Money & Markets | opinion

The budget might not be 'Christmas in May', but Scott Morrison needs something close to a miracle

Stefan Postles / Getty ImagesAustralian federal Treasurer Scott Morrison.

  • The federal budget is weeks away and expectations are high, but Treasurer Scott Morrison has had to hose down talk of “goodies” and giveaways.
  • The revenue boosts that have improved the budget bottom line are unlikely to be sustained and cracks are showing in the global economic strength that has supported Australia’s performance.
  • Given this is effectively an election budget, the pressure on Morrison to please voters while retaining a credibility on budget repair is immense.

The federal budget is now less than three weeks away and the conversation around fiscal policy has taken a giddy turn.

The Daily Telegraph’s depiction on Tuesday of Scott Morrison as Santa with an accompanying story saying he would be handing out “goodies” led to a surreal streak in the news cycle which went something like this (edited for brevity):

Interviewer: Treasurer, how do you respond to reports this morning saying you are, in fact, Santa Claus?

Treasurer: Look, I’m not Santa…

The obvious headline was too good to resist, even for the ABC. Treasurer denies being Santa Claus.

The Telegraph duly followed with another hilarious front page, this time with Morrison as Bad Santa.

Below is an actual transcript of a question yesterday morning to the federal Treasurer, Minister of the Crown and custodian of Australia’s half-a-trillion dollar budget.

QUESTION: Would you say you are good Santa, bad Santa or the Grinch?

TREASURER: I think everybody’s had their fun when it comes to Santa analogies.

Boo. Wet blanket.

This all started with Nationals leader Michael McCormack saying Scott “Santa Claus” Morrison would be delivering a generous budget with “goodies”. Morrison reportedly chewed McCormack out in a phone call late on Monday night for the comments, which were made in McCormack capacity as Acting Prime Minister with Malcolm Turnbull out of the country.

Understandably. McCormack, newly-promoted after Barnaby Joyce’s downfall, needs some lessons in expectation management.

The frustration would be doubled because Morrison has so meticulously managed the expectations around the budget in his time as Treasurer.

A conservative approach to forecasting has been a signature feature of Morrison’s budgets. More on that further down.

There’s already an expectation that there’ll be some kind of income tax relief in the budget, ever since the Turnbull said last November he was “actively working with the Treasurer to ease the burden on middle-income Australians” in the “personal income tax space”.

Households are under pressure. Spending on essentials like mortgages, transport, and electricity prices has been chewing up an increasing share of household spending, leaving less and less room for the discretionary spending on things like movies and gyms and shopping and dinners out — the activity that keeps people in jobs.

CBA’s chief economist Michael Blythe likes to point out there are only four ways of lifting household incomes:

  • Wage increases;
  • RBA rate cuts;
  • Welfare payments, and
  • Tax cuts.

Look at each of those in turn.

  • Wages growth is lousy, running behind headline inflation.
  • The RBA board thinks the next move in interest rates will be up.
  • Scott Morrison throwing billions at welfare payments? I don’t think so.
  • And because of the government’s commitment to return the budget to surplus, income tax cuts have also been difficult. That is, until — maybe — now.

Households clearly could do with help. If you need convincing, here’s what the RBA said late last year (emphasis added):

Growth in consumption was expected to have slowed in the September quarter and the outlook for household consumption continued to be a significant risk, given that household incomes were growing slowly and debt levels were high.

A central bank saying the outlook for households being a “significant risk” is exactly what you think it is: a warning. The RBA this month said the household consumption outlook was a “continuing source of uncertainty” in the governor’s monthly statement on the official cash rate.

If there’s nothing happening on wages, rates, or welfare in the short to medium term, income tax relief is a good lever to pull, especially if the budget is in a position to do something about it.

So is it? The answer is yes, with some very heavy qualifications.

As we reported as early as last November, the federal budget position has been taking a dramatic turn for the better this financial year.

As was widely reported last month, the most recent monthly figures show that trend has continued. The budget’s net operating balance at the end of February was running around $10 billion ahead of projections from the mid-year budget review. The underlying deficit was $19.75 billion when the MYEFO profile had it pegged for $27.77 billion.

The numbers are subject to revision of course, but it is clear the government’s books are in much better shape than forecast.

The difference is due to a simple combination of higher revenue ($5.5 billion more than expected) and lower-than-expected costs (around $3 billion lower than expected).

