Tag Archives: Budget

Want jobs and growth? Forget business tax cuts

On the face of it, the idea that you can increase employment and pump up economic activity by reducing corporate taxation sounds straight forward and uncontroversial. After all, the less company revenue that goes to the tax man, the more should be on hand for things like hiring more staff, buying new equipment and the like.

Ultimately, the thinking goes, the boost to employment and growth will make everyone a winner.

It is the deceptively simple idea that lies at the heart of the Coalition’s economic plan to boost jobs and growth by implementing $48 billion worth of business tax cuts over the next 10 years.

It also happens to be wrong.

Many have already pointed out that the benefits of stronger growth and increasingly profitable businesses don’t necessarily “trickle down” through more and better-paid jobs, as some naively believe.

The widening gulf between a small group of high-income “haves” and the rest of society is evidence of that. In Australia in 2013-14, 62 per cent of all household wealth was concentrated in the top 20 per cent, while the bottom 20 per cent held just 1 per cent of all wealth. Ten years earlier, the wealthiest 20 per cent owned 59 per cent of all wealth.

As The Economist reported this week, the proportion of working poor in the UK is increasing – 10 years ago about 40 per cent of those in absolute poverty (income less than 60 per cent of the national median, after housing costs) lived in households where people were in some sort of employment. Today, that proportion has risen to more than 50 per cent.

Try telling workers whose wages have yet to recover to pre-GFC levels even while house prices soar, and it is little wonder that an election pitch centred on business tax cuts is a hard political sell job.

But added to well-founded scepticism about who will actually benefit from business tax cuts is an even deeper problem that makes them a poor prescription for jobs and growth.

The searing experience of the GFC and its aftermath has provide a wealth of information to digest about what works and what doesn’t in trying to support economic activity and employment at times of low or stagnant growth.

Among those who have taken a close look at the effectiveness of government stimulus measures is Princeton University economist Alan Blinder.

Blinder, who is a former Vice Chairman of the US Federal Reserve’s Board of Governors and served on Bill Clinton’s Council of Economic Advisers, has run the ruler over the various actions taken by the US Government in the wake of the Lehman Brothers collapse, from welfare handouts and the Cash for Clunkers program to infrastructure and defence spending and business tax cuts.

His findings (http://www.hamiltonproject.org/papers/fiscal_policy_reconsidered) will hearten Keynesians and should give those who spruik business tax relief as the first and best policy response to a downturn pause for thought.

What Blinder found was that the most effective action taken by the US Government was to target temporary handouts to low income households through the Supplemental Nutrition Assistance Program (formerly known as food stamps).

In the first three months of 2009, for every $1 directed by the government through SNAP, $1.74 worth of economic activity was generated.

Extending unemployment insurance benefits had a 1.61 multiplier effect over the same period, while a temporary boost to work-share programs had a 1.69 multiplier effect.

Even increasing infrastructure spending was found to have a significant multiplier effect, though Blinder said the time lags involved in commissioning and undertaking capital projects meant that it was a stimulus measure more appropriate for prolonged downturns rather than shorter ones.

But, effective as some of these spending measures proved to be, there was great clamour from more conservative members of Congress for tax cuts as the tonic the ailing economy needed.

Here, Blinder found the evidence was mixed.

While temporary tax cuts and credits targeted at “liquidity constrained” (read, hand-to-mouth) households had appreciable multiplier effects (like Child Tax Credits, 1.38 times; Earned Income Tax Credits, 1.24 times), permanent tax cuts were much less impressive in their effectiveness.

The multiplier effect of permanent cuts to dividend and capital gains taxes was 0.39, and for a permanent cut in the corporate tax rate, it was just 0.32.

Not only were corporate tax cuts much less impressive as a stimulus measure, but they were prone to getting hijacked by the business lobby and turned into something whose prime purpose was to plump profits rather than fuel economic activity.

As evidence, Blinder cites the experience of an accelerated (“bonus”) depreciation measure included in a 2002 tax cut bill.

