economic issues


Budget Review 2008-09 Contents

Budget 2008 09: economic issues

Key features

David Richardson and Scott Kompo-Harms
Economics Section

Introduction

This Budget is the first under the Rudd Government and the first delivered by the new Treasurer, Wayne Swan. It is the first Budget brought down by a Labor Government since Ralph Willis last Budget in 1995. The main changes between the last Howard Government Budget and the first Rudd Government Budget are discussed below.

This Budget has been framed in a challenging environment for economic policy makers. On the one hand the Australian economy is operating at, or very close to, capacity, creating domestic inflationary pressures. The unemployment rate and participation rates are both hovering around three-decade lows and underlying inflation, now well outside the Reserve Bank of Australia (RBA) target range of 2 to 3 per cent, has accelerated in recent quarters. On the other hand, the global financial system is experiencing the fallout from the US sub-prime crisis, resulting in tighter credit conditions which are expected to slow growth in the advanced economies over the forward estimates period. In his speech, the Treasurer described the Budget in the following terms:

This Budget is designed to meet the big challenges of the future. It is a Budget that strengthens Australia's economic foundations, and delivers for working families under pressure. It is the responsible Budget our nation needs at this time of international turbulence, and high inflation at home. A Budget carefully designed to fight inflation, and ensure we meet the uncertainties of the future from a position of strength. A Budget with a $55 billion Working Families Support Package at its very core. A Budget that begins a new era of strategic investment in Australia's future challenges and opportunities. And a Budget that helps plan, finance and secure Australia's long-term national security and defence needs. These are the commitments the Government gave to the Australian people at the election. Mr Speaker, this Budget honours those commitments. The Government has made sure every single cent of new spending for the coming year has been more than met by savings elsewhere in the Budget. Our commitments have been honoured by redirecting spending. Difficult spending cuts have helped fund our Working Families Support Package and our new priorities for the nation.[1]

These comments reflect the uncertainty for economic policy makers going forward, but nonetheless reveal a commitment from the government to implement their election promises in a disciplined manner. They also reflect the government s desire to contain spending to combat domestic inflationary pressures.

Most of the major items in the Budget had been revealed prior to its release. These included: personal income tax cuts; changes to the excise on other excisable beverages , known as alcopops ; introduction of, or changes to existing, means-tests for Family Tax Benefit Part B, the Baby Bonus and the Medicare levy; increases in the Child Care Rebate; and tax refunds for educational expenses. In general, the Budget contained no real surprises .

In the immediate aftermath of the Budget, the main focus of much of the media was on the tax cuts, the three nation-building infrastructure funds and the degree of fiscal restraint exercised.[2] The issue of whether fiscal settings are tight enough to have any impact on inflation tended to dominate the headlines. For example, on the morning of 14 May 2008 the headlines said:

  • Swan Lite on Inflation in The Australian
  • Swan s Nip and Tuck Budget in the Australian Financial Review
  • It s a Highwire Act - $41 billion for nation building but risk of pressure for inflation in the Sydney Morning Herald, and
  • Softly, softly: Labor s cautious first steps in The Age.

This brief succinctly covers some of the main features of the Budget by examining the economic forecasts contained in the Budget as well as the outlook for other macroeconomic aggregates, including inflation, unemployment, the current account and interest rates. It then discusses the main revenue and spending aspects of the Budget.[3]

The Economic Outlook

Statement 2: Economic Outlook in Budget Paper No. 1 2008 09 details estimates (2007 08), forecasts (2008 09) and projections (2009 10 to 2011 12) of the main macroeconomic aggregates that underpin the revenue and expenses figures presented in Statement 3: Fiscal Strategy and Outlook , Budget Paper No. 1 2008 09.[4] In a time of uncertainty given the countervailing forces that exist, both internationally and domestically, these numbers assume a greater importance to the future Budget outlook. First, Statement 2 provides an overview of the parameters that underpin the Budget. Second, it provides an indication of the government s expectations of the state of the global economy up to the end of 2009. Third, Statement 2 provides a detailed outlook for the domestic economy. This section of the brief provides an analysis of the government s forecasts, as well as comparing the outlook in the Budget to key economic forecasts from other sources.

The Domestic Outlook

Table 1 from the Statement 2 examines the major economic aggregates, estimates and forecasts (see Table 1 below).

Table 1: Major Economic Aggregates, Estimates and Forecasts annual percentage change [5]

 

Estimates 2007 08

%

Forecasts 2008 09

%

Demand and Output

Household consumption

4

2

Dwelling investment

2

2

Business investment

9

8

Private final demand

5

4

Public final demand

4

3

Total final demand

5

3

Changes in inventories[6]

-

Gross National Expenditure

5

3

Exports

3

6

Imports

11

9

Net exports[7]

-2

-1

Real gross domestic product

3

2

Non-farm product

3

2

Farm product

2

20

Nominal gross domestic product

7

9

Other Selected Economic Measures

External Accounts

Terms of trade

4

16

Current account balance (per cent of GDP)

-6

-5[8]

Labour Market

Employment[9]

2

1

Unemployment rate (per cent)

4

4 [10]

Participation rate (per cent)

65

65 [11]

Prices and Wages

Consumer Price Index

4

3

Gross non-farm product deflator

4

6

Wage Price Index

4

4

Source: Statement 2, Budget Paper No. 1 2008 09, p.2 6.

From these figures, it can be seen that the government expects economic growth to slow to slightly below its long-run average at 2 per cent, down from an anticipated 3 per cent in 2007 08. Notable aspects of these expectations include:

  • a slowing of non-farm GDP, which will drive a moderation in price and wage pressures although this will be cushioned by a forecast rise in farm production, which is expected to add percentage point to real GDP
  • in line with the RBA forecasts, underlying and headline inflation are still forecast to be outside of the Bank s 2 3 per cent target band by the end of 2008 09
  • the Wage Price Index is also forecast to remain steady but at an elevated level
  • the government is expecting that strong growth in the emerging economies will continue, with a forecast of an incredibly strong rise in the terms of trade of 16 per cent in 2008 09. This is coming off the back of levels not seen since the Korean War wool boom. The government stated that over the 2008 calendar year, the terms of trade are forecast to rise by over 20 per cent which, if realised, would be the largest in a generation. [12] This will lead to further strong growth in Australian domestic incomes, thereby exacerbating inflationary pressures, and
  • the unemployment rate is forecast to rise slightly (from the lowest level in over 30 years) by the end of 2008 09.

The International Outlook

In terms of the international outlook, the government expects a mild recession in the United States (US), driven by deteriorating consumer confidence as a result of the recent falls in US house prices and exacerbated by the recent stress in financial markets. The Federal Reserve has responded by sharply lowering interest rates in recent months and the US administration has implemented a fiscal stimulus package (of around 1 per cent of US GDP), targeted at boosting household consumption and business investment. The effects of these stimuli are expected to be felt during the second half of 2008. The US slowdown does imply that the US current account deficit should narrow, although the risk of a disorderly adjustment of current account imbalances remains a concern for the US economy and global outlook .[13]

Other major advanced economies (Euro area and Japan) are also tipped to slow, although not to the same degree as the US. In sharp contrast, growth in emerging economies (particularly in Asia) has continued and is forecast to continue virtually unabated to the end of 2009. The Chinese economy is forecast to slow slightly, from a decade-high growth rate of 11.9 per cent at the end of 2007 to 9.5 per cent at the end of 2009. Indian growth is also tipped to slow slightly, from 9.1 per cent to 7.75 per cent over the same period. Other East Asian economies are expected to experience a moderation in growth through 2008 and a rebound in 2009.[14]

Other economic indicators and forecasts

Other agencies and institutions also provide forecasts for economic activity. In this section Budget forecasts are compared with those made by the RBA, for the main economic aggregates of GDP, non-farm GDP, and CPI. The RBA also provides forecasts of underlying inflation (although this is not included in the Budget). The RBA makes similar underlying assumptions to those made in the Budget (these assumptions are discussed in more detail in the section below). Table 2 below presents the RBA forecasts:

Table 2: RBA forecasts

RBA forecasts
Source: Reserve Bank of Australia, Statement on Monetary Policy, 9 May 2008, p. 68.

These latest RBA forecasts are roughly in line with the Budget forecasts, although the RBA s forecasts, particularly for CPI inflation, tend to be a little more tilted to the upside (notwithstanding the different basis for comparing change over time the Budget forecasts are performed on a year-average change basis, whereas the RBA uses year-to-quarter changes). However, it should be noted the RBA forecasts for non-farm GDP are well below that presented in the Budget. On inflation risks, the RBA states:

Risks to these forecasts can be identified in both directions. A further deterioration in the outlook for global growth would be the main source of downside risk to the forecasts for domestic activity. In particular, if the weakness in the major developed economies were to lead to a large moderation in growth in China and India, it is likely that the outlook for the Australian economy and commodity markets would deteriorate significantly There are also upside risks to the domestic growth and inflation forecasts. It is possible that the recent weakness in consumer sentiment and domestic spending will prove to be mostly temporary, especially in light of the large boost to national income arising from the terms of trade. If demand were to be stronger than expected, the forecast moderation in the inflation rate would probably not eventuate. In addition, the persistence of inflation at relatively high rates for some time could result in inflation expectations becoming entrenched at higher than acceptable levels, which could feed back into wage- and price-setting behaviour.[15]

On the downside, the continuation of strong revenue gains as a result of strong terms of trade increases experienced in recent years depends heavily on whether domestic consumption and investment in emerging economies will fill the void left by flagging foreign demand from the major advanced economies. On the upside, if domestic demand does not moderate as expected, inflation is not likely to moderate posing serious risks to inflationary expectations which have remained well-anchored to date. In the short-term there is a risk that if domestic demand does not moderate as expected, yet a sudden and dramatic fall in commodity prices (and by implication the terms of trade) occurred, then at least for a short time (perhaps a few months) inflation could rise sharply as the AUD would also tend to fall suddenly, raising the prices of imports (most importantly, the price of fuel). This would only be a temporary phenomenon of itself (and usually not much to worry about), but at a time of strong existing inflationary pressures, a sharp temporary surge in inflation could just be the trigger for inflationary expectations to surge and feed into wage-and price-setting behaviour.

The following section summarises estimates of the key economic aggregates from the four major banks (Table 3 below). Compared with Table 1 above, the Budget forecasts are also roughly in line with these private-sector forecasts.

Table 3: Economic forecasts, ANZ, CBA, NAB and Westpac

   

Financial years

Calendar years

 

2007 08

%

2008 09

%

2007[16]

%

2008

%

2009

%

ANZ

Real GDP

3

2

3.9

2.5

2.4

Employment

2

1

2.8

2.4

1.4

Unemployment Rate (%)

4

4

4.4

4.2

4.6

WPI

4

4

4.1

4.3

4.1

CPI

4

4

2.3

4.1

3.5

CBA

Real GDP

3.6

3.1

3.9

3.0

3.4

Employment

2.5

2.0

2.8

2.2

2.1

Unemployment Rate (%)

4.3

4.6

4.4

4.5

4.5

WPI

4.2

3.9

4.1

4.1

3.9

CPI

3.1

3.0

2.3

3.5

2.8

NAB

Real GDP

3

2

4.0

2.8

2.8

Employment

2

2

N/A

2

2

Unemployment Rate (%)

4

4

4.4

4.3

4.7

Average earnings

3

4

N/A

4

4

CPI

3

2

2.3

3.8

2.3

Westpac

Real GDP

3.5

3.0

N/A

N/A

N/A

Employment

2.7

1.8

N/A

N/A

N/A

Unemployment Rate (%)

4.2

4.4

N/A

N/A

N/A

WPI

4.3

4.4

N/A

N/A

N/A

CPI

3.2

3.3

N/A

N/A

N/A

Sources: ANZ - Economic Outlook (2 May 2008), ANZ Federal Budget Report (14 May 2008), CBA Research - Forecasts Economic (9 May 2008), NAB - Monthly Business Survey (8 April 2008), NAB - 2008/09 Budget Download (14 May 2008), Westpac Australian Budget 2008/09 (14 May 2008).[17]

Overall, private-sector bank economists expect the Budget s impact on inflation and interest rates to be neutral. For example, Saul Eslake, chief economist at ANZ stated:

The Budget embodies a very modest tightening of fiscal policy and as such is more appropriate for the circumstances than recent Budgets have been. It won t add [Eslake s emphasis] to upward pressure on interest rates as the previous government s last few budgets did but nor can it really be said that the Budget exerts maximum downwards [Eslake s emphasis] pressure on interest rates.[18]

NAB Capital chief economist, Rob Henderson stated that the current Budget represented a structural tightening of fiscal policy, equivalent to per cent of GDP, but also reminds us that the 1996 97 Budget delivered a tightening of 1 per cent of GDP. According to Henderson, the tightening in the current Budget is:

[n]ot sufficiently frugal to represent a quantum change to the outlook.[19]

Key Assumptions Underlying the Economic Outlook

It should be noted there are a number of underlying assumptions made when these forecasts are generated. For 2008 09, the key assumptions are:

  • the bilateral AUD/USD exchange rate is assumed to be around 93 US cents, with a trade weighted index of around 71
  • domestic interest rates are assumed to remain unchanged
  • world oil prices (using the West Texas Intermediate benchmark) are assumed to be around US$115 per barrel, and
  • farm sector forecasts assume average seasonal conditions but take account of low water storage levels.[20]

Were any of these assumption violated, the forecasts would need to be altered. Previous Budgets usually presented a table containing information on the impact of deviations from some assumptions on revenue and expenses this budget does not contain such a table. Rather, the 2008 09 Budget presents two illustrative scenarios:

  • a permanent decrease in commodity prices, consistent with a 1 per cent fall in nominal GDP, and
  • a 0.5 per cent ongoing increase in both labour productivity and the participation rate, consistent with a 1 per cent increase in real GDP.

