Australia's budget position worsens
The Australian Online
AAP
February 15, 2013

THE federal government's fiscal position continues to deteriorate, with new data showing a $22 billion deficit in the six months to December 2012.

The Australian government's monthly financial statement released today showed an underlying cash deficit of $22.252 billion to December, down from $17.962 billion in November. It was worse than the $19.816 billion deficit for December that was forecast in the mid-year budget update released in October.

The new data showed a $3.85 billion shortfall in underlying cash receipts in the six months to December, compared with the budget update, while spending was $1.414 billion less over that period. The drop in revenue was due to lower tax revenue and interest income.

The government originally forecast a $1.077 billion surplus for 2012/13. But Treasurer Wayne Swan said in December that was unlikely to be achieved due to the slowdown in revenue.

Golden rule: don't borrow for handouts
Tony Makin

Tony Makin is a professor of economics at Griffith University.

THE 2012-13 budget deficit will remain central to economic policy debate up to the federal election, though we won't know its size or when any surplus is likely before the May budget. Even then, the budget numbers will be only estimates. During the past five years, federal deficits reflecting excess government spending over revenue have been financed by government borrowing, mainly from foreigners. This has drastically transformed the government's balance sheet, which measures its overall financial position.

Curiously, unlike the standard budget deficit measure that is so often in the news, the government's balance sheet has been all but ignored, even though estimates of its key elements were published in October's mid-year economic and fiscal outlook.

Government borrowing to finance budget deficits adds to pre-existing public debt liabilities and worsens the government's balance sheet. Public investment that adds to infrastructure, or previous surpluses that have been channelled into the Future Fund, increases the value of government assets and improves the balance sheet.

In principle, it is possible to run a budget deficit, yet not worsen the government balance sheet, if the additional government borrowing finances extra capital spending worth at least as much as the debt liability incurred in the process, and irrespective of whether the borrowed funds are sourced from domestic or international capital markets. This idea inspires the so-called golden rule of government budgeting adopted by governments abroad at different times, including by Britain before the North Atlantic banking crisis.

The golden rule is supposed to bind governments to borrow only to fund their public investment spending across the course of the business cycle, and thus deter borrowing to cover unproductive consumption. This means budget deficits reflecting an excess of public investment over public saving are not necessarily worrisome because increasing the public-sector capital stock adds to the economy's real assets. In other words, borrowing for infrastructure is acceptable, but borrowing for cash handouts is not.

Had the golden rule been in place across Australia in recent years, budgetary outcomes would have looked very different at both state and federal levels. Comparing government balance sheet measures between points in time is the best way to assess fiscal performance across longer intervals than a year, since balance sheets reflect the cumulative effects of previous budget imbalances.

The key government balance sheet measures are net worth and net financial worth, both of which have deteriorated markedly by historical standards in recent years. Net worth is the most inclusive measure of the government's financial position and is simply the difference between the value of all of the federal government assets and its liabilities. Government assets include financial and real assets, such as public land holdings, infrastructure, investment properties, plant, equipment and heritage assets. Government liabilities mainly include outstanding public debt and future liabilities, such as superannuation entitlements of public sector employees.

The latest estimates published by Treasury show that the broadest measure, government net worth, is estimated to be minus $145.3 billion at the end of this financial year, or negative 9.5 per cent of gross domestic product. This compares with a net worth figure of plus $70.9bn, or positive 6 per cent of GDP five years ago. If the government were a business it would be technically insolvent on the basis of its significant negative net worth position.

Since many non-financial government assets cannot be readily liquidated to cover immediate financing requirements, a narrower measure than government net worth, government net financial worth, is a preferred indicator of the sustainability of the government's financial position. According to the mid-year economic and fiscal outlook figures, net financial worth representing the difference between government financial assets and liabilities is expected to be minus $257.9bn or negative 16.9 per cent of GDP in 2012-13. This compares with minus $18.1bn, or only negative 1.5 per cent of GDP in 2007-08.

What these numbers tell us is that in the space of five years the federal government's net worth position has deteriorated in nominal terms by $216.2bn, while the narrower net financial worth position has deteriorated by an even greater $240bn. When expressed as a percentage of GDP, this remarkable worsening of each of these key balance sheet items is in the order of a 15 per cent turnaround since 2007-08.

The rise in net debt liabilities driven by budget deficits, not falling asset values, overwhelmingly explains the transformation of the federal balance sheet during this time. Expressed as a percentage of GDP, there was a 13 per cent turnaround in the net debt position. At MYEFO time, net debt outstanding was expected to reach about $144bn this financial year, but is now likely to be higher with the subsequent abandonment of the budget surplus expected then.

Although the business definition of balance sheet insolvency suggests the federal government is technically insolvent, the financial strictures that negative net worth imposes on private firms do not translate to governments. This is because governments uniquely possess the power to tax. However, the fact a government can wield the power to tax under these circumstances has adverse implications for the wider economy. Rational, forward-thinking households and firms should realise that a government whose debt-driven net worth is significantly negative has to impose higher taxes at some stage to repair its balance sheet. In anticipation, household saving should therefore rise and business confidence and private investment fall. Just as it has in recent years.

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