The change, which had the effect of putting investment goods “on sale” for a limited period of time, was originally due to expire after 18 months. This short duration was considered key to its effectiveness as a stimulus measure.

Instead, business lobbied hard to have the bonus depreciation extended…and extended… and extended…so much so that last year legislation was passed to keep it going until 2019.

“Ironically, we may have destroyed the usefulness of bonus depreciation as a countercyclical tool by making it permanent,” Blinder says, and advances what he calls a general theorem of political economy: “Business tax cuts artfully designed by economists for maximum bang for the buck will be altered by lobbyists to achieve maximum revenue loss instead”.

The reason is that “business lobbyists don’t care about ‘bang’, but care deeply about getting more ‘bucks’ for their clients, and lobbying almost always overpowers economic logic”.

 

The lesson, says Blinder, is to be wary of using investment incentives as a stimulus measure.

Many might object that American business and politics is a lot different to that in Australia and, anyway, we are a long way from the dire economic circumstances that confronted policymakers in late 2008 and early 2009, so Blinder’s analysis has little to tell us.

But the real question is, is a company tax rate of 30 per cent stifling activity, and would cutting it to 25 per cent over the next 10 years unleash a wave of investment and jobs growth?

The evidence suggests the answer to both questions is no.

As the Reserve Bank of Australia has observed, what has been holding growth down in Australia has been the plunge in global commodity prices and the fall in resources investment.

This has been partially offset by the effects of low interest rates and a weaker currency, which has encouraged growth in services exports and housing investment – both oif which have helped support an improvement in consumption to around its decade-long average of 3 per cent.

Arguably, what has been weighing on hiring and non-mining investment for the last few years has been soft demand and uncertainty about the outlook.

A $48 billion company tax cut might help firms capitalise on the improvement in consumption, but it is hard to see how it would drive it. Unless there is a compelling reason to hire and invest (read: an opportunity to make money), businesses are unlikely to make an outlay, regardless of whether the tax rate is 30 per cent or 25 per cent.

Instead, much of it could find its way into the bank accounts of lawyers and bankers devising M&A activities or pumping up shareholder dividends.

 

Leave a comment

Filed under Analysis

Why a bigger deficit is not all bad

The Federal Government’s financial position continues to deteriorate.

The latest monthly snapshot of Commonwealth finances shows the deficit reached $35.48 billion in the 12 months to December – $763 million larger than was predicted in the Mid-Year Economic and Fiscal Outlook, which came out only a month ago.

It means there is going to be no let-up in the pressure on Federal Ministers to find savings ahead of the election year Budget released on 10 May.

But, promisingly for the Government, the deterioration in the Budget position was largely due to higher-than-expected cash payments than yet another unexpected revenue write-down.

In fact, there are some small signs that the flood of red ink that has drenched the tax revenue columns of Budget for the past few years may be starting to slow.

Gross income tax receipts ($87.6 billion for the financial year-to-date) were a little weaker than forecast in MYEFO ($88.1 billion), but recent jobs growth will spur hope of a strengthening in that revenue stream.

Even more optimistically, company tax receipts reached $30.82 billion so far this financial year – about $750 million more than anticipated in MYEFO.

Of course, this month’s sharemarket plunge might yet cruel this improvement.

Another cause for optimism is that GST receipts were mareginally stronger than expected, reflecting the increased willingness of consumers to shop and firms to invest.

If this improvement in activity, as reflected in the tax revenue figures, is sustained, then hopes that the country is well advanced in its adjustment to the end of the mining investment boom – – aided by the weakening of the dollar – will appear increasingly well founded.

