When a car swerves sharply to avoid an obstacle, anything unsecured inside it continues travelling in its original direction, often with unfortunate consequences. We can see something similar happening with the Rudd government’s fiscal policy. The $42 billion stimulus package is as sharp a swerve as you can imagine, justified by the correct expectation that private investment and consumption demand, along with export demand, is about to collapse, leaving government to fill the gap.
Yet the noises coming out of the Budget process suggest that no one has even noticed this. Lindsay Tanner is still talking about spending cuts, as if the emergency measures of the last week can be put into reverse in only a few months time.
And, despite the disappearance of the forward surpluses that were to pay for them, and of any possible economic rationale for aiding high income earners, the government is still promising to proceed with the tax cuts promised in the utterly different world of 2007. Unlike many economists, I supported the government’s delivery of the first-stage tax cuts, on the basis that, while they were bad policy, nothing had changed since the election to justify repudiating a promise. But now, everything has changed. Like Ross Gittins, I hope the government will summon up the courage to say that tax cuts are off the agenda for the foreseeable future.
I spell out the rationale for this a bit more over the fold
Given that tax cuts are generally seen as expansionary, why do I say they should be scrapped? A Keynesian tax cut should be temporary and targeted at those below median incomes, who are mostly likely to spend it, and, if they save it, most likely to need the money to balance their household budgets. The “temporary” point is most crucial. Once this mess is over, higher taxes are going to be needed for a long time, both to service and repay debt and to finance the permanently larger role for government inevitable in the light of the collapse of the financial sector.
By contrast, the tax cuts proposed by the Howard government, and copied by Rudd Labor during the 2007 campaign were permanent and targeted towards those in the top half of the income distribution (under the conventions of Australian politics, this group normally referred to as “middle-income earners”) but polite conventions do you no good when the fiscal ship is sinking.