Publications

Budget Review 1998-99

May 1998

Contents

The Public Accounts and the Budget Process

The 1998-99 Budget: its Public Policy Content

Statistical Overview

The Macro-Economic Strategy

The Telstra Sale and its Implications for Commonwealth Debt Levels

Promise of Tax Reform and Other Significant Taxation Measures

Budgeted Tax Revenue, the Cash (or Black or Underground) Economy and the Tax Gap

Year 2000 Compliance Expenditure and Taxation of Software

Superannuation

The Budget and Commonwealth Employment

Australian Health Care Agreements and Funding for Public Hospitals

Budgetary Assistance to Primary Producers

Australia's Contribution to the IMF Packages

Commitments to Women

Immigration Measures

Detailed Portfolio Reviews

Introduction - John Kain

This Review is designed to provide parliamentarians with timely background, analysis and commentary on the 1998-99 Federal Budget to assist in their preparation for Budget debates. It has necessarily been prepared in some haste but every effort has been made to ensure its accuracy in the time available.

The main emphasis of the Review is on noteworthy changes flowing from the Budget at the Program or Sub-program level. It does not aim to provide a comprehensive treatment of every Program-specific initiative, nor does it examine in detail the economy-wide, macroeconomic strategies and implications of the Budget.

The Review comprises two main sections. The first is a collection of feature articles which provide an overview of the Budget and also focus on a selection of some of the key initiatives or issues which may be of interest to parliamentarians in debating the Budget. The second section addresses the impact of Budget measures on a Portfolio basis, identifying those Programs or Sub-programs which would be affected most significantly from a financial perspective. It also highlights activities which will be subject to significant changes in policy direction, even if the financial implications of the Budget are relatively minor.

For each selected Program or Sub-program, the Review summarises the major outlay and/or revenue measures identified in the Budget. It also addresses the policy rationale and implications of Budget measures for each of the selected Programs. However, it is not the intention of this document to make value judgements about Budget initiatives or to be prescriptive about preferred outcomes.

Thus, in addressing the policy context of Budget initiatives at the Program level, the focus of this Review is on:

• the rationale for the Commonwealth's past activities in particular Programs or Sub-programs
• the direction in which the 1998-99 Budget will lead the selected Programs or Sub-programs
• the policy strategies underlying the directions proposed in the Budget, and
• where applicable, the possible implications of the Budget proposals including downstream effects on relevant stakeholders.

The Public Accounts and the Budget Process - Denis James

1. The Commonwealth Public Account

Following the passage of the Financial Management and Accountability Act (FMA Act) in 1997, the Commonwealth Public Account (CPA) currently consists of four funds-the Consolidated Revenue Fund, the Loan Fund, the Reserved Money Fund and the Commercial Activities Fund (the latter two of which actually consist of a number of trust accounts).

All on-budget agencies, that is, those agencies which are not authorised to operate their own bank accounts, operate on the Commonwealth Public Account. This includes all executive and parliamentary departments and a significant number of statutory authorities. Any agency which is authorised to operate its own bank accounts is referred to as an off-budget agency. It should be noted that many of these, e.g. the CSIRO, are still substantially funded through the Budget.

The four funds of the Commonwealth Public Account are:

Consolidated Revenue Fund (CRF): This is the main Fund and is established by s. 81 of the Constitution. Section 81 requires that all monies received by the Commonwealth must be paid into this Fund. This requirement is therefore stated explicitly in s. 18 of the FMA Act.

The CRF is balanced at the end of each financial year. If there is a deficit in the CRF, this is made up by charging certain outlays on the CRF (usually defence outlays(1)) to the Loan fund and/or by transferring borrowings from the Loan Fund to the CRF. In either case, this balancing must be authorised by a Loan Act. If the CRF is in surplus, the surplus funds are paid into the Loan Consolidated and Investment Reserve, a trust account used to redeem Commonwealth debt. Note that a deficit or surplus on the CRF does not necessarily imply a Budget deficit or surplus, although this is usually the case (see section 6 below).

Loan Fund: This Fund is established by s. 19 of the FMA Act. It holds all monies raised by loan upon the public credit of the Commonwealth Government. In former times, funds in the Loan account used to be used principally for capital works, but this has not been the case for a long time. This Fund is principally used today to balance the CRF. Note that borrowings by the Commonwealth are regarded as 'monies received by the Commonwealth' and, as such, are initially paid into the CRF before being appropriated into the Loan Fund.

Reserved Money Fund and the Commercial Activities Fund: Between them, the Reserved Money Fund and the Commercial Activities Fund replace the former Trust Fund. Essentially, the Reserved Money Fund replaces the former Group 1 (monies held in trust by the Commonwealth on behalf of others) and Group 3 (monies held in trust under the authority of the Parliament to meet future payments) trust accounts of the Trust Fund while the Commercial Activities Fund replaces the former Group 2 (working accounts covering various on-budget business units) trust accounts.

The existence of these Funds provides much more flexibility in Government financial operations. For example, when the CRF is closed off each year, any appropriations on it lapse. It is thus often better to appropriate monies into a trust account, so that they can be used when required. Note that many of these trust accounts are subject to 'sunset' provisions in the legislation which establish them. In the case of on-budget business units, the existence of trust accounts enables such units to maintain permanent working accounts similar to normal enterprises.

Reserved Money Fund: The Reserved Money Fund is established by s. 20 of the FMA Act. It consists of many 'components' with each component being credited with receipts and debited with payments related to the specific purposes for which that component was established. Many of these components are established by specific Acts of Parliament, such as the Australian Land Transport Development Act 1988.

Commercial Activities Fund: This Fund is established by s. 21 of the FMA Act. This fund also consists of many components, with each component representing an activity of an agency that the Finance Minister considers should be accounted for as if it were a commercial activity

2. Appropriations

Section 83 of the Constitution requires that no monies can be expended from the treasury of the Commonwealth except through a lawful appropriation. Parliament must therefore approve every proposed appropriation. It does this in three main ways:

Special Appropriations: An individual Act can contain an appropriation. For example, the Social Security Act 1991 contains standing appropriations for a range of social security payments. It is interesting to note that around 80 per cent of all appropriations are special appropriations, although around 60 per cent of these relate to social security payments, general revenue grants to the States and local Government and borrowings and other monies received by the CRF before being paid into the Loan Fund or the various trust accounts.

Appropriation Bills: There are also three 'omnibus' bills which seek Parliamentary approval for a large number of appropriations. These are presented on Budget night and form the basis of the Budget debates in both Chambers. These are-(i) Appropriation Bill No. 1, which appropriates monies for the 'ordinary annual services' of the Government and for defence purposes. Ordinary annual services refers to recurrent services (e.g. running costs) and recurrent expenditures on already established programs. Defence appropriations do not have to be recurrent (they can include major capital items) but are included in this Bill by agreement between the two Chambers; (ii) Appropriation Bill No. 2, which appropriates monies for non-recurrent services (i.e. capital works), payments to the States (i.e. those not covered by special appropriations), and expenditures on new programs; and (iii) Appropriation (Parliamentary Departments) Bill, which, since 1982-83, appropriates monies for the Parliamentary Departments.

