Commissions of Audit, then and now

I’ve been thinking quite a bit about Commissions of Audit lately[1]. Although the Costello report has not yet been released, I happened to find, on my bookshelf, a document entitled “Report of Queensland Commission of Audit”. It’s not a back-of-the-truck pre-release copy, but the report of the 1996 Commission of Audit, commission by the newly-elected Borbidge (Nat-Lib coalition) government[2], and led by Vince Fitzgerald (a credible, though conservative economist).

The Report makes interesting reading. Its key conclusions are

(a) Queensland’s balance sheet is strong. The state’s net worth is $51 billion
(b) There is an inbuilt negative trend in the state’s operating position, which if unchecked will reach a deficit of $2.7 billion in 10 years

Point (a) sounds pretty positive given that both the Newman government and the interim Costello report paint a picture of a state on the verge of bankruptcy. So, what’s happened to our net worth over the 16 years from Fitzgeral to (interim) Costello. Readers might expect that it’s fallen a lot, or even become negative. In reality, it’s more than tripled, to $171 billion.

Of course, the Costello report has switched attention from net worth to gross debt. While this makes little economic sense in ordinary terms (if you were buying a company, would you care more about its net value, or its debt level), it might be important if the ratio of debt to net worth had risen a lot. Actually, gross debt was $24 billion in 1996, and is $64 billion now. The ratio of gross debt to net worth has actually fallen.

To sum up, the big difference between Fitzgerald and Costello is that Fitzgerald is a serious look at the state’s finances, while Costello (in common with the majority of Commission of Audit reports) is a propaganda stunt. The state’s underlying position is strong, just as it was in the 1990s.

The second point reported by Fitzgerald is also interesting. Borbidge only had one term and didn’t do much, so the problem of dealing with the adverse trend identified in the report fell to the Beattie Labor government. Beattie kept the budget in surplus, and it remained in good shape until we were hit by the GFC and climate disasters of the last few years.

fn1. Of course, we’ve been treated to a peek at the conclusions. This is not calculated to inspire confidence in the analysis, but it certainly makes criticism more difficult.
fn2. Although the Costello Commission is often presented as if it’s something new, appointing a Commission of Audit has been routine piece of political theatre for incoming conservative governments since the early 1990s. The recommendations almost invariably involve spending cuts, and usually asset sales.

17 thoughts on “Commissions of Audit, then and now

  1. I am not disputing your conclusion – looking at net debt seems sensible – but why have ratings groups such as Moody’s expressed reservations about queensland’s debt ratings and why hasn’t Queensland had a AAA rating since 2009?

    http://www.couriermail.com.au/business/queensland-credit-rating-hangs-in-balance/story-fnefl294-1226524509982

    Do these ratings agencies fall for the same line that the Liberal Party seems to or do they have motives to be tough on such issues after the GFC?

  2. I suspect it is a political document designed to beat Labor over the head as well as to rationalise privatisations (which are generally a good thing but often a hard sell). However I don’t agree that debt is the same for governments as for businesses. For starters government debt crowds out the private sector. And it can also dampen enthusiasm for investment if it is seen as signalling future taxes. Budgets should be balanced over the cycle and debt, like spending, should be kept low.

  3. @hc

    Ratings agencies rate debt on behalf of bondholders. So, for them, less debt is almost always better, even if more debt would finance investments with high average return. Treating ratings agencies as an unbiased source of advice is like letting public sector unions determine government policy – they are a (legitimate, but self-interested) interest group, not independent experts.

