The Parliamentary Budget Office (PBO) proposed possible improvements to Commonwealth reporting regarding the use of alternative financing mechanisms in government expenditure, as set out below.
Expected financial impacts of new policies
PBO Report 1/2020 identified budget reporting on the expected financial impacts of new policies involving alternative financing mechanisms as an area that could be improved. At every budget, new policies committed to by the government are presented in Budget Paper No. 2: Budget Measures. The PBO noted that, when alternative financing mechanisms are used to fund a new policy, the measure descriptions ‘do not provide full information’ on how the policy is likely to affect the government’s net financial worth. This matter is further discussed below.
The PBO noted that, for government loans for new policies involving alternative financing mechanisms, a more comprehensive measure description in Budget Paper No. 2 would include the total expected size of the loan program; the upfront estimate of the amount of debt not expected to be repaid (based on the design of the program and historical experience); and detail on the loan terms (interest rate, concessions, duration, repayment timing). By way of background on this matter, when the government plans a new loan program (or changes to an existing loan program), the two significant balance sheet impacts are the total size of the loan program (which feeds into the government’s interest payments) and the estimate of debt not expected to be repaid. As the estimate of debt not expected to be repaid (which depends on the design of a program and may be revised over time) is classified as a revaluation rather than a transaction, the expected non-repayment is not included in the fiscal balance impact shown in the measure description.
Equity injections—risk of revaluations
The PBO noted that, for government equity injections for new policies involving alternative financing mechanisms, a more comprehensive measure description in Budget Paper No. 2 would include the full value of the equity injection; the expected rate of return at inception; the key assumptions underpinning the expected return on the equity injection; and the expected impact on fiscal aggregates, such as net financial worth. By way of background on this matter, when the government invests in a business, the investment must pass a ‘threshold test’ (a real rate of return greater than zero and a reasonable expectation that the investment will be recovered) to be treated as an investment asset on the balance sheet rather than a grant. The investment, if it is deemed to qualify as an equity injection, is assumed to maintain its value over the forward estimates period. However, the PBO stated that this presents ‘a risk of future revaluations, potentially up to the full value of the equity injection’.
All alternative financing mechanisms—associated public debt interest costs
The PBO noted that, for all new policies involving alternative financing mechanisms, a more comprehensive measure description in Budget Paper No. 2 would include the associated public debt interest. By way of background on this matter, when the government borrows money to implement a policy, it issues debt liabilities and becomes liable for repayments of both the principal and interest. The quantity of debt liabilities that the government has to issue is determined by the total amount of spending and revenue raised across all programs, and is generally determined at a whole-of-government level. Under current reporting conventions in Budget Paper No. 2, the interest costs on the debt liabilities are not attributed to any individual policy measure. The fiscal balance impact as it appears in the budget measure description does not therefore include the associated interest costs. The PBO stated that this means the reported fiscal impact can ‘materially understate the expected cost or overstate the expected net revenue’.
Expected financial impacts of ongoing programs
PBO Report 1/2020 identified budget reporting on the expected financial impacts of ongoing programs involving alternative financing mechanisms as an area that could be improved. In addition to announcing new policies, budgets provide updated estimates of the ongoing impact on the underlying cash balance for existing policy areas. The PBO noted that, in policy areas where there is a significant use of alternative financing mechanisms, the presentation in Budget Paper No. 1: Budget Strategy and Outlook of only the underlying cash balance impact ‘leaves two significant gaps’ in terms of expected revaluation amounts and the potential cost of government guarantees. These matters are further discussed below.
Expected revaluation amounts
The PBO noted that, when revaluations are expected or ‘known’ for ongoing programs involving alternative financing mechanisms, consideration should be given to Budget Paper No. 1 including a detailed breakdown of forecast revaluations; the forecast effect of revaluations on net financial worth by policy area; and forecast revaluations at a program level, where the expected revaluation is greater than $200 million over the forward estimates period. By way of background on this matter, Budget Paper No. 1 (Statement 5 in the 2019-20 Budget) presents the cost of current policy as the impact on the fiscal balance. It also provides forecasts of government expenses by function (eg ‘Social security’) and sub-function (eg ‘Assistance to the aged’). The information presented on spending by policy area in Statement 5 ‘may not capture the full expected impact on net financial worth when policies using alternative financing mechanisms are employed, since on some occasions there are expected costs that come in the form of revaluations’, making it ‘difficult to understand how the costs of some policy areas are likely to change over the forecast period’.
Potential cost of government guarantees
The PBO noted that, to improve the transparency of risks associated with government guarantees for ongoing programs involving alternative financing mechanisms, consideration should be given to the Statement of Risks in Budget Paper No. 1 including a table on guarantees, indicating both the total potential exposure and the expected value of the exposure associated with each quantifiable government guarantee. By way of background on this matter, the Statement of Risks (Budget Paper No. 1, Statement 8) provides information on guarantees that the government currently offers, with some of these guarantees relating to alternative funding mechanisms. Of the quantifiable guarantees (some are not quantifiable), the PBO stated that the amount covered is ‘not always shown’.
Existing and historical policy outcome assessments
PBO Report 1/2020 proposed that the Final Budget Outcome or CFS include assessments of existing and historical policy outcomes, for policies involving alternative financing mechanisms, noting that ‘to help inform policy decisions, it is useful for parliamentarians to be able to see the outcomes of policies’.
Disaggregation of revaluation-related information
The PBO noted that reporting on existing and historical policy outcomes involving alternative financing mechanisms in the Final Budget Outcome or CFS could be improved by including revaluations at a project or program level, separated into those for newly acquired financial assets and for existing financial assets; discussion on the drivers of revaluations, such as changes in market prices, exchange rates and actuarial revaluations; and a summary of revaluations for all Australian Government financial assets that involved cumulative equity injections greater than $200 million—this should show the cumulative equity injected and the most recent fair value estimate of the entity. By way of background on this matter, the Final Budget Outcome estimates of net financial worth include all revaluations, and breakdowns (with ‘varying degrees of policy detail’) of net cash flows from investments in financial assets for policy purposes, providing an indication of how much cash is flowing toward policies using alternative financing mechanisms. However, the PBO noted that these documents ‘do not disaggregate revaluations’ to enable an understanding of the impact of policy on the Australian Government’s fiscal position when alternative financing arrangements are used—in particular, ‘no distinction is drawn between different drivers of revaluations’. Further, the available information on revaluations is ‘not disaggregated by policy area or provided at a major program level’.