My young son is starting to learn his left and rights, but occasionally confuses the two; it appears that the Treasurer still struggles with this concept, for last night the right-wing Politician delivered a decidedly left-wing Budget. It represents the continuation of a shift in ideology for the Coalition – from the demonisation of debt and deficit while typically preferring austerity, towards a recovery-through-growth approach.

The Treasurer no longer targets a ‘balanced budget’ – where spending equals receipts – with the rhetoric now about targeting stable government debt as a share of the economy (GDP) and a tax burden of 23.9% of GDP or lower. The result will be higher government spending and a larger role for the public sector in the provision services for many years to come.

The Debt-to-GDP approach brings Australia into line with other Developed Economies, enabling the Government to use fiscal policy to manage the economic cycle. In the absence of a return to pre-pandemic levels of migration and tourism, Australia will operate as a ‘Hermit Kingdom’ (closed economy) and additional fiscal spending will be needed to drive unemployment down below the targeted 4.5% level.

The good news for the Government’s approach is the astounding rise in iron ore, and other commodity prices, which has helped deliver an additional $36 billion in receipts in FY2021. The quicker-than-expected reopening of the domestic economy has also reduced the reliance on JobSeeker and JobKeeper packages, leading to an underspend of $17 billion. The net impact is a smaller (but still eyewatering) budget deficit of $161 billion – a little over $50 billion lower than forecast in October last year. Note, the peak deficit in the Global Financial Crisis (GFC) was three times smaller at $54 billion.

In response to higher forecast receipts, the Government has (predictably) increased spending over the forward estimates by $20-25 billion per year, through initiatives targeted at aged care, childcare, apprentice training and healthcare. It is important to distinguish this type of spending from the JobKeeper-style stimulus, as there will be no ‘snap-back’ and Australia will instead have a permanent structural increase in Government spending.

Against substantial structural spending increases, there are significant revenue headwinds ahead. We agree with the Government’s forward estimates for iron ore (USD$55 vs current USD$230) and view this as a significant national income headwind for the economy. This will be compounded by zero immigration growth which was previously 2% and instrumental in feeding household formation. GST receipts have benefited from the domestic boom, but how many gaming screens and TVs can a household buy! We are somewhat jaundiced in our outlook for spending and the profile for domestic private demand. There are no ‘free lunches’, and here the burden is looking like being carried by savers (through higher inflation and erosion of their savings) and mid to high-income earners (who pay a disproportionate share of tax through both rate and bracket creep).

The Budget contains a fair amount of politically motivated spending (when do they not…). The Government has experienced a difficult few months as the delayed vaccination program, sexual misconduct issues and the Royal Commission into Aged Care have shifted attention away from the strength of the economic recovery.

The need for further fiscal stimulus to secure a post-pandemic recovery provides the perfect cover for the Government to address their political weak points and stymie the Opposition ahead of next year’s election. The Budget has significantly increased spending on health (mental and NDIS), training, welfare, and childcare – traditional Labor policies. Some policies, like the childcare subsidy, are deliberately structured to avoid benefits flowing to higher-income families and will make it difficult for the Opposition to differentiate itself ahead of the election.

In response to October’s Budget, we stated that its success would be judged on two criteria:
— First, the avoidance of a rise in the number of long-term unemployed workers, and
— Second, a return to pre-crisis growth rates through improved economic productivity.

These criteria remain as true today as they did following the 2020 Budget. So far, the two budgets delivered by the Government since the beginning of the pandemic appear to be on track to achieve the first goal with the unemployment rate of 5.6% only 0.4% above pre-pandemic levels.

Long-term, the country’s economic prosperity and the Government’s ability to repair the Budget relies on achieving the second goal. In our opinion, this will require sustained fiscal stimulus and a higher tolerance for inflation. History has shown (see Japan) that Governments have been inclined to reduce fiscal stimulus too early, rather than too late, and we believe this risk remains in Australia.

As partners in your investment journey, we monitor, examine and navigate change. The Federal Budget is one such factor in our highly considered investment strategy and wealth management process.

This article is one part of our 2021 Budget series. To read more of our Budget commentary, click the links below:

• Individuals and Families

• Small and Medium Business

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