The Government’s policy thrust in the 2016-17 budget, if you can believe Treasurer Morrison and Prime Minister Turnbull, is another three word slogan redolent of Tony Abbott in “Jobs and Growth”.
A few hours earlier, the Reserve Bank’s surprise 0.25% rate cut (taking the cash rate to a record low of 1.75%) was based on a simpler slogan – “boost inflation” (or, “stop deflation").
And that summed up quite a dramatic day for economy policy making and politics in this country. The government all pollyannaish about the future and the economy (there’s an election on the way), the professionals in the RBA, worried about that unexpected fall in March quarter inflation and whether it presages a slide in not only price pressures, but growth, demand which undermine the recovering jobs market.
Treasury is even more sanguine about some things – the deficit will rise, government debt will surge and we face more pressure from ratings agencies.
The RBA sees the need to boost the pace of economic activity, even if it is at the cost of boosting inflation, because the slide in costs in the March quarter was a shocker. But a boost to inflation will also help the budget by lifting tax revenues and helping trim the deficit.
Debt will rise dramatically, especially as a share of GDP, and total debt on issue will peak in June 2018 at $542 billion or 30%. Its market value is estimated to hit 32% of GDP at the same time.
Now that 30% figure is important because that is the trigger for a probable loss of our AAA credit rating.
Seeing the 30% level reached, and the absence of any major deficit or debt reduction (and revenue raising effort, except for the new superannuation taxes), it would not surprise if Moody’s and perhaps Standard & Poor’s announce credit watch warnings in the next month or so, or even sooner.
But the Treasury and Reserve Bank are more gloomy than they were a year ago at the time of the 2015-16 budget delivered by then Treasurer, Joe Hockey.
The RBA worried about deflation and growth and its impact on jobs and demand (it was in the midst of two rate cuts back then), Treasury which now says the economy will grow by only 2.5% in the coming financial year, down from 3.25% expected last budget.
And on Friday we get the latest forecasts from the RBA with the release of its second Statement on Monetary Policy for 2016 with its new forecasts for GDP growth and inflation.
Over four years, the budget outlook will be $22 billion worse and spending will still be above 25% of GDP in 2019-20, much higher than the level the government inherited from Labor after its win in the 2013 federal poll.
This is despite higher commodity prices than forecast in last December’s mid year economic forecast — a 41% rise in iron ore price (to $US55 a tonne) and metallurgical coal also up substantially (to $US91) — an improvement in forecast terms of trade (the budget sees a return to growth in terms of trade in 2016-17) and lower unemployment, which is now expected to peak at 5.5% in 2016-17 and remain there the following year. Last year a rate of around 6.25% was seen.
The budget has also revised up forecasts for household consumption, though business investment and wages forecasts have been revised down. Most significantly, GDP growth in 2016-17 has been revised down to 2.5% from 2.75% (it was 2.2% in 2014-15 and 3.0% in calendar 2015.
Nominal GDP growth, perhaps the most important indicator for budget revenues is forecast to grow from 2014-15’s 1.6% to 2.25% in the year to this June, 4.25% in the year to June, 2017 and 5% the year after, a heroic belief when inflation is weakening and will only grow slowly in coming years from an estimated 1.25% this financial year, to 2% in 2016-17 and 2.25% in 2017-18.
The budget offers to cut spending as a share of GDP from 25.8% to 25.2%, which is an improvement of just 0.6 of a percentage point, if it happens (it hasn’t so far under this government.
Since the 2015-16 budget, the deficit has blown out by a further $36.3 billion over four years; a deterioration of $10.2 billion through until 2018-19.
Face value of debt on issue will rise from the $410 billion (24.0% of GDP) estimated in last year’s budget papers for the current financial year to a new higher forecast of $425.7 billion this year (or 25.7% of GDP).
In the coming 2016-17 year, debt will grow from the $450 billion (25.2% of GDP) forecast in last year’s budget, to $497 billion (28.9%). In 2017-18 debt is forecast to rise to $542 billion, or 30% of GDP, from $470 billion, or 25.0% forecast last year.
The latest budget papers sees debt in 2018-19 jumping to $565 billion, or 29.8% of GDP and $581 billion in 2019-10 or 29.2%.
That means the $330 billion (20.8% of GDP) of debt at the end of 2013-14 (the year the government changed office and inherited the budget from the ALP administration), will be an estimated $565 billion, an increase of 88% in four years.
On a net debt basis, the picture is a little better – the budget papers say net debt is expected to be $326.0 billion (18.9% of GDP) in 2016‑17, peaking at 19.2% of GDP in 2017‑18, before declining over the medium term to a projected 9.1% of GDP ($264 billion) in 2026-27 (which can’t be believed because it is too far away).
Following the first quarter when the CPI had entered a period of deflation, the CPI been revised down a quarter of a percentage point to 2% in 2016-17 (and an estimated 1.25% for 2015-16) and down another quarter of a percent the following year.
Economic growth is also expected be unchanged in 2016-17 from the estimated 2.5% for this financial year, before recovering to trend growth of 3% in the following three years.
Unemployment, currently running at 5.7%, is forecast to fall to an average of 5.5% the next four years. This represents a more bullish outlook on the jobs market than Treasury had made in the Mid-Year Economic and Fiscal Outlook delivered before Christmas.
The budget assumes China will meet its growth targets (hence the rise in iron ore and coking coal price estimates for the coming financial year), Australia’s terms of trade will hold up reasonably well as a result, and tax revenues will flow accordingly.
The forecasts are underpinned by spot prices of $55 ($US/t, FOB) for iron ore; $91 ($US/t, FOB) for metallurgical coal and $52 ($US/t, FOB) for thermal coal.
Treasury points out that "the forecasts for the domestic economy are based on several technical assumptions. The exchange rate is assumed to remain around its recent average level — a trade weighted index of around 64 and a $US exchange rate of around 77 US cents. Interest rates are assumed to move broadly in line with market expectations. World oil prices (Malaysian Tapis crude) are assumed to remain around US$43 per barrel.”