 

Leave a comment

Filed under Uncategorized

An inconvenient obsession

There was a glimmer of hope earlier today that, boxed repeatedly around the head by evidence that the economy isn’t really travelling so well and that slashing Government spending was only compounding the problem, Joe Hockey had a conversion of sorts.
The Treasurer talked in almost Keynesian terms of the need for the Budget to act as a “shock absorber” for the economy.
Was the political obsession with returning the Budget to surplus as soon as a possible and bugger the consequences for the rest of the economy to be consigned to the rubbish heap of history?
Unfortunately, it appears not.
Whatever Joe Hockey’s rhetoric, in its latest update on the economy, the Government remains obsessed about public spending, devoting a major slab of the Mid Year Economic and Fiscal Outlook (MYEFO) to its “Smaller Government” reforms, including cutting the size of the public service to levels last seen in 2007-08, holding down public sector wage growth to 1.5 per cent a year and axing 175 Government bodies.
None of these bode well for support for economic activity.
The fact is, in earlier times, governments could fiddle with the Budget and not worry too much about the effects on the economy.
But, as Reserve Bank of Australia officials pointed out in a research paper earlier this year, governments need to be a lot more careful now:
“The changes to the taxation system overall are likely to have increased the sensitivity of revenues to fluctuations in the terms of trade and economic activity in the current episode.[8] The larger size of government means that the operation of automatic stabilisers has a more significant effect on overall economic activity” – Australia after the Terms of Trade Boom, RMA Bulletin, March 2014.
There is no doubt that the Budget is looking pretty ugly.
Tax receipt estimates have been slashed by $31.6 billion since May, contributing to a $43.7 billion deterioration in the Budget position.
As a result, the deficit this year (2014-15) is expected to reach $40.4 billion (as opposed to $29.8 billion in May), and the books will stay in the red right through the forward estimates – a deficit of $11.5 billion is projected in 2017-18.
There is no return to surplus projected until very late this decade, at the earliest.
This outlook is hardly surprising given what we have been through, not least a global crisis that has left the international financial system badly shaken.
Overlaid on this has been the unsettling surge and ebb of the resources sector.
Booms, whatever their source, rarely end smoothly, and the economy was always likely to hit some rocky times as mining-related investment faded and other sectors were slow to pick up.
One of the features of this period – a rapid decline in the terms of trade – was hardly unanticipated. All along, it was expected that the massive worldwide investment in mining capacity, encouraged by soaring commodity prices, would drive a huge increase in supply that would drive prices down – and this is what has happened.
In the lead-up to releasing today’s Mid Year Economic and Fiscal Outlook, the Government has been enthusiastically briefing the media on what has been described as a “collapse” in the terms of trade (principally as a result of plunging iron ore prices) and what this has meant to Commonwealth revenues.
It has been keen to highlight a 50 per cent plunge in global iron ore prices since the start of the year, including 30 per cent since the May Budget.
“The extent of the fall in the price was widely unexpected,” the Government said in MYEFO – Treasury had estimated a drop from $US120 a tonne to $US92 a tonne by mid-2016, whereas it is currently at $US63 a tonne.
The result of these and other moves, the Government says in MYEFO, “would be the largest fall in the terms of trade in a financial year since the Australian Bureau of Statistic’s Annual National Accounts started in 1959-60”.
But, as one of this column’s correspondents, Property Insights principal Rob Ellis points out, claims of a record fall in the terms of trade are overblown.
True, the terms of trade have fallen sharply (the index has fallen below 160 points surging above 180 around the start of the decade), but they are still very high in historical terms (see chart).
Nonetheless, the Government has trimmed its real non-farm GDP growth forecasts. The economy is now expected to expand by 2.5 per cent this financial year (a 0.25 percentage point reduction from the May forecast) but still grow by 3 per cent in 2015-16.
And it expects household consumption to grow at a similar rate – a questionable assumption when many workers are seeing their pay go backwards in real terms, and rising unemployment and slowing house price growth are only making households even more careful about their spending.
Dumping even more off the public payroll and squeezing the incomes of those left on it is only going to make the task of achieving these growth forecast more difficult.
terms of trade

