Key conclusions of our analysis include:

• This budget says explicitly that Australia’s economic reconstruction after COVID-19 is to be trusted almost entirely to private business – helped along with generous tax cuts and business subsidies.
• The need to strengthen public services (like health care, child care, and higher and vocational education) is largely ignored, as is the need to preserve and strengthen income security programs (with the phase-out of JobKeeper and cuts to JobSeeker going ahead).
• Tax cuts, whether targeted at businesses or high-income households, will have little impact on actual spending and job-creation.
• The government needs a more forceful, hands-on, and sustained reconstruction plan to ensure that the economy does not get ‘stuck’ in its current state of partial recovery. That needs much more public sector leadership, vision, and funding.
• The government admits that wage growth is going to get weaker before it gets stronger – but is doing nothing about that critical problem (which will undermine consumer spending far more than tax cuts will stimulate it).

Download our full review of the 2020-21 budget below.

So the 2019-20 Commonwealth budget, tabled Tuesday evening by Treasurer Josh Frydenberg, featured another valiant prediction that fast wage growth is indeed still “just around the corner.” Despite a slowdown in wage growth in the last months of 2018, this budget simply replicates last year’s wage forecast – but delayed by one more year. Crucially, there  is no discussion justifying why Australian workers might have confidence in this year’s forecast, when the last five so widely missed the mark (and always in the same direction).

Our analysis of the 2019-20 Commonwealth budget focuses on the wages crisis facing Australian workers, and challenges the claim that cutting personal tax cuts can somehow compensate workers for the fact that their wages are not growing.

Annual wage increases generate compounding benefits for workers and their families: since each year’s raise is applied against a larger and larger base. That cannot happen with tax cuts: to the contrary, their incremental effect can only shrink over time (as tax rates get lower and lower). Moreover, tax cuts always come with a significant cost: the loss of foregone public services, income supports and infrastructure that is the inevitable consequence of government’s shrinking revenue base.

The tax cuts in this budget increase disposable incomes for workers by less than 1% (and by zero for the lowest-wage workers). In contrast, just one year of a normal wage increases delivers several times more benefits. And annual increases over three years (the term of the next government) delivers benefits dozens of times larger.

Please read and share our full analysis of the 2019-20 budget below, which explains in detail how tax cuts cannot compensate for stagnant wages. You are also invited to view and share this short video summarising the argument (prepared with the help of our colleagues at the Australia Institute).

Other thresholds don’t change. Taxpayers making over $80,000 will thus get a small saving ($6 per week at most). Those who make less, get nothing.

It’s not the most expensive tax cut in the budget. It will cost an estimated $800 million in the first year – barely half the $1.5 billion lost annually by cancelling the deficit repair levy on incomes over $180,000, and far less than the ultimate cost of Morrison’s company tax cuts. But it is the most transparent and easy to understand of all the budget’s tax measures. And it will spark the most gossip around the water-cooler. Who makes over $80,000 per year, anyway? And who makes less? It’s hard to imagine a more “us versus them” tax policy.

The Treasurer’s own rhetoric reinforces this schism: he says it will “reward hard working Australians,” encourage them to work overtime, take more shifts, and accept a promotion. The clear implication is that people making less than $80,000 are not interested in working more hours or taking promotions. Indeed, they aren’t even “hard working” in the Treasurer’s terms, and hence don’t merit protection from “creeping” taxes.

The Treasurer tried, but failed, to define the measure as one that benefits “average” wage-earners. Mean annual earnings for a full-time worker employed year-round are indeed near $80,000. But this does not remotely describe the typical Australian. First off, the mathematical “average” is skewed upward by super-high incomes at the top of the income ladder; the median full-time wage (received by the full-time worker in the exact middle of the distribution) is $10,000 lower than the average, and well below the threshold. Likewise, women (even those employed full-time year-round) earn $10,000 less than the mathematical mean.

But the bigger problem is that a shrinking share of Australians have full-time permanent jobs to start with. Part-time work now accounts for almost one in three jobs – the highest on record.  And labour hire, temporary contract, and other forms of precarious work are increasingly the norm. Very few of those workers earn anywhere near $80,000. At most about one in four Australian workers (and perhaps 15 per cent of all tax-filers) will get the full $6 per week saving.