Through the year, new Programs may be introduced or there may be cost overruns in existing Programs. In order to lawfully appropriate monies for these purposes, Appropriation Bills Nos. 3 and 4 (corresponding to Appropriation Bills 1 and 2) and an Appropriation (Parliamentary Departments) Bill No. 2 are introduced mid-way through the Budget cycle. These are referred to as the additional estimates.

Annotated Appropriations: Where an agreement is reached between the Minister for Finance and an agency, that agency may retain certain approved receipts. In order to comply with s. 83 of the Constitution, the Appropriation Bills contain provisions to ensure that such receipts are lawfully appropriated for the use of that agency. Authorisation for the Minister for Finance to enter into such agreements is found in s. 31 of the FMA Act, and such receipts are now referred to as annotated appropriations although they are sometimes also referred to as s. 31 receipts. For the most part, such annotated appropriations are used as a component of the agency's running costs.

Since the Commonwealth Government considers that such receipts have been earned using Commonwealth resources, it generally retains most of the benefit of such receipts by reducing the running cost appropriation of the agency concerned. The running cost appropriation for most agencies in Appropriation Bill No. 1 is therefore usually net of these annotated appropriations. If looking at appropriations in Appropriation Bill No. 1, it is important to note whether an appropriation is only a net appropriation (to which an annotated appropriation must be added to derive a gross appropriation) or whether the amount appropriated is already expressed in gross terms.

Advance to the Minister for Finance (AMF): If an urgent and unforseen need for an expenditure arises, payment can be made by drawing upon a special account called the Advance to the Minister for Finance. This is kept topped up by the Appropriation Bills. If the payment is made from the AMF before the additional estimates, the amounts so drawn are appropriated in the additional estimates and restored to the AMF. If the amount is drawn after the additional estimates, that amount remains as a final charge on the AMF. The Minister for Finance tables a statement of all such amounts and this report is examined by the Joint Committee of Public Accounts and Audit, to ensure that all legislative requirements have been met.

Provision for Running Costs Borrowings: The Running Costs Arrangements permit departments and agencies to 'borrow' against their future running costs budgets to meet current financial needs. If an agency requests a borrowing, this may not be easily handled through the AMF, since the request may not be 'urgent and unforseen'. The Provision for Running Costs Borrowings is a fund, similar to the AMF, which has been established to meet this need.

3. Powers of the Senate in Relation to Money Bills

In all respects, the Senate has the same powers as the House of Representatives, except in relation to money bills. Here, there are a number of constraints imposed on the Senate by s. 53 of the Constitution:

• bills appropriating monies or imposing taxation may not originate in the Senate
• the Senate may not amend bills appropriating monies for the ordinary annual services of the Government (i.e. it cannot amend Appropriation Bill No. 1) nor can it amend bills imposing taxation. It can, however, return such bills to the House, requesting that the bill be amended or withdrawn.
• the Senate may not amend any bill so as to increase any charge or burden on the people (i.e. it could not increase an appropriation, since this would require more money to be raised from the population).

4. Revenue

The Commonwealth raises monies from various sources. The major source of revenue is taxation (95.8 per cent of total revenue), comprising income tax (71.5 per cent), customs and excise (12.0 per cent), sales tax (10.5 per cent) and other taxes (1.8 per cent). Non-tax revenue (interest, dividends, industry regulation fees, etc) make up the remaining 4.2 per cent of revenue. Full details of revenue are set out in Statement 5 of Budget Paper No. 1 and Table 5 of Budget Paper No. 4.

Note that the proceeds of asset sales are not treated as receipts, but are treated as a negative outlay.

5. Outlays

The Commonwealth is responsible for a substantial amount of outlays. The most important are defence (7.8 per cent of total outlays), social security and welfare (37.8 per cent), health (15.7 per cent), public debt interest (5.5 per cent) and general purpose payments to the States and local Government (13.0 per cent). Details of outlays can be found in Statement 4 of Budget Paper No. 1.

6. The Budget Accounts

The Budget Accounts are shown in the following diagram:

The headline Budget outcome is the difference between revenue and outlays. All of Budget Paper No. 1 is also expressed in terms of revenue and outlays. Note that these differ from receipts and appropriations. There are a number of reasons why this is the case:

• where receipts are closely related to expenditures (e.g. where 'user pays' receipts are collected in the provision of a service) such receipts may be 'offset against outlays'. They thus do not appear as revenue but are subtracted from the expenditure on the service concerned. The resulting 'outlay' on that service is thus less than the appropriation of funds for that service.
• where a s. 31 agreement is in place, approved receipts which may be retained by an agency are treated as an annotated appropriation, thus adding to total appropriations. However, since they also offset the costs of the agency, they must be subtracted to provide an estimate of outlays by the agency.
• monies may be appropriated for a particular purpose into a trust account but not fully expended from the account. Outlays on that function only reflect the actual expenditure. In this case, outlays would be less than appropriations, the balancing item being an increase in trust account balances. Conversely, more money might be spent out of a trust account than is appropriated into it, in which case the foregoing results are reversed.
• some appropriations are not 'above the line items', are therefore not outlays and thus do not enter the Budget result. For example, monies appropriated for the repayment of debt are a financing item and go below the line.

Note that since appropriations and outlays are not identical, it is possible for funds to be appropriated out of the CRF, thus putting it into deficit, even though the overall budget result (outlays minus revenue) may not be in deficit.

Details of outlays on a Program-by-Program basis are shown in the Portfolio Budget Statements tabled in the Senate by each Government department (and some agencies) following the introduction of Appropriation Bills. A typical program would look as follows -

Some commentators criticise the Budget accounts for not making a clear distinction between the recurrent Budget and the capital Budget. The blurring of this distinction can make interpretation of any Budget outcome somewhat meaningless. Some light can, however, be thrown on the capital/recurrent mix by examining the tables at the end of Statement 4 of Budget Paper No. 1 which show Commonwealth Budget outlays by economic type. It should be noted, however, that all defence expenditure is regarded as recurrent, even though a significant amount of such expenditure might relate to the purchase of military hardware with a long life expectancy. Furthermore, recurrent general revenue payments from the Commonwealth to the States could be used by those States for capital purposes. Hence the figures for capital expenditure in the Commonwealth Budget might be quite understated.

7. Underlying Outlays

It is becoming more usual for the Budget Papers to make reference to underlying outlays and the underlying Budget outcome, which is the headline outcome adjusted to take account of net equity asset sales (i.e. equity asset sales net of government equity injections) and net loans (loans made net of loans repaid).(2) The sum of these two components is generally referred to in the Budget Papers as net advances. The headline outcome provides a view of the Government's actual budgetary position, that is, whether the Government needs to borrow money to balance the Budget or whether it has achieved a surplus, thus creating a provision for the redemption of debt. The underlying outcome is designed to throw light on the sustainability of the underlying budgetary aggregates. It is of little comfort to a Government if it just manages to 'balance the books' by selling assets or receiving repayments of past loans it has made. This cannot be done year after year. A more accurate view of underlying trends can be gained by looking at the Budget outcome after ignoring these 'once-off' windfalls that the Government might have received.