Leave a comment

Filed under Uncategorized

Tony Abbott’s world just gets uglier

The ugly position the Abbott Government finds itself in has been underlined by the latest tax revenue and public expenditure figures from the official statistician.
A lot of attention will probably be drawn to the 15 per cent plunge in tax receipts across all levels of government in the September quarter to less than $100 billion.
There is no doubt that tumbling commodity prices and weak wages growth are weighing heavily on the Budget ledger – Deloitte Access Economics reckons the write-downs will push the Budget deficit to $34.7 billion this financial year – $5 billion more than the Government forecast in May.
But the steep 15 per cent fall reported by the Australian Bureau of Statistics today is hardly unexpected – it happens every year at this time. Historically, the three months to September is the weakest quarter for tax collections, for the obvious reason that most corporations settle their annual tax bill in the June quarter.
What is more telling is the ABS’s assessment that Commonwealth spending (ex-defence) grew 2.2 per cent in the September quarter and is up more than a 1 per cent from where it was when the Coalition came to office little more than a year ago.
The Government will probably claim that this is because so many of its Budget savings measures have been stymied by a hostile Senate.
But they should not be let off the hook so easily.
Take the $7 Medicare co-payment proposal, which is languishing on the Government’s books and hasn’t even made it onto Parliament’s agenda yet.
The Government claims it will save $3.5 billion by slicing $5 from Medicare rebates for GP, pathology and diagnostic imaging services. But this money has not been slated to improve the Budget bottom line.
Instead, the revenue was to be directed to the Medical Research Future Fund, to provide a fig leaf for Tony Abbott’s pre-election pledge not to cut spending on health.
Other measures will take years to deliver savings, such as shifting more tertiary tuition costs onto students.
Ripping more than $1.8 billion out of public hospital funding is a significant (if short-sighted) savings measure, but it won’t really have a big impact on the bottom line until 2017-18, while abolishing programs and agencies, such as the Australian National Preventive Health Agency are mostly small beer (scrapping ANPHA will realise just $6.4 million in savings over four years).
Instead, the Government has lumbered itself with a raft of unnecessary costs arising from impulsive and ill-considered decisions affecting the machinery of government.
For instance, the Government reckons that – on paper, at least – abolishing AusAID and absorbing its functions within DFAT will save $397.2 million over four years.
But there are good reasons to question whether the savings will approach anything like that.
First of all, the savings were predicated on staff cuts, and DFAT offered attractive redundancy packages to entice people to leave. As at 30 June, 272 DFAT staff had accepted a voluntary redundancy. Tellingly, a majority (56 per cent) were 50 years or older and 55 per cent were executive level staff – so their payouts would not have been cheap.
Secondly, the entire process was a productivity killer. For months, nothing much was done as management worked out how to takeover would work, and sorted out the structure of the new, larger, organisation.
Third, the process has been a morale killer for many in the Department, further hitting productivity.
You can only wonder whether all these flow-on costs formed part of the calculation when the Budget was being drawn up. I suspect not.
A similar gag-handed decision is to relocate many of the functions of the Department of Agriculture to regional centres dotted across the country.
For an agrarian socialist, it sounds like a neat way of spreading jobs and encouraging economic activity in smaller regional centres.
But reality has a way of mugging such hopes.
There is the cost of breaking the lease on existing premises, locating and securing appropriate accommodation, assisting staff who are willing to relocate and paying out and replacing staff who are not.
Then there’s the increased expense of co-ordinating activities across and geographically dispersed and decentralised organisation – not least higher communication and travel expenses.
Then there is the challenge of luring appropriately skilled and experienced staff to work in these regional offices – not many rural communities will be flush with people experienced in, say, administering a grants program or overseeing research projects.
As the Government struggles to come up with a compelling narrative to pitch its forthcoming Mid-Year Economic and Fiscal Outlook, it will have seen precious few green shoots of hope regarding the Budget books.
As Reserve Bank of Australia Governor Glenn Stevens noted today, it will be “some time yet” before there is a sustained fall in unemployment, so growth in wages (and hence income tax revenue) will be weak for quite a while yet.
And desultory economic growth will not do much for corporate profits or tax receipts either.
If the Government wants to burnish the Budget books and chart a convincing path back to surplus, it will have to contemplate killing more than a few sacred cows, like the massive subsidies currently built into the system for superannuants and hugely expensive corporate tax breaks and handouts.
If Tony Abbott truly thought last May’s Budget was brave, then he and Joe Hockey will have to deliver something of Homeric proportions if they are serious about setting the Budget on a sustainable path.
Otherwise, we’ll just continue to bumble along on familiar our shambolic path of hasty, ill-conceived and partisan Budget decisions and just hope that something – another China, perhaps? – comes along to paper over the glaring inadequacies of the nation’s political class.

