Sydney, Australia (PressExposure) May 15, 2009 -- What a difference a year makes! Last year, the new Government brought down a neutral Budget, which it tried to sell as 'tough' because, after a fairly long period in which economic growth in Australia had been a little too strong for its own good, Australia clearly had an inflation problem. At the time, there were some incipient concerns about global economic growth, but few if any knew what was just around the corner. Thanks mainly to the commodity price boom, it was possible to produce a budget with forecast annual surpluses between $15 and $20 billion as far as the eye could see.
This year, Australia is in the midst of its first recession in eighteen years, dragged in by the worst performance by the global economy in living memory, and the commodity price boom is well and truly over. As a result, a massive hole has opened up on the revenue side of the Budget and, even if the Government (wrongly) did nothing to try to offset the effects of the recession, we would be looking at large deficits for several years.
At times like this, it is as well to remind ourselves that the Budget exists to serve the purposes of the economy, rather than the other way around. So it is entirely appropriate that the short-term response of the Government to the weakness of the economy increases the size of the deficit still further. But there needs also to be a credible plan to wind the deficit back over time. And that plan is complicated by the fact that, in common with almost every other developed nation, Australia has a long-term deficit âproblemâ caused by the aging of the population. Hence the need, even in an expansionary Budget such as this one, to look carefully at measures ('middle-class welfare', for example) that increase the deficit for insufficient purpose.
The above paragraphs were written before the Treasurer stood up on Tuesday evening, but late in his speech he acknowledged specifically the need to provide stimulus (and jobs) in the short term while laying out a path for the Budget to return eventually to surplus. As in the past, a country can fall into a deficit hole very quickly but it then takes a long time to get back out. The Treasurerâs best guess is 2015/16, which means we will run deficits for the rest of my working life at least. Given the eventual strong growth in GDP in the Budget assumptions, and given a working memory of history, it may prove even tougher to get the Budget back to eventual surplus. This doesn't mean that the Government should have gone tougher in this Budget (and despite more than one reference to 'hard choices' the only way that you could describe this yearâs budget as tough is in the sense that it was difficult!), but it almost certainly means that tough decisions will have to be made in future years. That said, there is a bit of 'Robin Hood' in the Budget, since high-income earners will be hurt by the changes to superannuation and private health insurance, while those pensioners that last until they are 67 will benefit significantly.
As the table shows, after a surplus in 2007/08, the Budget fell into significant deficit in 2008/09, and this will get bigger in the first year of the new Budget, 2009/10. The underlying cash balance will hit a record $57.6 billion, or 4.9% of GDP. Most of this increase is due to 'revenue write-downs' caused by the weak economy, but some of it is due to explicit easing. The deficit share of GDP is bigger than in either of the past two recessions, but still relatively small compared with elsewhere in the world (in the US and UK, the deficit is running well over 10% of GDP). Thereafter the deficit declines, albeit slowly, as the economy recovers.
In total, the Budget delivers about 1 percent more of fiscal stimulus in 2009/10, with the focus being on infrastructure, pension reform, paid maternity leave and education and health spending. This is in sharp contrast to the âcash splashesâ, which were directed at households.
1. Key Budget Parameters - Remarkably, forecast revenues in 2009/10 is down by $50 billion from the 2008 Budget figuring, with most of this change being a consequence of the economic weakness.
2. Major Initiatives in the 2009-10 Budget - Total includes amounts spent prior to 2009/10
3. Major Savings in the 2009-10 Budget - The table on the BT Insights website is an incomplete list, of course, but it does highlight the major areas addressed by the Budget. In total, the new spending initiatives announced total $52.2 billion in the next four years, with the savings totaling $22.6 billion.
The Economic Background
The economic environment is the most uncertain that it has been for many years. Sometime in the past twelve months, the Australian economy fell into its first recession since the one âwe had to haveâ in 1991. At time of writing, we still have not reported two successive quarters of negative GDP growth, but this is a 'rubbish' definition of a recession anyway. Early last year, the unemployment rate was (briefly!) 3.9%. It is now 5.4%. Thatâs all one needs to know.
The relevant questions are, of course, how deep and how long. The Budget has never before included a forecast of negative growth, but this one certainly does. GDP is forecast to fall by 0.5% in 2009/10 after zero growth in the current fiscal year (2008/09). It then recovers by 2.25% in 2010/11 and by a robust 4.5% in both 2011/12 and 2012/13. The fall in GDP in 2009/10 is dominated by an 18.5% fall in business investment. The unemployment rate is forecast to peak above 8.5% sometime in 2010/11. This latter rate is a considerable change to the 7% forecast by the Treasury as recently as early-February. My suspicion is that we may finally have become too pessimistic about the economy. Recent data suggest that the pace of decline is still quite moderate, and there are many âgreen shootsâ in the global economy. Green shoots is the new parlance for signs that the world economy is no longer in free fall, and that there is cause for thinking that recovery may not be that far away. In addition, the stimulus already applied to the Australian economy has been quite large. It would not surprise me to see the unemployment rate peak below 8%.
The Major Economic Parameters include:
There are several other features of the economic background worth of note. First, the Treasury has departed from its usual practice of assuming trend growth after the first year, and has forecast below-trend growth in 2010/11, followed by a strong cyclical recovery. This has the eventual effect of speeding up the return to surplus, which is probably politically expedient.
Second, inflation is projected to remain low for the next three years implying, if these forecasts are realised, that interest rates will remain low for a long time yet. Third, the fall in nominal GDP in 2009/10 sends a message that a fall in the terms of trade (of a little more than 13%) will have a significant effect on income growth.
Will be slight. Far too much has been made of the idea that we are running up massive debt and somehow putting the welfare of our grandchildren at risk. It is true that CGS on issue are expected to expand from $112 billion currently to $301 billion in four years time, but Federal debt as a share of GDP is expected to peak at just 13.8%, a figure that is laughably low by international standards (e.g Japan and Italy are heading for debt/GDP ratios of close to 125%, and the average for the G7 will get close to 90%). The biggest determinant of the movement in the long bond rate in the next few days will be whatever happens in the US!