As the Mid-Year Economic and Fiscal Outlook approaches, talk about the budget deficit is approaching panic. This piece from Deloitte, warning that “the budget is burning” is typical. It predicts a 2014-15 budget deficit of $34.7 billion, and future deficits “as far as the eye can see”.
Billion dollar numbers are big and scary, but some perspective is useful. Australia’s GDP is currently $1.6 trillion dollars per year, so the massive deficit is about 2 per cent of GDP. On Deloitte’s current “disastrous” predictions, the deficit should be below 1 per cent of GDP by 2017-18.
But wait, there’s more. Australian government debt is currently about 20 per cent of GDP. It has been around this ratio, varying with the business cycle, for many years. Since GDP grows at around 5 per cent a year in nominal terms, the debt/GDP ratio stays unchanged if debt also grows by 5 per cent, that is, if deficits are equal to 1 per cent of GDP (that is, 5 per cent of 20 per cent).
Simply put, the budget is so close to balance that it doesn’t matter. In the absence of the terms of trade shock from coal and iron ore, it would have made good sense to aim for a surplus. As it is, the sensible short-term macro strategy is to take a modest hit to the deficit and cushion the economy from contraction, a point that has been made by the OECD.
As always, there are long term problems that need to be addressed. But absurd panics about whether a (necessarily arbitrary) budget measure is a little above or a little below zero don’t help.