Budget Review 2010-11


Budget Review 2010-11 Index

Budget 2010–11: Key features

Scott Kompo-Harms

Introduction

The 2010–11 Commonwealth Budget was handed down at 7.30 pm on 11 May 2010 by the Treasurer, Wayne Swan.[1] The Treasurer emphasised a short-term ‘deficit exit strategy’ that is also consistent with the Government’s medium term fiscal strategy. The medium-term fiscal strategy has three components:

  • achieve budget surpluses, on average, over the medium term
  • keep taxation as a share of GDP, on average, below the level for 2007–08 and
  • improve the Government’s net financial worth over the medium term.[2]

The Treasurer stated that the deficit exit strategy has two key elements. These are:

  • allowing the level of tax receipts to recover naturally as the economy improves, while maintaining the Government’s commitment to keep taxation as a share of GDP below the 2007–08 level, on average and
  • holding real growth in spending to 2 per cent per year once the economy is growing above trend until the Budget returns to surplus.[3]

The Treasurer announced a series of new policies and policy changes in this year’s Budget. Some of the notable measures include:

  • Reforms to company taxation and royalty regimes, specifically,
    • the introduction of what will be known as the Resource Super Profits Tax, or RSPT, from 1 July 2012
    • a two-phased reduction in the company tax rate from 30 per cent to 28 per cent, commencing in 2013–14. Small business companies will gain a head start, with the full reduction occurring in 2012–13
  • the postponement of the Carbon Pollution Reduction Scheme (CPRS) and replacement with the establishment of a $652 million Renewable Energy Future Fund
  • funding for 70 000 new training places and support for 22 500 apprentices worth $661 million over four years
  • increasing the superannuation guarantee rate from 9 to 12 per cent (in 0.25 and 0.5 percentage point increments) between 1 July 2013 and 1 July 2019
  • tax concessions on interest earned on deposits held in Authorised Deposit-taking Institutions (ADIs) and on bonds, debentures and annuities and
  • increasing excise on tobacco products by 25 per cent as of 30 April 2010.[4]

Media coverage

Some of the headlines from major newspapers on 12 May 2010 included:

  • Australian Financial Review
    • ‘Surpluses supplied on a China platter’[5]
  • The Australian
    • ‘Swan rides tax wave’[6]
  • The Age
    • ‘Back to black and proud of it’[7]
    • ‘Rating agencies approve, markets calm and economists divided’.[8]

More comprehensive media coverage of the budget is available for Members and Senators from the Parliamentary Library’s ‘Budget 2010: editorials, opinion and media releases’ website.[9]

The earlier than expected return to a surplus position in 2012–13 is welcomed by business. ACCI has put the case that this is essential to ensure higher debt and deficits do not place pressure on interest rates.

Australia’s stronger growth outlook is set to bolster revenues over the forward estimates. However, ACCI considers greater scope still exists to reduce spending across government. This will provide the opportunity for earlier and more extensive tax reform.

ACCI has welcomed the depreciation changes for small business and the cut in the company tax rate. We are concerned though that failure to decouple these important initiatives from the Resource Super Profits Tax (RSPT) may make these benefits a political football.

Assisting the return to surplus is the implementation of the RSPT which we remain concerned will affect investment in this sector and businesses that are directly and indirectly linked to the resources industry.[10]

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Australian Industry Group (AIG)

AIG chief executive Heather Ridout praised the projected path back to surplus, as well as budget initiatives on skills, health and business taxation:

"This year's Federal Budget, while appropriately cautious, lays out a credible strategy for rebuilding the nation's balance sheet and ensures that fiscal policy does its share of the heavy lifting in easing pressure on inflation and monetary policy as the recovery gathers pace," Australian Industry Group (Ai Group) Chief Executive Heather Ridout said today.

"As well, the strategy on skills is very positive and when combined with the health initiatives will bring widespread benefits. The tax break for savings, the standard deduction measure and the interest withholding tax relief will be widely welcomed, as will the new infrastructure measures. At the same time, Australia faces major productivity challenges and capacity constraints and more will need to be done to address these in the period ahead.[11]

"The Budget is fiscally strong and has largely avoided the temptation for election year giveaways, while relying heavily on a recovery in revenues to get back to surplus...

She did reveal some concern about the implementation of the Renewable Energy Future Fund, a lack of public investment in Research and Development, cuts to the Green Car Innovation Fund and no increase in assistance for export market development:

"More details are needed about the new Renewable Energy Future Fund. The Climate Change Action Fund, which focused on mainstream energy efficiency and emission reduction strategies, has been indefinitely delayed. Ai Group will actively seek to ensure that a large share of the new Fund is allocated to mainstream energy efficiency and mitigation strategies.

"There are a number of areas where the Budget falls short. It's disappointing there are no new investments in business Research and Development and that the Government is persisting with the deeply flawed changes to the existing R&D tax credit. It is also disappointing the Government has cut the Green Car Innovation Fund by $200 million. This is short-sighted and will hurt our car industry which has worked hard to remain competitive through the Global Financial Crisis.

"We welcome the continuation of the TradeStart program, however, we are disappointed there's no additional funding for the Export Market Development Grants scheme. This fails to provide extra help for our exporters who have been battling a consistently high dollar and will continue to do so for some time to come," Mrs Ridout said.[12]

Business Council of Australia (BCA)

BCA Chief Executive Katie Leahy offered a cautious assessment of the Budget and in particular, expressed reservations about the proposed RSPT:

"This Budget sees a sooner-than-expected return to surplus and the government meeting its own fiscal rules, but it introduces a huge question mark over future growth,” BCA Chief Executive Katie Lahey said.

The 2010–11 federal Budget forecasts a return to budget surplus by 2012–13 underpinned by the government meeting its commitments to cap real expenditure growth at 2 per cent and to constrain the level of tax to GDP. It also outlines a range of measures that have the potential to enhance productive capacity.

