Debt levy looks less and less likely

The Commission of Audit and the government have now scared the population half to death with the prospect of expenditure cuts and tax rises. That was probably their point. whatever the Federal Budget delivers next week will be a relief and might actually lead to a rise in government support which has been battered in the last few weeks.

I remain astounded that the government can still claim a budget crisis and base their policy on the need to fix it. There are three important points we need to consider:

1. The deficit forecast is based on low growth forecasts which depress tax revenues.
2. The government continues to lump capital spending in with current spending when reporting the deficit.
3. Governments are not households and don't have to follow the same rules on borrowing.

The first point means that the deficit crisis is political. Using assumptions which suit their economic case is an old political trick.

The second and third points are related. Most governments try to balance their current spending over the economic cycle. Borrow in the bad years and repay in the good. That's a pretty safe fiscal strategy.

However all governments have the responsibility to invest in infrastructure and capital projects that aid the economy to become more productive and provide the public and merit goods needed to maintain and improve the standard of living. Such projects such as railways, the NBN and hospitals are used for years. They should be paid for by loans that are repaid by the future users, not current tax payers. 

When the capital items are taken out of the budget the deficit looks very manageable.

I will deal with the desirability of managing economic activity in a later post, but for now consider that the deficit is a tool to manage the level of activity.

All this talk of taxes and expenditure cuts is dangerous in itself. A key part of Aggregate Demand is Consumption and this relies not only on income levels but also consumer confidence. Scare the households enough and they will react instinctively to the uncertainty and save more. This will reduce consumption, a component of Aggregate Demand, and so lower the level of economic activity.

A similar argument can be made for business confidence and investment, also a component of Aggregate Demand.

Below is a link to a Guardian article where former Liberal Treasurer Peter Costello says a deficit tax won't work and the head of the Commission of Audit says it will do harm.

The Guardian article is here