The scenarios reproduced below are presented as deviations from the baseline forecasts in the year after the change occurred.[21] The first scenario can be categorised as a negative demand shock, while the second scenario can be thought of as a positive supply shock, and thus, the opposite cases can also be considered (i.e. the sign of the estimated effects on receipts and payments will change).

Table 4a: Illustrative impact of a permanent commodity price fall consistent with a 1 per cent fall in nominal GDP (per cent deviation from baseline level)

 

Year 1

Year 2

 

%

%

Real GDP

0

-

Non-farm GDP deflator

-

-

Employment

-

-

Wages

0

-

CPI

0

-

Company profits

-3

-3

Consumption

-

-

Table 4b: Illustrative sensitivity of the budget balance to a 1 per cent reduction in nominal GDP due to a fall in the terms of trade

 

Year 1

Year 2

 

$b

$b

Receipts

   

Individuals and withholding taxation

-0.5

-1.9

Superannuation taxation

-0.1

-0.1

Company tax

-1.3

-2.7

Goods and services tax

-0.1

-0.2

Excise and customs duty

-0.1

-0.1

Other taxation

0.0

0.0

Total Receipts

-2.0

-5.0

Payments

   

Income support

0.1

0.1

Other payments

-0.2

-0.3

GST payments

-0.1

-0.2

Total Payments

-0.2

-0.4

Interest change on surplus change

-0.1

-0.3

Underlying cash balance impact

-1.9

-4.8

Table 5a: Illustrative impact of an ongoing (equal) increase in both the participation rate and labour productivity consistent with a 1 per cent rise in real GDP (per cent deviation from baseline level)

 

Year 1

Year 2

 

%

%

Real GDP

Non-farm GDP deflator

-

-

Employment

Wages

CPI

-

-

Company profits

1

1

Consumption

1

1

Table 5b: Illustrative sensitivity of the budget balance to a 1 per cent rise in real GDP due to an ongoing (equal) increase in both the participation rate and labour productivity

 

Year 1

Year 2

 

$b

$b

Receipts

   

Individuals and withholding taxation

1.5

1.7

Superannuation taxation

0.0

0.1

Company tax

0.8

1.6

Goods and services tax

0.4

0.4

Excise and customs duty

0.4

0.4

Other taxation

0.0

0.0

Total Receipts

3.0

4.1

Payments

   

Income support

0.0

0.1

Other payments

-0.1

-0.2

GST payments

0.4

0.4

Total Payments

0.3

0.3

Interest change on surplus change

0.1

0.3

Underlying cash balance impact

2.8

4.1

The most significant thing to note from these tables is that most of the action, in terms of impact on the underlying cash balance, occurs on the receipts side. The impact on payments is small. The government also states:

To the extent that the increase in productivity and participation are temporary rather than permanent, the impact on the economic and fiscal position would be more subdued.

As mentioned above, it is also possible to consider the reverse cases (i.e. a positive demand shock and a negative supply shock), merely by reversing the sign of the impacts on receipts and payments.

Spending and Taxing: Main Features

This Budget forecasts an underlying cash balance, or surplus, of $21.7 billion for 2008 09 up from the estimated $16.8 billion balance in the last Budget brought down by the former treasurer, Peter Costello. It is also dramatically different from the last Keating Government budget brought down by Ralph Willis. That Budget produced a balance of minus $11.1 billion or a deficit of 2.1 per cent of GDP.

As far as can be ascertained, all commentators have accepted that the surplus will be $21.7 billion for 2008 09. However, when examining the historic series, we are told that the figure of $21.7 billion does not include the earnings of the Future Fund. If we add that back into the surplus then the true figure is in fact $25.2 billion. As a share of GDP, the figure would rise to approximately 2.3 per cent. There is no reason for excluding the earnings of the Future Fund from the budget balance and in other places in the Budget Papers it is added into the cash balance.[22] In most of what follows we continue to use the government s chosen figure (excluding Future Fund earnings) so as to enable cross checking with the Budget Papers.

Surpluses are projected to continue into the forward estimates at roughly the same value. The budget surpluses for 2008 09 and 2009 10 will be allocated towards three new funds: the Building Australia Fund, the Health and Hospitals Fund and the Education Investment Fund. This Budget continues the recent trend towards allocating surpluses to specific purposes. Of course the allocation is largely notional, the presentation in the Budget Papers and the definitions of revenue, spending and balance remain the same.

The fiscal balance for 2008 09 is forecast to be $23.1 billion up from $20.4 billion in 2007 08.[23] The following table shows how that balance comes about.

Table 6: Budget revenue, expenditures and balance

 

Budget Estimates

 

2007 08

($b)

2008 09

($b)

Increase

%

Revenue

303.8

319.5

5.2

% GDP

26.9

25.9

-3.7

       

Expenses

280.6

292.5

4.2

% GDP

24.9

23.8

-4.4

       

net capital investment

2.8

3.9

39.3

       

Fiscal balance

20.4

23.1

13.2

% GDP

1.8

1.9

5.6

Source: Statement 3, Budget Paper No. 1 2008 09, p. 3 5.

There are a number of interesting features of this table. The table shows that revenue will increase from $303.8 billion in 2007 08 to $319.5 billion in 2008 09: an increase of 5.2 per cent. However, as a share of GDP, revenue falls from 26.9 per cent to 25.9 per cent. The reason for that is the large forecast increase in nominal GDP of 9.25 per cent. The forecast increase in real GDP is more modest at 2.75 per cent but prices (using the gross non-farm product deflator) are expected to increase by 6.25 per cent.[24]

Expenses will increase from $280.6 billion in 2007 08 to $292.5 billion in 2008 09, an increase of 4.2 per cent.[25] Incidentally, the forecast increase in the consumer price index suggests there will be a very modest increase in real expenditure for 2008 09. The Budget Papers claim that spending growth has been held to a 1.1 per cent real increase.[26] As a share of GDP, those figures imply a fall in spending from 24.9 to 23.8 per cent of GDP in 2008 09.

This Budget introduces a new table that shows not only the effect of policy decisions on the budget balance but splits the decisions into spending and savings decisions.[27] This is a useful innovation; especially at a change of government when there will be interest in how the priorities are changing. The total effect of policy decisions since the Pre-Election Economic and Fiscal Outlook (PEFO) in October 2007 was to add $1996 million to the cash balance for 2008 09. The new table shows us that this was made up of:

  • new spending worth $5274 million, offset by
  • cuts to other spending of $5338 million, plus
  • new revenue measures costing $13 million, offset by
  • revenue increases worth $1918 million.

While this breakdown is new and useful it does not extend to the forward estimates.

The government has stressed its preparedness to make savings to finance its new spending. In the Budget Speech the Treasurer said [e]very single dollar of new spending is more than offset by savings. We have delivered our commitments by redirecting spending to more pressing priorities. [28]

The government has grouped a large number of those savings measures together under the heading Responsible Economic Management . Those appear on pages 321 to 427 in Statement 2.[29] They are described there as measures that cut ineffective and wasteful programs, target welfare payments and realise efficiencies in the public sector. There is no equivalent heading for receipts savings measures.

In addition to the effect of policy decisions, the government also had the advantage of the parameter and other variations that added $5388 million since the PEFO. These are basically the effects of the economy doing much better than initially expected. Going back further it is useful to examine how we got from the last Costello Budget with its projection of a $12.7 billion surplus for 2008 09 to the present estimate of $21.7 billion. For that purpose we can also look at how the forward estimates are changed. Those figures are presented in the following table.

Table 7: Policy and parameter effects on the budget balance.

 

2008 09

2009 10

2010 11

May 2007 Budget estimates: underlying cash balance

12712

13812

12447

Effect of policy decisions

-8897

-13835

-16157

Effect of parameter and other variations

17889

19692

22706

May 2008 Budget estimates: underlying cash balance

21703

19669

18996

Source: Statement 3, Budget Paper No. 1 2008 09, p. 3 11.

It is interesting to note that the policy measures have a substantially greater effect in the out-years then they do in the budget year. The effect of policy decisions in 2010 11 is almost twice the effect in 2008 09. In each year the policy effects are clearly dominated by the effects of parameter and other variations. Those parameter and other variation effects have been particularly strong this year with a powerful effect on the expected cash balance going well into the future. Most of the impact is on the revenue estimates to which we return later in this brief.

Comparing International budget balances

In the rest of the world there is a wide variety of experience so it is worth comparing Australia s surplus with some other countries.

Table 8: International comparisons: Budget Balance as Percentage of GDP 2008 Forecast

Country

Budget Balance

% of GDP

Country

Budget Balance

% of GDP

Country

Budget Balance

% of GDP

USA

- 2.4

Netherlands

0.6

Hong Kong

3.0

Japan

-2.9

Spain

-0.7

India

-3.1

China

0.5

Czech Rep.

-2.5

Singapore

1.0

Britain

-3.2

Denmark

3.6

South Korea

0.2

Canada

0.4

Hungary

-4.1

Argentina

1.1

Euro Area

-0.8

Norway

17.5

Brazil

-1.8

Austria

-0.4

Poland

-2.0

Chile

7.0

Belgium

-0.4

Russia

2.5

Luxembourg

1.2

France

-2.9

Sweden

2.4

New Zealand

3.1

Germany

1.0

Switzerland

0.9

Saudi Arabia

17.9

Greece

-2.6

Turkey

-2.0

   

Italy

-2.6

Australia

1.5

   

Source: The Economist, 16 May 2008

Australia is one of a hand full of surplus countries, some other high-income countries being Canada, Denmark, Germany, Netherlands, Norway, Russia and Sweden. Of course, other countries are at different stages in their economic cycles and are subject to a host of other influences. One important difference between Australia and many other countries is that they are experiencing the inverse of Australia s favourable terms of trade movements. Other notable countries are China and Saudi Arabia. China is interesting because of its importance for Australia and Saudi Arabia because it is a major resource-rich country. Saudi Arabia, like Norway, is one of the extreme outliers with a surplus approaching 18 per cent of GDP.

Other nations are running significant deficits at the moment. It is interesting to look at some of the absolute amounts of budget deficits throughout the world. This figure is available on a consistent basis in $US from the International Monetary Fund World Economic Outlook database.[30] For all the countries we can measure, combined budget balance is a deficit of $US867 billion forecast for 2008 of which the US alone accounts for $US634 billion.

Revenue issues

Budget surpluses are expected to continue into the future at least in part driven by revenue growth in the recent past which is expected to persist into the future. The following table projects the revenue figures into the future. It also includes the estimates and projections for GDP itself. The Budget Papers project revenue of $366.9 billion in 2011 12 or 26.1 percent of GDP. That is only marginally above the 25.9 per cent of GDP estimated for 2008 09.

Table 9: Revenue growth in the forward estimates.

 

Revenue ($b)

Increase %

2006 07

278.0

2007 08

303.8

9.3

2008 09

319.5

5.2

2009 10

336.9

5.4

2010 11

350.9

4.2

2011 12

366.9

4.6

Source: Statement 3, Budget Paper No. 1 2008 09, p. 3 5.

