Moody's downgrades Australian states

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Moody’s Investors Service says the outlook for Australia’s states, territories and local governments is negative as revenue growth slows and costs rise.

The negative outlook is driven by weakening domestic economic growth as China’s slowdown reduces earnings from commodity exports and investment.

Moody’s says this slowing pace of revenue growth could hamper efforts to narrow deficits, delaying a return to balanced budgets.

And it’s becoming harder to keep cutting costs to get nearer to balanced budgets.

Moody’s, in its report “Regional and Local Governments -Australia: 2016 Outlook — Slower Revenue Growth Drives Negative Outlook”, says it believes this fiscal austerity is becoming difficult to maintain after several years of robust cost controls.

According to analysis by the Bankwest Curtin Economics Centre, both state and federal governments keep making unrealistic estimates of revenue growth which means their budget forecasts don’t hit targets.

This has brought total public debt in Australia, that of both state and federal governments, to a 15 year high of 18.6% of GDP (Gross Domestic Product), a net value of $283 billion.

The mounting debt is caused by both falling revenue and a rise in spending. Essentially, governments collect less tax than they think they will and keep spending more than they earn.

The latest Moody’s analysis says the states’ deficits will widen if revenue growth falls short of their projected 3.3% average for 2016-2019.

The states built up large deficits between 2005 and 2014 as expenditure growth of 6.7% outpaced revenue growth of 6.2%.

And GST Commonwealth grants could fall short of a forecast average rise of 5.9% because consumption is increasingly focused on activities not subject to the goods and services tax.

Property-related conveyancing duties are volatile and payroll tax revenues could be dampened by weaker trends in the labor force.

Moody’s forecasts a slowing in revenue growth across state and territories:

Moody’s says the states’ deficits are narrowing, but risks remain, given that the pace of healthcare spending is difficult to reduce, while there will be a lower indexing of Commonwealth grants.

These deficits will widen if revenue growth falls short of states’ projected 3.3% average for 2016-2019, as this chart shows.

Spending is becoming increasingly difficult to cut without impacting major services.

The biggest single state cost is healthcare. Moddy’s says it’s difficult to further cut this spending given demands on healthcare system and lower indexing of grants.

Here’s a breakdown of state costs and the average decline in spending on health:

The debt burdens are also forecast to stabilise and, although the average duration of their debt is relatively short, large holdings of liquid financial assets provide a buffer.

Moody’s says that the outlook could return to stable if fiscal discipline leads to budget surpluses and an improved level of competitiveness underpins growth in the manufacturing, education and tourism sectors, in turn supporting revenues.

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