  4. “Report of Queensland Commission of Audit” by Vince Fitzgerald is a very good read at how a detailed examinations of public finances are conducted. Of course the politics involved is evident in that this expensive document is produced only for the LNP, paid for by the taxpayer, by a member and former Treasurer of the same political party, edited by the Department of Premier and Cabinet, and not subject to inquiry and recommendations by an independent Public Accounts Committee of Parliament. This is not a document that is ordered to be produced by the Parliament based on an audit undertaken by professional and independent auditors in accordance with legally binding professional accounting and auditing standards and presented in non-political terms for all members and taxpayers to form their own opinion on, subjected to detailed analysis and recommendations made and reported on by an independent Public Accounts and/or Budget Committee of the Parliament. A very good document meeting these requirements is produced for the Victorian Parliament by the State based Auditor-General annually and is called the “Auditor-General’s Report on the Annual Financial Report of the State of Victoria”, the latest one tabled in November the previous year. I wont hold my breath to have such enlightenment in Queensland’s Parliament, but it’s a boilerplate governance process for transparency and accountability that is long overdue in this one-house one rule State viz executive dictatorship; acknowledgements to Scott Prasser.

  5. @TerjeP

    The “crowding out” thesis is fallacious at a number of levels. Firstly, we are talking about Queensland which is an insignicant portion of the entire world economy. Thus we can note that if the Queensland government borrowed more from private finance sources for say infrastructure investment then this would have a vanishingly small impact on the total private finance source funds available in the world for borrowing. Thus the ability of the Qld Govt to crowd out the global finance market is vanishingly small. Indeed, the effect of the Qld Govt borrowing for essential and needed infrastructure would have the opposite effect. It would encourage investers to invest more in Qld.

    It could be argued that the above example could fall foul of the fallacy of composition. That is, if all governments around the world started borrowing in such a manner then crowding out would occur globally. This in turn is false as most sensible sovereign governments run a fiat currency. (The EU “euro” members are conspicuously absent from the set of sensible sovereign governments.) A country which runs a fiat currency has no need to borrow in its own currency. It can run deficits to fund necessary infrastructure development. Where there is unutilised capacity in the economy, the stimulus will increase employment and aggregate demand.

    There is also no evidence that stimulatory budgets, where stimulus is warranted by a downturn or unutilised capacity, lead people to worry about future tax burdens and to save or disinvest in the expectation of higher future taxes at some future date. Rather, a stimulated economy with improving aggregate demand will encourage more investment in the expectation of better future earnings in a robust economy. All the real effects are precisely the opposite of TerjeP’s contentions.

  6. When Beattie took office in 1998, he was faced with a number of reports (including a bipartisan Parliamentary committee report) recommending increasing the powers of the Auditor-General, in particular to allow the A-G to undertake efficiency audits of budget-funded agencies and programs. All other Australian jurisdictions’ Auditors-General have such powers. The recommendations were buried – Beattie did not want any independent, credible source of potential criticism. The issue has not been raised since and, given the Queensland political scene, is not likely to unless we have a repeat of the (Tony) Fitzgerald inquiry.

  7. Geez, hc, don’t lose sight of the fact that an AA+ rating is still a very high one – arguably higher than optimal. If (say) BHP-Billiton’s paper had an AA+ rating we’d probably be talking about it sitting on a big fat pile of cash and consequently missing growth opportunities.

    What John said. Leaving side the inglorious record of the rating agencies, and their clear tendency to rate public debt more harshly than private debt, their ratings are never intended to tell you whether the government has an OPTIMAL level of borrowing (ie is at an optimal point on the risk/reward tradeoff). Its not that debt never matters – its just that moving from AAA to AA+ doesn’t tell you much about how much it matters.

    Treating your bond rating as a sign of national or state virility is all too reminiscent of the similar tendency to treat the value of the currency the same way – which also has disastrous results.

  8. @Ikonoclast
    Geez Ikonoclast there is no –> secondly firstly firstly <–

    The re-rating of Queensland government debt is EXACTLY crowding out.

    By definition.

    This isn't thesis bro' – this is the sh*t on toast, real world.

    What Corporation or Individual can you point to Iknoclast, in Queensland that is capable of obtaining funding at a better rate that the Government of Queensland?

    And so the interest rate domino's fall from Government, down the liquidity chain, until the last domino, reaches the very bottom rung.

