AFR: Defusing the Fiscal Time Bombs

Fiscal policy is in a state of paralysis and business confidence is suffering. Yet the overdue fourth intergenerational report will contain the same message as the first one 13 years ago: without structural changes to the budget, Australia will face unsustainably large deficits through the middle of the century and beyond. An ageing population and inadequate productivity growth have created the underlying pressures on the budget, but these have been compounded by Coalition and Labor governments spending the proceeds of two mining booms based on what transpired to be unduly optimistic official forecasts of ongoing revenues.

Booms inevitably bust. The mining boom has and budget repair is essential. But Prime Minister Abbott recently told the National Press Club that there is no revenue problem, only a spending problem. He went on to pledge that the government will not protect the national budget at the expense of household budgets. Once again, Abbott is saddled with a set of promises he cannot keep: no tax rises, no spending cuts affecting households and reduced deficits. In mathematical optimisation theory, Abbott’s promises amount to an infeasible solution space; they don’t add up.

On January 20, this columnist suggested a balanced package of nine ways to fix the budget. But through his National Press Club declarations, Mr Abbott has effectively ruled them all out, since they are either new revenue measures or spending cuts that would affect household budgets.

A new prime minister would not be bound by these commitments, but that is a matter for Abbott’s colleagues in the party room and, if not, for the electorate next year. A Labor prime minister would confront the same intergenerational fiscal challenges but hopefully would be more careful than Abbott was in making promises he cannot keep. Shadow Treasurer Chris Bowen has publicly signalled Labor’s intention to nominate alternative savings measures.

While it might seem all is lost in structural repair work for the budget, the forthcoming intergenerational report offers a pathway to progress. In the late 1980s, Finance Minister Peter Walsh released a tabulation of more than a dozen so-called fiscal time bombs. These were spending programs whose costs sharply escalated over time. Walsh reasoned that defusing time bombs was at least as important as short-term savings in achieving fiscal sustainability. At a more aggregated level, the 2002, 2007 and 2010 intergenerational reports identified spending on health and aged care as the modern-day equivalents of Walsh’s fiscal time bombs. The coming intergenerational report will do the same.

The government could defuse the most highly explosive of these time bombs by making adjustments to eligibility now that have negligible short-term effects on beneficiaries. Essentially this would involve permanently freezing the upper thresholds of eligibility for family payments, age pensions, the seniors health card and childcare benefit. Over an extended period of time the real value of these thresholds would fall through the effects of inflation, but existing recipients would be unlikely to notice or care.

Next, the childcare rebate could be means tested. When it was first introduced it was means tested but testing was eased and then removed during the mining boom. Yet it appears the government intends to move in the opposite direction, using funds from the 1.5 per cent surcharge on company tax for larger businesses to fund a more generous, consolidated childcare payment.

Finally, Treasury’s 2014 tax expenditure statement estimates that the annual cost to revenue of the major superannuation tax concessions will jump from $30 billion to $46 billion in just three years. Treasury has also estimated that the top 5 per cent of income earners receive 20 per cent of the value of these concessions. Without early remedial action they will blow a massive hole below the budget’s waterline.

It would be in the interests of the Labor Party to support the defusing of these fiscal time bombs, since in government it would confront the same realities. Joyfully, this would be one of those rare occasions on which political self-interest and the national interest coincide.

Craig Emerson is the managing director of Craig Emerson Economics and adjunct professor at Victoria University’s School of Business.