Time for economic reform
By Nico Louw
First published in the MRC’s Watercooler newsletter. Sign up to our mailing list to receive Watercooler directly in your inbox.
The Albanese Government’s second term economic reform ambitions did not last long.
The Sunday morning after the election, Jim Chalmers proclaimed that Labor’s second term would be about addressing Australia’s productivity malaise. He told the ABC: “The best way to think about the difference between our first term and the second term … [is] the first term was primarily inflation without forgetting productivity, the second term will be primarily productivity without forgetting inflation.”
As our recent report highlights, addressing productivity growth is vital to improving living standards and building a stronger economy, so Chalmers' new found focus was welcome. Unfortunately, it didn’t last the week.
By Friday, Chalmers had told the AFR that, actually, fixing productivity would require a third term. Talk about kicking the can down the road.
While there are many different paths to economic and productivity reform, one thing is clear: the status quo isn’t working. Government spending is growing at a rate faster than the economy and labour productivity has collapsed after a decade of stagnant growth.
To confront the challenges ahead, including potential economic decoupling, tariff and trade wars and the move of autocracies towards establishing ‘war economies’, it has never been more important for Australia to find ways to improve productivity and become a stronger economy.
The big challenges Australia faced during the last three years still remain. We cannot keep kicking the can down the road.
Energy prices are too high and the impact on consumers will only get worse when Government subsidies expire at the end of this year. The Government’s plan is just more of the same and it wouldn’t be surprising to see subsidies extended yet again.
In contrast, just this week we saw Belgium and Serbia recognise the need to change course, with both countries ending long-lasting moratoriums on nuclear energy. This follows similar recent decisions in Italy and Switzerland. Denmark has announced it is considering the same. In the week before the election, former UK Labour PM Tony Blair said phasing out fossil fuels is ‘doomed to fail’ and called for the international embrace of nuclear power.
Our defence spending is too low. This is not an economic challenge per se, but it is a serious issue and any increase needs to be paid for. Faced with a rapidly worsening geopolitical environment, many of our allies have taken the necessary steps to increase defence spending, recognising that investment needs to happen now to address future threats. In the fortnight before the election, Germany changed its constitution to remove the borrowing limit for defence spending. This week, it backed a US request for NATO to increase defence spending to 5 per cent of GDP.
Meanwhile, the design of our income tax system hides the true state of the Budget. Unlike many OECD countries, Australia does not index income tax thresholds. This results in bracket creep, where workers pay higher average tax rates as their incomes increase, including due to inflation. As a result, our tax system has become locked in a political cycle where the average tax rate paid by Australian workers increases every year until a (usually Coalition) Government steps in with tax cuts designed to reduce average tax rates to a more acceptable level.
The Budget projections, however, do not recognise this reality. Instead, they assume that tax thresholds remain unchanged and taxes continue to increase. This allows the Government to make big spending commitments without being transparent about what it means for the Budget. Parliamentary Budget Office analysis of last year’s Budget shows that, if tax thresholds were indexed to inflation to (mostly) eliminate bracket creep, the Budget would never return to surplus. Returning all bracket creep would make the Budget look even worse.
Budget balance as a per cent of GDP, Parliamentary Budget Office
Instead of addressing these and other significant economic challenges, the Government’s two most urgent priorities are a one-off cut to existing HECS debts and imposing a new tax on unrealised capital gains. The former rewards those who need it least for decisions they have already taken; the latter is a $5.5 billion tax grab on wealth before it’s been created.
Having avoided a hung Parliament that would have stymied reform, the Albanese Government now faces a choice. They find themselves in the unexpected position of holding a significant majority and, more importantly, facing a Senate where they are highly likely to be able to bypass the crossbench entirely and pass legislation with one of either the Coalition or the Greens.
So, do they continue to choose the safe option of small-target policies and incremental change, or do they finally cut out the Greens once and for all and work with the Coalition to enact real economic reforms — exactly as occurred during the Hawke-Keating era they apparently seek to emulate?
The latter approach is not without risk. The Government could keep kicking the can down the road and promise that real reform will actually come in the third term they assume is already won. But this would beg the question — if nothing changes when you hold a 15+ seat majority, what is the point of the Albanese Government?