Australian Federal Budget Update / 14 July 2010 / 1 of 6

ECONOMICS & MARKETS RESEARCH

AUSTRALIAN FEDERAL BUDGET UPDATE
SMALL IMPROVEMENT TO AUSTRALIA’S FISCAL OUTLOOK

14 JULY 2010 SUMMARY

• In an unusual step, the Australian Government today released an
Economic Statement, updating its fiscal outlook just two months
CONTRIBUTORS after the release of the 2010-11 Budget in May. This gives the
government a firm budgetary starting point for all policy announcements
Amber Rabinov ahead of the federal election.
Senior Economist,
+61 3 9273 4853 • The broad outlook is slightly more positive than it was two months
Amber.Rabinov@anz.com ago. The underlying cash balance is still forecast to return to surplus in
2012-13, with the underlying cash balance revised up by a total of
Riki Polygenis
Senior Economist,
A$4.9bn between 2010-11 and 2013-14.
+61 3 9273 4060
Riki Polygenis@anz.com
• As in the May Budget, the small improvement in the fiscal outlook has
been entirely driven by ‘parameter variations’ rather than policy decisions.
Andrew McMannus
Analyst, • Further details on the costing of the mining tax arrangements suggest the
+61 2 9227 1742 changes will subtract A$7.5bn from Government revenues, offset by
Andrew.McMannus@anz.com A$6bn extra in revenues due to higher commodity price forecasts, to
Andrew Dowmans generate a net (negative) impact of A$1.5bn on the bottom line.
Analyst,
+61 3 9273 6881 • Net debt is now forecast to peak at 6.0% of GDP in 2011-12 (compared
Andrew.Dowman@anz.com with 6.1% of GDP at Budget time), reducing to zero by 2018-19.
• The Government has softened its outlook for real GDP. However, an
upgrade to its terms of trade growth forecast for 2010-11 to 17%
has lifted its estimate for nominal GDP growth to 9¼% in 2010-
11. Downside risks from the uncertain global economy remain the
biggest threat to the Budget’s bottom line.
• Recent policy announcements have given the appearance of a
Government clearing the deck ahead of election announcement. There is
growing speculation that the Government will call an election for either
August 21 or 28 (the latest it can be called is 16 April 2011).
• With Budget forecasts little changed overall, the fiscal outlook is still
likely to leave little room for big spending by either party. All major
political parties will therefore remain under pressure to fully fund all new
spending and big spending commitments will most likely need to be
delayed to beyond 2012-13 when the Budget is back in the black.
• The Government is legally required to release a Pre-Election and Fiscal
Outlook (PEFO) 10 days after the writs for an election are issued. This is a
similar document to today's update and we don't expect drastic changes
to key figures should the election be called shortly as expected.
FIGURE 1. UNDERLYING CASH BALANCE
2010-11 (F) 2011-12 (F) 2012-13 (P) 2013-14 (P)

Budget Update (July 2010)

A$bn -40.4 -10.0 3.1 4.8
% of GDP -2.8 -0.7 0.2 0.3
Budget 2010-11 (May 2010)
A$bn -40.8 -13.0 1.0 5.4
% of GDP -2.9 -0.9 0.1 0.3

Source: Budget Papers

 Australian Federal Budget Update / 14 July 2010 / 2 of 6

ASSESSMENT AND STATEMENT DETAILS

AGAIN, ‘PARAMETER VARIATIONS’ DRIVE FISCAL IMPROVEMENT
Overall, today's Economic Statement does not provide a significantly
Riki Polygenis
different view of Australia's fiscal outlook than at the time of the
Senior Economist
Budget two months ago.
The Budget is still expected to return to surplus in 2012-13, with small
upward revisions over the forward estimates period totalling A$4.9bn
(see figure 1). The deficits in 2010-11 and 2011-12 have been revised down
by A$0.4bn and A$3.0bn respectively to A$40.4bn and A$10bn. The Budget
surplus in 2012-13 has been revised up by A$2.1bn to A$3.1bn although the
2013-14 surplus has been revised down to A$4.8bn from A$5.4bn.
While this is the fastest return to surplus of any of the advanced
economies, it must be noted that the improvement is driven entirely
by ‘parameter variations’ rather than policy changes (see the ‘Economic
Outlook’ below). 1 Parameter variations, primarily due to higher commodity
prices, have added A$10.5bn to the underlying cash balance between 2010-11
and 2013-14 (see figure 2). In accrual terms, this figure amounts to
A$12.9bn, driven by A$7.7bn in extra revenue and A$5.2bn less in expenses.
FIGURE 2: RECONCILIATION OF GENERAL GOVERNMENT UNDERLYING CASH
BALANCE ESTIMATES (A$BN)