Australia s recent experience suggests a tendency for revenue to come in much higher than expected. There is even more reason than normal to think that the revenue growth in the out-years (2009 10 to 2011 12) will exceed the Budget figures. The reasoning is simply that the revenue growth in these years is based on the projection assumption of 2.5 per cent growth in the CPI. The RBA has published inflation forecasts through to December 2010 which significantly exceed these projections. If the RBA is correct, then we would expect revenue projections are underestimated on that count. In addition, it is worth stressing that the forward projections for 2011 12 come in at roughly the same share of GDP as the 2008 09 estimate; 26.1 per cent and 25.9 per cent respectively. However, the scatter plot published in the Budget Papers shows that the elasticity of revenue with respect to GDP growth tends to exceed unity by a substantial margin.[31] If so, we would expect that estimates of revenue to GDP would show an upward trend in the forward estimates, at least once the effects of new measures wash out of the system. On that ground, the figures given in the Budget could be substantial underestimates. On the other hand, the RBA forecasts a period of economic growth well below the projections in the Budget Papers. If this occurs it could produce a large downward movement in revenues as discussed earlier.[32]

This year the Budget Papers contain a good deal of discussion about the disappointing performance in forecasting government revenue.[33] The errors discussed there relate to recent years in which outcomes have been much greater than forecasts. A lot of the error is explained by underestimates in the forecast economic growth. When the economy is growing strongly there is a tendency to underestimate. If we look at the historic performance we find that when the economy is weak there is a tendency to overestimate economic growth historically the Budget Papers did not forecast any of the recessions Australia has experienced since the early 1950s.[34] It might be hoped that economic forecasts would gradually improve. However, that may not be the case. The former Governor of the Reserve Bank of Australia, Mr Ian Macfarlane, in evidence to the House of Representatives Committee on Economics, Finance and Public Administration made the following point about economic forecasting:

Economic forecasting is a very imperfect art I would not use the word 'science.' It, by and large, has not improved in 30 years. I have been through all the attempts to improve it all the large econometric models, the small econometric models, the leading indicators, all the surveys of expectations and basically it is about the same as it always was.[35]

Tax Summit

Following the 2020 Summit the Prime Minister announced a tax summit. There were no details, just that bald statement. The 2008 09 Budget clarifies the nature of the review of the tax system.[36] Essentially the review will consider:

1.             the balance of taxes on work, investment and consumption

2.             the role for environmental taxes

3.             the interaction of the tax and social security system on affected people and families

4.             taxes on savings, assets, investment income and company income

5.             taxation of consumption but excluding the GST

6.             simplifying the total tax system at all levels of government, and

7.             the interrelations between the various taxes and with the proposed emissions trading system.

A discussion paper is due to be released by the end of July 2008 and a final report is to be produced by the end of 2009.

The China effect on revenue

Treasury presents a useful discussion of the effects of the terms of trade increase on the tax revenue. Over recent years, there has been discussion to the effect that the resources boom has created windfall tax revenue that can disappear as quickly as it arrived. Hence, it is argued that the windfall tax should not add to recurrent spending levels that would be unsustainable when the resources boom dies down.

The Budget estimates that the terms of trade effect will have increased tax revenue by $33 billion in 2008 09.[37] That may seem a large increase to be generated by mining which contributed a gross real value added of a modest $65 billion in 2006 07, the latest full year figure available.[38]

The implication of the Budget Paper estimate seems to be that the resources boom has increased revenue by $33 billion and, without any commensurate increase in spending, the surplus would have been higher by that amount. In other words, the resources boom has given the government another $33 billion in new revenue to do with as they will. Certainly, that is the message from people such as Chris Richardson from Access Economics, a respected private consultancy company, although his own estimate differs from the latest Budget Paper figure.[39] However, this sort of approach may significantly overstate the effect of the resources boom on revenue. Before explaining that issue, it should be pointed out that the $33 billion estimate of the effect of the resources boom is only ever mentioned in Box 2 on pages 5 14 and 5 15 in Statement 5 of Budget Paper No. 1 2008 09. That estimate is not referred to in commentary anywhere else in the Budget Papers. Perhaps the authors of the Budget Papers have provided that estimate as a service to readers but are not confident enough in the methodology to use it in their discussion. Nevertheless it is worth going through the exercise.

The effect of the resources boom on revenue is calculated by adjusting the national accounts magnitudes for the terms of trade effect. The Australian Bureau of Statistics (ABS) does that when they estimate the real net national disposable income . The full account may be too technical, but essentially what they do is boost the export component by the amount export prices have exceeded import prices. That gives a measure of the extent to which the country is wealthier when Australia s exports can purchase more imports. That is the purpose of making the calculations. However, this is a pure valuation effect. A simplified example is given in Appendix A.

To argue that taxes are higher as a result of these new valuations, it has to be admitted that the value of expenses must also have risen by a similar amount. In fact, what the ABS has done in calculating national accounts magnitudes is to revalue all of the magnitudes that are recorded in the national accounts. If the value of taxation has risen, then so too has the value of the unemployment benefit, the cost of infrastructure projects and many other items. There need not be any more resources available to government.

This is not to argue that the mining boom has not generated some windfall gain in revenue. Clearly it has and we can see that in the extraordinary increases in the profits being earned by BHP Billiton, Rio Tinto and other mining companies. Those profit increases have generated commensurate increases in company tax by those companies. However, the amounts are likely to be much more modest than the Budget Papers suggest.[40]

The pattern of spending

This section examines the changing priorities in the new Government s spending initiatives. In the Budget Speech the Treasurer announced emphasis on the Working Families Support Package together with emphasis on the themes of education, health, climate change and others. The purpose in this section is to examine how those priorities affect the patterns of spending and taxing.

Table 10: Expenses by Function

 

2007 08

2008 09

2011 12

 

$m

% total

$m

% total

$m

% total

General public services

16631

5.93

17261

5.90

19653

5.79

Defence

17366

6.19

17896

6.12

20274

5.98

Public order and safety

3788

1.35

3807

1.30

3881

1.14

Education

18620

6.64

18764

6.42

21800

6.43

Health

44455

15.85

46032

15.74

52190

15.38

Social Security and Welfare

97230

34.66

102439

35.03

114077

33.63

Housing and community amenities

3083

1.10

3197

1.09

2917

0.86

Recreation and culture

2826

1.01

2907

0.99

2736

0.81

Fuel and energy

5103

1.82

5574

1.91

6080

1.79

Agriculture, forestry and fishing

4085

1.46

3058

1.05

3119

0.92

Mining, manufacturing and construction

1846

0.66

1834

0.63

1515

0.45

Transport and communication

4486

1.60

4727

1.62

5265

1.55

Other economic affairs

6467

2.31

6770

2.31

6791

2.00

Other purposes

54564

19.45

58202

19.90

78942

23.27

total expenses

280551

100.00

292470

100.00

339241

100.00

Source: Statement 6, Budget Paper No. 1 2008 09, p. 6 5.

We have already noted that total spending will decline gradually as a share of GDP over the forward estimates. The following table is constructed to illustrate how the actual spending priorities have changed from the last Howard Government Budget to the first Rudd Government Budget as expressed in the estimates for 2008 09 and through to the end of the forward estimates period in the year 2011 12. That gives a total run of five years to observe the change in priorities.

Most of the categories here show a downward movement except for other purposes which show an increase from 19.45 per cent of outlays in 2007 08 to 23.27 per cent in 2011 12. This is the only spending category to increase as a share of total expenses. The main reason is that other purposes includes the payment of the GST revenue to the states and territories. Those GST payments will increase as a share of expenses only because they would be expected to grow at roughly the same rate as GDP, whereas total expenses are projected to fall as a share of GDP. The following table attempts to adjust for that bias by excluding other purposes .

Table 11: Expenses excluding Other purposes as a share of the total

 

2007 08

2008 09

2011 12

 

% total

% total

% total

General public services

7.36

7.37

7.55

Defence

7.68

7.64

7.79

Public order and safety

1.68

1.63

1.49

Education

8.24

8.01

8.38

Health

19.67

19.65

20.05

Social Security and Welfare

43.02

43.73

43.83

Housing and community amenities

1.36

1.36

1.12

Recreation and culture

1.25

1.24

1.05

Fuel and energy

2.26

2.38

2.34

Agriculture, forestry and fishing

1.81

1.31

1.20

Mining, manufacturing and construction

0.82

0.78

0.58

Transport and communication

1.99

2.02

2.02

Other economic affairs

2.86

2.89

2.61

Subtotal

100.00

100.00

100.00

Source: Parliamentary Library, calculations based on Table 10 above.

With those adjustments, we are able to more clearly see the changes in the pattern of expenses. We can appreciate that most of the changes are fairly moderate, even going from the last Howard Government Budget to the Rudd Government Budget four years out. The main commentary is developed in the specific issues briefs contained in this publication but some main points include:

  • General public services shows a modest increase in its share of spending. That seems to be mainly a result of a new commitment to foreign aid reflecting the commitment to gradually increase aid to 0.5 per cent of Australia s Gross National Income
  • Defence was promised a guaranteed real increase of 3 per cent per annum in the underlying funding base but that has not showed up as a major increase in defence as a share of the functions in Table 11. Rather defence increases its share by a modest 0.11 per cent
  • Public order and safety actually shows a significant decline over the forward estimates. Expenditure in this category seems to have levelled out in nominal values
  • Education shows a minor increase over the whole period but with a low in 2008 09 which seems to be mainly due to a gap between the end of the higher Education Special Projects scheme and the start of spending from the Higher Education Endowment Fund
  • Social Security and Welfare, the biggest item by far, gets a boost mainly through family payments and the age pension
  • Housing and community amenities experience a decline
  • Recreation and culture experience a decline
  • Fuel and energy increases slightly compared with the previous year but remains constant after that
  • Agriculture experiences quite a reduction down to 0.58 per cent of spending, mainly because of the cessation of drought assistance
  • Mining, manufacturing and construction experience a substantial fall due to the winding down of some assistance programs
  • Transport and communications remain roughly constant, and
  • Other economic affairs will see a decline, mainly as a result of the restructuring of labour market services.

The comments above do not take account of any of the major changes within the functional categories. The detail is left for the specific issues briefs below. In addition, our discussion here does not take account of any changes in tax expenditures which are similar to expenses in most respects. Tax expenditures receive only brief treatment in Budget Paper No. 1 2008‑09 in a two page appendix to Statement 5.[41] Note also that the tax expenditure statement is usually produced around six months after the Budget Papers.

The pattern of revenue

Turning now to the revenue patterns, the following table simplifies some of the figures in the Budget Papers and gives the share of revenue raised by the various tax categories.

Table 12: Revenue by Function

 

2007 08

2008 09

2011 12

 

% total

% total

% total

Individual and withholding tax

41.6

39.8

39.9

Fringe Benefits Tax

1.3

1.3

1.1

Super funds

4.0

3.1

3.4

Companies

21.2

22.9

23.3

Petroleum Resource Rent Tax

0.6

0.8

0.8

Total income tax

68.7

67.9

68.5

Sales tax (incl GST

14.8

14.9

15.4

Excise duty

8.0

8.0

7.5

Customs duty

1.8

1.8

1.5

other

0.8

0.9

0.8

Total indirect tax

25.5

25.6

25.2

Non tax receipts

5.8

6.5

6.3

Total

100.0

100.0

100.0

Source: Statement 5, Budget Paper No. 1 2008 09, p. 5 44.

It has to be stressed first that this table examines tax shares while, as we saw above, total tax revenue is expected to decline as a share of GDP. The first interesting thing to note is that individual and withholding tax is forecast to decline significantly in 2008 09 as tax cuts are introduced but will remain approximately constant after that. This category remains just under 40 per cent over the forward estimates. The next biggest category is company tax which is expected to increase substantially in 2008 09 and slightly more through to 2011 12. That appears to reflect anticipated healthy company profits over the forecast period. The contribution from super funds is expected to decline in 2008 09 and bounce back slightly after that. Changes to the treatment of super funds announced in earlier budgets are still flowing through.

Surpluses forever?