The proposed introduction of the Resource Super Profits Tax (RSPT), however, creates a new and substantial risk – both for the economic outlook and for the stability of the Budget itself.

"While Treasury claims in the long run that the introduction of the RSPT will lead to an increase in resource sector investment, this stands at odds with the reaction of investors over the past week. Their reaction clearly raises questions about the achievability of the investment forecasts.[13]

In addition, Ms Leahy praised investments in health, skills and infrastructure, as well as the modest reduction in company tax.

Reactions from community and other groups

Australian Council of Trade Unions (ACTU)

In describing it as a ‘traditional Labor Budget’ the ACTU focused on positive outcomes for working people with respect to tax cuts, healthcare, education and superannuation:

It [the 2010–11 Budget] provides a social wage dividend with better quality and better value health, hospital, and aged care, higher spending on education, a boost to vocational training and a lift in superannuation. These are all measures that unions have campaigned for and can take credit in helping achieve.[14]

Statements by ACTU President Sharan Burrow also highlighted the positive effects on the economy that will result from a range of Budget expenditures and revenues:

This Budget provides for massive investments in national infrastructure, a boost to workforce training, productivity and participation, and a lift in business efficiency at the same time as it shares the wealth and smoothes the business cycle by taxing the super profits of mining companies.[15]

The ACTU strongly endorsed the Rudd Government’s management of the economy through the global financial crisis and credited the Government’s economic stimulus package for saving jobs and providing a platform for future job growth as the economy recovers. This latter aspect was highlighted by the Government’s commitment to tackle potential skills shortages through a range of vocational and education training expenditures that will help create a prepared workforce for future economic expansion, particularly in the ‘construction, resources, renewable energy, and infrastructure sectors’.[16]

Australian Council of Social Services (ACOSS)

Clare Martin, chief executive for ACOSS, said that forecasts of an earlier than expected return to surplus and declining unemployment were welcome. ACOSS also supported the $2.2 billion for more GPs and other improvements in primary healthcare; the Government’s commitment to invest $119 million on literacy and numeracy skills program; and the standardisation of deductions in tax returns. Ms Martin stated:

The resource rental tax has created an economically sensible way for the Government to fund services for the community, especially services for the most vulnerable Australians.[17]

However, ACOSS was concerned that dental care did not receive funding and, with 600 000 Australians unemployed, the organisation was disappointed that more support to assist people in finding work was not forthcoming in the Budget. Other deficiencies identified included no increase in rent assistance for low income earners in a tight rental market and the fact that the Budget did not accept the Henry Review’s recommendations regarding affordable houses given the critical shortage of over a quarter million homes.[18]

Economic outlook

The detailed domestic economy forecasts from this year’s Budget are presented below in Table 1. By and large, the domestic economy forecasts have improved considerably since the last Budget. One of the forecast variables that is crucial to accurately forecasting revenue in particular, is nominal GDP.

Table 1: Detailed domestic economy forecasts

 

Outcomes(b)

Forecasts

 

2008–09

2009–10

2010–11

2011–12

Panel A – Demand and output (a) (c)

     

Household consumption

1.9

2 3/4

3 1/2

4

Private investment

       

Dwellings

-1.9

3

7 1/2

4

Total business investment(d)

6.6

-2

7

12 1/2

Non-dwelling construction(d)

8.5

-7

8

14 1/2

Machinery and equipment(d)

4.8

-1/2

6

13

Private final demand(d)

2.3

1 3/4

4 1/2

6

Public final demand(d)

4.3

7 1/4

1

1/2

Total final demand

2.7

3

3 3/4

4 1/2

Change in inventories(e)

-0.9

3/4

1/2

0

Gross national expenditure

1.8

3 3/4

4 1/4

4 3/4

Exports of goods and services

0.1

1 1/2

5

6

Imports of goods and services

-2.8

5

9

8 1/2

Net exports(e)

0.6

-3/4

-1

-3/4

Gross domestic product

1.3

2

3 1/4

4

Non-farm product

1.0

2

3 1/2

4

Farm product

17.6

6

1

2

Nominal gross domestic product

6.5

2 3/4

8 1/2

5 3/4

         

Panel B – Other selected economic measures (a)

     

External accounts

       

Terms of trade

9.6

-3 3/4

14 1/4

-3 3/4

Current account balance (per cent of GDP)

-3.0

-4 3/4

-3 3/4

-5

Labour market

       

Employment (labour force survey basis)(f)

0.1

2 1/2

2 1/4

2

Unemployment rate (per cent)(g)

5.7

5 1/4

5

4 3/4

Participation rate (per cent)(g)

65.4

65 1/4

65 1/2

65 1/2

Prices and wages

       

Consumer Price Index(h)

1.5

3 1/4

2 1/2

2 1/2

Gross non-farm product deflator

5.5

1

5

1 3/4

Wage Price Index(f)

3.8

2 3/4

3 3/4

4

(a) Percentage change on previous year unless otherwise indicated.(b) Calculated using original data.
(c) Chain volume measures except for nominal gross domestic product which is in current prices.
(d) Excluding second-hand asset sales from the public sector to the private sector.
(e) Percentage point contribution to growth in GDP
(f) Seasonally adjusted, through-the-year growth rate to the June quarter.
(g) Seasonally adjusted estimate for the June quarter.
(h) Through-the-year growth to the June quarter.

Note: The forecasts are based on several technical assumptions. The exchange rate is assumed to remain around its recent average level – a trade-weighted index of around 70 and a United States dollar exchange rate of around 90 US cents. Interest rates are assumed to move broadly in line with market expectations. World oil prices (Malaysian Tapis) are assumed to remain around US$88 per barrel. The farm sector forecasts are based on an assumption of average seasonal conditions. Source: Australian Bureau of Statistics (ABS) cat. no. 5206.0. 5302.0. 6202.0, 6345.0, 6401.0, unpublished ABS data and Treasury.

