I read an article in the Financial Times earlier this week (September 23, 2023) -…
The new Australian federal government released its – Mid-Year Economic and Fiscal Outlook – today and this gave the media something to salivate about and led to sensationalist headlines and presenters oohing and aahing about impending meltdowns and unsustainable government spending and the rest of it. But in terms of actual detail all it really told us was that the government deficit is higher than expected. The issue of focus should have been the expectation rather than the reality – why did the Treasury expect it to be lower given they had overseen an unprecedented fiscal contraction in 2012-13 which reduced economic growth and undermined their tax base? Why didn’t the press focus on that and ask the new Treasurer how cutting government spending now, as the economy is slowing and unemployment is rising is in any way responsible or good economics. Not a word. The message the citizens get is that Australia has a dire government deficit emergency that will undermine our welfare for years to come. The truth is that the deficit is undermining our welfare because it is too low. That is my headline.
The ABC News headline is captured in the following graphic.
The story – MYEFO reveals deficit of $123b over forward estimates, Joe Hockey warns wasteful spending will be ‘eliminated’ – carried the URL (scroll over the link) that said “paints dire picture of economy deficits”.
Which just about tells you how far the ABC, as our national public broadcaster, has bought into the neo-liberal myth-making machine.
The first paragraph went:
The Abbott Government’s first budget statement has revealed an economy in dire trouble with historically deep deficits, more people out of work, slower wage growth and massive revenue write-downs.
But then the article entertains the Treasurer’s claims that massive spending cuts are required to restore the fiscal balance to surplus.
Why didn’t the ABC report bother to ask about the basic rule of macroeconomics – spending equals income? Perhaps they don’t know the basic rule. In which case, why are they reporting on macroeconomic affairs.
The MYEFO document is full of loaded language of the sort that was absent in government fiscal papers in the 1950s and 1960s. We now have to put up with erroneous and misleading statements such as:
It outlines the size of the task to return the budget to sustainable surpluses and to reduce government debt.
There has been a marked deterioration in the fiscal outlook …
The underlying cash balance has deteriorated by $16.8 billion in the 2013-14 year and by $68.1 billion over the forward estimates …
The deterioration in the budget position …
And so it goes on – there is no meaning in the terminology – deterioration – when applied to the federal government fiscal balance.
Deterioration means a worsening. A government balance cannot become worse or better – it is what it is. Employment growth or unemployment – things that matter – can deteriorate and that would present a problem. But a rising government deficit is of no concern in its own right. We should understand it in the context of other events in the economy which matter – in that sense, the shifts in the fiscal position are reflective rather than being intrinsically interesting.
Further how can we view a rising deficit as a deterioration when it is clearly providing spending support for some growth?
In fact, all that has happened is that the estimated government deficit for 2013-14 in the Pre-Election Economic and Fiscal Outlook (PEFO) (August 2013) was $A30.1 billion (1.9 per cent of GDP) and this has been revised to $A47 billion (3 per cent of GDP), a larger estimated deficit of $A16.8 billion.
All the estimates of the government deficit further out have been revised upwards and the numbers provided have created sensationalist headlines in the news media (which reflects the ignorance of the media reporters).
The MYEFO Report lists the factors which have led to the change in the fiscal position since the 2013 update in August 2013.
The factors identified are:
– Slower growth in real GDP, together with softer domestic prices and wages, have resulted in significantly lower nominal GDP, which has largely driven the reduction in tax receipts by more than $37 billion over the forward estimates.
– The softer economic outlook, coupled with changes in demand-driven programmes and the revised assumption for projecting the unemployment rate, has increased total payments by $11.3 billion over the forward estimates.
– Actions by the Government to address the legacy issues inherited from the former Government have impacted on the budget position over the forward estimates, with the largest of these elements being the $8.8 billion grant to the Reserve Bank of Australia.
So a mix of economic facts and political hoo-ha.
The growth effect has reduced estimated tax revenue in 2013-14 from $A369.5 billion in the PEFO to $A364.9 billion in the MYEFO, a fall of $A4.6 billion.
I put together the following table to account for the fiscal shift of $A16.9 billion. It shows that absolute change in the key items and the last column shows the percentage of the shift attributable to that factor.
74 per cent of the increase in the estimated government deficit is attributable to increased expenditure, of which more than half of the total shift is due to the ridiculous capital injection that the Treasurer put into the central bank.
That was a pure political stunt.
27.2 per cent of the shift is due to the cyclical slowdown reducing expected tax revenue.
In terms of the cyclical effect, the current government has every right to blame the previous federal regime (kicked out in September 2013) for the decline in tax receipts.
The actual underlying cash balance was $A18,834 million in 2012-13 or 1.2 per cent of GDP. That represented a massive fiscal contraction of $A24,526 million or 1.7 per cent of GDP, which in the history of public finance data (back to 1971-72) was the largest fiscal tightening at a time when the economy was contracting.
The following graph reflects the updated fiscal estimates and shows the fiscal shift between fiscal years (a positive bar indicating a tightening of fiscal policy).
Even though the previous government failed to achieve its surplus obsession the scale of the fiscal tightening in the last fiscal year (red bar) was historically unprecedented.
You can see that the forward estimates still imply a tightening of fiscal policy when growth is forecast to remain below trend and unemployment is rising.
That is how bad this all is.
The result: The economy tanked – real GDP growth fell from 4.6 per cent in the March-quarter 2012, then 3.8 per cent (June-quarter 2012), then 3.2 per cent (September-quarter 2012), 2.8 per cent (December-quarter 2012), 2.1 per cent (March-quarter 2.1 per cent), 2.4 per cent (June-quarter 2013) and 2.3 per cent (September-quarter 2013).