The whole concept of “bracket creep” is itself as misleading as Morrison’s maths. He says taxpayers are “pushed” into higher tax brackets by rising incomes, constituting a punitive and underhanded tax grab. But this description merits some careful second thought.

There are two different reasons why a worker’s income might rise. One is pure inflation, experienced across all wages and prices. In that case, nothing “real” changes, and a higher tax rate might seem unfair (although we should remember that the cost of many government programs also grows with inflation, and someone has to pay for that).

Alternatively, it might be changes in a worker’s real income that qualify them for the next bracket. If they worked more hours or took a promotion (as the Treasurer urges), then their real income rises, and so does their tax. That’s not bracket creep, and there’s nothing “underhanded” about it. In fact, that is the whole point of a personal income tax system in which tax rates depend on income.

Moral panic over bracket creep is all the more ironic given the unprecedented stagnation in Australian wages, reflecting sustained weakness in the job market. Average weekly earnings in the private sector are growing at their slowest pace in history: under 1 per cent per year (slower than inflation). The budget itself acknowledged this is badly hurting Commonwealth revenues. With wages going nowhere fast, this is hardly the time in history to make a mountain out of a bracket creep molehill.

If the government truly wanted to prevent inflation from distorting taxes, it could simply index all parameters in the tax code to consumer prices (as other countries, like the U.S. and Canada, have done). Then all thresholds, not just the one cherry-picked by Morrison, would rise 1.3 per cent this year, the same as year-over-year inflation. But that would depoliticise the whole process, hardly acceptable in a year when every single clause of the budget is focused on getting the government re-elected. So Morrison picked one politically-potent threshold, lifted it seven times faster than inflation, and left everyone else to get “creeped.”

Previous ad-hoc increases to thresholds have lifted them far faster than inflation. In fact, with this latest increase, the third tax threshold will have risen twice as much as inflation since 2003. Combined with rate reductions also targeted at top brackets during that time, government revenues have been undermined badly, and the upward redistribution of after-tax income has been exacerbated.

In short, the politics of Morrison’s over/under game are hard to understand. He will deliver a tiny benefit to less than one in four employed workers, and barely one in seven tax-filers. Most Australians won’t get a cent. But the economics are even worse. His divisive and false anti-tax narrative undermines the long-run stability of the government’s revenue base, damages public services, and reinforces inequality.

However, this well-worn line of rhetoric will fit uncomfortably for the Coalition government, given its indecisive and contradictory approach to fiscal policy while in office.  The deficit has gotten bigger, not smaller, on their watch, despite the destructive and unnecessary cutbacks in public services imposed in their first budget.  Their response to Australia’s fiscal and economic problems has consisted mostly of floating one half-formed trial balloon after another (from raising the GST to transferring income tax powers to the states to cutting corporate taxes), with no systematic analysis or framework.  And their ideological desire to invoke a phony debt “crisis” as an excuse for ratcheting down spending will conflict with another, more immediate priority: throwing around new money (or at least announcements of new money), especially in marginal electorates, in hopes of buying their way back into office.

In short, the politics of debt and deficits will be both intense and complicated in the coming weeks.  To help inoculate Australians against this hysteria, here are six important facts about public debt, what it is – and what it isn’t.

1. Australia’s public debt is relatively small

Despite annual deficits incurred since the GFC, Australia’s accumulated government debt is still small by international standards.  Debt can be measured on a gross or net basis; gross debt counts total outstanding borrowing, while net debt deducts the value of financial assets which the government also possesses.  Gross debt for all levels of government equaled 44% of Australian GDP at the end of 2015 (according to the OECD).  That was the 5^th lowest indebtedness of any of the 34 OECD countries (see table below), equal to about one-third the average level experienced across the OECD.  Moreover, despite recent deficits, the growth of debt in Australia was considerably slower than in most other OECD countries.  Of course, having low debt in and of itself does not justify increasing it.  But given the universal fiscal challenges that have faced industrial countries since the GFC, Australia’s debt challenge is both unsurprising and relatively mild.