For example, the Government's accounts might look as follows:

Here the headline outlays are $1000 and the headline budget outcome is in balance. However, underlying outlays (i.e. the full costs of providing government services) are actually $1200 and, in the absence of net asset sales and net loans, the underlying budget outcome would be a deficit of $200.

It might be noted that in recent years, the Budget has received a significant amount of funds not only from asset sales but also from the accelerated repayment of loans owed to the Commonwealth by the States and Territories.

While the headline budget outcome provides some indication of the need for a Government to undertake borrowings and hence the effect on its gross debt position, the underlying budget outcome is more relevant in determining the Government's net debt position. Net debt is the difference between the Government's total financial liabilities (gross debt) and its financial assets. If equity assets are sold or if outstanding loans made by the Commonwealth are repaid, this will reduce the financial assets held by the Commonwealth. Thus, even if the headline Budget outcome was in balance, an underlying deficit would imply an increase in net debt.

8. Forward Estimates

The forward estimates process is an integral part of Budget formulation in Australia. At any time, the Government has available to it an estimate of the ongoing costs of its existing policies. This can be a benchmark against which any proposed savings or the cost of any new policy initiative can be assessed. This is the approach adopted by the Expenditure Review Committee of Cabinet in examining policy alternatives. The process reduces the burden of policy formulation, since the Committee is always making assessments at the margin, rather than having to set up the Budget from a zero base each year.

Detailed forward estimates of outlays and brief forward estimates of revenue are published in Budget Paper No. 1. Care must be taken in interpreting such estimates. They will change over the course of any financial year as policies change and as key parameters in the economic environment change (e.g. inflation, unemployment, growth, etc.). Also, the forward estimates relate to ongoing policies. If expenditure on a certain policy terminates next year, such expenditure will drop out of the forward estimates after that year, even though it is likely that a new, replacement program will eventually be put in place.

The actual amounts of the forward estimates are only set out in one place-Statement 4 (Outlays) of Budget Paper No. 1. There you might find something like:

The forward estimates are presented in terms of out-turn prices (current prices in each year). Thus, just because you see roads expenditure rising each year, this could just be due to inflation and not due to a real increase in road funding.

The Budget measures in Budget Paper No. 2 and in the Portfolio Budget Statements show the impact of the measure against the pre-Budget forward estimates. If the figures in the previous table had been the pre-Budget forward estimates, a Budget policy to keep road funding at $850 each year would appear:

Note that looking at the effect of a measure on forward estimates does not necessarily imply anything about actual expenditures. If the initial forward estimates were rising and savings were announced, the new forward estimates might still be rising (but not by as much). Often all that can be said is that 'spending over the four years (budget year and three out-years) will be $xx million less than they would have been without the measure'.

9. Running Costs Budgets

Since the late 1980s, Government departments and agencies have been given more flexibility in the use of their appropriation for running costs. Running costs include the costs of salaries, administration and property operating expenses. The running costs appropriation is now a one-line item, enabling agencies to move funds between the various components of running costs. Agencies can also borrow against future years' running costs, or carry over part of their current running costs budget to future years. This increased flexibility has both advantages and disadvantages for efficient funds management, and these are set out in a Parliamentary Committee Report.(3)

10. Program Budgeting

Departments and agencies are now required to produce Portfolio Budget Statements and Annual Reports on a Program basis. All appropriations relating to a particular Program are brought together so that the entire cost of the Program can be seen at a glance. This makes it easier to assess whether the outcomes delivered by each Program justify the cost. As part of program budgeting, performance indicators need to be developed to demonstrate the extent to which desired outcomes are achieved. This latter task can be quite difficult and can be the Achilles heel of program budgeting.

11. Scrutiny

Parliament gets several chances to scrutinise Government outlays. When legislation containing a special appropriation is introduced, Parliament gets a chance to debate that legislation. Unfortunately, some legislation can set up a standing appropriation year after year and Parliament may not get a chance to review it. This is especially the case where the legislation includes indexation provisions, so payments keep being increased along with inflation without any Parliamentary review. One way to overcome this problem is to include 'sunset' provisions in the legislation so that it eventually lapses and can only be reinstated through the introduction of new legislation.

The Senate scrutinises departmental programs by forwarding the Portfolio Budget Statements to each of the Senate Standing Committees for review and report. These Committees hold estimates hearings at which senior officers of all departments are required to attend for questioning. These hearings are convened whenever Appropriation Bills are introduced into the Senate.

Parliament also has a chance to scrutinise agency activities through the Annual Reports that such agencies are required to table in Parliament. Also tabled are the reports by the Auditor-General on various aspects of agency financial management. Parliamentary Committees can also examine aspects of agency programs. The Joint Committee of Public Accounts and Audit is one such Committee.

12. The Budget Timetable

Australia has had two legislative budget cycles in recent years. For many years, the Budget was brought down in August (during the financial year) and was also brought down in August for the 1996-97 Budget (due to the timing of the 1996 election). However, in all other years since 1994-95, the Budget has been brought down in the May preceding the Budget year. The choice of presentation date has many ramifications.

The August Budget

When the Budget is brought down in August, a problem arises in that all appropriations included in the previous year's Appropriations Bills will have lapsed on 30 June. However, the Budget year's Appropriation Bills are not introduced until August and may take until the end of November before they are passed by both Chambers. In order to ensure that funds are available to the Government from 1 July until November, Supply Bills 1 and 2 and the Supply (Parliamentary Departments) Bill must be introduced in late April or early May to appropriate the required funds. These Bills appropriate around five-twelfths of expected annual appropriations in the next year. Once the actual Appropriation Bills are passed, they subsume any expenditures which have already been made under the Supply Bills.

The 'supply period' from July to November can be nerve racking for agencies who have to ensure that they keep within their financial limits. Any delay to the Appropriation Bills can cause major financial concerns. In fact, it was the failure of the Senate to call on debate of the Appropriation Bills in 1975 which led to the downfall of the Whitlam Government. Many agencies impose precautionary financial constraints on spending during the supply period.

With the Budget being introduced in August, the additional estimates are not introduced until March.

The May Budget

In the case of the May Budget, the Appropriation Bills for the coming Budget year are passed before the beginning of that year. The only other Budget legislation required are the additional estimates, which are introduced in October.

Pros and Cons of the May Budget

Pros: There are three main advantages of bringing down the Budget in May:

• there is less need for legislation in that Supply Bills are not required
• government agencies no longer face financing problems during the supply period and can undertake better forward planning
• by announcing Budget measures in May, the full-year effect of those measures can be achieved since they can be timed to begin on 1 July (or even from Budget night).

