Economics & Tax

Recently CCI released its Pre-Budget Submission, which focused on public sector reform to protect Western Australia's financial position and ensure the AAA credit rating was retained.

The submission prompted the WA Government to renew its commitment to deliver much needed reform of the public sector.

At a recent business luncheon, the Premier Colin Barnett indicated his intention to review the government sector to improve the efficiency of its operations. Notably, the Premier said he had asked every Minister to look carefully at their agencies and review them totally.

While the Premier responded favourably to CCI's Pre-Budget Submission, the overall response has been somewhat mixed.

Nonetheless, CCI strongly believes that broader reforms to the public service are necessary to make certain that resources are directed to their most valuable use, and that increased efficiencies are achieved in program delivery. Such reforms are particularly important given deteriorating economic and financial conditions in WA.

As part of this goal, there is a need to reduce the number of government agencies, particularly where there is duplication and inefficiencies, or their function is no longer required. At present, WA's government structure has more agencies, departments, committees and government entities than most other states.

CCI's Pre-Budget Submission identified a number of government bodies that should be scrutinised, because they might no longer be needed or their work could be done more efficiently. 

Subject to such a review, these bodies could be consolidated, abolished, or their services privatised or contracted out.

That is not to say that this will be, or should be, the final outcome. Rather, the review may determine that the State Government is best placed to provide these services, or that the services are currently being provided efficiently.

It is necessary to investigate the government sector at an agency level as this is likely to lead to significant cost savings. Such reforms could significantly improve Western Australia's budget position and allow government to focus its attention and funding on its core areas of service delivery.

The options identified in CCI's pre-budget submission are by no means an exhaustive list of agencies which should be reformed. Rather, the list provides examples of the types of reforms that CCI believes the government should consider as part of the economic audit process.

While the current economic circumstances are challenging, they also present the State Government with the opportunity to implement lasting reforms. CCI will continue its long standing push for reform of the public sector to ensure efficient and effective delivery of services, including those that benefit business.

By Dana Mason

CCI Senior Economist

Current economic circumstances have significantly altered the budget position of the newly elected WA Government, which will now need to demonstrate careful budget management to ensure that the previously forecast billion dollar surpluses do not turn into deficits.

Such challenging economic circumstances also present the state with the opportunity to implement lasting reforms to the public sector and thereby address the budget pressures that have arisen from unsustainable growth in general government expenditure in recent years.

The excessive growth in general government spending by successive WA governments has long been of concern to CCI, particularly given that it was not coupled with a commensurate increase in service delivery. With the economic climate now far less favourable, the WA Government can no longer rely on a strong revenue base to support continued spending blowouts.

CCI has welcomed recent announcements by the WA Government to contain expenditure growth, through its commitment to impose a once-off, 3% efficiency dividend, as well as to conduct an economic audit of the operational and financial performance of the WA public sector.

It is important that ongoing measures are adopted to ensure expenditure growth is contained. Such measures must have a primary focus on containing wages growth, including the setting of aggregate wage growth targets for departments and agencies and instituting an efficiency dividend on output costs of at least 1% a year.

CCI has also welcomed the WA Government's renewed focus to ensure that the public service operates effectively and has put forward a range of initiatives to improve government management. These initiatives centre on clear and measurable performance targets and the establishment of a clear strategic direction.

Broader reforms to the public service, through the reduction in the number of departments and agencies, are also necessary. There are many opportunities to create a more efficient public service through increased private sector involvement and scaling back agencies that are no longer relevant, or do not perform a core function of government.

Exerting control over expenses is not only important to preserve the state's budget position, but will also ease pressure on the government to find additional revenues during difficult financial times, which would otherwise increase the burden upon taxpayers.

The WA Government should use the 2009-10 State Budget to demonstrate its commitment to providing genuine taxation relief and reform to taxpayers and reverse the deterioration in the state's taxation competitiveness in recent years.

Although the government's ability to direct adequate funding towards tax cuts has been limited by the deteriorating short term outlook, some effort to provide taxation relief is expected and required to promote growth and investment in the state.

The government's election commitment for the provision of $250 million in tax cuts is a positive first step in what CCI hopes will be part of an ongoing program aimed at improving WA's tax competitiveness. To maximise the impact of this modest commitment, the allocation should be applied to one tax reduction measure. Reducing the payroll tax rate and increasing the exemption threshold and addressing the recent surge in land tax assessments are the priority taxation issues.

The WA Government plays a key role in the state's economic development through the provision of high quality social and economic infrastructure. It is now more important than ever that such infrastructure is provided in a fiscally responsible manner.

The government needs to be prudent in its investment decisions to ensure net debt levels do not threaten the state's AAA credit rating. A key aspect of this is to develop an appropriate means of prioritising infrastructure projects under consideration - including those that form part of the Royalties for Regions policy - through the development of a medium term infrastructure plan.

