Election 2024: Debt servicing

 

This blog takes a closer look at debt servicing costs which increasingly is becoming a crucial matter for service delivering government(s) afraid to raise more revenue lest voters shy away.

One of the government’s key targets of its Fiscal Strategy is to keep a lid on debt servicing costs including the costs of its defined benefits (DB) superannuation scheme. The target is 6 per cent of government revenue. In other words, these costs should be less that 6 per cent of revenue. It’s one measure of budget sustainability that’s about to be breached.

The following table is from the 2023/24 Revised Estimates Report issued 14^th February updating the government’s 23/24 Budget.

 

 

The current year 23/24 will be the last year when the target will be satisfied. Likely increases of between 0.5% and 1.0% thereafter will slowly choke the Budget and lessen the amounts available to fund already stretched services.

The expected growth in DB payments is best seen from one of the charts from the 2023/24 Budget:

 

DB costs will keep increasing at the current rate of $10 million to $15 million pa before peaking in 2035 at around $500 million pa. Over the ensuing 50 years the annual cost will gradually decline to zero as baby boomers and their eligible dependents fall off their perches.

The costs of DB super were always going to come under the limit of 6 per cent of annual receipts but it is the new kid on the block, interest on general government debt, which is starting to cause havoc. As the table shows general borrowing costs will quadruple over the 4 year period to 2026/27. With continuing fiscal balances all but certain, there will be no respite. What will stop the bleeding? More revenue? Lower interest rates? A change of government? Praying?

There is still widespread misunderstanding how the DB scheme works. Employees contribute an agreed amount, a % of their salary. The government as employer contributes whatever is needed to pay any defined benefit which may be a lump sum or a lifetime pension.

As a very rough general rule the government/employer contribution approximates 15 per cent of a DB member’s salary.

Government DB schemes have always been permitted to fund payments on an emerging costs basis, that is when the liability to pay a benefit arises, usually when a member leaves, retires, or dies.

In 1992 the Superannuation Guarantee Levy (SGL) started requiring employers to pay 3 per cent of employees’ wages into a superannuation fund. The SGL is now 10.5 per cent. In the case of DB members the SGL wasn’t an extra impost for employers The SGL became part of the contributions which DB employers had to pay anyway.

The result has been the State government hasn’t even been setting aside the SGL contribution component for DB members. This has given governments of both persuasions a huge cash flow advantage. Taking advantage of being able to fund employer contributions on an emerging cost basis and use that money for other purposes instead of borrowing has been the choice of all governments in the past 30 years.

The Labor government prior to 30^th June 2012 had a policy of appropriating money each year supposedly to set aside funds to meet future super liabilities. But there was never any surplus cash. It was an account with no cash backing. Instead, there was an offsetting liability account termed the ‘Temporary Debt Repayment A/c’ which was needed to keep the books in balance. It was a classic Clayton’s account.

In 2012 the Labor government abandoned the attempt to set aside any cash. The Liberals have continued the same pattern.

In this current year 2023/24 the employer cost for DB members, roughly 25 per cent of the workforce (my estimate) is about $75 million. Were they members of an accumulation fund the government would have to set aside 10.5 per cent of their salaries, or around $60 million. It sets aside nothing. 

Had it set aside the employers' current service cost for DB members over the 9 years to 2022/23 the amount would have been $1,221 million as per the following table:

                       

But the chickens come home to roost at some stage. Which they are now doing in flocks. To pay emerging benefits the only alternative is for the government to borrow.

It’s always a little galling to hear the Liberals smugly proclaim how responsible they are, for example this from the Premier’s 14^th Feb election announcement:

Never forget - under the Labor-Green minority Government………the $1.5 billion superannuation fund was raided….”

The fund was never raided. There was never any cash there in the first place. The Labor government tried for a while to window dress but there was never any available cash. Just a heap of worthless IOUs which were thrown in the bin in 2012.The Liberals continue with the same approach as Labor, paying DB benefits on an emerging cost basis, and not setting aside any amounts or pretending to do so as Labor did until 2012.

Unfortunately, that now means borrowing every year to do. This year the extra borrowings needed are estimated to be $352 million.  Borrowing will peak at $500 million pa in 10 years’ time. Just to pay retiring baby boomers. But it’s not as if they haven’t had 30 years warning.

Misrepresenting the true state of our predicament helps build even larger obstacles. If people don’t understand what’s happened and parties are willing to nurture ignorance for political purposes, then our hopes of charting a way forward becomes even harder.

The increasing share of receipts being devoted to debt servicing is an immense challenge, one which election candidates are yet to address.

For a long time the cash flow advantages of not having to even set aside SGL amounts for DB members has hidden the reality that the emerging cost of DB super would be felt at some stage. It’s now happened at a time when the fiscal position is under pressure from all directions.

The next blog will have a closer look at the revenue side particularly our own source revenue.