Cons: There are also a number of difficulties with a May Budget. These include:

• there is less accurate financial information on the actual outlay and revenue outcomes of the current financial year. Only estimates of these outcomes are available. An attempt is made to rectify this problem in a Final Budget Outcome document issued by the Treasurer in August, but this lacks considerable detail. More detail can be gained from the Annual Reports of individual agencies when these are tabled in late October and November
• forward budget planning must also suffer from the lack of final outcome figures
• there is less time (May to the end of June) to get the Budget through both Houses. This may constrain the review activities of the Senate estimates committees and may enable small parties to apply political pressure on the Government.

13. Mini-Budgets

The Hawke/Keating Government frequently introduced mini-Budgets between the main Budgets. It often brought down Economic Statements in May (hence these were commonly referred to as 'May Statements'. However, other major Statements were also released on an ad hoc basis (e.g. One Nation, Working Nation, etc.). These Statements were used to bring together details of a host of new policy initiatives and/or to change the Government's fiscal policy stance in light of reassessments of the state of the economy. In some years, these Statements were so far-reaching that they overshadowed the main Budget.

14. Budget Documentation

There are currently four main Budget Papers. These are -

Budget Paper No. 1: Budget Strategy and Outlook. This currently comprises seven Statements:

• Statement 1: Fiscal Strategy
• Statement 2: Economic and Fiscal Outlook
• Statement 3: Structural Change
• Statement 4: Outlays
• Statement 5: Revenue
• Statement 6: Budget Funding
• Statement 7: The Public Sector

Budget Paper No. 2: Budget Measures. This comprises two Parts:

• Part 1: Outlay Measure
• Part 2: Revenue Measures

Budget Paper No. 3: Federal Financial Relations: This comprises:

• Recent Developments
• Overview of Commonwealth-State financial relations
• Commonwealth payments to the States and Territories
• Loan Council oversight of Commonwealth and State borrowings

Budget Paper No. 4: The Commonwealth Public Account: This comprises:

• A reconciliation of receipts and appropriations with revenue and outlays
• Statement of transactions on all Funds of the Commonwealth Public Account
• Consolidated revenue fund receipts
• Payments under special appropriations
• Annotated appropriations
• Appropriation (Parliamentary Departments) Bill
• Appropriation Bill No. 1
• Appropriation Bill No. 2
• Transactions on the Reserved Money Fund
• Transactions on the Commercial Activities Fund

15. Identifying Budget Initiatives

The first place to look for major Budget initiatives on both the outlays and revenue side of the Budget is in the Treasurer's Budget Speech.

For information on the running costs and associated staffing levels (measured in terms of ASLs) of departments and 'running costs agencies see Budget Paper No. 1. In the 1998-99 Budget Papers, this information is provided in Table XII (p. 4-140). Note, however, that from 1995-96, it has been decided only to include on-budget agencies in the running costs arrangements. As a result, staffing changes in off-budget agencies, such as the CSIRO and the ABC, will not appear in the table.

Details of Government initiatives on the outlays side of the Budget are shown in Part 1 of Budget Paper No. 2. It will be noted that the outlays measures in Part 1 are classified by Portfolio. Any policy initiatives which will have an impact upon outlays in the Budget year and/or out-years are listed in the tables. These will include the impact of any new initiatives or the impact of any change to existing policies. The figures set out in the tables show the amounts by which those policy decisions will cause a variation from the pre-Budget forward estimates (which are formulated on a no-policy-change basis). The figures therefore give a good picture of the magnitude (in financial terms) of government policy decisions.

Details of Government initiatives on the revenue side of the Budget are shown in Part 2 of Budget Paper No. 2. The tables show the financial impact of any revenue measures in the Budget year and/or out-years. Not only are all revenue measures listed, but Part II gives a good description of the nature and effect of each of the these measures.

Although it can be time consuming, a lot of information can be found at the Portfolio level by looking at the Appropriation Bills and Special Appropriations (found in Table 6) in Budget Paper No. 4. By comparing the appropriations for particular Portfolio items with actual expenditures on those items in the previous year, it is possible to see where there have been significant changes in funding. One problem with this approach, however, is that a reduction in (or the cessation of funding for) a particular activity may simply represent the 'planned' ending of that activity rather than the result of a 'new' Government decision.

It can be useful to pay particular attention to Appropriation Bill No. 2. In that Bill, the Other Services Division shows, for each Portfolio, appropriations for any new Government policy initiatives (this can easily be seen, since for these items there are no figures showing appropriations or expenditures for the previous year).

Another useful source of information, which is generally available on Budget night, are the Budget packs which most Departments issue. These packs contain press releases and other summary information relating to Government initiatives. Such packs are available through Ministers' offices but it also seems likely that they will be available on the Internet (see, for example, the Government Information Page on the Library website, at http://wopablue/library/intguide/index.htm).

The Portfolio Budget Statements appear within a few days of the Budget presentation. These statements show appropriations and outlays on a Program-by-Program basis as well as the staffing levels associated with each Program. A comparison can be made with the corresponding outcomes for the previous year. For each program, details are also given of any Budget measures which will have an impact on that program.

Other useful information may be found in Budget-related Press Releases, newspaper comment, etc. These can usefully supplement the information available through the Budget documentation.

Endnotes

1. Defence outlays are chosen, since the Commonwealth does not require Loan Council approval to borrow for defence purposes.
2. That is, loans made as a result of government policy decisions rather than debt transactions associated with financing the Budget. These latter transactions are financing items and are placed 'below the line'.
3. See House of Representatives Standing Committee on Banking, Finance and Public Administration, Keeping the Customer Satisfied. Inquiry into the Devolution of Running Costs Flexibilities, Appendix 4: Potential Benefits and Costs of Devolution, AGPS, Canberra, October 1995.

The 1998-99 Budget: its Public Policy Content - John Kain

This article is a synthesis of some of the key public policy priorities and directions identified in the Budget strategy. Although it draws heavily on the official Budget Statements it is not intended to be an exhaustive review.

The Overriding Objective-Maximum Sustainable Growth

The Government's Budget strategy outlined in Budget Paper No 1(1) indicates that Commonwealth Budget priorities continue to be developed within a framework that takes account of the Government's broader economic and social objectives. It specifies as its overriding policy priority the achievement of maximum sustainable rates of economic growth and rising living standards including via reductions in unemployment.(2)

The Government identifies a range of significant public policy strategies being directed towards the achievement of this goal. These strategies include:

• the maintenance of the current medium-term macroeconomic policy framework
• pressing ahead with its program of microeconomic change
• including initiatives directed at restructuring the taxation system, the labour market, corporate law and the financial system
• improving the levels of national saving and reducing Government debt
• ensuring that taxes are used by the Government as efficiently and effectively as possible, particularly through the ongoing assessment and review of public expenditure priorities and programs, and
• minimising the tax burden on Australians, while ensuring that the integrity of the taxation base is preserved and that all taxpayers bear an equitable burden of taxes.

The following schedule summarises Australia's economic growth and total business investment growth in recent years and also indicates the Budget forecast for 1998-99.

