AFR: Honesty May Sell Nation on Reforms

Last Wednesday’s national accounts confirmed the Australian economy is failing to make a smooth transition from the end of the mining boom, slipping instead into an income recession. A day earlier, the Reserve Bank hinted the next interest rate movement could be down, not up as most market economists had been forecasting for the past year or so. Tough economic times call for harsh fiscal medicine but the government has cornered itself by seeking to break a litany of promises it never needed to make. There is a way out of the corner.

Professor Ross Garnaut warned of an income recession last year in Dog Days. Then, in July, using the government's optimistic official mineral commodity price forecasts, Victoria University’s Centre of Policy Studies quantified the looming income recession for the inaugural meeting of the Melbourne Economic Forum. The Financial Review reported these findings and later pointed to its portents in the official statistics. Garnaut and this columnist have long been advocating further reductions in the Reserve Bank’s cash rate to enable the Australian dollar to fall further and more quickly. If necessary, this would be accompanied by an increase in the capital requirements on banks for mortgage lending so as to avoid a housing bubble.

Now the debate is settled: the economy is in trouble. The political problem in responding to the income recession is that the government is demanding that the senate help it break its promises of no cuts to health, education or pensions, no new taxes, no increased taxes, no excuses and no surprises. Two days before the election the Coalition announced it would deliver the same budget bottom line as Labor over the coming four years. When the media put to the prime minister that the condition of the budget should not be an excuse for breaking promises, he replied “exactly right.”

The array of promises broken in the May budget, many of which will directly increase living costs, has shocked consumers already worried about their jobs. As their real wages continue to fall in a deteriorating jobs market, working people will continue to save more and consume less, as they have been in the post-budget period. Every time the government re-announces it will press ahead with the GP co-payment, higher university fees and cuts to income support payments, it further damages consumer confidence. In a downward spiral, lower consumer spending will further hurt employment and the budget bottom line.

Yet, the sharp decline in income from overseas caused by falling mineral prices requires a large fiscal adjustment. What to do?

When commodity prices last collapsed in 1986, Bob Hawke made an address to the nation and followed up with a tough August budget and May statement. The budget theme was “restraint with equity”, with deep cuts being made at all levels of income. For the first time, a means test was applied to family payments.

By candidly explaining that the rest of the world was paying us less for our commodities, Hawke and Keating brought the nation with them, despite breaking some promises.

Abbott and Hockey should do the same: explain the situation, apologise for breaking promises and bring down a fair budget. In fact, the prime minister should deliver an address to the nation in which he announces or at least foreshadows a paring back of generous superannuation tax concessions for the wealthy, a tightening of eligibility for the age pension, the adoption of the previous government’s anti-avoidance measure for car leases, cracking down on international profit shifting and scrapping the extravagant paid parental leave scheme. The GP co-payment and deregulated university fees should be shelved, pending independent inquiries into the fiscal sustainability of the health and higher education systems. A temporary fuel excise increase could be contemplated, to be phased out as oil prices rose, though the risk is that this would further damage consumer confidence.

Blaming the Senate isn't a viable economic strategy. Levelling with the Australian people and exercising restraint with equity is both good policy and good politics.

Craig Emerson, a former economic adviser to Bob Hawke and cabinet minister in the Gillard government, is an adjunct professor at Victoria University’s School of Business.