Source: Budget Strategy and Outlook: Budget paper no. 1: 2010–11, op. cit., p. 2–7.

The Government expects a large increase in the terms of trade (the ratio of Australia’s export prices to import prices) and thus a large increase in nominal GDP in 2010–11. The terms of trade is forecast to rise by 14.25 per cent to its highest level in 60 years, whilst nominal GDP is forecast to rise by 8.5 per cent. Some moderation of commodity prices (albeit at a high level) is expected in 2011–12. This is due to the expectation of an increase in the global supply of minerals in coming years in (lagged) response to high prices. If realised, the high nominal GDP growth rates will allow nominal expenses to grow by nearly 16 per cent between the end of 2009–10 and 2013–14 or an average rate of around 3.8 per cent per annum and still meet the 2 per cent real spending growth target.

Another set of forecasts/projections that are notable includes those for the Consumer Price Index (CPI) and the unemployment rate.

The outlook for inflation, as measured by the CPI, seems remarkably benign. There is also a link to the projections for the unemployment rate. Budget Strategy and Outlook: Budget Paper No. 1: 2010–11 states:

The unemployment rate is expected to continue to fall, reaching 5 per cent by the end of 2010–11 and 4 ¾ per cent by the end of 2011–12, around its full employment rate.

The concept of a ‘full employment rate’ is a somewhat ambiguous term that tends to be used rather imprecisely at times and is applied to a variety of contexts. In this context, it seems as though the Treasury is referring to the concept of a ‘natural rate’ of unemployment or the ‘non-accelerating inflation rate of unemployment’ (known as the ‘NAIRU’). In very simple terms, these (unobserved) theoretical rates of unemployment are perceived to be the point at which an economy will start to overheat and experience accelerating inflation if the actual unemployment rate falls below the NAIRU. Thus, this is the point at which the Government is expecting that our capacity would be fully utilised.

The macroeconomic effect of discretionary fiscal stimulus

There is no doubt that the Australian economy has performed better than expected in the aftermath of the Global Financial Crisis (GFC), as well as faring relatively well when compared both to previous Australian downturns and to the current economic situation overseas. Statement 2 in Budget Paper No. 1 contains a feature box (Box 4) that provides supporting evidence of the ‘effectiveness’ of fiscal policy implemented over the course of 2009.[19] A chart is shown, with the International Monetary Fund’s (IMF’s) ‘forecast error’ compared in a scatter plot to the size of discretionary fiscal stimulus packages (as a percentage of GDP). The IMF’s forecast error is defined as the difference between the actual GDP outcome over the 2009 calendar year and the IMF GDP forecast for that country as at April 2009. This can essentially be interpreted as unanticipated economic growth. Eleven countries are included in the sample used by the Treasury. The chart shows that there is a positive, highly statistically significant relationship between the size of discretionary stimulus packages and forecast errors. The relationship is approximately one-for-one. Treasury claims that this is evidence of ‘fiscal multipliers’ being larger than originally thought.

However, questions have been raised about this analysis.

The IMF dataset contains data for 19 countries.[20] Thus, on what criteria were 8 of the 19 countries excluded? The countries selected are a mix of advanced and emerging economies. Some are resource-rich while others are not. There is no apparent focus on a particular geographic region. This point has been raised by RMIT Economics Professor Sinclair Davidson. Davidson reproduces the analysis included in the Budget papers using the same 11 country sample and then repeats the procedure using the full sample of 19 countries.[21] The original results are not matched when the same methodology is applied to the full sample. In fact, the relationship turns out to be mildly positive but statistically indistinguishable from zero.[22] There may be some good reasons for excluding some countries, however there is no explanation provided in the Budget papers for discarding almost half the observations in an already small dataset. In addition, there appears to have been no attempt to control for other possible explanatory variables. As such the research remains open to question.

Budget position

Whether looking at budget balances such as the underlying cash balance and the fiscal balance, or balance sheet measures such as net debt, it is clear that the 2009–10 Budget projections (particularly for 2011–12 and 2012–13) were too pessimistic.

In 2010–11, the underlying cash balance is forecast to be a deficit of $40.8 billion, revised down from an anticipated deficit of $57.1 billion in the 2009–10 Budget. The fiscal balance is forecast to show a deficit of $39.6 billion in 2010–11, also revised down from an anticipated deficit of $56.0 billion in the 2009–10 Budget. Table 2 below shows the reconciliation between estimates and projections of the underlying cash balance made in the 2009–10 Budget, the 2009–10 Mid-year Economic and Fiscal Outlook (MYEFO), and the 2010–11 Budget.

The reconciliation tables throughout this briefing decompose changes into two categories:

  • policy changes and
  • parameter and other variations.

The first category consists of deliberate policy decisions made by the Government made in the intervening period, while the other reflects unexpected windfall losses or gains to the Budget that arise from differences between economic and other forecasts/projections and actual outcomes. A more detailed breakdown, by revenue and expenses is provided in the relevant sections below.

