Ideas@TheCentre
Tough talking budgets
The government has once again flagged the need for a tough federal budget. But the stated rationale for expenditure restraint has little to do with a thorough evaluation of the government's spending priorities. Instead, we are told restraint is needed because of a forecast reduction in revenues and a budget surplus timetable that is driven more by politics than economics.
The May budget has become not much more than a housekeeping document tacked on to the appropriation bills. The political process then wastes enormous energy debating the economic and other assumptions underpinning the forecast budget bottom line at the expense of the substance of the tax and expenditure programs that go into it.
The economic and fiscal forecasts in the budget are good only until the next big policy announcement or change in economic parameters. They are at best a snapshot of the government's fiscal position and should be discounted as such.
The actual change in the budget balance is often very different from the forecast change. While the Howard government was criticised for some big spending budgets, actual budget outcomes were often significantly tighter than forecast outcomes.
The actual budget outcome, when it is finally released, is usually little reported. If the forecast for the budget balance is so important, surely the budget outcome warrants just as much attention?
A good indicator of the macroeconomic importance of the budget is the reaction of financial markets on budget night. More often than not, the market reaction is minimal, highlighting the irrelevance of the change in the budget balance to economic growth and macro variables such as interest rates.
The real economic significance of the budget is its microeconomic implications: how tax and expenditure policies influence incentives to work, save and invest. Tax and spending policies should be evaluated based on the incentives they create, for better or worse.
For example, the government expended considerable political capital on its flood levy, even though it makes little economic difference whether flood reconstruction is funded out of present or future taxes.
The more important issue was whether the government was making sound spending decisions on flood reconstruction and how overall government spending should be reprioritised given the fiscal implications of the disaster.
The government also chose to cut a number of spending programs to help improve the budget bottom line, yet it is remarkable that it took a natural disaster and a threatened deterioration in the budget balance to get the government to review programs such as cash for clunkers that should never have been implemented on microeconomic grounds.
The budget is driven by a top-down process of fitting spending to available revenue and politically determined budget targets rather than a proper evaluation of individual program costs and benefits.
Dr Stephen Kirchner is a Research Fellow at The Centre for Independent Studies. His policy monograph Why Does Government Grow? was released by the CIS this week. Click here to watch Stephen discussing his report.
