Evolution of Fiscal Policy in Australia
David Gruen 23 August 2007
Outline
Australian macro outcomes over past quarter-century Fiscal outcomes Medium-term influences on fiscal outcomes
– Current account deficits – Ageing and public health costs
Development of a medium-term fiscal policy framework
Australian macro outcomes
Real GDP growth and the output gap
Per cent per annum GDP Growth (LHS) 4 4 Per cent of potential GDP
6
6
2
2
0
0
-2 Output Gap (RHS) -4
-2
-4
-6
-6
-8 1980–81
-8 1984–85 1988–89 1992–93 1996–97 2000–01 2004–05
Australian macro outcomes
Deep recessions in early 1980s and 1990s
Impressive performance since then, on the back of widespread reform – both structural and to macro frameworks
– Strong productivity growth in 1990s and apparent heightened resilience to shocks (Asian crisis; worldwide downturn in 2001)
Medium-term inflation target introduced by RBA after inflation reduced in early 1990s
– Soon endorsed by Government of the day, and strengthened by present Government when it came to power in 1996
Australian GDP per capita
20 Percentage deviation from OECD average Percentage deviation from OECD average 20
15
15
10
10
5
5
0
0
-5
-5
-10 1960
-10 1974 1988 2002
Unemployment and inflation
12 10 8 6 4 2 0 12 10 8 6 4 2 0 Mar-83 G7 Countries Australia G7 Countries Per cent Australia
Unemployment
Per cent
12 10 8 6 4 2 0
Inflation
12 10 8 6 4 2 0 Mar-07
Mar-87
Mar-91
Mar-95
Mar-99
Mar-03
Fiscal Outcomes
General Government balance
All levels of Government
Per cent of GDP Estimated Structural Balance 2 1 0 -1 -2 -3 -4 General Government Balance -5 1980-81 -5 1985-86 1990-91 1995-96 2000-01 2005-06 2 1 0 -1 -2 -3 -4 Per cent of GDP
3
3
Output Gap and Fiscal Balance
6 4 2 0 -2 -4 -6 -8 Output Gap (RHS) Per cent per annum GDP Growth (LHS) 4 2 0 -2 -4 -6 -8 Per cent of potential GDP 6
3 2 1 0 -1 -2 -3 -4
Per cent of GDP Estimated Structural Balance
Per cent of GDP
3 2 1 0 -1 -2 -3 -4
General Government Balance -5 1980-81 1985-86 1990-91 1995-96 2000-01 2005-06 -5
General Government net debt
90 Per cent of GDP Per cent of GDP 90
70
70
50
50
30
30
10
10
-10 Japan Canada 1991 Euro area 1996 US 2001 2006 UK Australia
-10
Fiscal outcomes
Two important medium-term influences on fiscal outcomes
– Large current account deficits (CADs) since mid 1980s – Ageing and rising projected public cost of health care (relevant more recently, and increasingly so)
Medium-term Influences on Fiscal Outcomes:
Current Account Deficits
Balance of payments
2 0 -2 -4 -6 Current account balance -8 -8 Per cent of GDP Balance on goods and services 0 -2 -4 -6 Per cent of GDP 2
75
75
50
Net Foreign Liabilities
50
25 Net Foreign Debt (Private) Net Foreign Debt (Total) 0 Dec-80 Jun-87 Dec-93 Jun-00
25
0 Dec-06
Investment and savings
30 Per cent of GDP Per cent of GDP 30
Australian Investment 25 United States Investment Australian Saving 25
20
20
15
United States Saving
15
10 1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
10 2006
Medium-term influences on fiscal outcomes: Current Account Deficits
Important because CADs have been so influential for fiscal policy outcomes over the past quarter-century
Initial monetary policy tightening (late 1980s – seen as mistake) Tight fiscal policy still seen as appropriate policy response No sustained fall in the CAD despite significant and sustained fiscal tightening
Consenting adults view on CADs
Consenting adults reap the benefits or incur the costs of private I and S decisions
Externalities?
– Increased vulnerability to possible change in international sentiment
No industrial country examples of large CADs or stocks of external liabilities causing domestic economic downturns
– Not yet?
How seriously you regard that possibility probably determines how much you think the public sector should offset the aggregate effects of private I and S decisions
Medium-term Influences on Fiscal Outcomes:
Ageing and Public Health Costs
Projected Australian Government primary budget balance
2007 Intergenerational Report
2 Per cent of GDP Per cent of GDP 2
1
1
0
0
-1
-1
-2
-2
-3
-3
-4 2006-07
2011-12
2016-17
2021-22
2026-27
2031-32
2036-37
2041-42
-4 2046-47
Projected Australian Government primary budget balance
2007 Intergenerational Report
2 Per cent of GDP Per cent of GDP 2
1
1
0
0
-1 Contribution From Rising Health Expenditures
-1
-2
-2
-3
-3
-4 2006-07
2011-12
2016-17
2021-22
2026-27
2031-32
2036-37
2041-42
-4 2046-47
Development of a Medium-term Fiscal Policy Framework
Mid 1980s ‘Trilogy’ commitments
Over life of Parliament:
– Not raise tax/GDP – Not raise G/GDP – Reduce budget deficit/GDP – Response to emergence of large CADs
Fitzgerald report early in 1990s recovery
– Again a response to the CAD
– ‘Greatest scope for raising … national saving lies in the public sector’
Charter of Budget Honesty (1998)
Medium-term fiscal strategy
– Maintain budget balance ‘on average over the course of the economic cycle’ – Maintain budget surpluses over the Budget forward estimates (next four years) ‘while economic prospects remain sound’ – No increase in tax/GDP – Improve net worth over the medium to longer term
Again, concern for the CAD was the primary reason advanced for the fiscal strategy – so that the public sector would not contribute to demand for foreign savings
Medium-term fiscal strategy
Imposes constrained discretion rather than fiscal rules Some language taken from Australian inflation target, which was initially derided as too vague, especially when compared with the more precise NZ version Subsequently seen as preferable to more precisely defined target Requirement to release an Intergenerational Report (IGR) every five years
– To assess the longer-term sustainability of Government policies – Raises the profile of ageing and public health costs as longterm fiscal issues
Evolution of strategy
With government net debt virtually eliminated, a ‘Future Fund’ was set up in 2006, which is a diversified portfolio of domestic and foreign assets
Involves a small medium-term tightening of fiscal policy (currently about ¼ - ½ per cent of GDP) as Future Fund earnings are excluded from budget aggregates but aim remains budget balance over the economic cycle
Evolution of Fiscal Policy in Australia
David Gruen 23 August 2007