With the Turnbull government’s innovation package now out of the way, we will soon get the official update on the government’s budget position, the so-called Mid-year Economic and Fiscal Outlook (MYEFO).
And it is unlikely to be pretty.
The budget numbers that then-Treasurer Joe Hockey laid down in May were, at that time, rather ugly. The budget deficit in 2015-16 was estimated to be $35.1 billion, or 2.0% of GDP.
Since then, however, GDP growth has been below the 2.75% real rate used to generate the figures (despite a ray of sunshine, or at least the absence of torrential rain last quarter). The iron ore price – a key figure for tax receipts from Australia’s largest export – has fallen to US$40 per tonne. Remarkably, it has fallen fully 30% since mid October.
I could go on, but you get the point. The deficit is going to be way more than $35 billion.
Treasurer Scott Morrison isn’t personally responsible for this, of course. And he does have the opportunity to come clean with the Australian public and tell us just how bad the situation is, without reflecting poorly on his, or his new prime minister’s economic credentials.
That would be brave, but it would set the stage for the tax reform discussion that is almost surely awaiting us at some point. It would also allow Morrison to create his own narrative about the budgetary situation.
Hockey told us that Australia was suffering a “debt crisis”. Many people (including yours truly in this outlet) pointed out that Australia had the third lowest net debt to GDP ratio in the OECD and that debt levels were historically low. These wise commentators also observed that what we did have was a structural deficit problem.
Tax revenues were growing at 3% or so, while the major categories of expenditure (like health and aged pensions) were growing at 6-7%. That was unsustainable in the long term, despite there being no imminent crisis.
Nobody really bought Hockey’s message – and for good reason. Indeed, then prime minister Tony Abbott reversed course and called 60% debt to GDP “a pretty good outcome”.
Yet, sadly, the important point about structural deficits and the need for reform got lost with debt scaremongering. MYEFO is an opportunity for Morrison to get the narrative right and lay out the case for GST reform.
The really bad news, however, comes in the years beyond the current one. The estimates for 2016-17 and 2017-18 are for deficits of $25.8 billion and $14.4 billion respectively. The bizarrely titled “projection” for 2018-19 has the deficit at just $6.9 billion (or 0.4% of GDP).
Even in May those numbers were laughably optimistic. I’m tempted to call them a “fantasy”, but that’s unfair to movies like The Princess Bride that contain important life lessons.
For starters, those forward numbers use implausible assumptions about GDP growth (3.25%, 3.5% and 3.5%, respectively). Second, they assume wage growth that is well above recent history–and hence they likely overstate personal income tax receipts. Finally, they build in a hefty dose of bracket creep, where the tax thresholds for the various marginal rates stay unchanged in nominal dollars and hence the average tax rate paid goes up for many Australians. Indeed, it is estimated that those on average weekly earnings will be in the second top bracket during these years.
Morrison could announce a change to the way these “forward estimates” are reported in the future. He could mandate that bracket creep be backed out of the figures and he could insist that future GDP growth and other assumptions are at the present level, not some giant Hockey stick (pun sort of intended).
A “no BS” forecast pledge along these lines would play well with many of the taxpayers who don’t get to make such unrealistic assumptions about their own finances.
But whatever the sea of numbers MYEFO contains, and however depressing they may be, the treasurer needs to connect the current state of the Australian economy with the need for tax reform. And it should go something like this.
We have a structural budget deficit problem with revenue growth at 2-3% and expenditures growing at 6-7%. The days of 4% GDP growth are gone. GDP growth around 2% is the new normal because of secular stagnation – just as former US Treasury Secretary Larry Summers has been saying for a couple of years now, and as RBA governor Glenn Stevens has seemingly accepted since the middle of 2015.
Worse, our tax system is hopelessly dependent on personal and corporate income taxes at a time when labour and capital are more mobile than ever. That’s a giant risk that can only be addressed by raising the GST to 15% and broadening the base to include everything – along with compensation for low income earners. We also have to lower marginal income tax rates to reduce the disincentives for working and investing.
And the superannuation system has to be reformed so that it is no longer an estate planning vehicle for the wealthy, but nor is it an optional top up to the aged pension (which a shocking 80% of retired Australians receive in full or in part).
That’s a whole lot of truth for one little budgetary update. But it would make for a pleasant change.