Leave a comment

Filed under Uncategorized

G20’s shaky growth base

For the sake of global prosperity, you have to hope that the pro-growth commitments made by the visiting national leaders at Brisbane’s G20 are of a higher quality that those proposed by the host.
Laudable as the G20 goal is to boost collective growth among member countries by 2.1 per cent by 2018, it comes with a big asterix attached. There are measures whose benefits are difficult to quantify. There are measures that are contingent on the actions of others to come to fruition. There are measures whose prospects are definitely cloudy.
And then there are measures for which any claim of benefit is dubious, at best.
In this category belongs two measures the Australian Government has included in its contribution to the G20 growth goal – the introduction of a $7 co-payment for GP, pathology and diagnostic imaging services, and the deregulation of university fees. (Note of disclosure: I am currently employed by the Australian Medical Association, which is campaigning against the Government’s co-payment proposal).
It is hard to see how it can be argued that either, particularly the co-payment, will enhance growth.
Both are essentially exercises in cost-shifting – removing a liability from the Commonwealth’s books and putting it on to individuals.
In the case of the co-payment, patients face an extra $7 for each visit to their GP, while doctors are set to lose $5 from each Medicare rebate and incur extra practice costs arising from increased red tape and more patient bad debts.
In the case of university fee deregulation, an increased proportion of education costs are dumped onto students as a liability against future earnings – in effect, an increase in the tax on higher education.
Leaving aside arguments about the equity or economic efficiency of these policies, the grounds on which either could be said to contribute to growth appear weak.
It has been demonstrated that cost is a consideration for some when seeking health care, so upfront charges will discourage a proportion from seeing their GP – in fact, this was one of the Government’s explicit aims when announcing the policy.
Furthermore, though some patients might be going to see their doctor for what the Government considers to be frivolous reasons, most have legitimate health concerns.
Some of these might resolve themselves. But deterring people from seeking timely care raises the risk their health will deteriorate further and their problems become more complex, raising the likelihood of more dramatic and costlier care later on. Care in hospitals in multiple more times expensive than in a family doctor’s surgery.
Regarding university fees, it defies all that we know about price signals and human behaviour to suggest that ratcheting up university course fees will have no effect on demand.
Sure, university degrees are a sound investment in enhanced future earning capacity, so the incentive for individuals to incur larger debts for the lifelong advantage a degree confers is strong.
But as the cost of education goes up and wages growth slows, the cost-benefit equation because more finely balanced, and the weight given to other options increases – particularly from the viewpoint of someone with limited financial resources.
The Government argues that students won’t be required to begin repaying their debts until they start earning reasonable money, so any deterrence is overstated.
But even if higher fees don’t discourage many, the debts students will carry through much of their adulthood will have other significant economy-wide effects, including delaying the age at which they might begin a family or buy a house. These are major drivers of consumer spending, and by delaying or diminishing these activities, university fee deregulation will help undermine the strength of a major component of growth.
(The policy is also likely to turbocharge the brain drain, and heavily-indebted graduates increasingly look for better-paid opportunities offshore).
Prime Minister Tony Abbott said the fact that the OECD and the IMF will audit the progress of G20 countries in fulfilling their growth commitments will provide robust reassurance that the growth goal will be met.
But don’t expect the umpires to red card countries not seen to be pulling their weight.
Realpolitik means it is highly unlikely any G20 member will be marked down, especially when there are so many plausible get-out clauses and other excuses that countries can invoke.
Let’s face it, if the Australian Government can get away with calling a GP co-payment a growth measure, it is a pretty low base from which to start.

