When the Treasurer handed down the budget on 29 March this year, he was in a position that in some ways would have been familiar to many of his predecessors — delivering a mix of tax and spending measures intended in large part to attract — or at least appease — voters ahead of an impending election. Yet in other ways, he was in relatively unknown territory. After all, this was only the third budget of the pandemic era — and under the new fiscal strategy he’d deployed in response. It was the first budget under the new geopolitical and geo-economic environment created by the Russian invasion of Ukraine. Plus, there was the radical uncertainty associated with an unprecedentedly swift domestic economic recovery unfolding against the backdrop of a world economy struggling with volatile commodity prices, creaking supply chains, rising inflationary fears and tightening global financial conditions.

To some extent, Budget 2022 was a typical pre-election budget. Most obviously, there was a tight focus on the issue at the front of voters’ minds — the rising cost of living. The Treasurer delivered a “cost-of-living” package that included a $420 top-up to the low and middle income tax offset (LMITO) at an estimated cost of $4.1 billion, a one-off $250 cost-of-living payment for eligible pensioners and welfare recipients at a cost of $1.5b, and a temporary (six-month) halving in the fuel excise duty by 22.1 cents at a net cost of about $3b.

There was also a fair amount of pre-election largesse in the form of billions of dollars of additional spending pledges focused on infrastructure and the regions, including $16.8b of additional funding for road and rail projects, $6.9b for regional water infrastructure, $2b for a regional accelerator, as well as more funding for investment in strategic projects and programs in four “key regions”.

In addition, the government estimated that including previous commitments, it would provide more than $6b of support in response to the recent floods in Queensland and NSW. And COVID-19-related health spending since the December 2021 mid-year economic and fiscal outlook (MYEFO) was expected to increase government payments by more than $6b.

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Each-way bet

However, despite this flurry of new spending, the Treasurer was still able to adhere to the modest constraints imposed by the government’s new fiscal strategy.

In 2020, in response to the economic carnage created by the pandemic and the lockdown of large swathes of the Australian economy, the government abandoned its previous laser-like focus on achieving a budget surplus. The old target of “back in the black” was replaced with a new two-phase strategy. Phase one was “achieving a strong recovery to quickly drive down the unemployment rate”. Phase two would then “focus on growing the economy in order to stabilise and then reduce gross and net debt as a share of GDP”. At first, phase one was intended to “remain in place until the unemployment rate is comfortably below six per cent”. Subsequently, the government doubled down on the unemployment rate target that had become the central element of a new kind of fiscal forward guidance. Instead of “comfortably below six per cent”, the new precondition became “to drive the unemployment rate down to where it was prior to the pandemic (5.1 per cent) and then even lower”, where even lower meant “the unemployment rate will now need to have a four in front of it”. And since the unemployment rate stood at four per cent in February this year, sticking with the new fiscal strategy meant that Budget 2022 should deliver a move on to phase two.

This is where the unusually rapid pace of Australia’s economic recovery — plus a helpful surge in global commodity prices — allowed the government to combine a pre-election spending surge with an improved fiscal bottom line. Lower unemployment, higher employment and wages, and stronger commodity prices are together estimated to boost the budget position between 2021–22 and 2025–26 by a cumulative $142.9b relative to the numbers in the December 2021 MYEFO. And while the government plans to “spend” about $39.2b of this windfall, that still allows for a cumulative improvement of $103.6b in the underlying cash deficit over the five-year period.

Counting the cost

The underlying cash deficit in the current financial year is now expected to be $79.8b, or 3.5 per cent of GDP, well down on the MYEFO projection of a $99.2b, or 4.5 per cent of GDP deficit. The deficit is then forecast to be about $78b, or 3.4 percentage points of GDP in 2022–23, implying a very modest degree of fiscal adjustment in the near-term. That said, the change is more substantial if compared to the previous MYEFO projections of a $98.9b, or 4.4 per cent of GDP deficit for the same year. Further out, and the deficit is forecast to decline to 1.6 per cent of GDP by the end of the forward estimates in 2025–26, and to 0.7 per cent of GDP by 2032–33 and the end of the medium- term projections.

Smaller deficits imply smaller borrowing needs and a lower trajectory for government debt. Gross debt as a share of GDP is now expected to peak at 44.9 per cent of GDP in 2024–25. That’s more than five percentage points lower and four years earlier than projected in the MYEFO. Net debt is predicted to stabilise at 33.1 per cent of GDP in 2025–26 before falling again over the medium term. Again, that beats the MYEFO numbers — although higher interest rates mean that the cost of servicing this debt as a share of GDP is little changed relative to MYEFO.

The relatively modest pace of budget repair in Budget 2022 reflects a combination of the pressures of an election year, the influence of the new fiscal strategy with its focus on a “gradual and measured pace of consolidation” as opposed to any swing to austerity — and perhaps some caution, given the fraught state of the global economy. One consequence is that the persistent gap between expected government revenue and spending over the next decade remains. It also means that in the absence of any return to surplus, the predicted debt stabilisation and decline has to rely on the assumption that GDP growth (g) will continue to exceed the cost of government borrowing (r), leaving medium-term fiscal forecasts hostage to the Treasury’s assumption that “r will be less than g”.