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Australia's Federal Budget 2010/11 - Making Sense of it


The Federal Budget is hardly the most riveting document you are ever likely to read. Sure you know it’s important, but the problem is that it’s a huge document with countless facts, figures and tables. And when it comes to analysis, economists seem to be writing for other economists; and accountants writing for other accountants.

It’s always important to remember that it is just a budget, the same that any household or company would prepare. Assumptions are made; forecasts are taken. And sometimes they can go awry – remember last year Treasury thought we were headed for recession, while unemployment was expected to hit 8.5 per cent. We didn’t experience a recession and unemployment peaked at 5.8 per cent.

At the end of the day most people want to know what’s in it for them. It doesn’t matter whether you are a student, pensioner or CEO of a major company.

So we have decided to make this analysis different.

Sure, there are the usual tables, graphs, facts and figures. But we reckon that there are only three questions most people want answered and that’s where we will be concentrating:
• Did the Government get it right?
• What does it mean for Australia?
• Who are the winners and losers?

First things first
• This year (2009/10) the budget deficit is tipped to hit $57.1 billion (4.4 per cent of our economy or GDP). Last November, a deficit of $57.7 billion was expected.
• Next year (2010/11) the deficit is tipped to be $40.8 billion (2.9 per cent of GDP), better than the $46.6 billion deficit forecast six months ago.
• The budget is expected to return to surplus three years early in 2012/13.
• Most of the measures have been previously announced: Health fund reform; company tax cut; resources super profits tax; increase in super fund levy and personal tax cuts.

Did the Government get it right?
• The Government believes that a no-frills, no-nonsense budget is required. We beg to differ. Australia was successful in avoiding recession last year and, unlike other advanced nations, is not weighed down by huge deficits and debits. We should be building on that success. Spending should be cut, not curbed, so that the Reserve Bank – and home-buyers – don’t have to shoulder the burden.
• But policy decisions since November last year increase the deficit by $3 billion. The Budget deficit is tipped to improve by over $16 billion next year, but none of the improvement is due to Government efforts. The deficit is expected to improve by over $31 billion in 2011/12 and only $600 million of that is due to Government.
• The Henry Tax Review has been handed down but the Government has only opted for only a handful of the 138 recommendations. But where the Government deserves credit is to show some discipline on spending. (Effectively it’s promised a lot, but nothing happens any time soon). So we give the Budget a mark of: 13/20.
• Of course, we have to take a moment to focus on the budget setting. Last year the budget was set against the background of the global financial crisis. One by one, major economies were slipping into recession, and while our government tried to protect our economy as much as possible, policy-makers seemed resigned to the fact that we would probably go down the same path.
• The Government spent freely by way of cash hand-outs; tax breaks for businesses; home insulation schemes; spending on schools; and building social housing. As a result the budget moved from a surplus of almost $20 billion to a deficit of just over $47 billion. The Reserve Bank slashed interest rates from 7.25 per cent to 3.00 per cent. And it worked – Australia avoided recession.
• Of course the fact that we did so well then caused some to argue that we spent too much and cut rates too far. Hindsight is a marvellous thing. But it seemed like the right idea at the time. Of course not all the money was well spent, but that’s another story.
• This year the budget has been set against the background of a domestic economy now doing perhaps a little too well. The Reserve Bank has been active in winding back the stimulus, lifting cash rates 1.5 percentage points in just eight months. There have been concerns that we are witnessing Mk II of the commodity boom, with consequences for economic growth and inflation in Australia.
• But in the last few weeks, the positive sentiment has been dented by the European debt crisis (EDC). Could this be the second act of last year’s financial crisis, leading to ‘W’-shaped economies? That is, many countries recorded ‘V-shaped’ recoveries, but are they now headed south again?
• We would argue that our economy remains in strong shape; that China will continue to expand strongly; that Greece won’t de-rail the global economy; and that the US economy is on the path to recovery. On that basis, the Government should be winding back stimulus to the economy.
• The Government has given a commitment not to increase spending by more than 2 per cent in real terms until the budget surplus is more than 1 per cent of GDP.
• But while the government is to be applauded for its commitment to restrain spending growth, it has been lazy in other areas of fiscal (budget) policy.

What does it mean for Australia?
• Managing the economy is very much a balancing act. The Reserve Bank has a role by setting interest rates (monetary policy). And the Government has a role in deciding what to spend, where to spend and how to pay for it (fiscal policy).
• You can’t have one arm of policy moving one way, and the other arm of policy moving the other way. But that is very much that situation. The Reserve Bank has been winding back stimulus and now arguably monetary policy is neutral – not boosting or slowing down the economy.
• Given that monetary policy alone is controlling our economy, we believe the cash rate will have to rise further over the coming year to around 6 per cent by the end of next year.
• Over the coming year, the budget deficit is expected to improve by around $16 billion or just over 1 per cent of GDP. But all of that will come by natural means or the “automatic stabilisers” – more employment, so less unemployment benefits and more taxes; and higher company profits, so again more taxes. But the government isn’t doing anything to improve the bottom line. That is, there is little in the way of discretionary measures to cut spending or boost revenues.
• Still, it is an election year. To what extent could we reasonably expect the Government to slash and burn in this environment?

Who are the winners & losers?
• Low-income earners: There is another round of tax cuts. But even for those on $50,000 a year it works out at just an extra $5.77 a week. Tax simplification and less tax on bank deposits – but you’ll have to wait. Workers under $37,000 get extra $500 in super.
• Middle-income earners: Someone on $100,000 a year gets an extra $9.62 a week from July 1 via tax cuts.
• High-income earners: Those on $150,000 a year get a tax cut of $19.23 a week.
• Pensioners: No change. Cheaper medications from health fund reforms.
• Investors: Most investors hope for a satisfactory negotiation between the Government and miners on the super profits tax.
• Companies: Nothing in the short-term. Small business gets a tax cut from July 2012.

Source Craig James, Chief Economist, CommSec