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Wayne Swan

Deputy Prime Minister and Treasurer

3 December 2007 - 27 June 2013

7 August 2011

NO.029

Treasurer's Economic Note

It was a rough week for financial markets around the world. Investor confidence has clearly been shaken by fresh concerns about economic conditions on both sides of the Atlantic. Europe is continuing to grapple with excessive levels of sovereign debt, with markets now turning their attention to the situations in Italy and Spain. And in the United States, despite the good news that Congress finally passed the debt agreement, there are renewed concerns that the recovery there is faltering. Of course Australia is not immune from these global developments, but we should never lose sight of the fact that our economic credentials are among the strongest in the world: we've got low unemployment, sturdy public finances with very low public debt, and a huge pipeline of mining investment.

A Position of Strength

Overnight there's been a timely reminder of Australia's strong fundamentals. A report by the International Monetary Fund delivers a glowing assessment of Australia's economy and the Government's responsible management. "The economic outlook is favourable," the IMF says in a statement as part of its annual Article IV consultation. "After the temporary setback in the first quarter due to natural disasters, activity is expected to bounce back." This is reflected in the IMF's forecast for real GDP growth of 2 per cent for this year picking up to 3½ per cent in calendar year 2012, with the unemployment rate remaining below 5 per cent.

The IMF recognises that the Government's plan to get the budget back in the black puts us miles ahead of our peers. "We commend the authorities for remaining committed to returning the Commonwealth budget to surplus by 2012-13," the IMF says. "This consolidation is faster than in many other advanced economies and is more ambitious than earlier envisaged, with an adjustment of almost 4 per cent of GDP over the next two years on a cash basis." This fiscal responsibility gives us the flexibility to deal with surprises in the future. As the IMF points out, Australia is "well positioned" to respond to future challenges. Our strict budgeting is also the right approach as the mining boom gathers pace – with a staggering $430 billion in resource sector investments on the drawing board. The IMF notes the Government is making room for the strengthening economy and not adding to price pressures. "Fiscal consolidation will strengthen fiscal buffers and take some pressure off monetary policy and the exchange rate," the IMF says. This echoes repeated comments from the Reserve Bank of Australia, which on Friday yet again noted the Government's significant fiscal consolidation.

Backing a Reform Agenda

The IMF gives strong support to key elements of the Government's reform agenda to maximise the benefits and address the challenges of mining boom mark II, including our critical investments in skills and training, and measures to boost participation. Our record on tax reform is endorsed, including the proposed Minerals Resource Rent Tax and reduction in the company tax rate, as well as the steps to reduce effective marginal tax rates for low‑income earners. "Tax and structural reforms will play a key role in allowing Australians to take full advantage of the mining boom," the IMF says. "Labour force participation has risen in recent years, in part reflecting Government initiatives, but the mining boom is increasing demand for labour."

The leading global economic institution also joins the long list of credible voices that endorse the Government's plan to prepare our economy for the clean energy future. "We support the proposed introduction of a carbon price as part of a transition to a permits trading system to mitigate greenhouse gas emissions," the IMF says. As the IMF notes, the personal tax cuts that are delivered under our carbon price plan are an important tax reform. The changes will deliver a simpler, more transparent personal tax system. From 1 July next year, every taxpayer earning up to $80,000 a year will receive a tax cut, with most getting at least $300 annually. A second round of tax cuts will apply from 1 July 2015, increasing this annual saving for most taxpayers earning below $80,000 a year to at least $380. These reforms will increase the tax-free threshold from $6,000 to $18,200 next financial year, and to $19,400 from 1 July 2015. Regular wage earners with incomes below the new tax-free threshold will not have any tax withheld from their wages by employers, which will mean higher take-home pay and better incentives to work. The changes will particularly benefit part-time workers and workers on low incomes, ensuring that they pay less tax. The IMF recognises the importance of this reform in encouraging people into the workforce as well as making the tax system a whole lot simpler. "The increase in the tax-free threshold is welcome, as it should relieve an extra one million Australians from the need to lodge an income tax return and boost labour force participation," the IMF says.

The IMF statement highlights another important factor that positions Australia well for the future: our resilient financial system. Australia's banks are well capitalised, prudently managed, and among the highest-rated in the world. The IMF notes that banks have improved their capital positions and reduced their reliance on short-term foreign funding, and that they are well placed to ride out any future financial turbulence in offshore markets. The statement also points to the role of the Government's Competitive and Sustainable Banking package in "addressing funding diversity, stability and bank competition". The package's important reforms ensure our banking system can continue to sustainably access funding, and keep lending to households and small businesses across Australia.

A Long Road Ahead

Despite the United States securing agreement to lift its debt ceiling and the positive US employment figures that came out on Friday, we should be under no illusions about the magnitude of the challenges faced by the world's biggest economy. As I have been saying for some time, the US and many European countries are confronting a long and painful road ahead to reduce their debt burdens and get their budgets back on a sustainable footing. These challenges were highlighted by the downgrading of the US's sovereign credit rating late on Friday by ratings agency Standard & Poor's. It's important to remember that Australia's fiscal situation couldn't be more different from the US. While public net debt in the US is more than 70 per cent of GDP and expected to rise further, our net public debt is a little over 7 per cent of GDP and expected to decline over time. And, in contrast to the political gridlock we have seen bedevilling budget negotiations in the US and elsewhere, we have just about passed our own budget in full – a budget that delivers the biggest fiscal consolidation in our history. And, in this term alone, we have passed around 130 pieces of legislation through both houses.

I'm not going to sugar coat the fact that the global economic outlook remains uncertain and this uncertainty is likely to continue for some time. And of course there are soft spots in the Australian economy as well. The higher dollar and a cautious consumer are making things tough for retailers, the tourism sector and manufacturers. We saw further evidence of this in the past week with subdued retail sales figures and business surveys pointing to the difficult conditions faced by our trade-exposed sectors. And the uncertainty abroad is clearly having an impact on the confidence of consumers and businesses here at home. As I've said, we're not immune from events overseas, but it's important to remember – as the IMF statement shows – that Australia faces the challenges from a position of strength. We're also located in the right part of the world at the right time – the prospects for our region remain much stronger as the weight of global activity continues to shift from West to East. It's encouraging to see the continuing strength in China, evidence of a faster than expected recovery in Japan, and good growth elsewhere in the region. We can also draw confidence from our proven track record of dealing with international instability. Australia came through the global financial crisis in better shape than almost any of our peers. An important point to remember is that the unemployment rate in the US and Australia was the same before the global recession – now the rate in the US is almost double that of Australia.

Keeping Our Economy Strong

Our job right now is to position the country to make the most of the opportunities and meet the challenges that lie ahead, such as the shift in global economic weight from West to East, the ageing of the population and the transition to a clean energy future. Now is not the time to shirk the reforms that will continue to keep our economy strong. We saw the Government's focus in getting on with the job last week with the announcement of the health agreement – the biggest change to Australia's health system since Medicare was introduced in 1984. It means more money for public hospitals, more beds, more services for patients, and shorter waiting times. The problems we see overseas only highlight the need for Australia to continue with these sorts of critical reforms to lift our nation's competitiveness and productivity. That's why we're investing more in education and training, and taking steps to improve participation. That's why we're rolling out substantial new investments in infrastructure including the National Broadband Network. That's why we're reforming the tax system to provide more reward for effort and better incentives to invest. And that's why we're putting a price on carbon so we can drive the transition to a clean energy future. We will continue pursuing the important reforms that have made our economy amongst the strongest in the world.

Wayne Swan
Deputy Prime Minister and Treasurer of Australia
Sunday 7 August 2011

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