Australia’s Budget Is Built on Pure Hope
The Australian federal budget is long-awaited, not just because we finally get a glimpse of the immediate fiscal cost of the pandemic but because we now have a clear articulation of the government’s assumptions about how the pandemic will evolve and what the recovery will look like.
Australia is running one of the most bifurcated policy experiments of the pandemic, with some states close to fully easing restrictions, and others still sweating anxiously over the numbers. The state of Victoria has embarked on one of the harshest and longest lockdowns in the developed world, and many of the special measures announced in the federal budget are a direct result of the situation there.
Like many countries, Australia’s fiscal response to the virus has been extraordinary. An equally extraordinary effort will be needed to repair the budget. Unlike the United States, whose dollar enjoys reserve currency status globally, making it easier to support the federal government through monetary policy, smaller countries like Australia must take the job of budget repair much more seriously.
A great deal depends on how long the virus will last and the ability of state governments to contain it. The key assumptions embedded in the budget are that localised outbreaks of COVID-19 occur but are largely contained. A population-wide vaccination program is assumed to be fully in place by late 2021. General social distancing restrictions are assumed to continue until a vaccine is fully available.
Restrictions in Victoria are assumed to gradually lift over the remainder of 2020 as per the Victorian government’s roadmap for reopening. The increased eligibility for JobKeeper payments — which provide direct support for businesses to keep staff on the payroll — is largely due to the prolonged lockdown in Victoria. According to recent comments from Australia’s health minister, the state is no longer considered a COVID-19 hotspot by federal public health criteria, but the state government is pushing on with harsh lockdown measures.
So long as the state governments can hold the economy hostage, the federal government has little choice but to keep writing checks to the households and businesses affected by closures and the severe downturn in economic activity.
The Australian government’s budget assumes that restrictions will be eased gradually, to be accompanied by an improvement in confidence and labor market conditions. The unemployment rate is forecast to peak at 8 percent in the December quarter due to internal and national border closures, before falling to 6.5 percent in the June quarter of 2022.
GDP growth is forecast to be -1.5 percent in 2020–21 and 4.75 percent in 2021–22. Under the downside scenario, in which further outbreaks occur, it is forecast to be -2.5 percent and 3.75 percent respectively. Under the upside scenario, in which an earlier vaccine is rolled out, 2021–22 growth is forecast to be 6.25 percent.
The underlying cash balance in 2020–21 is expected to be a deficit of AU$213.7 billion. This represents 11% of GDP, which is much higher than the 4.2 percent peak during the GFC. In contrast, the U.S. deficit is proportionally higher at 15.2 percent. The budget position is expected to improve across the forward estimates to a deficit of AU$66.9 billion in 2023–24 and to further improve over the medium term to a deficit of AU$49.5 billion.
The household sector is key to the Australian recovery. The government’s fiscal efforts are heavily focused on maintaining employment and incomes. The recovery is expected to be broadly based, albeit with restrictions and uncertainty still affecting sectors such as entertainment, recreation, and hospitality.
The household saving ratio spiked in the June quarter and is expected to provide support for consumer spending as confidence improves. How much consumers will be prepared to spend in coming quarters is the single greatest uncertainty for the government. Fluctuations in asset prices have made it difficult for households to plan. Superannuation accounts — Australia’s mandatory retirement saving scheme — have largely recovered but further volatility is expected.
The government is betting heavily on a rebound in confidence. Household consumption and dwelling investment are each forecast to rise 7 percent in 2021–22, and total business investment is forecast to grow by 6 percent. Wage growth is forecast to be 1.5 percent. On the business side of the economy the government is banking on its instant asset write-off policy. Business liaison suggested this policy was effective in supporting business investment through the June quarter, and this budget has enhanced it significantly.
The overall path of recovery will be heavily dependent on Australia’s trading partners, including China, which is assumed to grow by 1.75 percent in 2020 and reach an 8 percent growth rate in 2021. The U.S. economy is forecast to contract by 5.5 percent in 2020 and grow by 2.25 percent in 2021.
State border restrictions are assumed to be lifted by the end of 2020, except for Western Australia, which is assumed to open from 1 April 2021. A gradual return of international students and permanent migrants is assumed through the latter part of 2021. Net overseas migration (NOM) is significantly affected by international travel restrictions and weaker labour markets domestically and globally. It is assumed to fall from around 154,000 persons in 2019–20 to be around -72,000 persons by the end of 2020–21, before gradually increasing to around 201,000 persons in 2023–24.
All in all, these are very generous assumptions. Given the considerable uncertainty, which will likely plague household finances through to the second half of 2021, it is difficult to imagine consumers will be opening their wallets any time soon. Households are saving more of what they earn, even as they earn less, and this will continue at least until a vaccination program is launched and underway. Add to this the political dimension, namely the policy intransigence of the Victorian government, and you have even greater potential for the downside scenario to emerge.
This was an interesting budget, not just for what it reveals about the state of the books, but for what it tells us about the government’s framing of the recovery. It is not being nearly as realistic as it could be. This is a budget built on pure hope that will almost certainly require further revisions that will take us deeper into the red. Yet at least the broad path to recovery is now clear and we have something to work with. As a Victorian I desperately hope we can move quickly out of lockdown and get the economy back on track.