The 2006 Federal Budget: A Sober Assessment

The media’s response to Treasurer Costello’s recent budget has been generally positively, sometimes bordering on euphoric. ‘Super-size tax cuts’ headlined the Australian Financial Review, while the Sydney Morning Herald’s front page trumpeted ‘Spend, spend, spend’, leaving the more partisan headline ‘One for the Libs’ true receivers’ for its budget supplement. A more sober assessment is warranted.

Whenever I hear a Treasurer present a budget, I always ask three questions:

– What is the likely impact on the overall state of the economy?

– What is the effect on the distribution of after-tax incomes?

– What social priorities are embedded in the patterns of projected government expenditure?

On each of these three counts there are causes for deep concern with the latest budget.

Macroeconomic Consequences

How fiscal policy is likely to affect the economy is always a matter of difficult judgement. A conventional Keynesian economic analysis would take the view that running a budget surplus tends to reduce the aggregate demand for goods and services, thereby slowing growth in output and employment. From that perspective, one could regard Costello’s surplus projected at over $10 billion as a conservative fiscal policy stance, taking much more away from the spending capacity of Australian taxpayers that it ploughs back in to the economy in the form of government spending.

However, the prevailing view is that the fiscal stance of this budget is expansionary. This is because the budget surplus for the year ahead is much lower than that which would normally occur, given the sustained growth of the economy in recent years and the massive incomes generated by the current boom in mineral prices and exports. It is this spectacular economic buoyancy that has enabled the government to cut various taxes – on incomes, on superannuation and on business – while still maintaining a surplus. Costello’s budget thereby returns some of the proceeds of the current economic bonanza to the general public, while still appearing economically responsible.

The problem with this strategy is that an expansionary fiscal policy seems oddly juxtaposed with a mildly contractionary monetary policy. The Reserve Bank of Australia has recently raised official interest rates by a quarter of a percentage point. This reflects fears of inflationary pressures in the economy, partly driven by the rising price of petrol. The effects of that rise in interest rates are likely to be swamped by the increased consumer spending that the Treasurer has now facilitated. It makes the prospect of more interest rate hikes significantly more likely. Home—buyers and business investors will not be pleased. And the government’s claim to be keeping interest rate low – a claim that most commentators see as central to its electoral success in October 2004 — looks ever more vacuous. ‘Fears rate rise to wipe out tax cuts,’ headlined the Sydney Morning Herald the day after the budget. Indeed.

Thanks to Sean Leahy

Distributional Effects

So ‘who gets what’ under this budget? This is an important area of concern too. Egalitarianism is an important Australian tradition, albeit ‘more honoured in the breach than the observance’. On this criterion the budget scores very poorly. The income tax cuts in particular are clearly biased towards the more-wealthy. ‘Budget unashamedly for the rich’ was the theme of ‘Chanticleer’s’ column in the Australian Financial Review. Indeed, the income tax cuts overwhelmingly favour the top income earners. Those on average weekly earning, having an annual income of around $60,000, get an annual tax saving of $510. Those on double that income get eight times more from the tax cuts — about $4100 p.a. ‘Fat cats’ on $350,000 p.a. get a tax saving twenty times greater, totalling some $10,200 p.a. Nice ‘tax relief’ for those that don’t need it.

Partly offsetting these regressive income tax changes are increased family benefits. These have been politically targeted at ‘middle Australia’ but not, of course, at those without children. For a single income couple with two children aged between 3 and 8, for example, the net effect of the changes to income tax and family benefits works out at about $28 more per week if their income is $60,000 p.a. For a similar household with an annual income of $150,000 the net gain will be much higher at $119 per week. Clearly, the overall effect remains biased towards upper-income households.

The effect of the changes in taxation of superannuation are also significant. The existing tax arrangements have favoured these on upper incomes with the biggest retirement incomes. Removing the tax on receipt of those incomes — whether as a lump-sum or a pension — will certainly be welcomed by retirees in general. However, again, the tax savings are skewed towards those with the highest retirement incomes. Moreover, the effect of the changes is to give even more incentive to those with the capacity to take advantage of existing ‘salary sacrifice’ arrangements. It is a tax rort that enables them to take advantage of having their income taxed at the superannuation contribution rate of 15% rather that the normal rate of income.

Social Priorities

Finally, we need to ask how well the budget serves the longer-term interests of Australian society. ‘Instant cash-back’ policies are less beneficial in this respect than policies that invest in infrastructure and skill-information, for example.

‘Investing the windfall: time to think beyond the boom’, advised the Sydney Morning Herald editorial on the eve of the budget. The advice was unheeded. Higher education remains hopelessly under-funded, as does technical education. Infrastructure investment also remains deficient, although there were significant allocations for improvements to rail and, more particularly, road transport. Half a billion dollars for coping with environmental degradation in the Murray-Darling basin is welcome too, although the government’s overall environmental credentials remain woeful.

The political economist J.K Galbraith, who died a couple of weeks ago, consistently emphasised the need for government to redress the social imbalance between ‘private wealth and public squalor’. Indeed, the redistribution of national income for this purpose should be a feature of any good society. Treasurer Costello may feel pleased with himself for producing a popular budget, but it violates this more important long-run priority. So, together with its contradictory macroeconomic effects, this makes the 2006 federal budget an exercise in political opportunism rather than social responsibility.


Responding to Costello’s eleventh budget, Kim Beazley’s budget reply speech was ‘as good as it gets’ recently from the ALP opposition. It signalled that the ALP is getting back on track as a viable alternative to the Coalition. It was appropriately critical but also constructive, presenting both vision and specific policy proposals for modern nation-building. The contrast between Costello’s ‘giveaway’ populism and Beasley’s more responsible alternative was striking. However, Beasley’s proposal also needed to embrace the Greens’ concerns about restructuring the economy towards economic sustainability and a fairer distribution of wealth.

Ecological sustainability requires tax reform, such as a replacement of the flat-rate GST with a carbon tax that would make the prices of different goods reflect the amount of scarce energy resources that goes into making them. It also needs a more active industry policy — targeting things like solar energy equipment that we should be producing, and exporting, on a larger scale. We could be world leaders in production and export of more eco-friendly technologies, instead of pouring ever more government subsidies into propping up Mitsubishi and Ford without regard to restructuring the economy towards ecological sustainability.

A fairer distribution of wealth also needs to become a political priority if we are to be a fair, cohesive society. The growth in property prices over the last decade has been particularly damaging in this respect, accentuating the gulf between ‘insiders’ and ‘outsiders’ in home ownership. A comprehensive national land tax would cream off the effects of land price inflation, discouraging further speculation and generating revenue to finance public housing. That would be a courageous policy to introduce, of course. However, even without that revenue source, public housing deserves a better deal: its expansion would take the pressure off the housing market in general and reduce the overall debt burden.

And then there’s the need for better funding for higher education. One hesitates to dwell on this because it is so obvious. The continual neglect of higher education is bizarre in the context of a government ostensibly concerned with developing ‘the knowledge nation’. Not to improve funding of universities at a time when Treasury coffers are evidently awash with dollars is doubly bizarre. One must infer that the neglect reflects a political commitment to push our education system yet further down the road of privatisation.

On budgets, as in all economic matters, there are always alternatives, But as political economist Joan Robinson used to say, the answers to most economic problems are political questions.

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