Australian Federal Government FY21 Budget

The federal government has continued to utilise its fiscal space, expanding the deficit to a record A$213.7bn (11% of GDP) with approximately A$100bn of new spending measures. This budget incorporates significant support for the economy and was more expansionary than expected, alleviating the fear around a potential fiscal cliff.  It has been designed to support the next stage of the COVID-19 crisis and the ongoing economic recovery.

Government debt is expected to rise substantially further, with forecast budget deficits seeing net government debt rising to nearly $1 trillion (44% of GDP) by 2023-24.

The focus has shifted away from temporary “crisis support” measures and towards more permanent policies that support private demand. It is a budget focused on job creation and boosting business confidence where businesses are expected to take the lead on the recovery through hiring and spending.

While there is a wide range of policies included, we think they can be broadly categorised as:

  • Demand boosting – income tax relief has been bought forward and backdated alongside additional household payments to pensioners and other income support recipients
  • Job creation - JobMaker hiring credits where businesses receive incentives to hire additional employees aged 16 to 35 years old
  • Infrastructure spending – smaller scale, faster to market, labour intensive projects
  • Business investment incentives – temporary full expensing of depreciable assets and offset of tax losses against any prior profits and tax paid, providing tax relief and expanding productivity capacity across the economy

We see this fiscal package playing the primary role in providing critical support to the economy in 2020/21.

Last night’s federal budget is more important than usual for the near-term future path of monetary policy. The primary role for monetary policy will be to ensure that interest rates, and specifically borrowing costs for the Commonwealth and State governments, remain low and for markets to remain open and liquid to ensure governments at all levels can borrow in the required volumes as and when needed.

Significantly, the interest cost of the substantial increase in government debt will be very low.  The Australian government can currently borrow money for 3 years under the 0.25% p.a. cash rate and 10 years at less than 1% p.a. 

The question is not how much extra money the government needs to borrow, but what the economic return will be from this debt.  It seems likely that the economic return will far exceed the interest costs of the higher debt and by supporting the economy in this way it will hasten the recovery in Australia and allow the budget to eventually return to a more sustainable footing.

Following yesterday’s board meeting, the Reserve Bank of Australia (RBA) left monetary policy on hold, with both the cash rate target and the 3 year Commonwealth bond yield target left at 0.25%. Consistent with the theme of the budget, the RBA also stated that ,“the board continues to consider how additional monetary easing could support jobs as the economy opens up further”.  The RBA Governor also made a further statement today – “the board views addressing the high rate of unemployment as an important national priority”. The state of the labour market and its trajectory will likely determine further policy action from both the government and RBA. 

If the RBA is thinking about monetary policy at this juncture through the lens of job creation, then we don’t think that tinkering with the cash rate target in a very fine corridor between approximately 0.0% and 0.25% does much to shift the dial for the labour market.  Rather we think it is more likely that the best way monetary policy can support job creation at this stage is playing a complimentary role to fiscal policy through supporting the government’s very large fiscal expansion with an increase in government bond purchases. We believe a coordinated policy response from both fiscal and monetary policy is needed to achieve a low level of unemployment to support growth and ultimately deliver on better inflation outcomes.

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