2009-10 2010-11 2011-12 2012-13

Budget 2010-11 -40.76 -13.05 1.02 5.43

May 2010
Parameter Variations Update 0.54 2.81 2.43 4.75
July 2010
No Policy Change Underlying Cash -40.22 -10.24 3.45 10.18
Balance
Policy Decisions Update -0.13 0.20 -0.31 -5.38
July 2010

Budget Update 2010-11 -40.35 -10.04 3.13 4.80

Source: Budget Papers

Offsetting this is a A$5.6bn drain on the Budget from policy decisions over the
forward estimates period, including the changed mining tax arrangements, the
extension of the Education Tax Refund to school uniforms (totalling A$340mn
between 2011-12 and 2013-14) and additional funding for the Regional
Infrastructure Fund (A$400mn over the four years from 2010-11).
According to Government figuring, the change to mining tax
arrangements (and new commodity price forecasts) have subtracted
A$1.5bn from the Budget bottom line, with revenue generated now
estimated at A$10.5bn rather than A$12bn over the forward estimates.
Delving a little further into the figures shows that revenue from the
tax change itself would lop A$7.5bn off Government revenue if the
same commodity price forecasts as at Budget time were used.
However, an extra A$6bn in revenue is estimated due to higher commodity
price forecasts.
As announced on 2 July, this A$1.5bn shortfall is being offset by reversing
some additional policy measures announced in May which were to be funded
under the original Resource Super Profits Tax (RSPT). This includes the

1
Parameter variations are changes in spending or revenue projections arising from changes in
economic assumptions, changes in the revenue yield from particular taxes, ‘slippage’ in
implementation of policy decisions, etc.
 Australian Federal Budget Update / 14 July 2010 / 3 of 6

scrapping of the Resource Exploration Rebate (which decreases Government

expenses by a total of A$1.8bn) and halving of the company tax rate reduction
to just 29% to ensure a neutral Budget impact (which adds A$950mn back to
revenue estimates in 2012-13 and 2013-14).
With slightly better Budget balance figures, Government net debt is
forecast to peak at 6.0% of GDP in 2011-12, slightly lower than the 6.1%
forecast in the May Budget. Net debt is then expected to reduce gradually to
5.3% of GDP by 2013-14 and projected to return to zero in 2018-19. As
the Government mentions repeatedly, this compares to all major advanced
economies whose net debt will average 94.2% of GDP in 2015.

ECONOMIC OUTLOOK
UPGRADE TO THE TERMS OF TRADE THE KEY CHANGE TO FORECASTS
Since the release of the May Budget, heightened global economic
Amber Rabinov
uncertainty and renewed financial market volatility has seen the
Senior Economist
Government temper its view of Australian economic momentum over
the next two financial years, at least in real terms. The forecasts for 2010-
11 and 2011-12 GDP growth have been softened by 25bps a piece to 3¼%
and 3¾% respectively, largely driven by a weaker outlook for household
consumption.
FIGURE 3: ECONOMIC OUTLOOK, GOVERNMENT (BUDGET & UPDATE) VS ANZ

ECONOMIC
PARAMETERS 2010-11 (F) 2011-12 (F) 2012-13 (P) 2013-14 (P)
(%)A
Budget Update ANZ Budget Update ANZ Budget Update ANZ Budget Update ANZ

Real GDP 3.25 3.00 3.00 4.00 3.75 3.80 3.00 3.00 3.70 3.00 3.00 3.60

Nominal GDP 8.50 9.25 9.20 5.75 5.25 6.60 5.50 5.25 5.90 5.50 5.25 6.50

Headline
2.50 2.75 2.90 2.50 2.75 3.10 2.50 2.50 2.60 2.50 2.50 2.50
Inflationb

Employment
2.25 2.25 2.20 2.00 2.00 2.10 1.50 1.50 1.80 1.75 1.50 1.80
Growthb

U’ment Ratec 5.00 5.00 4.90 4.75 4.75 4.80 5.00 5.00 4.90 5.00 5.00 4.80

Terms of
14.25 17.00 19.40 -3.75 -4.50 1.00 - - -2.10 - - 2.30
Trade

(a) Year-average per cent change unless otherwise stated.

(b) Through the year growth to the June quarter.
(c) Unemployment rate for the June quarter.
Source: Budget Papers, ANZ.