As noted above, the government has budgeted for a strong surplus for 2008 09 and into the future. According to the Budget Papers, the government s strategy involves achieving budget surpluses over the medium term. The only attempt at justifying that is the sequitur that surpluses contribute to a strong government balance sheet .[42] This does not seem entirely consistent with the remark by the Treasurer in the Budget Speech that:

We have no intention of hoarding the strong surplus for its own sake. This money is not ours, it belongs to the Australian people.[43]

The government has put a strong argument for a short-term surplus strategy. It wants to make substantial contributions to the three new funds out of which spending will be made in the future. Second, a surplus now suits the strategy to moderate the growth in aggregate demand on macroeconomic grounds. It can be appreciated that the government has a difficult macroeconomic balancing act. Moderating aggregate demand may well ease the risk of higher inflation and lessen the need for the RBA to take action. However, reducing aggregate demand will most likely reduce employment growth at a time when the unemployment rate is forecast to increase from the present 4.2 per cent to 4.75 per cent in the June quarter 2009. The macroeconomic aspects of the Budget are discussed in the Economic Outlook section above.

A consequence of the run of surpluses is that the net worth of the Australian Government is expected to increase by $25.2 billion in 2008 09, equal to the real cash surplus in 2008 09 (when the Future Fund is added back). Net worth is expected to increase by similar amounts in the subsequent years.[44] By the end of 2012, it is anticipated that the government will hold financial assets with a gross value of $283.6 billion or approximately 20 per cent of GDP.[45] That would be a significant share of the total capitalisation of the Australian stock market. At the moment the market capitalisation of the stock market is around 135 per cent of GDP. If that ratio is maintained then the government could be holding financial investments worth around 15 per cent of the companies listed on the stock exchange.

Governments from both sides of politics have in the past shed various businesses that they regarded as more appropriately owned and managed in the private sector. After two decades of selling assets to the market, we now have governments accumulating assets once more. That raises a series of awkward questions. Recently, there was a suggestion that Chinese interests might want to purchase a share of BHP Billiton (BHPB).[46] It is not inconceivable that soon the government may have to consider a foreign takeover submission for a company such as BHPB while at the same time it owns a large share in that company leading to a real and perceived conflict of interest.

This illustrates the double-edged sword that the surpluses represent. To run persistent surpluses means acquiring claims on the private sector. The alternative is to buy back old government debt but that came to an end when the former government was able to announce zero Commonwealth debt.[47]

A further concern is that surpluses become a measure of the fiscal responsibility of the government no matter what else is happening. Not that long ago the Budget Papers had to argue the case for a stimulatory fiscal stance. If there is an economic downturn in Australia there could well be an end to surpluses on the present settings. The automatic stabilisers would kick in as tax revenue contracts and expenditures increase. The effect is to cushion any macroeconomic downfall. A commitment to continuing surpluses would be incompatible with the appropriate macroeconomic response to a downturn.

Appendix A: Adjusting national accounts magnitudes for the terms of trade effect

We can think of an economy producing 100 units of output of which 25 are exports. From the production of 100 units we all earn 100 units. We spend that on 75 units of home product and imports of 25 units of goods not available here.

Now, let the terms of trade double so that for every export we can now buy twice as many imports. We can still spend our 100 units on 75 units of home production and 25 units of imports. But we can buy twice the number of imports that we used to buy. So our spending is now the equivalent of 125 units if we calculate using the old import and export prices. That is true even though current production is unchanged at 100 units. We can now say the value of the economy is 25 per cent higher. The doubling of our terms of trade has now boosted our measure of well being by 25 per cent.

Now we can ask if there is any more tax revenue. Suppose we tax all Australians at 20 per cent raising 20 units so that the government can buy Australian products worth 20 units. Before and after the change in the terms of trade nothing has changed. We can now say that those taxes and spending are now worth 1.25 times 20 using the new valuation technique, but there is still nothing left over for the government as a surplus. A surplus would only arise if the government spent money on 20 units of imports and so did not need to spend as much after the doubling of the terms of trade.

We can take this example further and consider various other combinations but the point is made. Terms of trade effects themselves do not necessarily change the government tax take. However, it should be pointed out that the above example assumes the change is due to a fall in import prices which alters the terms of trade. But it would also apply to the case where export prices increase but the exchange rate and other adjustments are made so that the value of non-traded goods increases in line with export prices. The RBA Statement on Monetary Policy includes a graph that shows the real exchange rate has indeed closely tracked the terms of trade.[48]

Communications, broadband and the digital economy

Jonathan Chowns
Economics Section

There were few new communications initiatives announced in the 2008 09 Budget. The high value measures such as the cancellation of the OPEL contract, the building of a national broadband network and the extension of the Australian Broadband Guarantee were announced prior to the Budget.

National Broadband Network

The Budget makes no allocation for the construction of the National Broadband Network (NBN) because the extent and timing of the Commonwealth s commitment will not be known until the procurement process for the NBN has been completed.[49] However, allowance for the NBN, and other measures, is made in a contingency reserve.[50] There is also provision for departmental expenses for managing the NBN process.[51]

The election platform of the Australian Labor Party in 2007 included an undertaking to contribute $4.7 billion towards the building of a national broadband network .[52] It is intended that the network will reach 98 per cent of households and businesses and will provide speeds of no less than 12 megabits per second. Labor promised that work would commence on the network before the end of 2008.

Of that funding, $2 billion was to come from the Communications Fund which was set up provide an income stream to fund the previous government s response to the recommendations of the Regional Telecommunications Independent Review Committee (the RTIRC). The RTIRC is reviewing the adequacy of telecommunications services in regional, rural and remote parts of Australia.

The budget papers elaborate on the proposed method of funding for the NBN. The Commonwealth will set up the Building Australia Fund (the BAF) which will be used to finance infrastructure projects, including the NBN and the government s response to the RTIRC recommendations. Amongst other funding, the BAF will receive the $2.4 billion in the Communications Fund, which will then be closed. The BAF will also receive $2.7 billion of the $6.6 billion in final instalment payments from the most recent sale of the Commonwealth s interest in Telstra (known as the T3 sale), which are due on 29 May 2008.[53]

On 11 March 2008, the Minister for Broadband, Communications and the Digital Economy announced the membership of the Expert Panel which was to determine the manner in which the request for proposals/tender (RFP/T) for the NBN would be conducted and to assess any proposals that are submitted.[54]

On 11 April 2008, the Minister announced the issue of the request for proposals/tender for the national broadband network and called for submissions on regulatory issues concerning the NBN.[55] Submissions on regulatory issues are due on 25 June 2008 and the RFP/T closes on 25 July 2008. The outcome of this process will inform the Commonwealth s consideration of scale and timing of its financial commitment.

Cancellation of OPEL contract

The budget papers report savings of $959.3 million over three years from the termination of the contract with OPEL Networks (a joint venture between Optus and Elders). This provided for the development of infrastructure to provide broadband services to about 3.7 million premises in rural and regional Australia. The contract had been entered into in June 2007, during the term of the previous government and the termination was announced on 2 April 2008.[56]

The funding was originally to be $600 million but was extended, controversially, to approximately $958 million prior to the contract being awarded. The original funding was from the $600 million Broadband Connect infrastructure program (which in turn was part of the previous government s $1.1 billion Connect Australia initiative which was announced by the previous government on 17 August 2005).[57]

From the time of the 2007 election, there had been speculation about whether the new government would continue with the OPEL contract because the Minister, when in opposition, had been critical of the wireless standard (WIMAX) that was to be used by OPEL, but he gave assurances that the contract would continue.[58] That assurance was honoured, but the contract was terminated on the basis that OPEL had failed to meet a particular contractual obligation concerning the area to be covered by the network extension.

Extension of Australian Broadband Guarantee

On 13 May 2008, the Minister announced the continuation of the Australian Broadband Guarantee (ABG).[59] The ABG was an initiative of the previous government that was announced by the then Minister for Communications, Information Technology and the Arts on 7 March 2007.[60] The ABG evolved from the Broadband Connect incentive scheme (the other limb being the infrastructure scheme already mentioned). The ABG, like the Broadband Connect incentive scheme, provides broadband service subsidies (rather than infrastructure funding). The subsidies aim to provide metropolitan-comparable services to underserved areas until the NBN is built and for the remaining two per cent of the population outside the reach of the NBN. Some of the increased funding for the ABG is attributable to the termination of the OPEL contract which aimed to provide broadband services in regional and rural Australia within the period for which ABG funding has been increased.

Personal income tax and personal capital gains tax

Leslie Nielson
Economics Section

In contrast to previous Budgets, this one was remarkable for not including further reductions in personal income tax. The government has also announced that it will extend the current Capital Gains Tax (CGT) small business concessions and provide CGT relief for shares received as the result of a demutualisation of health insurers. Additionally, the government will also alter the way receipts arising from the cancellation of interest in widely held entities are treated for CGT purposes.

There were initiatives to reduce the amount of personal income tax paid, but these initiatives were carefully targeted. Further, the income threshold for the payment of both the Medicare Levy and Surcharge were also increased. However, there were some significant changes in the eligibility for some personal income tax deductions for higher income earners. Following are further details of these changes.

Personal Income Tax

The proposed reductions in personal income tax are contained in Tax Laws Amendment (Personal Income Tax Reduction) Bill 2008, which is before the Senate as at the date of writing. In general, the Treasurer confirmed that the proposed reductions in personal income tax, and increases in the Low Income Tax Offset (LITO) would go ahead.[61] Table 1 summarises these changes for resident tax payers.

Table 1: Proposed changes in personal income tax rates and thresholds for resident tax payers

From 1 July 2008

From 1 July 2009

From 1 July 2010

Thresholds

Rate

Thresholds

Rate

Thresholds

Rate

0

6 000

0

0

6 000

0

1

6 000

0

6 001

34 000

15

6 001

35 000

15

6 001

37 000

15

34 001

80 000

30

35 001

80 000

30

37 001

80 000

30

80 001

180 000

40

80 001

180 000

38

80 001

180 000

37

180 001

and over

45

180 001

and over

45

180 001

and over

45

LITO value

$1 200

LITO value

$1 350

LITO value

$1 500

Source Budget Paper No.2, 2008 09, p. 14.

Impact of changes

Table 2 shows the amount of tax paid, at various income levels, taking into account the changes in the low income tax offset only. The figures in bold represent average weekly ordinary time earnings.

Table 2: Tax paid and tax paid as a proportion of 2007 08 gross income 2006 07 to 2010 11.

 

Source: Parliamentary Library

As can be seen, the overall tax burden rises with income in each year. However, this impost decreases over time. Table 3 shows the percentage decrease in overall tax paid, taking only the low income tax offset changes into account, compared to the 2007 08 financial year.

Table 3: Percentage reduction in tax paid compared to 2007 08

Source: Parliamentary Library

The above mentioned personal income tax changes appear to have the greatest impact on low income earners. That is, this group receives the greatest percentage reduction in terms of a reduction in tax paid.

Further, statistical analysis of the proposed tax changes can be found in the Parliamentary Library s Bills Digest on the Tax Laws Amendment (Personal Income Tax Reduction) Bill 2008.[62]

The proposed changes in personal income tax rates are consistent with the tax policy announced by the Australian Labor Party before the recent election.[63]

Eligibility for deductions

A significant change in personal income tax arrangements is the denial of a tax offset in respect of various classes of dependents of taxpayers earning $150 000 or more from 1 July 2008. The dependents in question are dependent spouses, housekeepers, child housekeepers, invalid relatives and parents/parents-in-law.

In addition, the definition of income, for dependency offset (as well as the Senior Australian s Tax Offset SATO) purposes will, from 1 July 2009, include:

  • net financial losses from investments, and
  • net rental property losses.

Essentially, this means that losses arising from various negative gearing arrangements will be added into a person s assessable income for these purposes. This already occurs if a person is assessed for access to various social security and family tax benefits and allowances.[64]

Political donations

In Schedule 1 of the Tax Laws Amendment (2008 Measures No. 1) Bill 2008 the government proposes to remove the current deduction for political donations. This Schedule is the subject of an inquiry by the Joint Standing Committee on Electoral Matters. The Bill is yet to be passed by the Senate, and savings arising from this measure are included in the forward estimates from the 2009 2010 year.[65]

Tax offsets

Both the LITO and the SATO are further increased in this year s budget.

