Thursday, 5 May 2016

Budget: A wish or a plan?

(As published in The Mercury 5th May 2016)
It’s difficult to detect an economic plan underpinning the Turnbull government’s budget.

It’s a hotchpotch of measures ostensibly designed to fix the tax system, to  target jobs and growth and maybe even win an election, not necessarily in that order, all bundled together with the usual narrative of living within our means, balancing the budget and reducing the burden of long term debt.

Smokers will be hit with more tax than multinationals. Reform of the tax system is off to a shaky start.

Jobs and growth rely on increasing aggregate demand, the missing ingredient in our sluggish economy. Without measures to address this problem the target of jobs and growth becomes a wish rather than a plan.

The major change to the tax system is a commitment to reduce the company tax rate to 25% over ten years. The jury is still out on whether reduced company taxes will lead to more jobs and growth.

The populist view as enunciated by Treasurer Morrison is that a country can’t tax its way to prosperity. This sidesteps the reality that taxes may be spent on a greater public good and company taxes are eventually refunded anyway, partially at least, via the imputation system when dividends are paid to resident shareholders.

This brings us to the point that foreign shareholders, who don’t benefit from our imputation system, will be winners from a reduction in company tax.

Small companies will get the benefits of lower taxes before big companies. This is a smart move as a lot of big companies have been identified as contributing less than their fair share.

As local companies pay less, multinational companies hopefully will pay more. Maybe the twain shall meet in the next ten years. As the reality of what big multinational companies actually do becomes more widely understood, governments might have to act sooner. It’s not as hard as we’re told. It’s easy to remove the benefits of debt loading, the practice of loading up a local subsidiary with debt so that interest is payable to an associate in a tax haven. It’s also easy to stop income alienation, the practice of allowing deductions for inflated amounts on items like royalties say which end up in tax havens. Where there’s a will, the way will be easy.

As already announced the government will leave negative gearing untouched. The tax deductibility of rental losses against salary income is one aspect but it’s the 50% capital gains discount on investment property sales that is the main attraction. There’s no point making a loss even if subsidised if there’s no offsetting gain at the end of the day. The CGT discount allows wage and salary earners to convert and defer tax on earned income to a concessionally taxed capital gain. It is beyond reason that tax on speculative gains from buying and selling existing assets as practiced by most property investors should be less than tax on income from personal exertion. That is what a continuation of the negative gearing concessions means.

Providing a chance to get ahead is Prime Minister Turnbull’s latest rationale for negative gearing, something he picked up on the outskirts of Damascus. The government’s plan resembles a leaf out of Mr Turnbull’s biography. What works for an individual doesn’t necessarily work for the economy. Encourage start-ups like internet start-up Ozemail. Make a huge concessionally taxed capital gain. Use negative gearing to assist with the acquisition of six properties. Park surplus investment funds in the Cayman Islands. Of course it works for individuals. But it suffers from the fallacy of composition. If everyone did the same it would not. Like saving. If we all saved and didn’t spend then the economy would not work.

We often used to hear about Australia’s two speed economy, the mining and non-mining states. A more significant dichotomy exists between the real economy where real goods and services are sold and the financial economy which whilst providing some services to the real economy increasingly is preoccupied with stripping income out of the real economy for its own benefit. It does this in various ways one of which, as we have seen, is the propping up of the trade in existing residential property by underwriting prices in the market. Making as much money as possible ordinarily may be acceptable, but if it results in distortions, it will have ripple effects throughout the economy, affecting where people live, roads and public infrastructure decisions, whether mothers have to return to work earlier than otherwise, childcare costs. The list is endless.

Let’s not forget the huge level of private debt that has resulted. It’s probably a mistake to talk about a ripple effect, it’s more like a tidal wave.  It is this level of private debt that inhibits spending which in turn affects aggregate demand which is the precursor to jobs and growth. Yet it has been ignored. No mention whatsoever in the budget. Keep the banks happy.

The preoccupation with the diminutive, in comparison, public debt still gets plenty of space in the budget papers. Yet the debt service costs are only 4% of operating outlays so there’s no problem. At least the debt and deficit disaster mantra has been shifted from page one.

It’s a pity the same treatment wasn’t given to comparisons of receipts and expenditure as a percentage of GDP by the two sides of politics during their tenures. The most important issue should be to fully utilise our resources particularly labour not quibbling over a self imposed budget constraint plucked out of thin air. Why 25% of GDP? It’s an arbitrary figure. And why would it matter if debt servicing costs were 6% or 8%?

As the budget moves towards surplus each budget will be more contractionary than its predecessor. When a surplus is reached the private sector will have no alternative but to increase its borrowings. Will it do so? Or will it still be restricted by the current private debt tourniquet which governments don’t mention.

Government debt is always someone else’s asset. Debt service costs are income in someone’s hands. It’s not a burden, rather a splitting of the pie. Splitting the pie to maximise economic and equity outcomes is the fundamental raison d’etre for sensible public policy.

Is that task beyond us?

Never has anyone wasted so much political capital as Mr Turnbull has since his ascension. The budget, if ever it was intended as a plan for the future, is another missed opportunity.

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