Don’t be misled by large government spending and tax cut announcements in tonight’s budget. The Howard government is still mercantilist: it believes government finances are better off for having large under-used savings called surpluses.
Mercantilism is the practice of building up foreign reserves by inhibiting imports and encouraging exports. Its supporters enjoy the security of horded resources but they inhibit growth. A similar philosophy is inherent in Peter Costello’s announcement of his “D-Day”, April 21, when the government had no net debt. To achieve that, the government had to accumulate nearly $100 billion in cash and deposits since 1996.
But this is not enough. The government is now building up its future fund with an $18 billion injection last week. Costello expects it will eventually have $140 billion – funded from budget surpluses, asset sales and earnings – to meet all current and future commonwealth superannuation liabilities existing in 2020.
Government savings have clearly been required in light of strong economic and revenue growth. That is what the treasurer means when he says that the budget should be in balance (neither in deficit nor surplus) over the economic cycle.
But now that Australia’s growth cycle has entered its second decade, what is the point of further large under-used savings? Meeting all of the government’s debt – debt which took four decades to accumulate – should be sufficient to achieve a balance over the cycle.
The macro-economic justification of further large surpluses is slight because the government intends to inject these surpluses back into the economy through the future fund. The micro-economic policy of funding superannuation liabilities is also a weak policy. Advisers argued in the 1980s that the government could comfortably meet emerging superannuation liabilities on a pay-as-as-you-go basis, as it had always done. Moreover, there were better things to do than establish a government fund to invest in private sector financial instruments or bonds.
Costello holds the contrary view. He is not seized by the biblical injunction, “sufficient for the day the trouble thereof”, so present needs are subservient to future liabilities.
Tonight’s budget figures will quantify only a part of the cost of the future fund. Opportunity costs will be ignored although they are the main issue. Lost to ideology are the problems Australia is facing now. Well, they are not lost, they just remain unattended.
If you ask economists what is needed, they would not talk about funding superannuation. They would identify the effective taxation disincentives facing people on welfare who should be entering the workforce. Then there is the lamentably low investment in skilling old and young Australians. And we should not forget Australia’s under-investment in economic infrastructure and environment. Others point to the large returns available if we better cared for the needs of very young disadvantaged Australians. Their potential is being cribbed by political indifference – and the cost of that neglect will be borne in the future.
By contrast, the future fund will invest in shares and other financial instruments to give an average annual real return set by the treasurer of about five per cent. Strangely for a supposedly non-socialist government, it will mostly support private development which would have happened without government intervention.
At the same time, the government sells assets which it is reasonable and efficient for government to own – including office blocks for its staff. Indeed, the minimum nominal return set by the Department of Finance and Administration for government property is eight per cent – somewhat higher than the return expected from budget surpluses given to the future fund. Medium and high risk commonwealth government buildings require nominal returns of 10 and 12 per cent. Pity the fund cannot own government real estate.
This desire for savings has also led the government to quarantine earnings of the fund from underlying cash surpluses. The $18 billion given to the future fund last week suggests that the treasurer’s version of the surplus for 2006-07 will be understated by about $1 billion. As the fund grows, annual surpluses will be understated by more than $5 billion. Strange things happen when obsessions overrule sense.
This ability to create and publicise your own accounting concepts is one of the advantages of government. So, look out for Costello’s understated surplus figure tonight, and count the lost opportunities.