Budget or economic strategy?

18th May 2015 · Jerome Fahrer


The idea of the budget as strategy is long-standing but ill-conceived. The budget should be a low-key affair, delivered by the Minister for Finance, not the Treasurer. It should simply set out how much the Government is planning to spend and how much it is planning to receive in taxes over the coming year.

Strategy is different. Strategy is (or ought to be) about the long term.

Strategies for increasing women's labour force participation, or enhancing the integrity of the tax system, or regional development or generally improving the economy are very important, but they should not be conflated with discussions about next year's spending and taxing. It's not just that the quality of the discussion and debate that suffers; the quality of the policies themselves also suffers.

Taking an example from last year’s budget, there is a very important strategic discussion to be had about the future of higher education in this country and how it’s going to be financed. The worst possible way to have that discussion is to announce higher education financing policies in the budget, because they will then get caught up in budget theatrics and polemics. But that is what the Government did with results that were both predictable and predicted. This is one example amongst many.

The strategy should come first and the budget should come later as essentially a technical appendix to the strategy, of interest to no economists except public finance specialists. But we have what we have, which is both budget and strategy in one show bag. Here’s some thoughts about the strategic dimensions of this year’s Budget.

The Government has given up on trying to balance the budget by cutting spending

This strategy lasted just one year, if not less. Spending in the year about to finish and 2015-16 are both forecast to be 25.9% of GDP, only just below the level reached in 2009-10, which was when the policy of fiscal expansion to offset the GFC was in full force. (In comparison, Howard Government spending was on average 24.2% of GDP and Rudd/Gillard/Rudd was 24.8%).

During the out years (2006-17 to 2018-19) the spending ratio is forecast to fall eventually to 25.3% of GDP. This appears to be due more to optimistic forecasts about the denominator getting bigger than policy decisions that will make the numerator smaller.

The Government is relying on a growing economy to grow revenue more than proportionately

Revenue as a per cent of GDP grows from 23.5% this year to 24% in 2015-16 to 25.2% in 2018-19. So in 2018-19, revenue will equal spending (more or less).

This is a rosy scenario, based it would appear on bracket creep, a strong(er) world economy, a depreciated exchange rate and mining exports.

From the budget speech:

“In the next 5 years we will become the world’s largest exporter of Liquefied Natural Gas”

“A lower Australian dollar is now providing a boost to sectors like manufacturing in South Australia and Victoria, and tourism and education in Queensland”.

This might happen and it will be nice if it does, though it’s a big ask for manufacturing in South Australia to do great things, or really anything at all, even with a lower exchange rate. (General Motors is about to walk out that door and they’re not coming back.) Tourism (not just in Queensland) should benefit from a weaker dollar. Time will tell. But the Government has no control over the exchange rate, the world economy or the LNG market. So it’s not really a strategy. It’s more hoping for the best.

It's a good thing that government bond rates are so low (for now)

Although they’ve gone up a bit in the past couple of weeks, the cost of government borrowing is still very low – about 1% real (10 year indexed bonds). This is quite handy when you’ve got a large-ish budget deficit.

Gross debt is expected to peak at $573 billion in 2025-26. Another 1.5% or so on the bond rate (taking us back to levels seen as recently as April 2014) would add close to $10 billion per year in interest costs. That’s a lot of money and it would mean appreciably less for schools, hospitals, child care subsidies or, if you prefer, tax cuts.

The Government should lock in its current and future borrowings at prevailing low interest rates before they go back whence they came.

Medical research fund

This is an excellent idea, and it would be an even better idea if it was actually funded. Medical research is something we as a nation are very good at, but it is subject to a big fat market failure. This opens the door for government involvement (preferably meaning its gives away money with minimal say in how it’s spent). Medical research, teaching and clinical practice are all linked together in a good way. Future job growth will – if we give it a shove in the right direction- be strong in health and quasi-health. These jobs are by and large highly skilled and highly paid, provide the services a rich and ageing population will be demanding, and have all the right spillovers (medical devices etc). And – maybe, at the risk of sounding mercantilist – all of this will enable us to export medical services on a grand scale.

This is exactly the kind of industry the Government should be backing.


The 2015 budget strategy is in the classic Australian tradition: assume the best, muddle through and hope that she’ll be right, mate. Who could argue with that?