Can Abbott Sell His Bitter Budget?


Last night, Prime Minster Tony Abbott gave a speech to the Sydney Institute. "Right now, Canberra is fixated on the coming budget — as we should be — because budgets matter," he said.

As happens most years, much of the budget speculation is coming from the government itself. With Joe Hockey’s inaugural fiscal statement only a fortnight away, the public is being softened up for the inevitable bad news that will flow on 13 May.

In recent weeks we've had a number of spending cuts and tax rises mooted. Hockey has signalled that he wants the pension age raised to 70. Various other cuts and tweaks to entitlements have been signalled, as have spending cuts across a range of government services, and a new $6 levy for visits to the doctor.

Today, the news is full of reports about a so-called “debt tax”. If the stories are true, a 1 per cent levy will be introduced on everyone earning more than $80,000 to help pay off government debt. Those on $180,000 or more will pay an extra 2 per cent.

In his speech last night, an oration full of the shopping list of slogans we have come to expect from Abbott, there were plenty of signposts about the horror budget ahead.

“We’re striving to achieve a stronger budget because that’s the way to a stronger economy, to a stronger society and to make your life better and your job more secure,” he told the assembled guests at the conservative think-tank.

It sounded good. Unfortunately, you can’t get a clearer illustration of what’s wrong with Australia’s economic debate than this sentence. Abbott is almost 100 per cent wrong.

The state of the federal budget does have an important impact on the economy, but it’s the reverse of the relationship that Abbott describes. A strong budget, which we can take to mean a government budget in surplus, is bad for the economy. Budget surpluses are contractionary: they collect more taxes than they return to the economy in spending.

That’s why governments typically commit to deficit spending when the economy is weak. By borrowing money, governments can spend more than they raise in taxation. This injects extra stimulus into the economy. Stimulus can also flow from lower taxes. Again, the result is a weaker budget. It’s macroeconomics 101, and Abbott is flunking.

In his speech, Abbott also banged on about government debt. “Labor debt and deficit stretches out as far as the eye can see,” he warned. “$123 billion in cumulative deficits over the next four years, debt projected to reach at least $667 billion — which is $25,000 for every Australian man, woman and child — with $10 billion a year in interest repayments alone.”

There’s no doubt that too much government debt is a bad thing. Debt requires interest payments, and if a government gets too far underwater, those interest payments — in the form of bond yields — can spike to crippling levels. This was the situation Greece, Portugal and Italy recently found themselves in.

But how much debt is too much? That question has become hugely controversial in recent years, as economists argued over the exact figure at which government debt started to cripple economic growth.

Economists Kenneth Rogoff and Carmen Reinhart, in a now-notorious paper, argued that the danger figure was around 90 per cent of gross domestic product. Unfortunately, they got their sums wrong.

Many economists believe that the real “trip-wire” for government debt is the point when international bond markets stop lending to sovereign governments. Given Australia is one of only 14 nations with a AAA rated debt, that’s not happening any time soon.

Whatever the dangerous level of government debt, Australia is well below it. Recent IMF figures put our government gross debt at around 28 per cent. International investors can’t get enough of Australian government bonds.

Australia has the second-lowest government debt to GDP ratio of the AAA-rated economies. Source: IMF, Greg Jericho.

The truth is that slashing government spending to pay down debt is actually bad for the economy. At various times, Joe Hockey has even admitted this. But the economic reality — that Australia is a prosperous nation, with sound government finances — has been swamped by the political opportunity that the government sees.

Maybe this is why the government’s budget lead up has been so confused. The reality of a reasonably strong economy simply can’t be squared with the doom-laden predictions of the austerity chorus.

There’s also the pesky problem of the various spending commitments that the government has inevitably made since coming to office: big ticket items like $12 billion to buy new Joint Strike Fighter jets, $9 billion for the Reserve Bank to top up its cash reserves, $4 billion a year in a gold-plated paid parental leave scheme, and $2.55 billion in handouts to big polluters as part of Greg Hunt’s Direct Action climate policy.

Squaring these spending announcements with the general atmosphere of belt-tightening has not been easy. As a result, the government has a lot of work to do between now and budget night to convince voters that all this pain will eventually be worth it.

And pain there will be. The new “debt levy”, should it eventuate, represents about $800 a year in extra taxes for a middle income earner on $80,000. That’s well above the roughly $500 a year impact that Labor’s carbon price was estimated at by the federal Treasury.

Should ordinary householders be slugged to pay off government debt? Only if you think that’s the best use of government tax revenues. No doubt there are some ordinary Australians who would like to see the federal government pay down debt. But most voters would, I think, expect the government to pay down debt from its ordinary revenues.

After all, if Abbott and Hockey really want to find extra revenue, there are plenty of easy sources of extra cash. As many economists and public finance experts have pointed out, the federal government gives away roughly $120 billion in tax breaks every year for things like superannuation discounts for high income earners, negative gearing for landlords, and cheap diesel for big mining firms.

Just tweaking superannuation tax rates for the top 5 per cent of earners could generate more than ten billion, according to Treasury figures. But superannuation, like mining, is a powerful industry.

As inconsistent as the Abbott government has been in its budget rhetoric, it has been absolutely consistent when it comes to protecting the tax perks of big business and special interests. When the Abbott government breaks promises, it makes sure that these interest groups are protected.

Ben Eltham is New Matilda's National Affairs Correspondent.