Table 2: Reconciliation between Budget 2009–10, MYEFO and Budget 2010–11—underlying cash balance

 

Estimates

Projections

 

2009–10

2010–11

2011–12

2012–13

 

$m

$m

$m

$m

2009‑10 Budget underlying cash balance(a)

-57,593

-57,051

-44,535

-28,150

Per cent of GDP(b)

-4.9

-4.7

-3.4

-2.0

Changes between 2009‑10 Budget and MYEFO

       

Effect of policy decisions(c)

-516

1,587

367

256

Effect of parameter and other variations

423

8,842

13,001

11,993

Total variations

-93

10,429

13,368

12,249

2009‑10 MYEFO underlying cash balance(a)

-57,685

-46,622

-31,167

-15,901

Per cent of GDP(b)

-4.5

-3.5

-2.2

-1.1

Changes from MYEFO to 2010‑11 Budget

       

Effect of policy decisions(c)

-2,124

-3,024

227

-2,648

Effect of parameter and other variations

2,730

8,890

17,895

19,564

Total variations

606

5,866

18,122

16,917

2010‑11 Budget underlying cash balance(a)

-57,079

-40,756

-13,045

1,016

Per cent of GDP(b)

-4.4

-2.9

-0.9

0.1

(a) Excludes expected Future Fund earnings.
(b) GDP forecasts for the 2009-10 Budget were prepared according to the System of National Accounts 1993, while forecasts for MYEFO and the 2010–11 Budget were prepared according to the System of National Accounts 2008.
(c) Excludes secondary impacts on public debt interest of policy decisions and offsets from the contingency reserve for decisions taken.

Source: Budget paper no. 1: 2010–11, op. cit., p. 3–13.

Chart 1 below shows both Australian Government revenue and expenditure, as forecast/projected in the 2010–11 Budget. The dotted lines show revenue and expenditure in nominal terms, while the solid lines show revenue and expenditure as a percentage of (nominal) GDP.

Chart 1: Total revenues and expenses, $ billion and per cent of GDP

Chart 1: Total revenues and expenses, $ billion and per cent of GDP

Revenues and receipts

Projected budget surpluses in 2012–13 and 2013–14 are based on drastically upwardly revised revenue projections. In terms of accrual accounting, in the 2009‑10 Budget revenue was forecast to be $294.8 billion in 2010–11, while in this year’s Budget revenue in 2010–11 is forecast to be $321.8 billion.

Table 3a below shows the revenue reconciliation statement for the period between the 2009–10 and 2010–11 budgets. This table reveals that in 2010–11, around $25.8 billion out of a total improvement in estimated revenue of $27.0 billion (roughly 94 per cent) has come from parameter and other variations. In 2011–12 and 2012–13, parameter and other variations contribute over 100 per cent to the improvement in estimated revenue as policy changes made in the 2010–11 Budget are projected to slightly subtract from revenue in these years.

Table 3a: Reconciliation of Australian Government general government revenue estimates

 

Estimates

Projections

 

2009–10

2010–11

2011–12

2012–13

 

$m

$m

$m

$m

Revenue at 2009–10 Budget

290,612

294,841

320,776

349,684

Changes between 2009–10 Budget and MYEFO

       

Effect of policy decisions(a)

-34

-103

-78

-65

Effect of parameter and other variations

1,244

9,157

15,239

15,235

Total variations

1,211

9,053

15,162

15,170

Revenue at 2009–10 MYEFO

291,823

303,895

335,937

364,854

Changes between MYEFO and 2010–11 Budget

       

Effect of policy decisions(a)

226

1,699

-156

-2,103

Effect of parameter and other variations

2,167

16,228

20,616

19,169

Total variations

2,392

17,927

20,460

17,066

Revenue at 2010–11 Budget

294,215

321,822

356,397

381,920

(a) Excludes secondary impacts on public debt interest on policy decisions.

Source: Budget paper no. 1: 2010–11, op. cit., p. 5–12.

Cash receipts are forecast to be $314.4 billion in 2010–11, revised sharply upwards from the 2009–10 Budget forecast for 2010–11 of $288.3 billion. As for accrual-based revenue estimates, cash-based receipt estimates have also primarily improved because of parameter and other variations.

Table 3b: Reconciliation of Australian Government general government receipt estimates

 

Estimates

Projections

 

2009–10

2010–11

2011–12

2012–13

 

$m

$m

$m

$m

Receipts at 2009‑10 MYEFO

283,608

297,131

324,653

355,216

Per cent of GDP

22.4

22.2

22.9

23.5

Changes between 2009‑10 MYEFO and 2010‑11 Budget

 

Effect of policy decisions

222

854

3,104

-537

Effect of parameter and other variations

1,370

16,433

21,076

23,335

Taxation

967

16,834

20,798

19,225

Non-taxation

403

-402

277

4,110

Total variations

1,593

17,286

24,180

22,798

Receipts at 2010‑11 Budget

285,201

314,417

348,834

378,014

Per cent of GDP

22.0

22.4

23.5

24.1

Source: Budget paper no. 1: 2010–11, op. cit., p. 5–19.

Even though the Australian economy has emerged from what turned out to be a mild downturn, the global economic downturn will continue to have a downward effect on expected revenues. This is because of certain features that exist within the tax system that mean that revenues will respond to the business cycle with a lag. For example, losses carried forward by companies, will tend to mean that company taxes do not deteriorate until well into a downturn and the associated deterioration in revenue will persist for some time after the economy begins to recover.

Modelling the impact of the RSPT

Given that the RSPT is a new tax, it is difficult a priori to determine its impacts on the mining sector and the economy overall. Knowledge of key parameter values, such as the ‘uplift factor’, the tax rate and the rate at which losses are rebated are critical to its design. A brief summary of modelling commissioned by Treasury (conducted by KPMG Econtech) on the impacts of the RSPT combined with the proposed cut to the company tax rate is presented in Budget Paper No. 1.[23] Both of these tax reforms are modelled as a single package. A more detailed write-up of the results is available from KPMG Econtech.[24]

Some issues regarding the modelling that are worthy of further consideration are discussed below:

  • unlike modelling of royalties it is assumed that there is no ‘deadweight loss’ associated with the RSPT which may affect the calculation of the tax threshold;
  • the modelling results suggest that the increase in productivity that arises from the cut to the company tax rate will outweigh any negative productivity effects of the RSPT on the mining sector associated with its support of marginal mines; and
  • the introduction of the RSPT will make it more difficult in the immediate future for Treasury to accurately forecast revenues as the behavioural impacts of the tax are uncertain.