The maximum LITO is currently $750, ceasing to apply where a taxpayers assessable income is $30 000 p.a. or more. From 1 July 2008, the maximum LITO will be $1200 for those with annual assessable income of $34 000 or more. For the 2008 2009 financial year a taxpayer with an assessable income of $14 000 p.a. will pay no tax. This figure rises to $16 000 in the 2010 2011 year as the LITO will increase in the following two years.[66]

The maximum SATO for a single eligible retiree is currently $2230 p.a. When combined with the LITO single retirees with an assessable income of less than $25 867 p.a. do not pay any tax. Under the proposed changes, from 1 July 2008 a single retirees income would have to be above $28 867 before they paid income tax. They are not subject to the Medicare Levy until they commence to pay tax. Similar changes are foreshadowed for the following years. As noted above, the definition of income for SATO purposes is also to be amended.

Of particular interest is the income threshold at which the LITO ceases to apply. The following table indicates recent and prospective changes in this threshold.

Table 4: Changes in LITO Cutout threshold 2006 07 to 2010 10

Year

2006 07

2007 08

2008 09

2009 10

2010 11

Cutout threshold $ p.a.

40 000

48 750

60 000

63 750

67 500

Source: Parliamentary Library

Education Tax Offset

The government has announced that an Education Tax Refund will be available from 1 July 2008 in respect of primary and secondary students. The edibility for this payment is based on a family s ability to qualify for a Family Tax Benefit. It is paid, if the taxpayer otherwise qualifies, irrespective for their income tax liability.[67] This means that it is paid even if the taxpayer has a zero tax liability. As such, despite its name, it appears to have little actual connection with the personal income tax system. This payment is further discussed in the education section of this series of briefs.

Medicare Thresholds

Normally the Medicare low income thresholds are increased by the rate of annual increase in the Consumer Price Index. In 2006 07, these thresholds were $16 740 (single) and $28 240 (family). These thresholds were determined at the start of the 2007 08 financial year and relate to the previous financial year. The government has announced that these thresholds will be $17 309 and $29 207 respectively with effect from 1 July 2007. The increase is about 3.3 per cent and is greater than the percentage change in the CPI over the 2006 07 year (2.1%) but a little less than the current annual inflation rate of about 4.2 per cent.[68]

The most significant change is the increase of the income threshold for the payment of the Medicare Surcharge, from $50 000 p.a. to $100 000 for singles and from $100 000 to $150 000 for those who are members of a family.

This particular threshold had remained unaltered from the introduction of the Medicare Surcharge in 1997. Since that time average weekly wages have increased from about $685 to $1110, an increase of about 62 per cent.[69]

Capital Gains Tax

The following changes to the CGT regime will have some impact on the tax paid by individuals.

Extension of CGT small business concessions

The government has announced that it will enhance the small business CGT concessions. The proposed changes will allow a taxpayer who owns a CGT asset that is used in a business by an affiliate or a connected entity of the taxpayer, to access the small business CGT concessions through the $2m aggregate turnover test. The $2m per annum test will be applied to the entity owning the asset, its affiliates and connected entities (including the business entity).

This change will enable a wider range of entities, including a sole trader or a partnership, to access the small business CGT concessions.

There are four CGT concessions specifically for small business which apply to CGT events happening after 11.45 am EST on 21 September 1999. Briefly, these concessions are:

(1) the small business 15-year asset exemption

(2) the small business 50% active asset reduction

(3) the small business retirement exemption, and

(4) the small business asset roll-over.

For CGT purposes a small business is one that:

  • carries on a business, and
  • satisfies the $2m aggregated turnover test.

This measure was first announced by the previous government and simply appears to be restated in the current budget.[70]

CGT Demutualisation of health insurers

The government has proposed amendments to provide CGT certainty to policyholders of health insurers who receive shares as part of the insurer's demutualisation (effective 1 July 2007). The government proposes that shares received by post-CGT policyholders will have a cost base derived from their share of the insurer's net tangible assets. Shares received by pre-CGT policyholders would inherit a market value cost base. CGT was first introduced for assets acquired after 19 September 1985.

Demutualisation refers to the process by which a body corporate, such as a mutually owned health insurer, becomes a publicly owned company listed on the Australian Stock Exchange or overseas exchange. Again, this particular initiative was first announced by the former government.[71]

Currently, the Medical Benefits Funds of Australia (MBF) is subject to a takeover offer by a large UK based health insurer BUPA.[72]

CGT cancellation of interests in widely held entities

The Budget papers also referred to changes in the way CGT was calculated in relation to receipts arising from the cancellation of shares or other interests in widely held entities. Briefly, this change means that the CGT is calculated on the basis of the actual receipt, rather than the market value of interest cancelled.

This change appears to be the same as amendments to tax law currently before Parliament in Schedule 3 of the Tax Laws Amendment (2008 Measures No. 2) Bill 2008.

Tax reform

Bernard Pulle, Richard Webb, Barbara Harris and Paige Darby
Economics Section

This paper deals with the proposals in the 2008 09 Budget for a comprehensive review of the Australian Tax System and the measures classified as fairness and integrity measures in Appendix F, titled Major Savings in the 2008 09 Budget , of the Budget Overview 2008-09.[73]

Comprehensive review of the Australian Tax System

The Treasurer in his Budget Speech on 13 May 2008 proposed the most comprehensive review of Australia s tax system since World War II , the object of which was stated as follows.

We need a tax system that is fairer, that is simpler, that better rewards people for their hard work, that responds to our environmental and demographic challenges, that makes us internationally competitive, and that creates the incentives to invest in our productive capacity. One that supports national prosperity beyond the mining boom.[74]

Budget Paper No. 2 at page 259 gave further details of the proposed review over the next two years which will encompass Australian Government and state taxes, except the GST, and interactions with the transfer system:

The review should make coherent recommendations to enhance overall economic, social and environmental wellbeing, with a particular focus on ensuring there are appropriate incentives for: workforce participation and skill formation; individuals to save and provide for their future, including access to affordable housing; investment and promotion of efficient resource allocation to enhance productivity and international competitiveness; and reducing tax system complexity and compliance costs.[75]

Budget Paper No. 2 also indicated that the review process will be conducted in several stages and an initial discussion paper will be released by the end of July 2008. The review panel will provide a final report to the Treasurer by the end of 2009.

Measures to improve fairness and integrity in the tax system

The following table lists savings from measures aimed at improving fairness and integrity in the tax system in Appendix F of the Budget Overview with links to press releases issued on Budget day, where available, and references to Budget Paper No. 2 2008 09.

Fairness and Integrity in the Tax System

Press Release in relation to each measure

Reference in

Budget Paper No. 2

07 08 ($m)

08 09 ($m)

09 10 ($m)

10 11 ($m)

11 12 ($m)

Total ($m)

Personal Income Tax Cuts better targeting

p. 14

-

-

1,150

2,000

2,160

5310.0

Increased Tax on Ready to Drink Alcoholic Beverages

p. 22

97.9

640.1

716.0

799.3

892.6

3145.9

Crude Oil Excise Condensate Exemption

p. 19

93.8

564.0

635.4

625.7

625.7

2544.6

ATO Compliance Dividend

p. 12

-

105.0

295.0

785.0

795.0

1980.0

Depreciation Period for Computer Software

p. 20

-

15.0

300.0

681.0

318.0

1314.0

Fringe Benefits Tax tighten exemptions

p. 22 (work-related)

p. 23 (joint assets)

p. 24 (meal cards)

-

50.0

140.0

205.0

255.0

650.0

-

4.0

15.0

15.0

15.0

49.0

-

110.0

165.0

205.0

250.0

730.0

Increasing the Luxury Car Tax

p. 26

-

130.0

140.0

140.0

145.0

555.0

Increase in the Passenger Movement Charge

p. 7

-

106.3

111.2

117.7

124.1

459.3

Total

 

191.7

1724.4

3667.6

5573.7

5580.4

16737.8

Source: Adapted from Appendix F: Major Savings in the 2008 09 Budget, Budget Overview 2008 09.

The following comments on the above measures include extracts from Budget Paper No. 2 2008 09.

Personal income tax cuts better targeting

The Government will deliver in full the tax cuts it announced during the 2007 election campaign. These tax cuts included deferring the previously budgeted reductions in the top marginal tax rate for taxpayers on incomes of more than $180,000 per annum until beyond 2010 11. The savings of $5.3 billion over the forward estimates period will be diverted to the Government s other spending priorities including the Education Tax Refund, reducing elective surgery waiting lists and to the budget surplus.

Personal income tax changes

Personal income tax changes

Source: Budget Paper No. 2 2008 09, p. 14.

An article by Les Nielsen titled, Personal Income Tax and Personal Capital Gains Tax, in this Budget Review Brief gives further analysis of the proposed changes.

Excise and customs duty increased rates on other excisable beverages

The government proposes to increase the excise (and customs duty) on ready-to-drink alcoholic beverages, commonly called alcopops. This measure is expected to raise $628 million in 2008 09, $704 million in 2009 10, $787 million in 2010 11 and $881 million in 2011 12.

This proposal raises broader issues surrounding the taxation of alcoholic beverages. Alcohol is subject to three taxes. One is a specific tax, namely, excise which is levied on a litre of alcohol basis. There are also two value taxes: the wine equalisation tax (WET) and the GST. Wine is subject to the WET and GST, while beer and spirits are subject to excise and GST. Alcopops, being spirit based, are subject to excise and GST.

Alcohol is taxed for two main reasons: to raise revenue and to reduce the social costs of alcohol abuse. If the main purpose is to reduce social costs, it could be argued that the alcohol in all alcoholic beverages should attract the same amount of tax per unit of alcohol. From this perspective, the taxation of alcohol is riddled with inconsistencies because the amount of tax paid per litre of alcohol varies considerably.[76]

In the case of alcopops, the excise rate on the spirits in alcopops is $39.36 per litre of alcohol whereas the general rate of excise on the alcohol in spirits (e.g., whisky and rum) is $66.67 per litre of alcohol. When the effect of the GST is taken into account, the excise plus the GST on excise on the spirits in alcopops is $42.30 ($39.36 plus 10 per cent of $39.36) while the amount on spirits is $73.33 ($66.67 plus 10 per cent of $66.67). In other words, the amount for spirits is about 1.7 times the amount for alcopops. The resulting relative cheapness of the alcohol in alcopops compared with the alcohol in, say, whisky and rum is probably a factor behind the popularity of alcopops.

The proposed increase in the excise on alcopops would be likely to result in the substitution of other forms of alcohol for alcopops because alcopops would be relatively more expensive.

Crude oil excise condensate

Condensate is light oil extracted from so-called wet gas. It is processed primarily for use as petrol in motor vehicles. The government taxes profits from the extraction and production of condensate and other unprocessed petroleum products such as crude oil, liquid petroleum gas and, in certain cases, natural gas. Currently, the following categories of condensate enjoy tax-free status when it is:

  • produced in a state or territory, or
  • inside the outer limits of territorial sea, or
  • marketed separately from a crude oil stream, or
  • in the North West Shelf project area and therefore exempt from the crude oil excise.

This concession results in revenue forgone. Treasury estimates that the value of this concession is around $320 million annually.[77]

The government proposes to abolish this concession with effect from midnight (AEST) on 13 May 2008.[78] Under the proposal, production from fields located in the North West Shelf project area and onshore areas will be subject to the same excise rates as those applicable to petroleum fields discovered after 18 September 1975. The government has introduced the Excise Tariff Amendment (Condensate) Bill 2008 and the Excise Legislation Amendment (Condensate) Bill 2008 to give effect to the proposal.

Increased funding for the Australian Taxation Office compliance dividend

The Government will provide additional funding of $256.9 million over four years from 2008 09 to the Australian Taxation Office (ATO) to allow it to enhance compliance activities, particularly for large businesses and high wealth individuals. This additional investment in ATO activities is expected to increase revenue by $1,980 million over the forward estimates period.

The previous government had provided $446 million over four years from 2008 09 to the ATO for additional staff to enhance compliance across all segments of the taxation system. According to the Mid-Year Economic and Fiscal Outlook 2007 08, the increased investment in ATO activities was expected to increase revenue by $3.7 billion over four years including $1.8 billion in 2011 12.[79]

It would appear that the present government has been more cautious in its estimate of returns from ATO compliance activity over the forward estimates years.

Depreciation of computer software

The Government will increase the period over which capital expenditure on in-house computer software is depreciated from 2.5 years to 4 years. This will apply to expenditure incurred on or after 7.30 pm (AEST) on 13 May 2008. The measure reduces a tax concession and tax expenditure. Treasury estimates that the value of the tax expenditure will be about $60 million in 2008 09.[80] The ongoing gain to revenue is estimated to be $1.3 billion over the forward estimates period.