On the revenue side, the biggest chunk is attributable to a big surge in company tax revenue, helped by high iron ore prices and overall performance of firms. The expenses side has been helped by stronger-than-expected job creation leading to a lower drag from welfare payments.

While company taxes make up for a significant proportion of the revenue gains, other taxes receipts have also been improving. Look:

Income tax collection, thanks to the record-breaking streak of job creation, was a billion dollars ahead. And there were other beats on GST as well as Customs and Excise collections. They are small, but signs the economy is trundling along OK and, as the saying goes, a hundred million here, a few hundred million there, and sooner or later it’s real money.

Remember, these were numbers from late February. The bottom line could have very feasibly improved by a few billion more when Morrison stands up in Parliament on May 8th.

So there is money in the kitty. The big question for Morrison is what to do with it, and he’ll not have been short on advice.

The problem with the company taxes is twofold: some of it is due to the iron ore price consistently hovering around $US65 a tonne and above, when the budget numbers are built on a price of around $US55. The iron ore price is not something the government can control. It is basically at the mercy of Chinese economic policy.

You only have to look at the crisis in Australia’s recycling industry — sparked by a pen stroke that banned particular types of waste imports to China — to get a feel for the policy risk around the iron ore, Australia’s biggest export. Even a modest pullback in the rate of Chinese economic activity ordered by Beijing, similar to that witnessed four years ago, could rip out the revenue from miners and wreck the budget profile again.

So this is not an uplift that can be guaranteed to repeat in the coming years.

The other twist is that the government wants to lower the corporate tax for large companies, which would trim the impact of similar upside surprises into the future.

All of this means counting on the corporate receipts pillar of the recent revenue boosts to fund ongoing income tax cuts is deeply unwise, without some stabilising policy measures that lock in the funding. That means sources of revenue or, as you and I call them, taxes.

The long game

And this is where we come back to expectations. Turnbull has talked up income tax relief, and McCormack has talked up infrastructure spending. Morrison has staked his credibility on spending restraint and a steady return to surplus. It is going to be hard to do it all convincingly if budget repair is to remain at the centre of the Coalition’s budget policy.

So yet again, the economic assumptions in the budget will be under intense scrutiny.

Morrison has trodden an exceptionally careful path in this regard. The Treasury is of course providing the modelling but Morrison is setting the framework, and that has involved having conservative forecasts for commodity prices and growth. This has the effect of minimising the risk of writedowns, and leaving space for budget beats.

Goldman Sachs even pointed out that revisions in 2016 gave plenty of room to be delivering exactly the kind of outperformance that we are seeing.

In the blinding pace of the Australian political cycle, it looks — gasp! — like a properly considered, long-term strategy.

The theme of Morrison’s budget last year was that there were “better days ahead”. When growth and jobs creation were looking robust, Morrison told Business Insider on our Devils and Details podcast that the theme “wasn’t a hope”, but based on the indications that the global economy was starting to pick up.

“That was a codification of an emerging consensus,” Morrison said, “which has really been coming since the beginning of this calendar year… whether it’s the G20 meeting I was at earlier in the year, or the one the prime minister was just at — these signs continue.”

The “synchronised global upswing” has been a persistent theme in the global economy over the past year and Australia’s trade exposed economy has undoubtedly seen some benefits from it.

But on that front, there is a spanner in the works. Europe is starting to look shaky and the Trump administration’s chaotic approach to trade policy has introduced a new level of uncertainty to the global outlook. This chart from Deutsche Bank shows how major economies have suddenly started missing expectations on various economic metrics.

Source: Deutsche Bank

The net effect is it is much harder this year to be assured that there are global economic tailwinds for Australia over the coming years.

This is the backdrop for a budget that needs to draw all the strings together of Morrison’s efforts.

It’s little wonder Morrison was furious about the Santa jokes. Because Christmas or not, if he’s going to give voters an incentive to start considering giving the Coalition another term in office in next year’s election, he’ll need to work something close to a miracle for the budget to be simultaneously politically appealing, fiscally responsible, and economically credible.

The countdown’s on. Maybe we should make an advent calendar for it.

*This article has been updated to account for an upward revision to household consumption growth in the September quarter.

Business Insider Emails & Alerts

Site highlights each day to your inbox.

Follow Business Insider Australia on Facebook, Twitter, LinkedIn, and Instagram.