Welfare effects of the proposed tax changes

In relation to the modelling of the RSPT component of the changes, it should be noted that it is merely assumed that there is no ‘excess burden’ or ‘deadweight loss’ from the imposition of such a tax.[25] The assumption is justified on the basis that the base for such a tax (i.e. mineral deposits) is immobile and thus cannot shift to avoid the tax. On the other hand the existing royalty regimes are modelled as having an excess burden due to the discouragement of investment in more marginal projects. It is unsurprising then, that when compared to royalties, the introduction of a RSPT produces a net benefit or ‘welfare gain’.

This lack of behavioural modelling of the impacts of the RSPT is a weakness of the modelling. What really needs to be known to make a comprehensive evaluation of this new tax is the effect of various ‘uplift’ factors – the threshold which determines the boundary between a ‘normal’ rate of return on capital and so-called ‘super profits’ in the event that the true threshold where companies would start to face a disincentive to invest is uncertain.

If this threshold is too low (i.e. it cuts in at levels that mining companies associate with normal rates of return on capital), then the assumption of zero excess burden may be unrealistic. Projects may get cancelled because of a lack of finance if financiers perceive that expected rates of return are not high enough. Conversely, if the threshold is set too high, the Government would miss out on some revenue that it could have otherwise collected, but mining investment would not be discouraged.

The essential point is that the Government has asymmetric information about the true threshold between ‘normal’ rates of return and ‘super profits’ or ‘economic rents’. That is, it is a relatively uncontroversial proposition that the miners and their financiers  have better knowledge of the viability of their projects and their required rates of return than do the Government.  Neither group have any incentive to reveal this to the Government. In any case, these may vary from project to project and so the RSPT with a single threshold may not be as economically efficient as is assumed. Further, there may be damaging unintended consequences on certain sectors of the industry which may have broader impacts on the economy. In short, the costs of making an error by setting the threshold too low (such as lost investment in the mining sector) are likely to be larger than setting the threshold too high (which implies less Government revenue). It will be difficult to directly observe the effects of the new tax, as there is no way to run a counterfactual scenario with the current taxation system left intact.

The KPMG Econtech analysis basically assumes that the RSPT is a perfectly efficient form of taxation and that the Government has identified the correct benchmark for ‘super profits’. Theoretically, the RSPT is an ‘ideal’ tax. If (and only if) the Government had full information relating to the correct threshold between returns on capital and ‘super profits’, levying a tax of 100 per cent on those super profits would not affect behaviour of mining companies at all. It is important to stress, this is the assumption that is embedded in the KPMG Econtech modelling. KPMG Econtech state:

In KPMG Econtech’s MM900 model, the RSPT has an excess burden of zero. This outcome rests on the modelling assumption that the RSPT only taxes the economic rents earned from immobile factors, in this case mineral reserves [my emphasis]. If only these rents are taxed, then the investment decisions of mining companies will not be distorted. Since the tax base for RSPT will not shrink in response to the tax, activity in the mining industry will not be distorted, and there will be no economic costs associated with the RSPT in MM900.

The incidence of the RSPT is also a result of the immobile nature of the natural resources on which it is levied. Since there is no change in the supply of mineral resources, their pre-tax price will not change. Instead, the after-tax return that owners of the resources are able to receive falls by the full amount of the tax in MM900.

Thus, using this methodology and modelling technique, it would not be hard to justify, in future, a much higher rate of taxation as the economic costs are assumed to be zero. At least in theory, raising the tax rate and the uplift factor may be a feasible compromise to try and avoid any deadweight losses whilst still maintaining the integrity of the Budget.

Productivity effects in the mining sector and broader economy

An intriguing result of the modelling is that even though a new tax on the mining sector is being introduced, output in the mining sector, as well as investment and employment are all forecast to increase. Resource sector output (relative to the baseline case) is forecast to grow by 5.5 per cent, while resource sector investment and employment are forecast to grow by 4.5 per cent and 7 per cent respectively. These are the forecast impacts of both the introduction of the RSPT and the cut to company tax rates. On the surface, this may seem counter-intuitive. There are a couple of points to be made about this apparent contradiction. First, the RSPT effectively removes the state and territory government royalty regimes (at least from the perspective of the mining industry) by the Commonwealth refunding any royalties paid by mining companies. Thus, KPMG Econtech did not model the introduction of the proposed RSPT simply as a new tax being added to existing taxes, but rather as replacing royalties and crude oil excise.

Second, the Government stated:

More marginal mines that currently pay royalties may not earn sufficient profits to be net payers of the resource rent tax, so they will have an incentive to expand. Marginal prospective mines will pay less under the RSPT than under royalties and so a disincentive to invest in some new projects will also be removed.[26]

This statement implies that productivity growth in the mining sector may be reduced. On an intuitive level, more marginal mines are less profitable. Thus if we are comparing two mines for the same commodity (i.e. both face the same price for their output and thus their marginal revenue is the same), then the more marginal mine is less profitable because of a higher cost structure. That means that for each additional dollar invested and each additional hour worked by an employee, less of that particular commodity will be extracted. Equivalently, to extract the same amount of output, more labour and capital resources must be employed in the more marginal mine. The modelling results suggest that the increase in productivity that arises from the cut to the company tax rate will outweigh any negative productivity effects of the RSPT on the mining sector, leading to a prediction of increased overall productivity growth in the economy. The company tax rate cuts increase productivity by increasing investment.

