Below trend growth to continue
NAB Group Chief Economist Alan Oster outlines the key features of Joe Hockey’s 2014 Federal Budget announcement and analyses how it may impact Australia’s economic outlook and financial markets.
NAB Group Chief Economist Alan Oster provides his overview of the 2014 Federal Budget – including what it means for Australia’s economic outlook and how it could affect financial markets.
The 2014 Federal Budget should really be seen as a re-ordering of Budget priorities to fund significant new outlays proposed for years to come – including National Disabilities, Gonski education reforms and Paid Parental Leave commitments – and at the same time put the Budget on a more robust path to balance. With net debt to GDP of around 17% this was never a Budget in crisis – although some medium term challenges had to be addressed. The Government has opted to spread the pain and start straight away.
Much of that pain has been well signalled. That included tightening eligibility criteria for family tax benefits and eligibility rules for unemployment benefits; increased cuts to public sector employment (from 12,000 to 16,500); the merger/abolition of 70 public entities and more privatisation; a deficit tax levy of 2% for those paid more than $180k per year (for three years); cuts to industry assistance programs worth $850m; resumption of petrol indexation (with the proceeds put to road funding); and medical co-payments of $7 per visit (to set up a new medical services future fund); large cuts to hospital payments; and university fee liberalisation (which will increase the cost of some courses). In the longer run, from 2018 Gonski funding will be replaced by an indexation of education funding; the pension age will be raised to 70 years effective from 2035; and the pension assets test will not be indexed for a number of years.
Over the next three years the measures represent significant savings (around $15 billion) – with most of the work done on the revenue side. Effectively our estimates suggest that the Government, in a structural sense, is taking around 0.5% out of growth in each year in the forward estimates. While the tax rises and petrol tax increases are not enough to seriously impact growth, they together with significant transfer cuts, could well have more important effects on confidence.
On the Budget forecasts, NAB is more optimistic on growth (NAB 3% Govt 2.5% in 2014-15). We are more cautious on domestic demand, reflecting a view that public sector demand and/or consumption might be hit harder by Budget announcements. That said, the Government sees unemployment peaking at the same rate as NAB, but staying at that rate longer (all of 2015-16). The Government also anticipates a faster terms of trade fall and, consequently, lower nominal GDP growth. Overall, we see the forecasts as unlikely to overstate the fiscal outcome and indeed they appear marginally conservative.
Clearly this Budget has lots of politics. This is where the main uncertainties will emerge. How many of the measures announced will get through the Parliament and how will consumer and business confidence be affected?
The underlying cash deficit for 2013-14 is estimated at $49.9 billion (3.1% of GDP). The Budget maintains large but shrinking deficits of $29.8 billion in 2014-15, $17.1 billion in 2015-16, and $10.6 billion in 2016-17. The Government has set an objective to return the Budget to 1% of GDP over the medium-term.
The Government’s economic outlook is softer than recent RBA forecasts, and slightly softer than NAB’s forecasts for 2014-15 (NAB is weaker in 2015-16). In 2014-15, the government has forecast real GDP growth of 2.5% (compared with NAB’s 3.1%), reflecting a smaller trade balance that more than offsets its stronger expectation for domestic demand. In 2015-16, the Government’s forecast is a little stronger (3% compared to NAB’s 2.7%) due to an anticipated improvement in domestic demand (NAB is forecasting a further slowing, led by a contraction in mining investment). The Government expects unemployment to rise to around 6.25% by mid 2015, while NAB expects it to peak sooner (at a similar level), before easing to around 6%.
The Government, RBA and NAB share very similar views on the outlook for underlying inflation, although the RBA sees larger price pressures in the near term. Each expects inflation to remain well within the RBA’s 2-3% target band over the forecast horizon. The structural adjustment occurring in the economy at present remains a real risk to the outlook. Nothing in the Budget changes our view that rates are on hold until late 2015.
Beyond the economic/fiscal outlook, the Budget was regarded as ‘credit positive’ by Moody’s Investors Service, and supportive of Australia’s AAA rating. The market reaction to the Budget was positive, with the $A quickly rising ½ a cent to under 0.938, before retracing. Despite all the concern in the lead up, most measures were well flagged, with no real negative surprises. Overall, the market sees the Budget as a good start towards addressing the looming structural pressures facing government finances.
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