Schedule 1: National Economic and Business Investment Growth 1993-94 to 1998-99 (%)

Note: * denotes annual average figures

The Budget observes that while the pace of Australian economic growth will be slower in 1998-99 compared with 1997-98, Australia is still expected to be one of the fastest growing OECD economies.(3) This is qualified with a note of caution that 'the uncertain nature of international events, including the pace of recovery in Japan, poses considerable risks to the outlook'.(4)

The Social Objectives-Supplying Essential Public Goods and a Social Safety Net

The public policy strategy underpinning the Budget recognises the important social obligations which are accepted as the responsibility of the Commonwealth Government and which extend beyond the immediate scope of national economic management. The Budget priorities identify the need for the Commonwealth to fulfil its social obligations through:

• the supply of essential public goods and services, and
• the provision and maintenance of a fair and effective social safety net that supports those in the community most in need.

The strategy states that since coming to office, the Government has consistently focussed on a number of key areas including families, the elderly, small business, employment and regional Australia. Some of the key social initiatives highlighted in the strategy are summarised in Schedule 2.

Schedule 2: Key Social Initiatives

It is recognised that many of the social priorities and strategies are interlinked with broader economic and public administrative restructuring initiatives with the stated aims of achieving greater efficiency, effectiveness and economy in their delivery-changes to the labour market employment services sector and farm assistance programs being examples of these.

The Fiscal Objective-Increased Public Savings and Reduced Net Public Sector Debt

The Budget strategy observes that low levels of private saving in Australia relative to other OECD countries underscore the importance of ensuring that public finances-and associated levels of public indebtedness-remain sound. Because the propensity of Australians to accumulate private savings is relatively low, the Government considers that a more concerted effort is needed to raise the level of public savings so that overall national savings are at an acceptable level.

Thus the Government's medium-term fiscal objective is to achieve underlying Budget balance, on average, over the course of the economic cycle. Consistent with this medium-term objective, the fiscal strategy adopted by the Government in framing its 1998-99 Budget is centred on returning the underlying Budget to surplus in the life of this Parliament. It is noteworthy that the fiscal strategy also seeks 'to maintain surpluses over the forward estimates period while economic growth prospects remain sound'(5) (italics added). This aim is directed at halving the ratio of Commonwealth general government net debt to GDP from 20 per cent in 1995-96 to 10 per cent by the turn of the century.(6)

The Government argues that reductions in general government net debt are an important public policy goal for a number of reasons:

• Reductions in net debt levels are seen as beneficial because they help reduce Australia's vulnerability to economic shocks-such as those posed by recent developments in Asia. The Government considers that its fiscal strategy and the strength of the fiscal outlook have been important in sustaining financial market confidence and shielding Australia from the instability experienced in some Asian countries.
• Reduced public net debt is seen as important in ensuring that the economy is better placed to cope with emerging pressures on the fiscal position such as ageing of the population.
• Reducing public indebtedness should also help ensure that the burden of the cost of services enjoyed by the current generation is not transferred to future generations.
• By repaying the debts of the past, the reduced burden of interest payments on public debt will allow lower taxes and the provision of new and better services and rising living standards(7).

The 1998-99 Budget strategy emphasises that improving national saving and reducing net debt remain key Budget priorities; as with the 1996-97 and 1997-98 Budgets, it is intended to provide a substantial boost to public saving and, over time, national saving. The savings from fiscal consolidation(8) efforts-together with the proceeds from equity asset sales-are being used to reduce net debt.

The Budget strategy observes that as a result of improvements in both the Commonwealth and State/local net debt positions, total general government net debt for Australia compares favourably with that of other OECD countries and is well below the OECD average. However some other countries have the benefit of strong private sector saving offsetting the weakness in their public saving. In this respect the Government has introduced a savings rebate to be implemented from 1 July 1998, which is aimed at assisting private saving.

The Charter of Budget Honesty

It is noteworthy that the 1998-99 Budget has been prepared within the framework laid out in the Charter of Budget Honesty which has recently passed through the Commonwealth Parliament. The Charter has important implications for the fiscal strategy underpinning the Budget and these are identified in the Box below which has been drawn from the 'Budget Strategy and Outlook 1998-99', Budget Paper No. 1. The Strategy document also reports on a range of factors which may influence the actual Budget outcome in future years; the Charter requires that these be disclosed in a Statement of Risks in each Budget in order to increase the transparency of the fiscal projections. These are dealt with at some length in Appendix A: Statement of Risks which accompanies the Fiscal Outlook section of Budget Statement No. 2 in the 'Budget Strategy and Outlook', Budget Paper No. 1.

BOX 1: THE CHARTER OF BUDGET HONESTY The Charter of Budget Honesty, which has recently passed through the Parliament, aims to improve fiscal outcomes by enhancing the transparency of, and accountability for, fiscal policy. In particular, it requires governments to set out their medium-term fiscal strategy in each budget, along with their shorter-term fiscal objectives and targets. It also provides for full economic and fiscal outlook reports at the time of the budget, at mid-year, and prior to elections. In addition, the Charter sets out arrangements for the costing of election commitments by the Government and the Opposition. Under the terms of the Charter, the fiscal strategy must be based on principles of sound fiscal management which require governments to: ensure that fiscal policy contributes to achieving adequate national saving and to moderating cyclical fluctuations in economic activity, as appropriate, taking account of the economic risks facing the nation and the impact of those risks on governments' fiscal positions; manage financial risks faced by the Commonwealth prudently, having regard to economic circumstances, including by maintaining Commonwealth general government debt at prudent levels; pursue spending and taxing policies that are consistent with a reasonable degree of stability and predictability in the level of the tax burden; maintain the integrity of the tax system; and ensure that policy decisions have regard to their financial effects on future generations. The Government's fiscal objectives and targets accord with these requirements.

Endnotes

1. 'Budget Strategy and Outlook', Budget Paper No. 1, 1998-99.
2. 'Statement No. 1, Part II: Economic Framework', Budget Paper No. 1, pp. 1-8.
3. ibid.
4. Recent independent research released shortly after the Budget suggests that over the longer term horizon to the year 2025, Australia's growth rates may quickly be overtaken again by those of Asian economies; the research points to the prospect of per capita incomes in Singapore, South Korea and Taiwan surpassing those in Australia in purchasing parity terms. The report argues that Australia must do more to develop its human capital if it is to compete with Asia in the next century. Committee for the Economic Development of Australia, Australia and Asia: A Study of Comparative Economic Performance, Asian Economics Centre, University of Melbourne, 1998.
5. Budget Paper No. 1, pp. 1-9.
6. The degree to which this debt reduction target can be achieved will depend on the extent of realisation of the Budget's economic growth projections and the successful prosecution of the Telstra sale. A recent Westpac research study suggest that underlying the Federal Budget surplus in 2001-02 may be considerably smaller than that forecast by the Government because the Budget projections are based on optimistic growth projections. See 'Risk of $21.5 billion Black Hole: Westpac', Australian Financial Review, 26 May 1998, p. 4.
7. Budget Speech 1998-99, p. 2.
8. Some observers have made the point that a substantial element of the Budget surplus may be attributable to the effect of rising money incomes pushing people into higher tax brackets-so call 'bracket creep'. Indeed, one writer has calculated that bracket creep windfalls to Government revenue during the Howard Governments' period in office exceed the size of the surplus. 'The Folly of Overkill', Peter Walsh, Australian Financial Review, 26 May 1998, p. 21.