RSPT and future revenue forecasts

Ultimately, the introduction of the RSPT will make it more difficult in the immediate future for Treasury to accurately forecast revenues as the behavioural impacts of the tax are uncertain. The KPMG Econtech modelling does provide some insight into how such a tax works, although the authors do assume away one of the most interesting questions. That is whether the boundary between normal returns and ‘super profits’ is set too low. Other than these modelling results, Treasury has little to go on in terms of the how the RSPT will affect revenue collections in the future.

One potential concern about the RSPT surrounds its symmetric nature. When mining companies earn ‘super profits’ these will be taxed at 40 per cent. When these companies make operating losses, the Government is proposing to provide a rebate for 40 per cent of those losses (some types of losses will not be covered).[27] This will tend to make revenue flows more procyclical – it will be higher in booms and lower in downturns.

Another matter is related to the provision in the Budget papers for any losses that the Government may have to provide a rebate for. As far as can be established, anticipated revenue flows from the RSPT are heavily linked to the terms of trade and that in years where the government anticipates having to make good on rebates for mining company losses, this will merely subtract from anticipated revenue in future years. Thus, the stability of the Budget over time (in terms of anticipated revenues) could become even more reliant on Treasury getting their economic forecasts right. There have been some comments in the media from mining companies, whom are claiming that financiers place little value on the commitment by the Government to rebate losses under the RSPT. This may be exacerbated due to the lack of an explicit commitment to make good on the rebates. There is some similarity between this situation and the implementation of the large deposit and wholesale funding guarantees introduced during 2009.  Ratings agencies were hesitant in ascribing any value to those guarantees until they were perceived to have been: ‘unconditional, irrevocable and timely’. Ultimately, this was ensured by the passage of legislation through the Parliament and provisions for contingent liabilities (explained below) were made in the Budget papers.[28]

An alternative to this approach, which may help to ease some these concerns would be to list potential losses as a ‘contingent liability’ in Statement 8 in Budget Paper No.1: Statement of Risks. Contingent liabilities are liabilities that will only be called upon contingent upon some event (contingent assets also exist). Depending on the nature of the risk of the event occurring and the total extent of any potential liabilities they can be quantifiable or unquantifiable. Sometimes, the Government has a very good idea of the nature of the liabilities and likelihood of contingent events occurring, while in some cases only an upper bound can be established. In other cases, no sensible estimate can be made. Nevertheless, by mentioning the losses in Statement 8, at least the Government would have acknowledged a commitment that it may be forced to meet in the future.

Expenses and net capital investment

Total expenses have been revised upwards in the 2010–11 Budget across the forward estimates period compared to the 2009–10 Budget. If the economic and other forecasts from this year’s Budget are realised, the Government will meet its cap on real spending growth of 2 per cent or less once economic growth returns to trend. Table 4 below shows the evolution of total expenses over the forward estimates.

Table 4: Australian Government general government sector expenses

 

MYEFO(a)

Revised

Estimates

Projections

 

2009–10

2009–10

2010–11

2011–12

2012–13

2013–14

Total expenses ($b)

340.2

343.1

354.6

364.6

381.0

398.0

Real growth on

           

previous year (%)(b)

2.4

3.3

0.5

0.3

2.0

1.9

Per cent of GDP

26.8

26.5

25.2

24.5

24.3

24.0

(a) GDP forecasts for the 2009–10 Budget were prepared according to the System of National Accounts 1993, while forecasts for MYEFO and the 2010–11 Budget were prepared according to the System of National Accounts 2008.
(b) Real growth is calculated using the Consumer Price Index.

Source: Budget paper no. 1: 2010–11, op. cit., p. 6–3.

A vast bulk of the changes in estimated expenses between the 2009–10 MYEFO and the 2010–11 Budget (shown in Table 5 below) arises from parameter and other variations. Goods and Services Tax (GST) payments to the states and increases in prices and wages are the two main economic parameter variations that have contributed to an overall increase in expenses over the forward estimates. These were offset to some degree by lower than anticipated expenditure on unemployment benefits and public debt interest. Policy decisions taken since the 2009–10 MYEFO are projected to increase expenses by a total of $5.2 billion over 2010–11 and 2011–12, and subtract around $2.6 billion from expenses in 2012–13. Assuming inflation comes in on target in these years the Government has minimal margin for error to achieve its self-imposed spending cap. It is probable that had this ‘intertemporal smoothing’ of expenses not occurred, then the spending cap would not have been achieved.

Table 5: Reconciliation of Australian Government general government expense estimates

   

Estimates

Projections

 

2009–10

2010–11

2011–12

2012–13

 

$m

$m

$m

$m

2009–10 Budget expenses

338,213

344,528

356,388

374,990

Changes between 2009–10 Budget and MYEFO

       

Effect of policy decisions(a)

49

-1,491

-354

-329

Effect of parameter and other variations

1,905

1,943

2,471

3,413

Total variations

1,954

452

2,117

3,084

2009–10 MYEFO expenses

340,166

344,980

358,505

378,075

Changes between MYEFO and 2010–11 Budget

       

Effect of policy decisions(a)

1,916

3,468

1,691

-2,574

Effect of economic parameter variations

       

Total economic parameter variations

2,007

2,501

3,265

4,046

Unemployment benefits

-531

-1,757

-1,442

-1,035

Prices and wages

385

1,821

2,109

2,531

Interest and exchange rates

-31

-95

-92

-94

GST payments to the States

2,185

2,532

2,691

2,644

Public debt interest

-398

-137

-902

-1,815

Program specific parameter variations

1,911

2,347

1,211

2,016

Slippage in 2009-10 Budget decisions(b)

-124

887

-132

-16

Other variations

-2,356

599

935

1,265

Total variations

2,955

9,664

6,068

2,922

2010–11 Budget expenses

343,122

354,644

364,573

380,997

(a) Excludes secondary impacts on public debt interest of policy decisions.
(b) The amounts in all years relate to the delay in Private Health Insurance reform due to the rejection of legislation by the Senate.