So in a period of 18 months the real GDP growth rate has halved because the government tried to pursue a fiscal surplus at a time when private spending growth was declining and
The following graph shows real GDP growth (annual) since the March-quarter 2000 to the September-quarter 2013 with the indigo line indicating the trend growth between 2000 and the decline in 2008. The economy is without doubt performing well below its potential and the fiscal movements reflect that.
In terms of the RBA capital injection, the MYEFO statement says:
The strong and sustained appreciation of the Australian dollar from 2009 caused the RBA to record large financial losses in 2009-10 and 2010-11 as the value of its foreign currency assets declined in Australian dollar terms. This coincided with global interest rates declining to historical lows, reducing the RBA’s underlying earnings.
The resultant losses were absorbed by the Reserve Bank Reserve Fund (RBRF), reducing the balance to significantly below the level now considered prudent by the Reserve Bank Board based on its most recent assessment of the risks to the RBA’s balance sheet …
The low level of the RBRF has not posed an immediate risk to the solvency of the RBA and has not impaired its operations. Nevertheless, on current projections, it would take many years to build the RBRF to the level deemed prudent by the Board – 15 per cent of assets at risk – through the usual channel of retaining profits, leaving the RBA financially exposed in an uncertain global environment.
The ridiculous aspects of this injection are two-fold:
1. The RBA doesn’t even need capital and the Reserve Bank Reserve Fund (RBRF) is just an accounting gimmick. The RBA can create Australian dollars at will by crediting any bank accounts it chooses, just like any central bank. Various voluntary rules and constraints might stand in the way of them doing that easily but intrinsically, freed from these political restraints, the currency issuer has no financial constraints. Its balance sheet is never at “risk”. Pure nonsense.
2. The Treasury actually borrowed from the private sector an equivalent amount to that which was put back in the Reserve Bank Reserve Fund (RBRF). This reflects no operational necessity but at a time when the conservatives are seeking to reduce welfare for the disadvantaged and cut into public education etc, they feel it is necessary to hand out $A8.8 billion in treasury bonds to the parasites in the financial markets.
So more corporate welfare for those who do nothing productive but spend their time shuffling wealth.
To understand the current position we need to appreciate the broader context.
First, the household sector is now carrying record levels of debt as a result of the credit binge leading up to the crisis and we are unlikely to see a return to the low saving ratios that were evident in the period 2000 to 2005.
Households are now saving around 11 per cent of disposable income and that ratio is relatively stable.
That means that government surpluses which were associated with the credit binge, and only were made possible by the unsustainable credit binge are untenable in this new (old) climate. The Government needs to learn about these macroeconomic connections.
A return to higher saving ratios is surely signalling a need for a return to more or less continuous government deficits, depending on what happens to the external sector.
That is what the overall real GDP growth slowdown and rising unemployment is telling us – very clearly. So clearly that the neo-liberals fail to see it!
Second, the following graph shows the components of the Current Account balance in $A millions from the March-quarter 1960 to the September-quarter 2013. The blue line is the difference between merchandise exports and merchandise imports of goods and net services – that is, the balance on goods and services. The indigo line is the net income transfers, which are the sum of primary and secondary income.
So despite the record terms of trade for our mining exports, the trade account remained in deficit and the deficit on the income account means that the Current Account continues to drain income from the Australian economy.
For those who don’t fully appreciate what I mean by “to drain income” here is another way of looking at it. For every dollar produced in the economy, around 3.5 cents is lost (in net terms) to the Rest of the world either via the deficit on goods and services or the net income transfers abroad. That 3.5 cents doesn’t flow back into the domestic economy each period.
For GDP to remain stable, the external deficit has to be filled by deficit spending from the public sector and/or the private domestic sector.
The other point to note, which is often lost in the debate is that the our exposure to the rest of the world (particularly capital flows) rose after we floated in the early 1980s.
The next graph shows the Current Account balance as percent of GDP from the March-quarter 1960 to the September-quarter 2013.
The forward estimates are predicting this will increase to 4 per cent of GDP (up from an actual 3.3 per cent in the September-quarter 2013.
Third, the last graph puts the sectoral balances together from 1959-60 to the 2014-15 (where (e) stands for the latest estimates in the MYEFO. If you use this graph as the basis – then weave a narrative about why the lines have moved in the way they have you will understand why the current deficit is too low despite rising more than expected and why growth is slowing.
The improvement in the External balance was due to imports falling as exports rose and then imports growing more slowly than exports. This was due to the slowing domestic economy.
Further Net income transfers fell during the first slowdown as domestic activity fell and dividends etc were lower.
But the rise in the government deficit in 2008-09 saved the economy from a major recession and accommodated the return (albeit briefly) to surplus for the private domestic sector.
The fiscal retrenchment since then is mirrored in the return to private domestic deficit. In part, the private domestic deficit was being driven by rising investment spending associated with the mining boom. Inasmuch as that returns profits on the borrowing we might think it is unproblematic. But the boom is now tapering significantly.
There is also evidence of increased personal credit as incomes get squeezed by the slowdown and housing affordability falls again. The household debt burden has started to rise again in recent quarters and that is unsustainable.
The point is that the government can do very little about its own balance without undermining the economy given the spending decisions that are being taken by private households and firms and external transactors.
On days like this when basic principles of macroeconomics are discarded and an entire nation is caught up in a nonsensical debate about nothing one wishes that they were a geologist poking around layers of rocks somewhere out of contact!
And I wrote a whole blog about government accounts without referring to the “budget”. Language matters.
That is enough for today!
(c) Copyright 2013 Bill Mitchell. All Rights Reserved.