Debt deficits and the State Budget

The preoccupation with debt and deficits that afflicted much of the discussion about the Federal Budget has carried over into the discussion following the Tasmanian State Budget.

The doctrine of surpluses being good and deficits bad as adopted by both major political parties and spruiked by 95% of the main stream media means that as we are forced  from deficits to surpluses as soon as politically possible, notwithstanding any adverse economic consequences that will almost certainly widen the output gap caused by unemployed labour and capital,  each budget will be contractionary relative to its predecessor and when Government surpluses eventuate the iron law of sectoral balances means the private sector (including the overseas sector) will inevitably be in deficit.

That’s the backdrop to the Tasmanian economy as it attempts to move forward.

The surplus cheerleaders conveniently overlook the fact that public surpluses imply private deficits.

With Tasmanian Gross State Product  estimated to contract by 0.75% during 2012/13 the economy is a bit shaky.

Yet we are being asked by Opposition Liberals to believe they can move to surpluses and grow the Tasmanian economy simultaneously.

How?

With a wave of the wand by the confidence fairy?

By the Government getting out of the way of the more productive private sector? And the old crowding out thesis doesn’t hold when there’s underutilised resources.

Someone has to run a deficit else nothing will happen.

The Federal Government is not constrained in the same way as is the State Government. Comparing the Federal Government to a household is simplistic nonsense. It is not revenue constrained and can ‘print’ money if needed (although the long term effects of this latter action is thought by some to be inflationary).

The State Government however, can’t print money and although it is not revenue constrained in theory, in practice it has become that way as it constantly erodes its tax base as evidenced by the latest changes to the payroll tax threshold.

Tasmania has elected to become a cork in the ocean, at the mercy of the elements. Batten down the hatches, reef the sails and pray.

There is no other plan. The Government has been timid in revealing the true state of affairs and reluctant to frighten the horses too much.

But it’s a path to nowhere in particular.

The headline deficit of $426 million in 2012/13 followed by $264 million in 2013/14 and $165 million in 2014/15 will drain away most of the State’s remaining cash.

It is perhaps worth noting at this stage that a crucial difference between Federal and State Budgets is the headline Budget outcome measures used in both jurisdictions.

When the State uses the term surplus or deficit, it refers to the Net Operating Balance or the bottom line in the profit and loss statement. It’s a P&L figure which includes book entries for depreciation and nominal interest on the superannuation liability and which excludes, needless to say, amounts spent on all important capital items such as plant equipment and infrastructure.

When the Feds use the term ‘deficit’ it’s actually a figure from the Cash Flow Statement.  It includes capital amounts spent. It’s the net cash remaining after all operating outlays and purchases of plant, infrastructure etc (in other words before loan repayments and/or new loans) .

The headline figure in the recent Federal Budget was $18 billion deficit for 2013/14.

The Fed figure is a much more realistic measure of sustainability especially for a Government like Tasmania which as presently structured, is essentially a cash in/cash out operation  (see here and here) with few borrowing (excluding GBE borrowings) because it simply hasn’t a robust enough cash flow to be able to service loans of any size.

Currently the borrowings of the General Government are about $200 million owing to the Feds (apart from temporary borrowings every June to repay amounts ‘internally borrowed’ for working capital from  deposits earmarked for specific purposes).

If one calculates the State’s deficits in the same way as the Feds, the deficits are $421 million (compared to $426 million) in 2012/13, $202 million ($267 million) in 2013/14 and only $5 million ($165 million) in 2014/15.

The last 2 years of the forward estimates show small surpluses but the projections are at best guesses. Every year since 2009 has seen forward projections for the GST pool reduce and Tasmania’s % seems a little optimistic in the current climate with WA expecting falls in mineral royalties which will inevitably lead to its 2014/15 projected % share rising from an incredibly low of 35% as compared to its share calculated on a per capita basis.

Only NSW at 98% and Victoria at 89% are estimated to get less than a per capita entitlement in 2014/15. Tasmania’s projected entitlement is 170% in 2014/15.

So we have a situation where the best case scenario for 2014/15, in two years’ time, is for the cash deficit to be $5 million.

Let’s call it break even.

But were the Government required to set aside superannuation for members of the old defined benefit scheme, rather than defer and pay the unfunded amounts at retirement, it will not be able to do so without borrowing money.

That’s hardly a mark of sustainability.

In 2 years time the net debt will be $229 million. That will roughly equal its only borrowing owing (to the Feds), which therefore implies that  all the other cash will have been internally borrowed and spent (about $700 million) and there’ll probably be a line of credit with Tascorp for a further $50 to $100 million.That will be the extent of the extra borrowing on current indications although the Premier hasn't explicitly said as much.

Included in the amount internally borrowed and spent will be the $200 million Risk Management a/c (the State is largely a self insurer) and the amounts that the Feds have paid in advance for capital works such as the Royal Hobart Hospital (RHH) redevelopment and the Railyard redevelopment.