Source: Budget paper no. 1: 2010–11, op. cit., p. 6–4.

Net capital investment, which is defined as acquisitions of non-financial assets (such as computers, software, defence acquisitions, etc.) minus expenses for depreciation, usually only has a small impact on the overall budget balance. Table 6 shows the reconciliation statement for net capital investment. The most notable aspect of the reconciliation table is that net capital investment is projected to fall in 2012–13. This means that depreciation will outweigh any new investment in non-financial assets for that year.

Table 6: Reconciliation of Australian Government general government net capital investment estimates

 

Estimates

Projections

 

2009–10

2010–11

2011–12

2012–13

 

$m

$m

$m

$m

2009–10 Budget net capital investment

5,545

6,269

6,139

5,016

Changes between 2009–10 Budget and MYEFO

       

Effect of policy decisions(a)

402

-218

-107

-6

Effect of parameter and other variations

87

-614

-438

-272

Total variations

488

-832

-545

-279

2009–10 MYEFO net capital investment

6,033

5,437

5,593

4,738

Changes between MYEFO and 2010–11 Budget

       

Effect of policy decisions(a)

396

693

21

46

Effect of parameter and other variations

-583

645

-1,697

-5,819

Total variations

-187

1,338

-1,676

-5,774

2010–11 Budget net capital investment

5,847

6,775

3,917

-1,036

(a) Excludes secondary impacts on public debt interest of policy decisions.

Source: Budget paper no. 1: 2010–11, op. cit., p. 6–45.

Balance sheet measures

Net debt is now forecast to peak in 2012–13 at $93.7 billion as opposed to the 2009–10 Budget, where the projected peak was 13.1 per cent of GDP in 2014–15, which equated to close to $200 billion. Gross debt (the bulk of which is comprised of Commonwealth Government securities, or CGS, on issue) was forecast to exceed $300 billion by 2014–15, whereas it is currently forecast to peak at around $232.3 billion in 2012–13. Forecasts for net worth and net financial worth have also been revised upwards. Forecasts and projections for net debt, net worth, net financial worth and net interest payments are presented below in Table 7.

Table 7: Australian general government sector net debt, net worth and net financial worth

 

Estimates

Projections

 

2009–10

2010–11

2011–12

2012–13

2013–14

 

$b

$b

$b

$b

$b

Financial assets

219.2

235.6

238.2

244.0

248.5

Non-financial assets

98.4

104.2

107.9

110.8

113.1

Total assets

317.6

339.8

346.1

354.7

361.6

Total liabilities

337.7

396.2

412.5

417.7

417.0

Net worth

-20.1

-56.5

-66.4

-63.0

-55.3

Net financial worth(a)

-118.5

-160.6

-174.3

-173.8

-168.5

Per cent of GDP

-9.2

-11.4

-11.7

-11.1

-10.2

Net debt(b)

41.8

78.5

90.5

93.7

90.8

Per cent of GDP

3.2

5.6

6.1

6.0

5.5

Net interest payments

2.0

4.6

6.1

6.5

6.1

Per cent of GDP

0.2

0.3

0.4

0.4

0.4

(a) Net financial worth equals total financial assets minus total liabilities. That is, it excludes non-financial assets.
(b) Net debt equals the sum of deposits held, advances received, government securities, loans and other borrowing minus the sum of cash and deposits, advances paid and investments, loans and placements.

Source: Budget paper no. 1: 2010–11, op. cit., p. 3–23.

It is interesting to note that under sections 5 and 5A of the Commonwealth Inscribed Stock Act 1911, the Commonwealth has imposed a ceiling on itself, in terms of the face value of the total amount of CGS on issue. At present, the total face value of CGS on issue at any one time is limited to $200 billion. Thus, if the budget forecasts turn out to be accurate, then new legislation will be required in order for the Government to continue borrowing beyond the $200 billion limit. The Commonwealth Inscribed Stock Act 1911 actually sets a limit of $75 billion under normal circumstances. However, there is a provision for the Treasurer of the day to declare ‘special circumstances’ and increase the borrowing limit by $125 billion to $200 billion (a declaration can only be made by the Treasurer once—that is, the Treasurer cannot declare special circumstances twice and raise the borrowing limit by a further $125 billion, for example). Such a declaration was made in early 2009. As it stands, the declaration can remain in force in perpetuity and the Government has not given any indication of when it expects to reverse the declaration.


[1].    The budget figures in this brief have been taken from the following document unless otherwise sourced: Australian Government, Budget strategy and outlook: budget paper no. 1: 2010–11, Commonwealth of Australia, Canberra, 2010, viewed 13 May 2010, http://www.aph.gov.au/budget/2010-11/content/bp1/download/bp1.pdf

[2].    W Swan (Treasurer), Budget speech 2010–11, media release, 11 May 2010, viewed 13 May 2010, http://www.budget.gov.au/2010-11/content/speech/download/speech.pdf  

[3].    Budget paper no. 1: 2010–11, op. cit., p. 1–9.

[4].    This list is not exhaustive. These measures (and others) will be considered in more detail in other briefs in this Budget Review.

