Download Treasury does acknowledge the sensitivity of the Budget balance to

Elections, budgets and fiscal policy
This appeared in Asset Magazine, November 2004.
Q: What implications does the forthcoming Federal election have for your clients
and asset allocations?
A: Don’t get carried away with all the political bumf, scare-mongering and porkbarreling and economically-illiterate commentary.
If previous elections are any guide, the result is likely to have little impact on the
economy and markets and few implications, if any, for changing asset allocations.
Even if there is a change of government, not much is likely to change in the world of
economics and finance.
The main effects of elections on the economy and financial markets usually occur
during the couple of months before the election, rather than after.
Far from sending businesses and profit levels into a spin, business spending usually
picks up over the few months following an election and the mere calling of an
election certainly does little, if anything, to business profits.
Even the widespread belief that consumers stop spending before elections does not
hold up to close scrutiny, except in the special case of recreational spending.
Q: What will happen to interest rates?
A: Very little, which ever party wins.
A sharp rise in Australian rates is not on the cards - unless fundamentals and
inflationary expectations change dramatically. The economy is already slowing and
business sales and profits expectations are moderating.
The Howard Government will make much of the fact that interest rates have been at
a 30 year low and that they were much higher under Mr. Hawke and Mr. Keating.
But such scaremongering deliberately ignores the fact that we are in 2004 – not 1983
or 1991 – in a different economy, with a different policy emphasis and a much better
approach to monetary policy.
The Reserve Bank is no longer the “Reverse Bank”, as it was nick-named back in
the days when it played a mere camp-follower to the economy and possibly some
politicians.
As a result, no Treasurer since Mr. Keating has even suggested they have it in their
pocket, as he claimed in an unsober moment back in 1989. The current RBA Board
is also a lot more arm’s length from the Lodge.
Most importantly, these days, it is looking several months forwards, not backwards,
when it makes its key cash rate decision.
Since 1993, it also has also used a target annual inflation rate range of between 2-3
per cent to help convince borrowers, lenders, business and unions that it takes
inflation control as its number one goal. And it has been successful in keeping
inflation within that range – except for a very short period after the GST was
introduced.
Q: What about microeconomic reform? Wouldn’t a Latham government back-track
in this area, slowing economic growth, adding to wage inflation, and hurting profit
growth?
Again, little is likely to change to affect asset allocation decisions dramatically.
Competition policy may be a little different if Latham wins, Telstra will still be held
up in the Senate, and employers will see some backwards steps on labour market
reform.
But no changes of a “let’s stampede the horses” variety.
However, a Labor victory would see delays in the introduction of the Dawson
Report on competition policy and very likely increases in direct support for small
business, at the expense of bigger business, which could affect market profit
expectations for the latter.
Particularly important here would be a tightening of existing rules on anticompetitive pricing under section 46 of the Trade Practices Act (TPA) – a tightening
rejected by the Howard government.
Q: What about the big spending promises of both sides? Won’t they send the
Budget bottom line back into a deficit, putting upwards pressure on interest rates?
A: Remember a very wise old maxim about both the promises of Government’s and
Oppositions:
“It is not what pollies promise that matters – it is what they does that counts”.
And anyone with the slightest memory of previous Federal Election campaigns will
remember how big that gap usually turns out be – which ever party wins the ballot.
Dr David Clark teaches Business Economics at the University of NSW and is also a
contributor to Personal Investor magazine.
+++++++++++++++++++++++++++++++++++++++
A few days is a long time in Budget bottom line
forecasting.
A summary of an article which appeared in Asset Magazine, November 2004
Election promises of permanent Budget surpluses hide the great
difficulties in forecasting budget bottom lines and the century-old
debate about the pros and cons of fiscal deficits.
Before even the Federal Election result was finalized, the Treasurer,
Mr. Costello, was conceding that the pre election Treasury projections
of a doubling in Budget surpluses over the next four years would turn
out to be way off the mark if the rise in oil prices slowed global and
Australian economic growth markedly.
Given that both the Government’s and Opposition’s election campaign
spending promises rested on those Budget surplus projections,
True, Treasury does acknowledge the sensitivity of the Budget balance
to changes in key economic parameters.
For example, in making its projections for revenue and expenditure, it
assumes that the current growth rates in key parameters such as wages
and inflation will be maintained and that the exchange rate will not
change from its current rate.
Given that such growth rates and the $A are highly likely to be different
to what they are at the time projections are made, projections of
Budget bottom lines out to say 2005/6 should be taken with a grain of
statistical salt. The unforecast sharp rise in oil prices, or the failure of
the $A to stay in the expected high 70 US cents range, are good
examples of the fallibility of such forecasts.
But the problem goes well beyond the inability to forecast such things
even a few months out – let alone a few years. To quote from its pre
2004 Election Statement:
“In each case, the analysis presents the estimated effects of a change in
one economic variable only, and does not attempt to capture the
linkages between economic variables that characterise changes in the
economy more broadly.”
In plainer English, real world economies are not like jig-saw puzzles.
Instead, the way the pieces fit together is continually changing.
In short, if we cannot forecast the $A and short-term interest rates a
week ahead, then dogmatic statements about Budget bottom lines and
forecasts about the effects of government spending should be taken with
a very large dose of statistical salt.
Dr David Clark teaches Business Economics at the University of NSW
and is also a contributor to Personal Investor magazine.