2. A government debt is matched by an asset

Australians aren’t “poorer” because their government accumulates a debt.  Any rise in government debt is mirrored by an increase in some offsetting asset.  This is true in both accounting terms, and in real economic terms.  For example, government typically issues a bond (or some other financial instrument) to finance a deficit.  But that bond also constitutes an asset in the investment portfolio of whoever lent the government money.  Most Australian government debt is owned by Australians.  In fact, investors increasingly appreciate the opportunity to invest in government bonds, because they are safer than other assets at a time of financial uncertainty.  (That investor interest is one reason interest rates on government debt are so low.)  So government debt translates into someone else’s wealth – usually someone in Australia.

This match between liabilities and assets is also visible in concrete economic terms – especially when new debt is issued to construct a real, long-lasting capital asset (like a road, a transit system, a school, or a hospital).  In this case, the matching asset is owned by government itself, and so its own net worth won’t change much at all: it takes on a new debt, but also has a new asset.  For budgetary purposes, the government must account for the gradual wear-and-tear of that asset (called depreciation), which appears as a cost item on the budget.  But it hasn’t “lost” the money it raised through the new debt: it invested it, and that investment carries both financial and social value.

3. Other sectors of society borrow much more than government

Tired rhetoric about how governments need to act “more like households” is especially ironic, given that households are by far the most indebted sector in Australian society.  Household net debts equal close to 125% of GDP – or around 4 times the net debt of government (all levels), according to data from the Bank for International Settlements.  It is factually wrong to claim that “households balance their budgets,” and therefore governments must do the same.  Households borrow regularly – and thanks to overinflated housing prices and stagnant wages, that borrowing is growing rapidly.  The same is true of business: net debts of non-financial corporations are more than twice the net debt of government (see chart).

In fact, it is quite rational for households and businesses to borrow, when needed to fund purchase of long-run productive assets (like a house or a car for consumers, or a factory or new technology for a business).  Business leaders know that rational, prudent borrowing will enhance the profitability of a corporation.  Indeed, any CEO who said paying off all company debt was the top priority of the firm would be chased from office by directors and shareholders (who would understand the pledge was irrational and superstitious).  Following exactly the same logic, government debt can be rational and productive – especially (but not only) when it is associated with the acquisition of long-run productive assets (like infrastructure).  Close to two-thirds of the Commonwealth government’s 2015/16 deficit (projected to be $36 billion) is associated with capital spending, including $11 billion in capital transfers to lower levels of government and $12 billion in net investment in Commonwealth non-financial assets.  Contrary to the rhetoric, Australians do largely cover the cost of current public services with their current tax payments.  Government borrowing is primarily required to fund capital spending.

4. Interest rates are low, and falling

The cost of public borrowing has fallen dramatically as a result of the decline in Australian and global interest rates since the GFC (see chart).  Indeed, the two factors are connected: large government deficits resulted primarily from underlying economic weakness (this is true in Australia, like elsewhere in the industrialized world), which in turn bro8ught about low interest rates (via both central banks and private financial markets).  These very low interest rates mean that the cost-benefit decision associated with any new government borrowing has been fundamentally altered, in favour of borrowing.

Current interest rates are likely to stay low for many years to come, given the continuing failure of the global economy to regain consistent momentum, the slowdown in China, and other factors.  (In fact, it is possible that the Reserve Bank of Australia may soon cut its interest rate further, below its current record-low 2% level, due to weak growth and signs of deflation here in Australia.)  Ten-year Commonwealth bonds can presently be floated to private investors for little more than 2% interest (close to zero in real after-inflation terms).  If government can borrow for what is effectively zero interest, and put that money to work in the real economy doing useful things (including both infrastructure and public services), then it is irrational to let old-fashioned balanced-budget mythology stand in the way.

Even if current interest rates do not fall any further, the average effective interest rate paid on overall public debt will continue to fall for years to come.  The current average effective rate paid on Commonwealth debt (about 3.5% last year) reflects the weighted average paid on all maturities of debt.  As past debts come due, they are refinanced at now-much-lower interest rates (those prevailing on new issues of bonds).  That will pull down the average weighted interest rate for several years into the future – even if the rate on new issues stabilizes or increases somewhat.  Consider that new ten-year bonds can be issued for less than half the interest rate paid a decade ago.  The refinancing of those bonds will generate enormous future interest savings for government (equivalent to home-owners who re-mortgage their homes to benefit from the decline in household lending rates).