Statistical Overview - Tony Kryger

This statistical overview is not meant to be a comprehensive coverage of the statistical information that is available from the Budget. Rather, it provides a quick reference to portfolio outlays, revenue estimates, historical Budget aggregates and Government economic forecasts.

Portfolio Outlays

The Budget presentation is in terms of underlying outlays which are defined as total headline outlays less net advances. See Table 3 for headline outlays data.

Underlying outlays provide a more reliable guide to overall trends in Commonwealth finances than headline outlays as they exclude transactions which simply involve the transfer or exchange of financial assets. In recent years, underlying outlays have mainly reflected the removal from headline outlays of major equity sales and repayments by the States of Commonwealth loans.

Portfolio outlays are the aggregation of outlays according to the Ministry which has the administrative responsibility for them. Table 1 shows the underlying outlays for each portfolio for 1997-98 along with estimates for 1998-99 and the ensuing three years.

Table 1: Underlying Outlays by Portfolio

The ratio of underlying outlays to gross domestic product (GDP) is an indicator of the share of national resources devoted to Commonwealth Budget Programs (see Chart 1). The ratio largely tracks the economic cycle. It is also affected by discretionary policy decisions which alter the structural budgetary position. Following policy decisions made in this and the previous two Budgets, outlays as a proportion of GDP are expected to decline through the Budget and forward years.

Revenue Estimates

Table 2 compares revised revenue estimates for 1997-98 with the 1998-99 Budget estimates. It shows that in 1998-99 total revenue is expected to increase by 6.5 per cent over estimated revenue in 1997-98. Total tax revenue is expected to grow by 5.6 per cent. As a proportion of GDP, however, total revenue is expected to increase only slightly from 24.9 to 25.0 per cent while tax revenue is expected to fall marginally from 24.1 to 24.0 per cent over the period.

The largest single source of revenue in the Budget is the income tax paid by wage and salary earners on a pay-as-you-earn basis. Although income tax rates have not changed, gross PAYE collections are expected to rise by 8.4 per cent in 1998-99 in response to two factors-forecast growth in average earnings which increases both the tax base and the proportion of people in higher income tax categories (i.e. 'bracket creep') and growth in wage and salary employment.

Table 2. Revenue by Source

Historical Budget Aggregates and Net Debt Data

The Budget aggregates are revenue, outlays and balance. Table 3 presents the Budget aggregates from 1960-61 to 1996-97 and estimates and projections for future years to 2001-02. Although underlying outlays are considered more appropriate for financial analysis, the table also shows headline outlays. The underlying balance and headline balance are also shown. The data are also expressed as percentages of GDP to allow meaningful comparisons to be made over time.

In the period from 1960-61 to 1997-98 there have been six headline Budget surpluses, all of which occurred after 1986-87 and 20 underlying Budget surpluses. The number of underlying surpluses exceeds the number of headline surpluses due to the fact that in the period to 1986-87 asset sales were not significant and the Commonwealth was a net lender to the States. This kept the underlying balance greater than the headline balance over this period-the reverse being true from 1987-88.

Table 3. Budget Aggregates, 1960-61 to 2001-02

Budget revenue and underlying outlays as a proportion of GDP are also displayed in the chart below. The difference between the two series is the underlying Budget balance.

Net debt (liabilities less financial assets) of the Commonwealth General Government sector peaked at $95.8 billion or 19.5 per cent of GDP in 1995-96. It has since fallen, both in absolute and in relative terms, and is projected to fall to $9.6 billion or 1.4 per cent of GDP by 2001-02 (Table 4).

Table 4. Commonwealth General Government Net Debt

Government Economic Forecasts

The major economic forecasts by the Government (Table 5) are summarised below:

• Economic growth of 3 per cent is forecast for 1998-99, following estimated growth of 33/4 per cent in 1997-98.(1)
• The current account deficit is forecast to blow out from $17.7 billion in 1996-97 to $31 billion in 1998-99, or an increase from 3.4 to 51/4 per cent of GDP.
• Employment growth is expected to remain firm with further reductions in the unemployment rate from an annual average of 8.7 per cent in 1996-97 to 81/4 per cent in 1997-98 to 8 per cent in 1998-99.
• The underlying rate of inflation is expected to remain low but will increase somewhat from an estimated 11/2 per cent in 1997-98 to 21/2 per cent in 1998-99.
• The household savings ratio, or household saving as a proportion of household disposable income, is expected to continue its long term downward trend to 23/4 per cent in 1998-99.
• Business investment is forecast to grow by 6 per cent in 1998-99. This is considerably below the 17.4 per cent growth rate recorded in 1996-97.
• A marked slow down is expected in the volume of exports. Exports of goods and services grew by 10.1 per cent in 1996-97 but this is expected to fall to 31/2 per cent in 1997-98 and 21/2 per cent in 1998-99.
• Australia's terms of trade, or the relationship between Australia's export prices and its import prices, are expected to deteriorate over the period to 1998-99.

Table 5. Domestic Economy Forecasts

To put some of the main economic forecasts into perspective, the graphs above show for four indicators-economic growth, current account deficit, unemployment and inflation-Australia's actual economic performance over the past 5 years, estimates for 1997-98 and forecasts for 1998-99.

Endnotes

1. Percentage changes in economic indicators are expressed as either whole numbers followed by a decimal (for actual outcomes) or whole numbers plus a fraction (for estimates and forecasts). Fractions are preferred when figures are tentative, as they do not imply the same level of accuracy as decimals.

The Macro Economic Strategy - David Richardson

The 1998-99 Budget was announced with an underlying surplus of $2.7 billion, up from a deficit of $1.2 billion in 1997-98. The Budget continues with the fiscal consolidation program announced at the time of the 1996-97 Budget. That Budget also introduced the concept of the underlying budget balance as the main performance indicator for fiscal policy. By abstracting from asset sales and loan transactions the underlying budget balance is the preferred measure of the effect of the Budget on the economy.

The ordinary or usual Budget measure of the deficit or surplus has been referred to since 1996 as the 'headline' deficit (or surplus as the case may be). However, as a consequence of the new measure the ordinary Budget Balance has barely made the headlines since the 1996 Budget. For the record, the ordinary Budget Balance is estimated to be a surplus of $18.7 billion in 1998-99, up from an expected surplus of $12.8 billion in 1997-98.

The underlying surplus of $2.7 billion has been obtained despite new policy measures announced in the Budget that included expenditures being increased by $1.95 billion, being only slightly offset by revenue increases of $33 million.(1) In the absence of these policy changes the 1998-99 surplus would have been $4.6 billion in 1998-99.