A four year depreciation period for expenditure on in-house computer software is the same period as the Commissioner for Taxation's 'safe harbour' effective life for computer hardware.

Fringe benefits tax

Exemption for eligible work-related items

The Government will tighten the current fringe benefit tax (FBT) exemption for certain work-related items (including laptop computers, personal digital assistants and tools of trade) by ensuring the exemption only applies where these items are used primarily for work purposes. The FBT exemption will generally be limited to one item of each type per employee per year. The measure will apply to items purchased after 7.30 pm (AEST) on 13 May 2008. The measure reduces the FBT concession and tax expenditure for work-related items.

Apart from the ongoing gain to revenue which is estimated to be $650.0 million over the forward estimates period, this measure is also expected to increase GST payments to the States by $120.0 million over this period.

Jointly held assets

The Government will amend FBT law to ensure that the full value of a benefit that has been provided to both an employee and an associate in relation to a jointly held asset will be subject to FBT. This tax integrity measure will have effect for new arrangements from 7.30 pm (AEST) on 13 May 2008. This measure will have an ongoing gain to revenue which is estimated to be $49.0 million over the forward estimates period.

Meal cards

Where a meal is provided to and is consumed by the employee at the employer's business premises at any time on a working day, the benefit may qualify as an exempt property benefit under section 41 of the Fringe Benefits Tax Assessment Act 1986.

The Government will tighten the FBT exemption that applies to the private use of business property on an employer s premises by excluding meals under a salary sacrifice arrangement, with effect from 7.30 pm (AEST) on 13 May 2008. The measure reduces the FBT concession and tax expenditure associated with property provided on the employer s business premises. This measure will have an ongoing gain to revenue which is estimated to be $730.0 million over the forward estimates period. This measure is also expected to increase GST payments to the states by $120.0 million over this period.

Increasing the luxury car tax

The Government will increase the luxury car tax rate (LCTR) from 25 per cent to 33 per cent, with effect from 1 July 2008. This brings the LCTR to the rate that prevailed under the wholesale sales tax (WST).

There will be no change to the luxury car tax threshold (currently $57,123) from which the luxury car tax applies. This measure has an ongoing gain to revenue which is estimated to be $555 million over the forward estimates period.

As luxury cars are predominantly imported cars, this measure may have an adverse impact on the importation of these cars and hence help the manufactured car industry in Australia,

Increase in the passenger movement charge

The passenger movement charge (PMC) commonly called the departure tax was first introduced for persons departing Australia for another country. The PMC was introduced in July 1995 and replaced the former departure tax. The PMC is levied under the Passenger Movement Charge Act 1978 and collected under the Passenger Movement Charge Collection Act 1978. The PMC was introduced as a cost recovery measure to recoup the cost of Customs, Immigration and Quarantine processing of passengers entering and leaving Australia and the cost of issuing short-term visitor visas. In law, the PMC is a tax. The Australian Customs Service administers the PMC legislation.

Generally speaking, the PMC is payable by all passengers departing Australia by air and sea. Section 5 of the Collection Act contains a number of exemptions. The PMC is not levied on incoming passengers.

The PMC was increased to $30 per passenger on 1 January 1999. In the 2001 02 Budget, the government announced that it would increase the charge by $8 to $38 to offset the increased cost of inspecting passengers, mail and cargo at Australia's international airports. While initially a cost recovery measure, the PMC became more controversial over allegations that it has become yet another general revenue raising measure.

The table shows revenue in millions of dollars.

Passenger Movement Charge Revenue

Year

1999 00

2000 01

2001 02

2002 03

2003 04

2004 05

2005 06

2006 07

Revenue

226.13

242.83

283.64

290.58

329.79

363.84

374.57

393.22

Source: Australian Customs Service annual reports

It is not clear whether the PMC is now over-recovering costs. The PMC has not been increased since 2001 so it s real (that is, inflation-adjusted) value has fallen. Costs would have risen over the same period.

The government proposes to increase the PMC from 1 July 2008 by $9 to $47.[81] The increase is estimated to raise $459.3 million over four years. According to the government, the increase will contribute to offsetting the cost of a range of aviation security initiatives that until now have not been cost recovered.

Conclusion

The government has, over the forward estimate years, anticipated effecting a total saving of $16.5 billion by the measures which it has categorised as directed at Fairness and Integrity in the Tax system. This is significant in relation to the anticipated budget surplus of $21.7 billion as it represents 76 percent of the surplus for 2008 09.

As mentioned above under Personal Tax Cuts, deferring the previously budgeted reductions in the top marginal tax rate for taxpayers on incomes of more than $180,000 per annum until beyond 2010 11 will effect savings of $5.3 billion over the forward estimates period.

In effect, the government has been able to increase revenue by the other measures indicated in the above table by $11.3 billion over the forward estimate years.

A question mark must hang over the anticipated $1.98 billion additional revenue over the forward estimate years from ATO compliance activity if an attempt is made to identify and quantify the dividend from that activity at a future date. What is certain is that the launch of enhanced ATO compliance activity will have a direct and indirect impact on revenue. The direct impact is that those targeted for audit may end up paying additional tax and the indirect impact is that those who hear of the proposed ATO compliance activity may avoid the pitfall of non-compliance. The indirect impact of ATO compliance activity was described by the Commissioner of Taxation in relation to the outcome of Project Wickenby at the biannual appearance before the Joint Committee on Public Accounts and Audit on 30 April 2008 as follows:

Mr D Ascenzo The whole idea of Project Wickenby is basically to send a clear message to the community that the Commonwealth will act in a concerted way to ensure that the country s tax and superannuation systems are not abused by the abusive use of tax havens. Over time we have done a lot of hard work in trying to get information, following up the information, getting cases from a criminal perspective on course and at the same time following up similar matters through the tax and ASIC powers. We are now at a stage where we are seeing the fruits of that work. As you can see from press reports, the people involved on the ground are saying that there is more to come. So it really is starting to send a good message. The anecdotal comments that people are making are that this is right, that a few people have been trying to get a free ride from the rest of the community and it is about time that they are brought to book. I think it is a good message.[82]

Innovation funding

Michael Priestley
Economics Section

Public support for research and development

Universally, governments seek to increase business investment in research and development (R&D) and encourage innovation.

Global competition and the under performance of manufacturing have generally been the catalysts for governments to offer tax and other incentives for business to increase R&D, especially in developed countries.

In the EU, new tax incentives have been introduced to stimulate investment in R&D, which are geared primarily to companies undertaking large-scale R&D projects and to small R&D-intensive start-ups. The EU aims to increase spending on R&D to 3 per cent of GDP by 2010, which compares to current spending on research in the United States and Japan of 2.85 per cent and 3.1 per cent of GDP respectively.

In China, the catalyst behind increased R&D has been China s target to raise R&D spending to 2 per cent of GDP by 2010. At present, 1.23 per cent of China s GDP is devoted to R&D, which is far below the standard of developed countries, while China s dependence on foreign technology exceeds 50 per cent. The target is to be achieved by establishing a national innovation system and enhancing innovation in key technologies in the resources and energy sectors.

The general trend in public support for R&D has been to recognise that improving the innovation and research capacity of the business sector is influenced by a spectrum of policies.[83] Consequently, the mix of mechanisms for supporting innovation comprises competitive and merit-based R&D grant programs and the more widely available tax incentives. However, support for venture capital and other programs that focus on growing exports sectors and R&D commercialisation are gaining ground.

Innovation and economic growth

Public support and mechanisms for supporting R&D and innovation build on OECD findings that industry competitiveness and long-term employment growth are driven by innovation and technological change.[84]

There is extensive theoretical and empirical research on the aggregate or overall effects of innovation including R&D on productivity and economic growth. Briefly, R&D is a means by which businesses and firms accumulate knowledge and ideas to create new products and new processes. By drawing together suppliers, technology firms, R&D providers, research institutions and commercial participants on a national basis, firms influence the absorption and development of technology.[85] Economic models have been developed to explain how innovation emerges from the economic system to generate returns and drive continuing growth.[86]

Evidence shows that individual firms and the economy benefit from business R&D and that the social benefits of increased business R&D are wide-ranging. An OECD report found that:

Countries with large increases in the intensity of business R&D to GDP and in the share of business R&D in the total R&D, including Australia, Denmark, Finland, Ireland and Sweden, appear to have experienced a pick-up in [productivity] growth in the 1990 s.[87]

The report also noted that links between innovation and economic growth were well established:

R&D provides an important contribution to output and total factor productivity. The empirical evidence typically shows that a 1% increase in the stock of R&D leads to a rise in output of 0.05-0.15%. There is also evidence that R&D may play a different role in small and large economies (Griffith et al., 1998) ... in smaller ones, it primarily serves to facilitate technology transfer from abroad.

In Australia, various studies have estimated the rate of social return and the net benefits to a firm as a result of increased spending on R&D. The Productivity Commission listed these and similar studies that indicate a spillover rate ranging from 50 to 300 per cent. However, the Commission settled for a more reasonable spillover rate for Australia of around 40 per cent.[88] While empirical models confirm that R&D raises productivity, there is some doubt about the magnitude of the effects from Australian business R&D and overseas R&D.[89]

Innovation policy over the past decade

The Coalition Government s policy framework was fashioned by the 1997 Mortimer Report, Going for Growth: Business Programs for Investment, Innovation and Export, and the December 1997 Investing for Growth industry statement.[90] Under the Mortimer strategy, the government continued to provide longstanding support to the two industries that traditionally were the most highly protected: the automotive industry and the textile, clothing and footwear industry. As well as focussing on sectoral support, the framework recognised that technology and science-based industries presented a potential area for export growth and an opportunity to expand Australia s manufacturing base.

The Coalition Government s follow-up statements, Backing Australia s Ability - Mark I in 2001 and Mark II in 2004 - gave a boost to business R&D and innovation via R&D Start (renamed the Commercial Ready Programme) and changes to the 125 per cent R&D tax concession to allow loss making start-ups to cash-out the concession and introduction of the 175 per cent premium tax concession. The policy framework of Backing Australia s Ability was aimed at leveraging new technologies and their commercialisation. The changes to the R&D tax concession were designed to raise business R&D intensity and business innovation which had declined as a result of the closure of syndication and abolition of the 150 per cent R&D tax concession.

The May 2007 Industry Statement continued the policy settings in Backing Australia s Ability but marked a shift in support to growing sectors like export services, improving business networking, collaborative research and technology commercialisation. Support continued to be provided to manufacturing, and the mechanisms for supporting business innovation (the Commercial Ready Program and R&D tax concession) were augmented to raise R&D in the target groups: public research spin-off companies and foreign-owned subsidiaries of multinationals. Another key change marking a shift in innovation policy was the creation of the Innovation Australia Board, formed by the merger of the Industry, Research and Development Board, which was responsible for administering R&D grants programs and the R&D tax concession, as well as the Venture Capital Registration Board.

2008 09 Budget measures to promote innovation

The current government s innovation policy is set to be framed by the innovation review which was announced on 22 January 2008. The review, chaired by Dr Terry Cutler, will be assisted by an international panel and is expected to release a Green Paper in July 2008, followed by a White Paper response by the government. Early indications are that there will be an intensification of policies promoting R&D and innovation both nationally and at the industry and small business level.[91]

In the meantime, the government has allocated in the 2008 09 Budget $500 million for the Green Car Innovation Fund over five years commencing in 2011 12. It has also invested more than $500 million in the research sector, primarily in academic research institutions, which was an area of identifiable systemic weakness in the innovation system.[92] Specifically, $209 million has been allocated over four years for Australian Postgraduate Awards and $326 million in Future Fellowships to attract and retain the best Australian researchers. Other innovation measures include $240 million for new Clean Business Australia initiatives which comprises funding of $75 million for the Climate Ready competitive R&D grants program.[93]

These Budget measures recognise that innovation is a key driver of productivity and economic growth, particularly for developed countries like Australia which has a declining manufacturing industry. For policies promoting innovation, initiatives such as the Green Car Innovation Fund, the doubling of the number of Australian Postgraduate Awards and the Climate Ready R&D grants give visibility to a more manufacturing and research sector-focussed approach to encouraging business R&D and innovation.

