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.
Tag Archives: unemployment
An inconvenient obsession
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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.
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When the bank calls, bells start ringing
If, like me, in the last couple of days you’ve had a call from your bank eager to talk about how to they could save you money on your mortgage, you’ve probably twigged that something is up.
Usually they call to flog insurance policies I don’t want, or offer a lift in my credit card limit that I can’t afford.
So to hear them actually prepared to come to the table to strike a cheaper deal on what is one of their core products is an interesting development.
It tells me that their own economists have told them the prospects of an official interest rate rise sometime this year are looking pretty slim.
This is no news to the market, which sees no chance of a rate hike before March next year, and instead is pricing in the possibility of a rate cut.
As RBA Governor Glenn Stevens put it today when announcing the Reserve Bank Board had decided to hold the central bank’s cash rate steady for a seventh consecutive month, “on present indications, the most prudent course is likely to be a period of stability in interest rates”.
It also shows that the field of competition has well and truly shifted from deposits (remember when the interest rate on 3-month deposits reached above 5 per cent? It is now down to around 3 per cent), and the scramble now is to sign up home buyers.
It is pretty clear that at the moment the economy is like a dog on roller skates, desperately trying to gain some traction.
Mr Stevens said that, while consumer demand was “slightly firmer”, and data foreshadowed a “solid expansion” in housing (building approvals jumped 6.8 per cent in January to be up almost 36 per cent from a year earlier), demand for labour is weak and the unemployment rate is likely to rise higher.
Its cause isn’t helped by a Federal Government that at every opportunity thunders about the dire state of the nation’s public finances and hints darkly at the need for painful spending cuts.
In central bank-speak, “public spending is scheduled to be subdued”.
It can’t be doing anything to improve the willingness of businesses to invest. Official figures confirm private capital expenditure has been sliding for the past couple of years, even as profits have grown – gross operating profits were up 107 per cent in the year to the December quarter, yet over the same period private capex fell 5.7 per cent (and spending on plant and equipment plunged more than 16 per cent).
As Mr Stevens put it, resource sector investment is set to decline significantly, while there are only “tentative” signs of improvement in investment intentions in other sectors.
The economy is partly the victim of an unfortunate clash of timing between the business and political cycles.
The incentive for the Abbott Government is to cut hard in its first Budget, giving itself room for vote-enhancing largesse closer to the next election, while the economy could do with some productivity-enhancing infrastructure investment.
Fat hope of that at the moment.
Even more people are likely to be out of work in the coming months, and being able to negotiate a cheaper mortgage is likely to be of little comfort.
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Joe Hockey’s G20 secret: believe
Treasurer Joe Hockey appeared to be channelling the eponymous self-help bible The Secret as he talked up the significance of the G20 summit on Sky News last Friday.
“Australians and people around the world have to believe that tomorrow is going to be better and more prosperous than today,” he told interviewer Kieran Gilbert. “Therefore, if they do believe that – if it is going to happen – then they are prepared to invest and create jobs for others in the community.”
When the G20 finance ministers and central bank governors, prodded by Hockey, declared their commitment to raise their collective GDP by more than 2 per cent the existing five-year trajectory, they appeared to be adopting the sort of “believe it, and it will happen” logic that is the The Secret’s mantra.
Their declared intention to “significantly raise global growth”, accompanied only by vague commitments to cut unemployment and increase investment, sounded suspiciously like the The Secret’s advice to “see yourself living in abundance and you will attract it. It works every time, with every person.”
There’s nothing inherently wrong with setting ambitious targets. Just ask Wayne Swan and his commitment to a return to Budget surplus in 2012-13.
But the essentially naive and ignorable nature of the commitment presided over by Hockey was neatly encapsulated in a put-down by German officials, who dismissed Australia’s initiative as a “slightly antiquated form of economic planning”.
Ouch.
The great thing about a collective commitment to something like a growth target is that everyone – and no-one – has responsibility to make it happen.
Let’s look at the wording of the relevant part of the G20 communique:
“We commit to developing new measures, in the context of maintaining fiscal sustainability and financial sector stability, to significantly raise global growth. We will develop ambitious but realistic policies with the aim to lift our collective GDP by more than 2 per cent above the trajectory implied by current policies over the coming five years.”
Plenty of wriggle room for governments there if growth doesn’t turn out as hoped – just say the financial system was too fragile to push things harder, or budget pressures were too great.
Then there is the question of how this jump in growth might be realised.
To achieve this 2 per cent acceleration, the ministers and governors said they would take steps to increase investment, lift employment and participation, enhance trade and promote competition.
All worthy goals, but tell me the government who says they won’t take steps to boost investment, employment, trade and competition. Ask most governments, and they will say that is what they are doing every day (even if they are not really).
So where did Joe get this idea for an additional 2 per cent growth target?
Have a look at the briefing prepared for the G20 meeting by International Monetary Fund staff, go right past the Executive Summary and the first 10 pages, and read the 11-page Annex at the back, which is full of worthy suggestions for stronger growth and how to achieve it.
Specifically, IMF staff have modelled the effects of what they see are necessary reforms in six key areas where policy gaps have been identified: fiscal, rebalancing (of sources of growth), labour supply, other labour market reforms, product market reforms, and infrastructure investment.
According to IMF estimates, the “policies assumed in the [plausible reform] scenario raise world real GDP by about 2.25 per cent ($US2.25 trillion) in 2018, relative to the October 2013 World Economic Outlook baseline”.
The biggest gains, the IMF believes, will come from reforms to boost competition and improve the business environment, followed by investment in public infrastructure, getting more people into the labour force, other labour market reforms and rebalancing sources of growth.
As the Lowy Institute’s Mike Callahan points out, we have been here before.
At their Toronto summit in 2010, G20 leaders committed to work together on a set of policies which the IMF estimated would boost global output by $US4 trillion and create 52 million jobs.
What happened? As we now know, the requisite policies weren’t adopted and growth fell well short of the stated mark.
As Callahan says, having a growth target and a plan to get there is only meaningful if the plan is implemented.
He points out that the necessary reforms identified by the IMF and OECD are politically challenging.
In Australia’s case, they include improving the efficiency of the tax system by lowering corporate taxes and relying more on the GST; improving the regulation of infrastructure by expanding user charges and congestion charges; improving childcare support; and reducing the stringency of the scrutiny of foreign investment. As Callahan observes, this is “tough stuff”.
The Abbott Government has already made clear that it has no appetite for taking on the sort of economic reforms that the country is screaming out for, particularly an overhaul of the tax system.
The Commonwealth is over-reliant on income taxation for revenue, and the country needs a broader tax base, of which a higher consumption tax is a key part.
Former Treasury secretary Ken Henry developed a credible and valuable blueprint for tax reform that should be the starting point for the Government.
But, just like the G20 growth commitment, it is hard to see it happening.
Even invoking The Secret won’t make it so.
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Outlier 