    Secondly. There is no secondly. [But then I had no Firstly. ]

    Small point, [though fundamental] to your mis-understanding.

    It's the crowding-out of QUEENSLAND's private sector, not the crowding out of "the global finance market".

    Y-a-w-n!

    There are some good books out there on the transmission mechanism, you would benefit reading some.

    They're to be read from left to right, and NOT the other way around.

  9. Utter rubbish!

    Debt is priced at risk, and Australian Government’s including Queensland are rated amongst the least risky debt holders in the world as a consequence of the GFC.

    Added to Governments ability to raise revenue over the short, medium and longer term through passing taxation laws that ensure a revenue stream, net assets worth over $171b, debt servicing is viewed as less risky than relying on market conditions for most businesses that rely on consumer sentiment, world commodity prices and perhaps regional luck, these revenue streams can not be enforced on the consumer to spend at business X, Y or Z.

    What you are saying is that the Government should run down its debt servicing ability from AA+ to the B or C’s and give up attempting to retain a AAA credit rating, supposedly in the public interest to deliver returns to private interests via reduced interest rate payments? Good luck championing this policy platform at the next State election, a victory to Labour (if that’s the policy to pursue) would be in in the interests of the private sector on your theory.

    At what cost to the electorate does re-attaining the AAA credit rating should be the policy question. The Treasurer claims in the Budget Papers (unaudited) that moving back to AAA credit rating would save nearly $500m over the 3 year forward estimates (unaudited). So for trying to save $166m per year, int he State with the unenviable status of having the highest rates poverty in Australia, this Government throws out of work 20,000 public servants, cuts preventative health measures (cost shifting to future periods health issues that will only exist in third world and Qld), defund public education despite its lack luster results, introduce creationism to the curriculum as some sort of gift to a sky daddy, destroy regional Queensland, World Heritage and National Parks areas, a once developing social infrastructure base, and pick fights with groups on social issues that have nothing to do with financing the running of a State that is representative and responsible to the electorate?

    The result – look at the National Accounts. Queensland, the only State of this great Commonwealth almost in recession, rising unemployment and zero consumer and investor sentiment. No other State has the net worth and minerals available to find themselves to have their debt rating lowered, only Queensland did. No wonder Clive Palmer walked when these voodoo political economists use US Tea Party policies and religious doomsday fear-mongering as their political philosophy.

  10. Ratings agencies only have the power that others give them. If people stopped caring their influence would evaporate.
    AA+ and AAA ratings are no different to someone saying ‘I reckon that woolworth shares sound pretty good these days’.
    There is absolutely nothing stopping agencies from saying ‘we think that X bonds have a 99.8% chance of being paid in full and Y bonds only have a 97% chance”. The only reason to say ‘we categorise X bonds as AA+’ is to be deliberately vague.

    They also claim that it is invalid to compare government bonds to corporate bonds and so even if a regional government only had an A- rating that still wouldn’t tell you if it was safer to buy its debt than Commonwealth Bank debt rated at AA.

  11. There is a lot of crowding out going on, but not with effect that TerjeP have in mind. Corporate bonds crowds out their own equity position if bond purpose was not succesfull. Government bonds are great for retirenment funds and for ultra rich to lower taxes. Ultra rich use government bonds rather then corporate since gov bond gains are usually tax free so there is no crowding out. Hedge funds issue bonds and they buy some bonds with them to benefit from arbitrage in rates.
    Bonds crowd out only other bonds but barely since they are so diverse that investors chose by specifics.

    Corporations choose financing between bonds or credits depending on price of each so, if government crowds out bond market then corporations choose credit as a cheaper option and that reduces crowding out effect. It is a flexible and self corecting interplay between bonds and equities and savings that eliminates crowding out.

    Ikonoclast
    Local governments are not sovereign so they compete for savings, and that is why local governments should not spend too much on the infrastructure since that should be the job for the issuer of the fiat currency. There should be GGP not PPP for infrastructure investments. Government government partnership, local and federal government partnership.

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