However, not all forecasts have been downgraded, with the small
improvement in the fiscal outlook being driven by one key forecast
adjustment – the upgrade of the terms of trade outlook. Underpinned
by stronger expectations for bulk commodity (iron ore and coal) prices, the
Government’s forecast for growth in the terms of trade has been lifted to 17%
for 2010-11. Despite the upgrade, in our eyes this forecast still looks
relatively conservative, and arguably leaves the Government room for an
upside surprise on commodity prices. Nonetheless, higher commodity prices
will help to boost tax receipts.
 Australian Federal Budget Update / 14 July 2010 / 4 of 6

The Statement covers the well versed themes of the downside risks to the
global economy, with the outlook clouded by: financial market volatility
stemming from European sovereign debt concerns; the sustainability of the
recovery in the US; inflationary pressures in China; and the challenge of
advanced economies managing fiscal consolidation at a time when growth
remains fragile. These remain the biggest negative threats to the
Australian economy (especially via the terms of trade), and therefore
to the Government’s fiscal outlook.
The Government has also upgraded its forecasts for inflation to 2¾%
in both 2010-11 and 2011-12. We had expressed our concern following the
release of the May Budget that at 2½% over the next two years, the
Government’s CPI forecasts were too weak given the price pressures that were
expected to build in the economy. If anything, stronger than expected
employment growth and commodity price expectations in the intervening
months have only worsened the outlook for inflation. While we still believe
that the Government’s inflation forecasts are too optimistic, the Government
has acknowledged the upside risks to its view.
The main upside risk to the fiscal outlook come from the Government’s
outlook for the labour market. Already since May, better than expected
outcomes in 2009-10 employment growth will likely have lifted personal
income tax receipts while lessening required welfare payments. The risk over
the outlook period is that with the domestic economy continuing to gain
momentum, employment growth (and outcomes in the unemployment rate)
could be stronger than currently forecast. This helps offset the downside risks
posed by the global economy, but ultimately the Government is just being
conservative. 2

KEY POLICY MEASURES

TAXATION
Andrew McManus • Due to the withdrawal of the RSPT and its replacement with Mining
Analyst Resources Rent Tax (MRRT), the policy changes will cost the Government
A$7.5bn over the 2012-13 and 2013-14 Budgets. With parameter
Andrew Dowman
changes taken into consideration this cost will total only A$1.5bn due to
Analyst
upgrades in commodity price forecasts as announced on 2 July.
• As announced on 2 July, due to the withdrawal of the RSPT and its
replacement with MRRT, the Government will now reduce the company
tax rate to 29% (from 30%) instead of the 28% announced in the May
Budget. This has resulted in an extra A$650mn in company tax receipts
from the last Budget estimates, over four years. This tax cut takes effect
from 2013-14. Small businesses will still receive the tax cut in 2012-13
and an instant write-off for assets costing less than A$5,000, as
announced in the May 2010 Budget.
• Government will allow individual taxpayers the option of a standard
deduction of A$500 for work-related expenses, as announced in the May
2010 Budget.
• The Government will extend the education tax refund scheme to cover
school uniforms. It will be paid in the 2012-13 financial year. The cost of
expanding the scheme will be A$340mn over four years.
• The child care rebate will be increased from 30 to 50 per cent of out-of
pocket costs, up to A$7,500 per child again as previously announced in
the May 2010 Budget.

2
After all, it’s better to underpromise and overdeliver.
 Australian Federal Budget Update / 14 July 2010 / 5 of 6

GOVERNMENT EXPENDITURE
• The Government retains its commitment to cap Budget spending growth
to 2% until the surplus reaches 1% of GDP under its deficit exit strategy,
as well as keeping tax receipts as a share of GDP below the 2007-08 level
on average.
• The recently announced MRRT will mean that the Government will no
longer offer an exploration refundable tax offset saving A$1.8bn in
expenses over the four years.
• Raising the superannuation guarantee to 12%has been maintained,
despite changes to the alterations of the mining tax.
ENVIRONMENT
• The Clean Energy initiative announced at the May 2010 Budget, will be
established at a cost of A$5.1 bn to be invested in supporting new
technologies. We still await further Government announcements to reveal
where this money will be spent, although the Government has indicated
that financial assistance for households to install solar panels will be part
of this initiative.
HEALTH
• Government to spend A$7.4bn health services, as announced in the May
2010 Budget. The Government will now take full responsibility for GPs,
primary health care and aged care services.
INFRASTRUCTURE
• The creation of a new regional infrastructure fund has an additional
A$400mn added and now totals A$6bn to be spent over the next decade.
 Australian Federal Budget Update / 14 July 2010 / 6 of 6

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