Infrastructure

Richard Webb
Economics Section

The government announced that it would establish the Building Australia Fund (BAF) to finance investment in economic infrastructure notably roads, rail, ports and broadband.[94] The government proposes to fund the BAF in three ways: from Budget surpluses in 2007 08 and 2008 09, and by transferring $2.4 billion from the Communications Fund (which will be closed) and $2.7 billion from the partial proceeds of the Telstra 3 sale. Areas identified for spending from the BAF are up to $4.7 billion for the national broadband network, funding for regional telecommunications initiatives, and $75 million in 2007 08 for infrastructure feasibility studies.

The projects to be investigated are: the upgrading of key sections of the Bruce Highway in north Queensland and the Gateway Motorway in southeast Queensland; upgrading of the M5 in Sydney and constructing the Western Metro rail link in western Sydney; upgrading the Western Ring Road and constructing designated projects in the East‑West transport corridor in Melbourne; developing an integrated transport plan for Perth airport; and developing a transport sustainability study for Adelaide. The government has not provided any explanation as to why these projects are to be investigated at a time when there are other transport projects vying for funds. It is also noticeable that Tasmania, the Northern Territory and the Australian Capital Territory do not feature on the list. Nor is it clear how these studies will tie in with the proposed nationwide audit that Infrastructure Australia will undertake. Some of the nominated projects constitute a foray into the funding of urban passenger transport, which the Howard Government considered to be primarily the responsibility of the states.

The Commonwealth s intention to expand its funding of infrastructure investment is another example of how power over spending and policy-making is becoming increasingly concentrated in the Commonwealth, and how the Commonwealth is becoming increasingly involved in areas beyond those stipulated in the Constitution.[95] For example, the proposal to fund investment in ports is an extension of traditional transport funding practice. Likewise, the funding for the proposed broadband network is a major extension of Commonwealth funding of communications investment.

Commonwealth funding of infrastructure has implications for state budgets and creates new opportunities for cost-shifting . The states, generally, are borrowing to fund infrastructure. But if the Commonwealth increasingly funds infrastructure, the states could respond by cutting their spending on infrastructure and/or by borrowing less. Attempts to shift costs when the Commonwealth and the states share functions have long been a feature of Commonwealth state financial relations.

The main form of economic infrastructure the Commonwealth funds is roads and, overall, it provides about 20 per cent of funding. Table 2.2 of the Portfolio Budget Statements for the Department of Infrastructure, Transport, Regional Development, and Local Government shows land transport funding mainly roads of $3.5 billion up from an estimated $3.2 billion.[96] The Budget also allocates $20 million over four years for the establishment of Infrastructure Australia.

Accounting standards

Richard Webb
Economics Section

For the first time, the general government sector financial statements in Budget Paper No. 1 2008 09 are presented in accordance with accounting standard AASB1049 Whole of Government and General Government Sector Financial Reporting.[97] In essence, the general government sector comprises agencies which are funded from the Budget and which provide services that are mainly non-market in nature, or entail the redistribution of income (for example, the age pension). The general government sector thus excludes bodies such as the Reserve Bank and government business enterprises such as Australia Post.

The Charter of Budget Honesty Act 1998 requires that the budget financial statements be presented on the basis of external reporting standards. In the past, general government sector financial statements were presented using two different accounting standards: the Government Finance Statistics (GFS) standard, and Australian Accounting Standards (AAS).

The GFS framework is a specialised statistical system designed to assist economic analysis of the public sector. The GFS standard used in the Budget was based on the Australian Bureau of Statistics accrual GFS framework, which is consistent with international statistical standards (the System of National Accounts 1993 and the International Monetary Fund s A Manual on Government Finance Statistics 2001).[98]

AAS are standards that specify a range of accounting practices and how financial information should be reported. AAS have two components. The first the Australian Equivalents to International Financial Reporting Standards (AEIFRS) are designed principally for the private sector. AAS statements for the general government sector were presented in accordance with the AEIFRS for the first time in Statement 10 of Budget Paper No. 1 2006 07. This followed from the decision that Australia would adopt international accounting standards. The second component AAS No. 31, Financial Reporting by Governments (AAS 31) is a standard specific to government. Agencies use AAS when reporting their financial statements.

The use of the GFS and the AAS was confusing, especially since the two standards could yield quite different results. Following a directive from the Financial Reporting Council, the Australian Accounting Standards Board (AASB) harmonised AAS also known as Generally Accepted Accounting Principles and GFS financial reporting. The harmonised standard is AASB 1049 Whole of Government and General Government Sector Financial Reporting which, in effect, combines both AAS and GFS. On 10 October 2007, the AASB announced the approval of AASB 1049, which will come into effect on 1 July 2008.[99]

The adoption of AASB 1049 will have several consequences. On the one hand, it will reduce confusion by having only one set of accounts in Budget Paper No. 1. On the other hand, there are no AASB1049 data before 2007 08. The lack of comparable AASB1049 time series data limits transparency. For comparable data, it will be necessary to use ABS GFS data, but they are not available when the Budget is brought down.

Agencies will continue to present their financial statements using AAS while the AASB examines whether harmonisation should be pursued for agencies within the general government sector of the Australian government (and state and territory governments).

Workplace relations

Steve O'Neill
Economics Section

Budget allocations under the Education, Employment and Workplace Relations portfolio commence the implementation of the government s workplace relations policy, Forward with Fairness (April 2007).[100] The Parliament passed the government s Workplace Relations Amendment (Transition to Forward with Fairness) Bill on 17 March 2008 with these amendments taking effect in the Workplace Relations Act (WR Act) from 28 March 2008.

The amendments trigger an award modernisation process, terminate the making of new Australian Workplace Agreements (AWAs) and set in train the steps to create an employment regulator, Fair Work Australia (which will subsume many of the agencies cited below).

Award modernisation is placed under the responsibility of the Australian Industrial Relations Commission (AIRC). The AIRC has been allocated resources of $55.25m in 2008 09 (2007 08: $53.68m), which is part of an increase of $13.2m over four years. The legislation which created the recently replaced fairness test , also created two agencies: the Workplace Authority (WA), formerly the Office of the Employment Advocate; and the Workplace Ombudsman (WO), formerly the Office of Workplace Services.[101]

Workplace agreements are lodged with the WA. The WA s budget was to increase by $303.5m over four years from 2007. The 2008 09 Budget trims the WA allocations to $113.13m in 2008 09 (2007 08: $130.14m) reflecting the anticipated decreased use of individual agreements. Its budget will be further cut in 2009 2010 by $106.2m as a prelude for its subsumption into Fair Work Australia. The WO was earmarked to gain an additional $64.1m over four years from 2007 for its role in policing breaches of the WR Act such as forcing employees on to AWAs. Its budget for 2008 09 will be $70.72m. (2007 08: $69.7m).

The Australian Fair Pay Commission determines the minimum wage and pay scales (formerly known as award pay rates). It has had its funding reduced by about $1m in line with the reduced functions prescribed under the amended WR Act, with a further $1.3m reduction planned for 2009 10. Its 2008 09 budget is $7.48m.

The Australian Building and Construction Commission polices industrial relations in the high rise building industry. Its budget has been maintained in line with pre-election commitments. It will receive $32.814m for 2008 09 (2007 08: $29.596m).

Comcare is the authority which administers the Commonwealth s health and safety legislation and workers compensation scheme. Comcare s responsibilities have increased as a result of legislation allowing certain private sector entities to seek Comcare workers compensation coverage for their workforces while allowing those businesses to come under Commonwealth health and safety laws (replacing applicable state laws). Comcare estimates its workers compensation system coverage has increased by 20 per cent since May 2007.[102] The Budget does not increase allocations for Comcare, however its appropriations are likely to total about $373m over 2008 09 by virtue of increased revenue from premiums and other sources of income such as license fees (matched by increased outlays).

The Budget also:

  • provides $4m over four years to help develop and promote accreditation of employers under the Homeworkers Code of Practice for the textile, clothing and footwear industry and the No Sweat Shop label in Australia
  • increases funding for secret ballots prior to industrial action with an extra $100 000 p.a. for three years
  • terminates the $10m Employer Advisory Program, and
  • introduces grants to small businesses to develop family-friendly practices and facilities of between $5000 and $15 000 under a $3.6m program in 2008 09.



[1]. W. Swan, Budget Speech 2008 09, Commonwealth of Australia, Canberra, 2008, pp. 1 2.

[2]. For a detailed listing of post-Budget media coverage, see:

http://libauth1/library%5Fservices/budget%5Flibrary/

[3]. Sections of this brief draw on discussion from previous Parliamentary Library Budget Briefs, in particular D. Richardson, Budget 2006-07: Background Note and D. Richardson, 2005 06 Budget Main Features.

[4]. Australian Government, Statement 2: Economic Outlook and Statement 3: Fiscal Strategy and Outlook , Budget Paper No. 1 2008 09, Commonwealth of Australia, Canberra, 2008.

[5]. All figures are in chain volume, or real terms (with the exception of nominal gross domestic product) and are year-average percentage changes unless otherwise specified.

[6]. Percentage point contribution to GDP growth.

[7]. Percentage point contribution to GDP growth.

[8]. Forecast for June Quarter, 2009.

[9]. Labour force survey basis

[10]. Forecast for June Quarter, 2009.

[11]. Forecast for June Quarter, 2009.

[12]. Australian Government, Statement 2: Economic Outlook , Budget Paper No. 1 2008 09, Commonwealth of Australia, Canberra, 2008, pp. 2 22.

[13] op. cit., Statement 2, Budget Paper No. 1 2008 09, p. 2 9. This has potential implications for the oil price assumption, as oil is traded in US dollars. Any deterioration in the value of the USD will push up world oil prices.

[14] Countries including Hong Kong, Korea, Singapore, Taiwan, Indonesia, Malaysia, the Philippines, Thailand and Vietnam.

[15]. Reserve Bank of Australia, Statement on Monetary Policy, 9 May 2008, p. 68.

[16]. Actual figures not a forecast.

[17]. ANZ material accessed on 16 May 2008 from:

http://www.anz.com/documents/economics/AEO%20Jun%2008.pdf and
http://www.anz.com/documents/economics/Budget%20Report%202008-09.pdf;

CBA material accessed on 16 May 2008 from:

http://www.research.commbank.com.au/
CBA_Research_Common_Functions/Display_Pdf/0,2226,23857,00.pdf
;

NAB material accessed on 16 May 2008 from:

https://www.nabcapital.com/downloads/protected/30011_0.pdf?
SourcePage=/research/australia/economics.aspx
and

https://www.nabcapital.com/downloads/public/29765_0.pdf?SourcePage=/
research/flagshippublications/nationalmonthlybusinesssurvey.aspx
(free registration and login required for both publications);

Westpac material accessed on 16 May 2008 from:

http://www.westpac.com.au/manage/wrap.nsf/vPdfUrls/9CA7
E0A098DF643DCA2574480035E743/$File/er20080513
AustralianBudget2008.pdf?OpenElement
.

[18]. S. Eslake et. al., 2008 09 Budget: A reasonable first effort , ANZ Federal Budget Report, ANZ, 13 May 2008.

[19]. NAB, 2008 09 Budget Download, 14 May 2008.

[20] op. cit., Statement 2, Budget Paper No. 1 2008 09, p. 2 6.

[21]. op. cit., Statement 3, Budget Paper No. 1 2008 09, pp. 3 26 to 3 28.

[22]. For example, Budget Paper No. 1 2008 09, op. cit., p. 3 10 and p. 10 8.

[23]. The fiscal balance is the accrual equivalent of the cash balance.

[24]. Adding 6.25 and 2.75 brings us to a 9 per cent increase but the cross product brings us up to 9.25 with rounding.

[25]. Expenses are basically government spending on current account.

[26]. op. cit., Statement 3, Budget Paper No. 1 2008 09, p. 3 6. This is based on CPI rather than GDP deflator or non-farm GDP deflator as has been the common practice in the past. See Statement 3, Budget Paper No. 1 2008 09, op. cit., pp.10 6 and 10 8 for further explanation.

[27]. ibid., Statement 3, Budget Paper No. 1 2008 09, Table 2, p. 3 6.

[28]. op. cit., W. Swan, Budget Speech 2008 09, p. 6.

[29]. op. cit., Statement 2, Budget Paper No. 1 2008 09, pp. 321 427.

[30]. IMF, IMF Publications , http://www.imf.org/external/pubind.htm, accessed 21 May 2008.