This is why the economic burden of public debt servicing is not growing, even though the debt is.  Government budget projections forecast debt service remaining at between 0.9 and 1.0% of GDP for the next 5 years, with the effect of rising debt offset by falling interest rates.  And those government projections likely overestimate true interest costs (partly for political reasons).  For example, the December 2015 MYEFO update assumes a significant increase in interest rates in the coming year (its near-term interest rate assumption was 0.3 points higher than the assumption used in last year’s budget); ongoing global and domestic economic weakness makes that highly unlikely.

5. The debt/GDP ratio is a more meaningful fiscal constraint than a balanced budget

Fear-mongers think that by talking about public debt in “big numbers,” the fright value of their dire forecasts can be magnified accordingly.  But all macroeconomic aggregates are measured in big numbers.  And what’s more important than the absolute size of debt, is the government’s capacity to service that debt.  That, in turn, depends on the flow of government revenues, which in turn is driven primarily by overall economic growth.  That’s why economists prefer to evaluate public debt relative to GDP (called the “debt ratio”).  Even this ratio can overstate the real burden of debt, in times (like now) when interest rates are low and falling.

Avoiding a lasting, uncontrolled rise in the debt/GDP ratio is a more meaningful fiscal constraint on government, than trying to balance a budget in any particular year.  Economists do not agree on a maximum “acceptable” limit for that ratio.  But most agree it cannot rise forever.  (Some economists argue that there is no limit on a government’s ability to issue sovereign debt denominated in its own currency, and the recent experience of countries like Japan – whose debt ratio is five times Australia’s – is consistent with that view.)

At any rate, Australia is far away from any feasible “ceiling” on public debt relative to GDP.  And remember, like any ratio, the debt/GDP ratio has both a numerator and denominator: growing the denominator is as effective as shrinking the numerator, if the goal is reducing the value of the combined ratio.  In this regard, the stagnation in Australia’s nominal GDP in recent years has been more damaging to the trajectory of the debt ratio, as has the addition of debt through continued deficits.  The government’s policy focus should be on expanding economic activity (and the jobs and incomes that go with it), rather than suppressing the deficit with austerity measures (which have the unintended consequence of undermining growth and hence the economy’s ability to service a given amount of debt).

6. The government can incur moderate deficits every year, yet still stabilize its debt burden

A related and under-appreciated countervailing argument is to note that government can run a medium-sized deficit on an ongoing basis, and yet experience no increase in the debt/GDP ratio at all – so long as the economy is progressing at a normal pace.  A deficit adds to the numerator of the ratio, while economic growth expands the denominator.  So long as both are expanding at roughly the same rate, the ratio will not be changed.  (Our reference to economic expansion envisions more jobs and incomes across the economy, including in the public sector, and with due attention to the need for environmental sustainability.)  This basic arithmetic provides government with an additional degree of maneuverability in financing essential services and investments, without unduly increasing the debt ratio.

A simple numerical example helps to illustrate the point in Australia’s context.  A healthy economy should be expanding by at least 5-6 percent per year in nominal terms: divided roughly equally between inflation (given the RBA’s 2-3 percent inflation target) and greater output of real goods and services (driven by both population and productivity).  The Commonwealth’s current net debt ratio is slightly below 20 percent of GDP.  With a healthy economic expansion, the government could incur an annual deficit of 1-1.25 percent of GDP (or close to $20 billion per year) but still stabilize the debt ratio below that 20 percent benchmark.  And there is nothing magical about a 20% debt ratio; if Australians were willing to tolerate a larger steady-state debt ratio, then the size of this annual permissible deficit would be correspondingly higher.  All this merely reinforces the need for government to focus on supporting job-creation and incomes, not balancing its budget – and confirms that ample fiscal space is indeed available for the Commonwealth to fund public services and infrastructure spending (with the fringe benefit of reinforcing strong job creation that should be their top priority).