Australia’s post-covid 19 economic recovery stands a fair chance of being strong and sustained thanks to the initial government fiscal stimulus provided back in March plus the additional stimulus announced last week in the 2020-21 Federal Budget. How much economic growth is boosted by a big lift in government spending is a matter of how much of the lift flows through to more spending by businesses and households. That lift in spending by businesses and households is not just a matter of a boosting their pre- and after-tax incomes but also depends on their confidence and ability to spend.
The fiscal stimulus provided by the Federal Government is big enough on paper to lift the economy out of the deep recession in the first half of 2020. In Q2 2020 GDP was down 6.3% y-o-y. If covid-19 had never occurred, the Federal Government’s underlying cash budget position which showed a $A0.7 billion deficit in 2018-19 was heading into surplus in 2019-20. The Covid-19 recession plus the Government’s initial income support measures instead pushed the Budget position to $A85.3 billion deficit, or –4.3% of GDP. The measures announced in the 2020-21 Budget come with a forecast increase in the Budget deficit to $A213.7 billion, or -11.0% of GDP.
At face value the change in net government spending has provided a more than 4.3% boost to the economy in 2019-20 and an extension of that boost by 6.7% of GDP in 2020-21. If the government spent those changes in budget position directly on goods and services produced entirely within the Australian economy the hole in the economy from the recession would be more than filled in the near-term although the Government would need to keep running big future budget deficits to keep the hole filled.
Fiscal stimulus must boost private sector spending to promote a strengthening and sustainable economic recovery. That is why a large part of the increase in Government spending in 2019-20 and in 2021-21 is devoted to initiatives lifting household and business income. Initially, those payments were direct boosts to income through Job Keeper and Job Seeker. The experience with those payments was that while some was spent much flowed to higher savings initially with the household savings ratio soaring above 19% in Q2.
A centrepiece of the 2020-21 Budget is changing household income support by bringing forward the planned stage 2 personal income tax cuts and back-dated to July 2020, extending low- and middle-income tax offsets, and providing two additional $250 payments to pensioners before Christmas and after. Quick passage of Budget legislation means that some of this money will flow to households over coming weeks.
Substantial initiatives to support business spending and investment include temporary instant asset write-offs and loss carry-back for businesses with turnover up to $A5 billion (about 99% of businesses), plus wage grants to employ new young employees.
These new budget initiatives to boost household and business spending will leak in part to higher savings. If that leakage is high the strength of the economic recovery will be compromised.
However, there are reasons developing that provide hope that the savings leakage may not be too high.
The first reason is that there are some signs that the economy was stronger heading into the Budget than Treasury may have allowed when framing the Budget. Framing a Budget takes several months, and inevitably key Budget decisions reflect the way the economy was travelling at least a month and more ago. Economic reports and data released over the past month have been mostly stronger-than-expected, especially those relating to housing activity and employment.
The Budget initiatives add impetus to an economy on the rise boosting business and consumer confidence and propensity to spend rather than save.
Another reason is that there is some evidence that when restraints on the ability to spend such as those imposed in covid-19 lock-down are eased spending tries to catch-up for lost time. The high initial household savings during the first round of income support in March appear to be turning to higher spending as restrictions ease.
Spending from the earlier lift in savings may reinforce spending prompted by the latest Budget measures. Outside Victoria, covid-19 restrictions are mostly being eased. Even in Victoria, a slow easing of restrictions is starting. Greater household spending opportunity is coinciding with fiscal stimulus measures that although changing composition support growth in household disposable income over the next two.
Inevitably Budgets are subject to criticism that certain groups in the economy may have missed out or should have been better rewarded, but in terms of helping to lift the economy out of recession the Budget initiatives are mostly on the mark and may boost all-important business and household confidence providing a better lift in economic growth. Treasury forecasts GDP will fall 1.5% in 2020-21 before rising 4.75% in 2021-22 but with growing business and consumer confidence the risk to these forecasts seems to us to be on the upside.