[31]. op. cit., Statement 5, Budget Paper No. 1 2008 09, p. 5 46.

[32]. The Budget projections are given in Budget Paper No1, Statement 1, op. cit., p. 1 3 while the Reserve Bank forecasts are given in the Statement on Monetary Policy, 9 May 2008, op. cit., p. 68.

[33]. Appendix D: Forecast performance , in Budget Paper No. 1 2008 09, Statement 5, p. 5 45.

[34]. See D Richardson, Official economic forecasts: how good are they? , Parliamentary Library Current Issues Brief no. 17, 2000 01, 26 June 2001.

[35]. I. Macfarlane, Reserve Bank of Australia annual report 1999-2000 , House of Representatives Standing Committee on Economics, Finance and Public Administration, Hansard, 11 May 2008, Melbourne, p. 16, http://parlinfoweb.parl.net/parlinfo//Repository/Commttee/Commrep/Linked/1254-2.PDF, accessed on 21 May 2008.

[36]. op. cit., Statement 1, Budget Paper No. 1 2008 09, p. 1 37.

[37]. op. cit., Statement 5, Budget Paper No. 1 2008 09, Box 2, p. 5 14.

[38]. Figure taken from: ABS, Australian National Accounts: National Income, Expenditure and Product, December 2007, Cat no 5206.0, 5 March 2008. Incidentally, the real value is based on 2005 06 prices.

[39]. Access Economics, Commonwealth Budget Monitor, issue 73, May 2008.

[40]. According to their latest annual reports, Australian income tax collected from BHP Billiton and Rio Tinto was US $2768 million and US $1378 million respectively for the year 2006 07.

[41]. op. cit., Appendix G, Statement 5, Budget Paper No. 1 2008 09, p. 5 61.

[42]. op. cit., Statement 3, Budget Paper No. 1 2008 09, p. 3 3.

[43]. op. cit., W. Swan, Budget Speech 2008 09, p. 10.

[44]. op. cit., Statement 3, Budget Paper No. 1 2008 09, p. 3 18.

[45]. If the government continued to run surpluses indefinitely at 2 per cent of GDP while GDP itself is growing at 6 per cent of GDP in nominal terms, the ratio to GDP of the net financial assets held would asymptote to one third of GDP.

[46]. M. Vaughan, BHP, Rio fire up market , The Australian Financial Review, 15 May 2008, p. 1.

[47]. P. Costello, Budget Speech 2006 07, Commonwealth of Australia, Canberra, 2006.

[48]. Reserve Bank of Australia, Statement on Monetary Policy, May 2008, p. 35.

[49] Australian Government, Part 2: Expense Measures , Budget Paper No. 2: Budget Measures 2008 09, Commonwealth of Australia, Canberra, 2008, p. 99.

[50]. Australian Government, Statement No. 6: Expenses and Net Capital Investment , Budget Paper No. 1: Budget Strategy and Outlook 2008 09, Commonwealth of Australia, Canberra 2008, p. 6 34; Australian Government, Part 2 Expense Measures , Budget Paper No. 2: Budget Measures 2008 09, Commonwealth of Australia, Canberra, 2008, p. 99.

[51]. Australian Government, Part 2 Expense Measures , Budget Paper No. 2: Budget Measures 2008 09, Commonwealth of Australia, Canberra, 2008, p. 98.

[52] K. Rudd (Prime Minister), Building a National Broadband Network, media release, Canberra, 21 March 2007, http://www.alp.org.au/media/0307/pcloo210.php, accessed on 21 May 2008.

[53]. Australian Government, Portfolio Budget Statements 2008 09: Budget related paper No. 1.8, Finance and Deregulation portfolio, Commonwealth of Australia, Canberra, 2008, p. 16.

[54]. S. Conroy, Government announces Panel of Experts to assess National Broadband Network proposals, media release, 11 March 2008,

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[55]. S. Conroy, Government invites National Broadband Network proposals, media release, 11 April 2008, http://www.minister.dbcde.gov.au/media/media_releases/2008/023, accessed on 21 May 2008.

[56]. S. Conroy, OPEL Networks Funding Agreement not to proceed, media release, 2 April 2008, http://www.minister.dbcde.gov.au/media/media_releases/2008/019, accessed on 21 May 2008.

[57]. The elements of the $1.1 billion Connect Australia package were $878 million for Broadband Connect, $113 million for Clever Networks, $30 million for Mobile Connect and $90 million for Backing Indigenous Ability.

[58]. ABC television, Conroy discusses the state of play for broadband , Inside Business, 10 February 2008, http://www.abc.net.au/insidebusiness/content/2007/s2158854.htm, accessed on 21 May 2008.

[59]. S. Conroy, Australian Broadband Guarantee funding until 2012, media release, 13 May 2008, http://www.minister.dbcde.gov.au/media/media_releases/2008/032, accessed on 15 May 2008.

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[61]. W. Swan, Treasurer, Second reading speech: Appropriation Bill No. 1 2008 2009 , House of Representatives, Debates, 13 May 2008, p. 37.

[62]. B. Pulle, A. Makeham-Kirchner, & P. Darby, Tax Laws Amendment (Personal Income Tax Reduction) Bill 2008 , Bills Digest, no. 60, Parliamentary Library, Canberra, 19 February 2008, Attachment A.

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[64]. Australian Government, Part 1: Revenue Measures , Budget Paper No. 2: Budget 2008 09, Commonwealth of Australia, Canberra, 2008, p. 30.

[65]. ibid., p. 15.

[66]. op. cit., Part 1: Revenue Measures , p. 14.

[67]. Australian Government, Part 2: Expense Measures , Budget Paper No. 2: Budget 2008 09, Commonwealth of Australia, Canberra, 2008, p. 139.

[68]. Parliamentary Library, Table 2.4: Consumer Price Index , Monthly Statistical Bulletin, 2008 http://www.aph.gov.au/library/pubs/MSB/24.htm
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[69]. Average Weekly Earnings December 1997 and December 2007. Source: Australian Bureau of Statistics, Average Weekly Earnings, Cat No. 6302.0. ABS Canberra, 2007.

[70]. P. Dutton, (former Minister for Finance and Assistant Treasurer), Enhancing small business capital gains tax concessions, media release, Canberra, 22 October 2007.

[71]. P. Costello, (former Treasurer), Demutualisation of health insurers, media release, Melbourne, 17 October 2007.

[72]. G. Winestock, MBF for-profit motives test mutual affection , Australian Financial Review, 9 May 2008, p. 73.

[73]. Australian Government, Appendix F: Major Savings in the 2008-09 Budget , Budget Overview, Commonwealth of Australia, Canberra, 2008, p. 39, http://www.aph.gov.au/Budget/2008-09/content/overview/html/overview_39.htm, accessed on 14 May 2008.

[74]. W. Swan, Budget Speech 2008-09 , Second Reading of Appropriation Bill (No. 1) 2008 09,
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[75]. Australian Government, Part 2: Expense Measures , Budget Paper No. 2: Budget 2008 09, Commonwealth of Australia, Canberra, 2008, p. 259.

[76]. R. Webb, Excise taxation: developments since the mid-1990s , Research Brief, no. 15, Parliamentary Library, 2005 06.

[77]. Treasury, Taxation Expenditures 2007, Commonwealth of Australia, Canberra, 2007, p. 184.

[78]. Australian Government, Part 1: Revenue Measures , Budget Paper No. 2: Budget 2008 09, Commonwealth of Australia, Canberra, 2008, p. 19.

[79]. Treasury, Mid-Year Economic and Fiscal Outlook 2007 08, Commonwealth of Australia, Canberra, October 2007, p. 82, http://www.budget.gov.au/2007-08/myefo/html/05_appendix_a-01crev.htm, accessed on 14 May 2008.

[80]. op. cit., Taxation Expenditures 2007, p. 118.

[81]. op. cit. Part 1: Revenue Measures , 2008 09, p. 7.

[82]. M. D Ascenzo, Biannual hearing with Commissioner of Taxation , Joint Committee on Public Accounts and Audit, Proof Committee Hansard, 30 April 2008, p. 11, http://parlinfoweb.parl.net/parlinfo/Repository/Commttee/Commjnt/Linked/5811-1.PDF accessed on 12 May 2008.

[83]. See OECD, Improving the mix of mechanisms for financing business R&D , Public and Private Financing of Business R&D, DSTI/STP (2002) REV1, Paris, 2002, pp. 21 27.

[84]. OECD, Technology and Industrial Performance, Paris, 1996, pp 130 131.
See also OECD, Part II: Encouraging Innovation , Economic Policy Reforms: Going for Growth 2006, Paris, 2006.

[85]. For a discussion of the relationship between innovation and Australia s productivity growth in the 1990s, see D. Parham, Sources of Australia s Productivity Revival, Productivity Commission, 2003.

[86]. For a selection on the literature on the role of innovation in economic growth, see K.I. Carlaw, and R.G. Lipsey, Productivity, technology and economic growth: what is the relationship? Journal of Economic Surveys, Vol 17, No.3, 2003, pp. 457 95; and C. Jones, R&D-Based models of economic growth , Journal of Political Economy, Vol 103, No. 4, 1995, pp. 759 84.

[87]. OECD, A New Economy?: The Changing Role of Innovation and Information Technology in Growth, Paris, 2000, p. 28.

[88]. Productivity Commission, Public Support for Science and Innovation, 9 March 2007, pp 128 131. The social rate of return is the ratio of net social benefit to revenue foregone, times 100. See R. Maddock, Social costs and benefits from public investment in innovation , Melbourne Institute Quarterly Bulletin of Economic Trends, 2000, pp. 17 20. Maddock estimated the rate of social return to business investment in R&D at nearly 40 per cent. A 2001 Productivity Commission Staff Paper estimated that a firm s participation in the R&D tax concession raised R&D by around 60 per cent. See J. Revesz & R. Lattimore, Statistical Analysis of the Use and Impact of Government Business Programs, Staff Research Paper, Productivity Commission, November 2001.

[89]. S. Shanks, and S. Zheng, Econometric Modelling of R&D and Australia s Productivity, Staff Working Paper, Productivity Commission, Canberra, 2006.

[90]. D. Mortimer, Going for Growth: Business Programs for Investment, Innovation and Export, Commonwealth of Australia, 1997; Australian Government, Investing for Growth: the Howard Government s Plan for Australian Industry, Commonwealth of Australia, 1997.

[91]. K. Carr (Minister for Innovation, Industry, Science and Research), Government Announces Review of National Innovation System, media release, 22 January 2008; and K. Carr, New Agenda for Prosperity, speech delivered to The Australian/Melbourne Institute 2008 Economic and Social Outlook Conference, 28 March 2008.

[92]. J. Gans and R. Hayes, Assessing Australia s Innovative Capacity: 2006 Update, Melbourne Business School, University of Melbourne, December 2006, pp. 15 16.

[93]. See media releases: K. Carr, Budget delivers new directions for innovation, competitiveness and productivity; New innovation program to help make Australia Climate Ready; Government to give more postgraduates a head start; Future Fellowships for outstanding mid-career researchers; and Re-tooling Australian manufacturers to tackle climate change, media releases, 13 May 2008.

[94]. A. Albanese (Minister for Infrastructure, Transport, Regional Development and Local Government), $20 Billion for Nation-Building Projects, Media Release, 13 May 2008, http://www.minister.infrastructure.gov.au/aa/releases/2008/May/budget-infra_15-2008.htm, accessed on 14 May 2008.

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[98]. International Monetary Fund, A Manual on Government Financial Statistics, (GFSM 1986), http://www.imf.org/external/pubs/ft/gfs/manual/1986/eng/index.htm, accessed on 14 May 2008.

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[99]. Australian Accounting Standards Board, AASB approves harmonisation of GAAP/GFS, media release, 10 October 2007, http://www.aasb.com.au/whatsnew/media_docs/MR-GAAP-GFS_harmonisation_10-10-07.pdf, accessed on 14 May 2008.

[100]. Australian Government, Agency Resourcing , Budget Paper No. 4: Agency Resourcing 2008 09, Commonwealth of Australia, Canberra, 2008 pp. 36 42.

[101]. Workplace Relations Amendment (A Stronger Safety Net) Act 2007.

[102]. Australian Government, Portfolio Budget Statements 2008 09: Budget related paper No. 1.5, Education, Employment and Workplace Relations portfolio, Commonwealth of Australia, Canberra, 2008, p. 222.

 

 


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