Finding those amounts from cash flow, in other words repaying the internal borrowings so the amounts can be used for their intended purpose, will be a struggle, especially the RHH  amount(s) which will probably be a sizable lump(s).

An amount of $2o0 million or so is not a huge amount of debt by any means especially as most will be the debt due to the Feds with generous repayment terms.

However there is only enough cash to pay for operating and new plant and infrastructure costs and none left over to service any new loans. That is why the Premier has resisted venturing into that territory.

There is much crowing about the low level of net Government debt compared to other States. The figure of $400 per capita has been bandied about compared to $4,000 in Victoria.

It’s true.

But it is awfully misleading.

First it ignores liabilities such as the unfunded superannuation liability and second it conveniently sidesteps all the borrowings in its wholly owned subsidiaries, the GBEs and SOCs (State Owned Corporations).

Were they included the net financial liabilities per capita for the total State sector (departments and GBE/SOCs) was $21,609 based on 2012 figures. The lowest was Victoria at $12,588 per capita and the highest NT at $30,156 per capita.

Not that the level of debt or financial liabilities is of critical importance. More important is being able to service the debt/liabilities, to meet repayments as and when they fall due.

The government deficit and the net debt figure are two of the Government’s fiscal strategies, but in both cases the chances of meeting the targets in the next few years appears remote.

It’s time the Government adopted simpler more realistic and more easily understood measures that will help get people on board to understand where we are and what challenges we face.

Without community support progress in the future will be difficult. That’s been painfully obvious as other industries have tried to restructure.

Another fiscal strategy is to spend more on new plant and infrastructure than the existing stuff is losing value, but that is little more than a belief in motherhood being necessary to save the species.

Paradoxically spending less than the budget amount in 2012/13 on new plant and infrastructure and injections into GBEs helped save the cash deficit this year, as $150 million less than the budgeted figure was outlaid ($339 million compared to $489 million in the Budget). Good for the cash bottom line maybe but new capital spending  can’t be deferred forever, especially something of that magnitude.

It’s really quite simple. We get a certain amount of cash each year. We could get more if the Government were prepared to raise  taxes or alter tax bases. Roughly 85% needs to be spent on operating, 5% paying unfunded pensions and benefit payments (usually included as operating expenses even tho’ it relates to past periods), 5% to spend on new plant and infrastructure and 5% for a rainy day, or to service future borrowings to give the Budget a little more flexibility.

Most people would readily accept that situation. The State budgetary situation has similarities with a household.

Instead we have mindless public discussion by pollies and the MSM who have no understanding of the terms they use: debt, net liabilities, net operating balances, fiscal deficits... the list is endless.

We get no understanding of the context of the Budget, apart from how the GFC ripped $1.8 billion in revenues from the state and the AUD$ is too high. Nothing about the crucial state of the Fed’s situation and how its decisions may impact upon the State.

For it is the Feds who exercise most control over the direction of the State from a budgetary viewpoint, certainly from a revenue viewpoint. The State’s role is limited and should be recognised as such. Politicians need to be more truthful.

The State needs to get its own house in order. We get extra from the Feds by way of horizontal fiscal equalisation(HFE) so that we can provide similar services to other States. How come we aren’t delivering? Or are we? Please tell us. Do our Government services cost more or less to deliver than that implied by the HFE formulae?

The Opposition judging by its glossy alternative Budget last year  (see  here) only exacerbate the problem with claims that all that is needed is to grow the economy, without bothering to tell us how. The cornerstone of their Road to Recovery last year was to withhold the $110 million from Forestry Tasmania and spend it on a few other things. It wasn’t a line by line plan as the Shadow Treasurer claimed when speaking to both Airlie Ward (ABC 7.30 Report) and Leon Compton (ABC morning radio) on Friday. It was a truncated P&L Statement. Any remedial schoolboy with a couple of Excel lessons  could have produced it. No cash flow statement. No balance sheet. No plugging in the figures to test whether their plagiarised fiscal strategies were remotely achievable. It’s as if the fiscal strategies were detached from the budgetary process instead of being an integral part. They mimicked the Government’s approach where the strategies are of little consequence. Plan A Pete should be to test your plan (is it still a roadmap?) against your strategies.

The Shadow Treasurer was at it again with Leon Compton, going on about how Mr Bartlett spent all the $1.5 billion set aside to pay future unfunded superannuation.

The cash was never ever there. Whatever had been notionally set aside was always internally borrowed and spent. The Temporary Debt Repayment account always exceeded the amount set aside for future super. The Super Provision a/c was a Claytons account. See here.

The Shadow Treasurer either doesn’t understand or he’s happy to deceive.

Maybe both?

Either way it’s not good news for the State.

Little wonder the undecided vote in the recent EMRS poll rose to 30%.

When we look around the world our problems pale into insignificance. They can be easily be solved by a bit more transparency, understanding and a little less unsubstantiated nonsense.