Leave a comment

Filed under Uncategorized

Nothing to see here, move along

The Reserve Bank of Australia is dangling a prolonged period of record low interest rates in front of businesses and consumers as it tries to foster economic growth in the face of what is expected to be an austere Federal Budget.
The release of the National Commission of Audit report has amped up concerns, particularly among retailers and other businesses directly dependent on household spending, that a severe Budget will crunch spending and stall growth.
While the forthcoming Budget would undoubtedly have figured in the discussions of the RBA Board, Governor Glenn Stevens was content to repeat his observation from last month that “public spending is scheduled to be subdued”.
Instead, the central banker drew attention to developments in the labour market, and their implications for inflation and, hence, interest rates.
The surprise drop in the unemployment rate in March to 5.8 per cent had some speculating that the labour market was on the improve, raising the prospect that monetary policy might soon have to tighten.
But the RBA thinks this outlook is premature.
Mr Steven admitted that there were signs conditions in the labour market were improving, but cautioned “it will probably be some time yet before unemployment declines consistently”.
Budget cuts to the public service and Commonwealth spending (including welfare payments) are only likely to prolong the period of softness in the labour market.
While this is bad news for job seekers and those hoping to trade up to a better position, weak employment growth has had a silver lining.
As Mr Stevens explains, the slack labour market has helped keep a lid on wages, which in turn has limited the ability of retailers to jack up their prices.
The result is that the cost of domestically-priced goods and services (often the driver of inflation) has been contained, and the RBA Governor said “that should continue to be the case over the next one to two years, even with lower levels of the exchange rate”.
What that means is that the Reserve Bank does not see inflation breaching its 2 to 3 per cent target band in the next two years, giving it ample room to hold interest rates down for an extended period.
While it is unlikely that they will still be this low in early 2016, it could well be late this year or even early 2015 before the RBA feels compelled to begin edging them up – notwithstanding the surge in house prices in the major cities.

Leave a comment

Filed under Uncategorized

APRA warns: cut now, pay later

The financial regulator has warned that continued Government cost-cutting could “ultimately compromise” the safety of the financial system.
In its submission to the Financial System Inquiry, released today, the Australian Prudential Regulation Authority (APRA) unsurprisingly expressed satisfaction with its performance.
But, as the Federal Government talks up the prospect of a slash-and-burn Budget next month, the regulator warned that cuts to resources can come at a heavy cost.
APRA said that in recent years the previous Government’s so-called “efficiency dividend” demands had made things increasingly difficult for the agency, which had to compete with a strong private sector to retain talented and experienced staff.
“The mechanism of efficiency dividends is not well-suited to an industry-funded agency,” APRA said. “Continued efficiency dividends will ultimately compromise financial safety but make no contribution to the Government’s budgetary objectives.”
In its, submission, also released today, Treasury warned of the threat to effective financial market supervision from a blurring of the lines of responsibility among the key regulators.
Treasury said the current regulatory framework was sound, with only improvement “at the margin” needed.
In a swipe at those in the finance industry chafing under more stringent international standards, like Basel III’s highly prescriptive rules, Treasury said Australia, as a significant capital importer, had little scope to ignore such developments.
In fact, the department said, many such reforms would bring regulatory standards in other jurisdictions closer to those in Australia.
But it also acknowledged problems in current arrangements, including the distortions caused by the Commonwealth’s guarantee for bank deposits, which not only create moral hazard, but give the major lenders a clear competitive advantage.
And Treasury warned of the danger that the clear demarcations that had existed between APRA and the Australian Security and Investment Commission (ASIC) were becoming blurred, undermining the effectiveness of the regulatory framework.
“Recent proposals for ASIC to take on quasi-prudential functions following the collapse of Banksia illustrate the difficulties in maintaining clear demarcations in the fact of changing products and market structures,” Treasury said.
In a fillip for SMSFs, the department endorsed the current policy approach of relatively low levels of regulation and oversight by the Tax Office to ensure compliance with taxation law.

Leave a comment

Filed under Uncategorized