Fixed Income

Considering the impacts of Budget 2014


Simon Stevenson

Simon Stevenson

Deputy Head of Multi-Asset

Stuart Dear

Stuart Dear

Deputy Head of Fixed Income

The Federal budget has become highly politicised in recent years, with budget surpluses equated with strong economic management.  However, macro forces have become headwinds, making the goal of surpluses very difficult to achieve.  Both political parties have had to seriously wind back their rhetoric around the speed with which they could generate surpluses.

To truly understand the budget situation it is necessary to have an understanding of how the unprecedented rise, and now fall, in the terms of trade has impacted on government finances, and how demographic changes will impact on government finances in the future.  In this paper we focus on these macro forces and explain why they are the most important issues confronting Australian Treasurers.  

For all the political capital the Government has lost in the unveiling of Budget 2014, the near term fiscal improvements are actually very small when compared to the last budget.  The main difference is the use of much more conservative economic assumptions which should mitigate the constant deterioration in the budget position that the previous Government suffered. Otherwise, minor cuts in spending offset higher payments due to the adjustment in assumptions, while tax increases only offset tax cuts elsewhere.  

Budget 2014 does differ significantly from last year’s in expectations for 2017-18 and the so called “out years” beyond - but this looks to be more a sleight of hand.  Detail has not been provided (a reason why governments like forecasting surpluses in the out years) for the dramatic expected improvement in the fiscal position in these future years, though it looks that the bulk of the projected savings come from reductions in foreign aid (by no longer moving to the Millennium targets), and especially cuts to the funding of States for health and education (versus prior assumptions).The latter sets up a prolonged debate over Federal-State relations in the areas of taxation and service delivery.

Overall Budget 2014 will be a slight drag on the Australian economy over the near term, resulting in downward pressure on interest rates and the Australian dollar.  However, the key message in this Budget is a reminder of the challenges associated with financial management when macro forces prevail and the need for scepticism in relation to forecasts for surpluses and reductions in government debt.

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