Deficit fetishism

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.

39 thoughts on “Deficit fetishism

  1. This debt tsunami is terrifying! What is Abbott doing? If this had been happening under a Labor government the downfall of western civilisation would be just around the corner. If only that wise guardian of the public purse, John Howard, were still in office. Perhaps those wise folks at Deloitte Economics will help me safeguard my investments? It couldn’t hurt to ask them.

    Seriously, I agree that the debt fear is nonsense. Indeed I would not mind if we had a little more debt and invested more in both infastructure and education/research. But I do find it very hard to feel sorry for the current government’s political predicament, having talked nothing but paranoid nonsense about debt themselves during six years in opposition. They sowed this crazy idea, and now they are reaping the criticism from the loons who believed them.

  2. As someone who has a lot of time for Chris Richardson, I was very surprised by this latest piece of his. Not only does it fail to put the size of the projected deficit into economic perspective – the error John points to – even on their own terms I think the projections are way too pessimistic. We’ve had a collapse in revenue because of some very specific factors – basically the failure of the dollar to follow the terms of trade down, and what that has meant for nominal income growth and also for the capacity of some multinationals to shift accounting profits offshore – which there is no reason at all to believe will continue.

    My prediction: Joe Hockey will announce both a surprise surplus and some modest tax cuts in his pre-election Budget.

  3. I was suprised to hear the buffoon on the radio today pleading with the public not to let down Santa Claus this xmas and to go out and spend up big!!

    I was wondering if he was suggesting we do this from our savings (thus reducing the pool of local savings available for loans and thus raising interest rates and squeezing out productive investment) or should we borrow to increase our Xmas expenditure (thus increasing the demand for loans – raising the interest rates again, or encouraging overseas borrowings by the banks and increasing the level of Australian indebtedness) or should we simply divert some expenditure from other areas to Xmas expenditure (thus lowering employment in these other areas)? I could go on – but i’m feeling a bit silly already.

    What is he saying – Party now and don’t worry about the consequences?? it goes completely against their whole confected austerity narative or the big scary deficit future.

    These clowns are in a big mess of their own making and for the first time in 3 -4 years I’m astonished to be contemplating an Abbott Govt that might just be a 1 termer.

  4. @Troy Prideaux
    And below 70c and below 60c and……

    Foreigners purchasing of housing might be moderated as the unsustainability of welfare and employment becomes evident. (I trust our politicians to sell us out without hindrance) The difficulty of locals supporting house prices with wages will surface as soon as foreigners slow their purchases if not before.

  5. (With the preface that I’m way out in Dunning-Kruger land on this…)

    When I hear politicians talking about this the impression I get is their concern is about the ability of the Government to service it’s debt with the income that it has.

    GDP, as I understand it, is an aggregate of all the “value added” by entities resident in the country.

    Isn’t the problem the ability of the Government to capture a reasonable amount of that as income?

    Obviously if you’re a politician with an ideology that commits you to the reduction of the size of the Government (taxes, “red tape”) then you are going to have a problem with Government debt because you don’t believe you can increase the income?

  6. Yesterday’s performance by Abbott and co in question time was to repeat the same old 3 word slogans that they used before the last election eg debt deficit disaster. They are still in election mode and seem unable to flip the switch to government ie govern all of Australia not just the coalition voters.

    Abbotts alleged policy of destroying the ALP has bounced back onto him, in 12 months he has reversed the polls that put him into govt. I don’t think that he can turn this around as it isn’t in his DNA to cut deals.

    In a recent speech by Lowe from the RBA the negativity was touched on

    this uncertainty mutates into chronic pessimism – that is, for it to become normal for us to think that our prospects are limited. If this were to become our normal mindset, then we would be well on the way to finding ourselves in the very world that we feared.

    http://www.rba.gov.au/speeches/2014/sp-dg-251114.html

  7. Stockingrate :
    @Troy Prideaux
    And below 70c and below 60c and……
    Foreigners purchasing of housing might be moderated as the unsustainability of welfare and employment becomes evident. (I trust our politicians to sell us out without hindrance) The difficulty of locals supporting house prices with wages will surface as soon as foreigners slow their purchases if not before.

    I can’t see the $ozzie falling below 80c US whilst there’s so much willing foreign investment in residential housing. The Chinese gov have lots of levers to pull to keep their economy churning along. If our government really wanted to lower our dollar, they would crack down on this foreign investment in residential housing, but as you say – do we now even have the capacity to fully utilise a lower dollar and can the government afford another hit to revenue? The risk of a lower dollar is that is makes foreign acquisition of local assets cheaper whilst making it more expensive for us to invest offshore whilst also lowering the standard of living for a consumer (import) based economy and potentially putting pressure on inflation (like we can handle interest rate increases right now). The advantages for trade exposed exporters and tourism are obvious, but that capacity seems to be continually diminishing and can’t be just be recovered with an increase in demand or growth potential if much of the economy is “over qualified”.

  8. I am with DD on this.
    However if the $A doesn’t fall then the government is toast.

    a $A falling to reasonable levels given our TOT would mean Nominal GDP getting back to trend and suddenly miraculously the deficit no more!

    Amazing

    the Commission of audit forecast a period of below trend Nominal GDP growth without ever saying why and net Debt got to n,wait for it, 17.5% of GDP!

  9. @rog

    “this uncertainty mutates into chronic pessimism – that is, for it to become normal for us to think that our prospects are limited. If this were to become our normal mindset, then we would be well on the way to finding ourselves in the very world that we feared.” – RBA.

    This is what we get from the RBA; cheap psychologism. The “pessimism/optimism” explanation is one of the weakest explanations for economic cycles. It’s a third order issue at best. Pessimism and optimism in an economy, as oscillations away from the average “animal spirits” of the populace, must have more fundamental causes. It is these fundamental causes which must be addressed. The unemployed as a group cannot all “will” themselves into paying jobs with “optimism” when there are six to eight unemployed for each job. There are structural and systemic problems to be addressed.

  10. Optimism can presumably affect share trading markets, but then, if people have a share market in front of them where the index is inexorably rising, month after month, year after year, it is rational to consider investing in that market, all other things equal. Presumably there comes a point where the demand for shares becomes a significant factor in the rate of increase of the index, and then leveraging by borrowing to purchase shares becomes worthwhile, for a while, until the music stops. Being a complex nonlinear system with plenty of feedback loops in it, I have absolutely no idea if it is even possible to determine why a market can go from soothing upwards motion to smashing into bits in a few hours (the most spectacular type of crash), or lurching downwards in multiple paroxysms of panic, taking months to unwind. I think the terms of optimism and pessimism might be true for us mug punters, but for the professionals who deal in other people’s money, I suspect eternally optimistic—with good reason—is how they feel. The best fleecing job in the history of personkind :-0

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