[5].    A Rollins, ‘Surpluses supplied on a China platter’, Australian Financial Review, 13 May 2010, p. 17, viewed 21 May 2010, http://parlinfo.aph.gov.au/parlInfo/download/media/pressclp/UUOW6/upload_binary/uuow60.pdf

[6].    M Franklin, ‘Wayne Swan rides tax wave to early budget surplus’, The Australian, 12 May 2010, viewed 17 May 2010, http://www.theaustralian.com.au/in-depth/budget/wayne-swan-rides-tax-wave/story-e6frgd66-1225865282709

[7].    M Grattan, ‘Back to black, and proud of it’, theage.com.au, 12 May 2010, viewed 17 May 2010, http://www.theage.com.au/business/federal-budget/back-to-black-and-proud-of-it-20100511-uv2y.html

[8].    T Colebatch, ‘Rating agencies approve, markets calm, economists divided’, theage.com.au, 13 May 2010, viewed 17 May 2010, http://www.theage.com.au/national/rating-agencies-approve-markets-calm-economists-divided-20100512-uy4r.html

[9].    Parliament of Australia, ‘Budget 2010: editorials, opinion, and media releases’, Parliamentary Library website, viewed 21 May 2010, http://libiis1/library_services/budget_library/index.htm

[10]. P Anderson, Budget repair task gets underway, media release, ACCI, 11 May 2010, viewed 17 May 2010, http://www.acci.asn.au/text_files/media_releases/2010/066-10.pdf

[11]. H Ridout, Budget is cautious and credible – Government plays to its strengths of economic management and health, media release, AIG, 11 May 2010, viewed 17 May 2010, http://www.aigroup.com.au/portal/site/aig/template.MAXIMIZE/budget2010/?javax.portlet.tpst=f0c98a1a2129f743fcec98101026a0a0_ws_MX&javax.portlet.prp_f0c98a1a2129f743fcec98101026a0a0=index%3D2%26docName%3DBudget%2Bis%2Bcautious%2Band%2Bcredible%2B-%2BGovernment%2Bplays%2Bto%2Bits%2Bstrengths%2Bof%2Beconomic%2Bmanagement%2Band%2Bhealth%26viewID%3Dcontent%26folderPath%3D%252FLIVE_CONTENT%252FMedia%2BReleases%252F2010%252FMay%252F&javax.portlet.begCacheTok=com.vignette.cachetoken&javax.portlet.endCacheTok=com.vignette.cachetoken

[12]. H Ridout, op. cit.

[13]. Business Council of Australia (BCA), Return to surplus – but what is the risk?, media release, BCA, 11 May 2010, viewed 17 May 2010, http://www.bca.com.au/Content/101683.aspx

[14]. Australian Council of Trade Unions (ACTU), Traditional Labor Budget—good for jobs, economy and working Australians, media release, ACTU, 11 May 2010, viewed 19 May 2010, http://www.actu.org.au/Media/Mediareleases/TraditionalLaborBudgetgoodforjobseconomyandworkingAustralians.aspx

[15]. ibid.

[16]. ACTU, Budget is good news for working Australians with 450,000 new jobs as economy rebounds, say unions, media release, ACTU, 12 May 2010, viewed 19 May 2010, http://www.actu.org.au/Images/Dynamic/attachments/6962/acturelease-100512-budget%20_2_.pdf

[17]. Australian Council of Social Service (ACOSS), Pathway to surplus and investment in primary healthcare welcome but not enough help for unemployed, media release, ACOSS, 12 May 2010, viewed 19 May 2010, http://www.acoss.org.au/media/release/pathway_to_surplus_and_investment_in_primary_healthcare_welcomed_but_not_en

[18]. ibid.

[19]. Budget paper no. 1: 2010‑11, op. cit., p. 2–23.

[20]. The 11 countries included in the Treasury sample are: Australia, Brazil, Canada, China, France, Germany, Italy, Japan, Korea, the United Kingdom and the United States. The other countries in the IMF database, but which were excluded from the Treasury sample, are: Argentina, Indonesia, India, Mexico, Russia, Saudi Arabia, South Africa and Turkey.

[21]. S Davidson, ‘Did the stimulus work?’, Catallaxy Files website, viewed 17 May 2010, http://catallaxyfiles.com/2010/05/13/did-the-stimulus-work/

[22]. Parliamentary Library staff have reproduced and verified Professor Davidson’s results.

[23]. Budget paper no. 1: 2010‑11, op. cit., pp. 4–22 to 4–26

[24]. KPMG Econtech, The Treasury: CGE analysis of part of the Government’s AFTSR response, report prepared for Treasury, KPMG, 2010, viewed 17 May 2010, http://www.kpmg.com.au/Portals/0/KPMGEcontech-Report-CGE-Analysis-of-part-of-Governments-AFTS-Response.pdf

[25]. Deadweight losses can be defined as a net loss in social welfare that results because the benefit generated by an action (in this case, the introduction of a new tax) differs from the foregone opportunity cost. Deadweight losses can be thought of, in an intuitive sense, as the opportunity cost in excess of benefits that leads to individuals to alter their behaviour to either avoid or take advantage of a particular action taken by the Government. ‘Social welfare’ usually refers to consumer surplus (the maximum amount a consumer is willing to pay for an item over and above what they actually paid), producer surplus (the amount a producer sells an item over and above the minimum price they would have accepted) and government revenue. These measure the gains to be made from exchange between individuals. Transfers of surplus from one group to another (say consumers to the government, or producers to consumers, for example) are seen as having no effect on social welfare as one group is benefited at the expense of another. Deadweight losses on the other hand, arise from the outright destruction of social welfare, which is no longer available to anyone.

[26]. Budget paper no. 1: 2010‑11, op. cit., p. 4–24.

[27]. For more operational detail see: Australia, Parliamentary Library, ‘Resource Super Profit Tax’, Budget review 2010–11, Canberra, 2010, viewed 21 May 2010, http://www.aph.gov.au/library/pubs/RP/BudgetReview2010-11/TaxationRSPTax.htm

[28]. M Drummond and G Winestock, ‘Agencies barred from AAA rating’, Australian Financial Review, 22 November 2008, p. 7, viewed 24 May 2010, http://parlinfo.aph.gov.au/parlInfo/search/display/display.w3p;query=Id%3A%22media%2Fpressclp%2FAY5S6%22


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