Expressing all of these changes relative to GDP, the underlying surplus for 1998-99 is now forecast at 0.5 per cent of GDP, following an underlying deficit of 0.2 per cent of GDP in 1997-98. Since the starting point in the 1996-97 Budget of an anticipated deficit of $10 billion the move to an underlying surplus of $2.7 billion has been achieved through a combination of policy changes in both outlays and revenues. The rest is the effect of economic growth and higher price levels in the intervening years. The following table gives estimates of changes in the underlying deficit since the underlying deficit estimate of $9 970 million being the starting point for the 1996-97 Budget.

Underlying Budget Balance - $ million

(Positive figures indicate a movement towards surplus, negative figures, a movement towards deficit)

Source: 1998-99 (and earlier years) Budget Paper No 1: Budget Strategy and Outlook 1998-99.

In the table where the 2000-01 forecast is beyond the scope of the Budget forecasts for the year in question, the latest forecast year is used as an estimate of the long run effect.

From the table we can quickly appreciate that the move from a $10 billion deficit in 1996-97 to the $2.7 billion surplus forecast for 1998-99 is due to a $6.4 billion increase in the balance resulting from the 1996-97 Budget, a $0.9 billion improvement coming from the 1997-98 Budget and, finally, a $1.8 billion reduction in the balance coming from the 1998-99 Budget itself. All up policy measures accounted for a movement of $5.4 billion. The rest, an improved balance of $7.3 billion, has been due to changes in the economic environment, especially economic growth and price increases. The latter give rise to fiscal drag as a source of revenue. Alternative estimates by Econtech ascribe $5.8 billion to policy, $7.2 billion to the economic environment, of which fiscal drag is put at $5.0 billion and recovery at $2.2 billion.(2)

Looking further into the forecast period, the 2000-01 projected surplus of $8.6 billion represents an $18.9 billion swing around on the 1995-96 outcome. However, on the assumptions employed here the policy changes have contributed $3.4 billion to the swing around in the Budget. That means $15.5 billion of the projected turn around is the result of economic growth and fiscal drag.

When talking about the Budget figures for 1999-2000 through to 2001-02 it needs to be stressed that Treasury refers to these as projections and not forecasts. Among other things they are based on continuing growth in those years of 3.5 per cent, employment growth of 2.25 per cent, wages growing by 3.5 per cent and inflation at 2.5 per cent.(3)

Before leaving this section a few comments on the pattern of policy measures may be in order. In 1943 the Polish economist, Michael Kalecki, drew attention to the likelihood that Keynesian fiscal policy would be used to generate a political cycle of spending and contraction based on electoral considerations. It has since been common for governments to cut back on spending and increase revenue in their first year and increase spending and cut taxes towards the end of their terms. That is certainly apparent in the last three Budgets. The figures in the last column of the table give an indication of the sustained effects of the last three Budgets.

Economic Forecasts

The Budget Papers contain the usual economic forecasts. However, this year they are hedged with cautions such as suggesting that the 'uncertain nature of the international economy, particularly the state of the Japanese economy, poses a considerable risk to the outlook for the Australian economy in 1998-99 and beyond.'(4) The Asian crisis has had a major effect on the outlook for Australia. However, apart from the uncertain outlook for Japan, the official view seems to be that the worst has already happened and there is not much left to come through that might affect Australia. For example, the Budget Papers suggest that the situation in the affected Asian countries has stabilised and that a pick up should be apparent in 1999, except possibly in the case of Indonesia.(5)

The Budget Papers estimate economic growth of 3.75 per cent for the present financial year and down to 3 per cent in 1998-99. This mainly reflects the downturn in exports, blowing out the current account deficit (CAD) so that the fall in net exports has a large negative effect on growth. The CAD was $17.7 billion or 3.4 per cent of GDP in 1996-97. It is expected to be $25 billion or 4.25 per cent of GDP in 1997-98 and forecast at $31 billion or 5.25 per cent of GDP in 1998-99.

The rate of unemployment is expected to average 8 per cent in 1998-99 and fall to 7.75 per cent in June 1999 as a result of employment growing at 1.75 per cent both on a through year basis and in year on year terms. The employment and growth forecasts together imply productivity will grow by only 1.25 per cent in 1998-99. That compares with productivity growth of 2.5 per cent estimated for 1997-98 and the actual value of 2.1 experienced in 1996-97. The justification for the forecast slowing down in productivity is the statement that 'employment growth responds with a lag to the easing in output growth'.(6) In other words the slowdown expected in 1998-99 will cause the employment growth to slow but after 1998-99. Note that normally we would expect productivity growth at 2 per cent and labour market growth at around 1.5 per cent so that economic growth would need to be around 3.5 per cent just to hold the line on unemployment. Special conditions have to be assumed to make growth lower than about 3.5 per cent consistent with a reduction in unemployment.

If the forecast slowdown in productivity growth does not eventuate then in June 1999 unemployment is more likely to be up around or just below 9 per cent. A higher than forecast level of unemployment would also come about if the estimated economic growth rate is not realised. Some of the private forecasters seem to be of that opinion. For this financial year, other private forecasters had been forecasting around 4 per cent before the Asian crisis hit. However, those forecasts are being reduced by 0.5 to one per cent. Econtech, for example, has revised its 1997-98 estimate down to 3.5 per cent and has published an estimate of 3 per cent for 1998-99.(7) Mr Alan Oster, chief economist with the National Australia Bank, is reported to have said that growth is more likely to be 2.5 per cent.(8)

One of the reasons the National Australia Bank thinks growth will be below official forecasts is the suggestion the Government has underestimated the Asian impact on the CAD. However, even with the official estimates the effect of the change in net exports will reduce GDP by 2.25 percentage points in 1997-98 and a further 1.75 percentage points in 1998-99. Even if only half of the widening of net exports can be put down to the Asian crisis, it still means GDP in 1998-99 will be 2 percentage points below where we would be if we could re-run history without the Asian crisis.

The impact of the Asian crisis on the economy has been cushioned by the growth in private consumption, which is estimated to grow 5 per cent in 1997-98, and 4 per cent forecast in 1998-99. The 1998-99 forecast assumes that once again consumption will grow faster than real household disposable income, which is expected to grow at 3.5 per cent. This also occurred in 1997-98 but is rather unusual. The justification for consumption growing faster than household income seems to depend on the demutualisation of the AMP.(9) Of course, any increase in interest rates in the near future could have the opposite effect as increased mortgage interest payments eat into household disposable income. Clearly the further out we go the less confidence we can have in any forecasts. Nevertheless, the official forecasts of 3 per cent growth need to be compared with the 'overriding aim of an annual growth rate of over 4 per cent on average during the decade to 2010'.(10)

Uncertainties on the future of East Asia mean that Australian forecasts are likely to be more hazardous than usual. The forecasts should be taken as the central point of a range of possibilities and the range has just grown significantly as a result of the Asian financial crisis.

The Westpac/Melbourne Institute index of consumer confidence fell to a three year low in March.(11) This puts a question mark over demand in 1998. Consumer demand, including demand for cars, has been an important feature of the strong growth that has saved us from the Asian financial crisis. Private consumption is 62 per cent of GDP, so any downturn in consumer spending has significance for the economy as a whole.

