, but would still leave receipts about $17 billion below pre-crisis levels.

Swan said the pre-boom peak for tax collections would not be attained anytime soon. It was an aberrational amalgam as company profits, capital gains, employment and household wealth and incomes all peaked in a global boom.

And he said again that there was a sound economic case for bringing the budget balance back into surplus by 2012-13 as promised. Suggestions that the target was primarily a political one were ‘‘misleading and ill-informed,’’ he said, adding: ‘‘You can’t be a Keynsian on the way down, and not on the way back up.’’

The government had spent up to protect the economy and stimulate growth during the global crisis, he said, and as the economy strengthened it was returning the budget to surplus ‘‘in an economy moving back towards trend growth with relatively low unemployment and a record pipeline of investment.’’

The government’s withdrawal would create room for private sector activity that would otherwise risk being crowded out, and give the Reserve Bank more options, Swan said, a reference to the fact that the central bank has more room to cut rates without boosting inflation if there is less growth impetus coming from the public sector.

All good, in a general sense. Sound national finances are one of the keys to Australia’s economic success, and so say all of us.

The problem though, highlighted by the national accounts for the December quarter that came out on March 7, is that the ‘‘trend growth’’ that Swan says allows the government to retreat is actually a combination of two trends: very powerful growth in the resources-rich states, and sub-par growth in Australia’s pressured industrial heartland, Victoria and New South Wales.

State final demand in Western Australia was 18.3 per cent higher in December 2011 quarter compared with the December 2009 quarter, and 12.3 per cent higher than in December 2010. Queensland was up 14 per cent compared with December 2009, and by 10.4 per cent jump in a year.

NSW demand in contrast was only 5 per cent higher in the December quarter compared with the December 2009 quarter, and up less than 2 per cent in a year, while Victorian demand was 5 per cent higher over two years, and up 1.6 per cent compared with the December 2010 quarter.

The deal between Canberra and the states for the distribution of Commonwealth GST revenue means that the downturn is largely locked into the States’ revenue bases. Swan yesterday also made it clear that there will precious little new spending that might bring them relief.

Spending would be re-allocated to ‘‘where it is needed most,’’ he said, but the reality was that the government would need to ‘‘cut and cancel’’ existing programs and keep new spending to a minimum to stay on track for the surplus in the 2012-13.

So it’s going to be a horror budget. Peter Costello’s famous first budget in 1996-97 cut outlays by 0.5 per cent in year one, and by 2.1 per cent in 1997-98. The same budget would save about $10 billion over two years today - about half what is needed to close the tax revenue gap that has apparently opened up.

The key question given that is whether budget settings that theoretically carry the government to its 2013 surplus target can actually do the job.

The fear is that settings that aim to close the gap will actually close Victoria and New South Wales down economically, slashing the Commonwealth tax take from both States, and pushing the surplus target out of reach once again. A second-wave tax revenue slide would be confirmed well before the 2013 election.