Before leaving this section some further comments on the forecasts are in order. Many commentators are cynical about the Budget forecasts. The following table would suggest there is good reason to question the current forecasts given the errors in previous Budgets. This table compares the actual outcome for economic growth with the Budget time forecast. These estimates are made just before or just into the year being forecast.

Economic growth, outcomes versus forecasts

Sources: Budget Paper No 1, 1998-99, ABS, National Income, Expenditure and Product, December Quarter 1997, Cat No 5206.0

From the table it is apparent that the forecast errors can be quite substantial. However, there is no suggestion of bias. The average error is only 0.23 percentage points, close enough to zero. However, the average deviation in absolute terms (that is ignoring the sign of the error) is 0.80 percentage points. A recent study of HM Treasury's forecasting record showed that only 50 per cent of the deviations in UK outcomes after 12 months were explicable by the forecasts. Moreover, for a specific GDP forecast, 90 per cent of the time the actual would be expected to lie within plus or minus 2.1 percentage points. Hence a forecast growth of 2 per cent should be taken to mean we can be 90 per cent sure the outcome would lie within the range of -0.1 to 4.2 per cent.(12) A similar conclusion would most likely apply to the Australian Treasury forecasts.

Policy considerations

There seems to be fairly universal agreement that inflation is no longer a concern for policy makers. Inflation is forecast to be 2.5 per cent in 1998-99 and projected to continue at the same rate in the following two years. That figure is firmly within the Reserve Bank's target range of 2 to 3 per cent.

Unemployment remains a concern. However, the forecasts above suggest that Australia will achieve a further small reduction in unemployment, on average, over the course of 1998-99. If the forecasts are achieved then there may be a case for saying that Australia is doing fairly well on the employment/unemployment front given the impact of the Asian crisis. Some forecasters also no doubt believe that we have reached close to the equilibrium level or natural rate of unemployment. Beyond that rate, according to the argument, further reductions in unemployment are best pursued through policies that directly address labour market issues. Note that the table at the end of this article shows that various countries have a range of experiences with unemployment at the moment with Japan (still), the Netherlands, Switzerland and the United States all below 5 per cent unemployment. There would appear to be a long way to go before Australia reaches best practice on this particular economic indicator.

The main remaining issues are the CAD and the level of foreign debt. As we saw, the official view is that the CAD will be $25 billion in 1997-98 and $31 billion in 1998-99. Most of the CAD goes straight onto foreign debt. In December 1997 foreign debt was $222 billion or 42 per cent of GDP. With a CAD running at an annual rate of $31 billion, foreign debt could reach $253 billion by December 1998, even without any valuation effects through exchange rate movements. Incidentally, those figures imply that foreign debt will increase by 14 per cent per annum. Given a growth in GDP of around 3 per cent and inflation at around 2.5 per cent, nominal GDP (i.e. GDP before adjusting for inflation) is growing at around 5.5 per cent. That means the foreign debt to GDP ratio is likely to climb from 42 per cent in December 1997 to over 45 per cent by the end of 1998, again, assuming no valuation effects. If the present settings remain, namely nominal GDP growing at 5.5 per cent and a CAD of 5.25 per cent, then foreign debt as a proportion of GDP will keep growing until it reaches 95 per cent.(13)

The Budget Papers seem fairly complacent about the blow out in the CAD. To take a few examples

These quotations reveal some important features in the policy thinking at the moment. They can be expressed in the following propositions:

1. An increase in the CAD is inevitable but it is likely to be temporary.
2. It is not the CAD itself that matters - just the perception foreign investors have about the overall policy context.
3. Problems should not reappear in the absence of inflationary pressures, and
4. With balanced budgets the twin deficit thesis will reassert itself and eliminate the CAD.

Each of these propositions can be questioned. Proposition 4 is perhaps the most serious. The twin deficit thesis asserts that the CAD equals the Budget balance. According to this view, a bigger Government deficit simply means a bigger CAD. The strict twin deficit thesis can be ridiculed by pointing to the fact that across all countries the CAD must sum to zero. Compared with that, government deficits across all countries can take on a large range of values. Certainly in the aggregate across countries the twin deficit will not normally apply. However, a weak twin deficits thesis might be put along the lines that an increase in government spending, or any spending for that matter, is likely to increase aggregate demand which tends to spill over into imports. Certainly over the last decade or so there have been occasions when Governments used demand management policies to tackle large CADs.

If we interpret the Budget Papers as referring to a weak twin deficit thesis, then it amounts to saying that demand management can be used to tackle the CAD and the Budget deficit/surplus is the best indicator of the stance of macroeconomic policy. Proposition 1 suggests there should not be too much concern about the present CAD which is expected to be temporary. That is important. Normally when confronted with a CAD blow out it might be expected that contractionary fiscal changes would be introduced, following the (weak) twin deficit thesis. However, as was seen above, discretionary policy changes in the 1998-99 Budget amounted to an additional stimulus of $1.95 billion.

The use of aggregate demand management may be regarded as a fairly blunt instrument against the CAD. Reducing aggregate demand reduces the demand for both imports and domestic goods and services. While there are specific measures to assist exporters in the Budget Papers, there is nothing in the policy discussions on the desirability of 'expenditure switching policies.' Expenditure switching policies refer to those policies aimed at encouraging Australians and the rest of the world to purchase more Australian product while discouraging the purchase of foreign product. The $A has devalued against the $US in recent times. The headlines seem to be constantly reminding us of that. However, the $A has been fairly stable against the Trade Weighted Index (TWI). While the Budget Papers remind us that exports to the US and other destinations are picking up, perhaps in response to the $A/$US devaluation, there may well be a case for further devaluation against the TWI. Even if on balance it was decided against expenditure switching policies it would be useful to see the reasoning.

Proposition 2 above suggests the size of the CAD is not relevant for the perception of Australia by foreigners. We would hardly expect Treasury to say otherwise. It would be completely irresponsible for the Treasury to even hint that there might be episodes of speculation against the $A as a result of the widening of the CAD-or anything else for that matter. However, it is worth observing here that there seems to be a sense of unrealism for the Budget Papers to suggest that Australia can escape any contagion from Asia and all will be fine, irrespective of the CAD, provided the major imbalances are kept under control.

So far the policy considerations have been examined from the perspective of Australian goals alone. A global response to the Asian crisis that involved other countries contracting would not assist the global recovery from the Asian crisis. The badly affected Asian countries need an outlet for their products to assist their recovery. Once recovery in those countries is under way they can then begin to import again and provide a market for Australian exporters as well as exporters from other countries. The Asian crisis has forced Asian imports to fall a lot more than their exports. That throws the rest of the world further into CADs on average. If the rest of the world responded with contractionary policies the crisis countries would be denied assistance and growth would slow even further in the rest of the world. There is nothing in the Budget Papers to suggest that Australia is deliberately adopting a good regional neighbour policy in letting the CAD run out temporarily. However, that may be a valid position to advocate in international fora.

International Comparisons

In thinking about the Budget and economic policy generally it is useful to have in mind the performance of other countries. The following table provides some useful comparisons between our performance and the performance of some other OECD countries.

Economic Indicators