The timing of projects is equally important. By constructing key projects in a counter cyclical manner, this will prevent a 'crowding out' effect, which occurs when the public and private sectors compete for a limited amount of resources.

CCI supports the government's infrastructure priorities identified in its recent submission to the National Infrastructure Audit, including the Ord Stage 2 project, common use infrastructure for Oakajee Port, the Northbridge Link, Pilbara housing and Indigenous essential services and transport links around the Perth Airport.

It is important that the government plans for the state's long term infrastructure needs and resists the temptation to scrap projects that are not an immediate priority.

In addition to these projects, CCI has also compiled a list of key economic and social infrastructure priorities for consideration as part of the 2009-10 budget, including:

• Broadband in WA
• Bunbury Outer Ring Road
• Multi-purpose outdoor stadium
• Perth Waterfront Precinct

While the deteriorating economic conditions have certainly brought about a need for prudent financial management, it is critical not to lose sight of the positive longer term outlook for the state.

CCI has identified a range of key policy priorities which it believes are essential to long term growth and development in the state. These issues are detailed in CCI's 2008 policy paper, Strategies for Growth. A copy of this document is available on CCI’s website.

This long term agenda is even more crucial in these challenging economic times. Governments must resist calls for further regulation and industry assistance and should continue an economic reform agenda that is critical to sustained, long term prosperity. No other economic system has proved as capable as free enterprise in providing the economic circumstances most likely to deliver a sustained high standard of living.

These issues were presented to the WA Government in CCI's 2009-10 Pre-Budget Submission in early February.

By John Nicolaou

CCI Executive Director, Economic
Policy and Chief Economist

The ongoing difficulty in accessing credit from banks and other lending institutions across the country has been one of the most important issues for business during the global financial crisis.

As the crisis took hold during 2008, and the number and scale of banking failures increased, acute credit shortages emerged as wholesale credit markets collapsed. The risk premium attached to lending between even the most secure banking institutions increased to record levels.

While there is increasing evidence that liquidity has been restored in financial markets and that banks are now more able to access credit, this has not necessarily translated into improved credit conditions.

Clearly the days of "easy money" for businesses and consumers alike are gone, with the banks suggesting that lending policies have now returned to what was common prior to boom times. Banks are now scrutinising applications for finance in a more detailed manner. Banks had a belief that risk was underpriced during the boom.

The question is whether market or company risk is now "overpriced". Many small and medium businesses are still finding it very difficult to access finance, while those who can have not benefited from the significant cuts to official interest rates by the RBA in recent months.

CCI is concerned that high borrowing costs and difficulties in obtaining finance remain a constraint on business, many of which face the weakest economic conditions experienced in WA for many years. The banking sector is a central element in an efficiently functioning economy and particularly one which has strong long term prospects.

It is imperative that SMEs provide a strong business plan and detailed financial projections when seeking additional finance from banks. This will assist banks in assessing their application and in securing the necessary finance for the ongoing growth and development of their business.

Businesses big and small must take the opportunity to critically review their business operations and ensure that they are well positioned for when the inevitable upturn arrives.

CCI's SME forum, to be held on 21 April 2009, aims to provide practical insights and strategies for businesses to survive and thrive in 2009. This event will comprise a number of expert speakers on a range of topics and will be opened by the WA Treasurer and Minister for Commerce, the Hon Troy Buswell MLA.

By John Nicolaou

CCI Executive Director, Economic
Policy and Chief Economist

With uncertain times ahead for the world economy, 1,200 people flocked last month to Perth Convention Centre to hear ANZ chief economist Saul Eslake speak at the ANZ CCIWA Economic Breakfast.

As one of Australia's most well known economists, Mr Eslake laid out his opinion on where the global financial crisis was heading and just what the challenges and possible solutions could be.

Mr Eslake reminded WA business that 2009 would be a tough year for Australia, perhaps the most since the 1991 recession.

"This is a better country to be observing and feeling what the world is going through than any other," he said.

"The world economy is digesting the consequences of bursting of one of the biggest asset price and credit bubbles in history.

"Restricted access to credit, even at lower interest rates, and falling asset prices have turned into a vicious circle with significant adverse consequences."

Mr Eslake said the financial crisis was moving into a second stage beyond just problems of liquidity.

"Last year the primary problem was the lack of liquidity in the banking system," he said.

"The best measure of those difficulties was the spread between official interest rates and the rates banks paid wholesale for those funds. Gradually this problem is easing.

"There are significant and growing concerns about the solvency of many banks, whether they have sufficient capital to absorb write offs they will inevitably have to take and whether they have enough capital to meet the demands they are facing for credit given the closure of most of the other sources of finance.

"Increasingly the answer to that question is no, banks still do not have enough capital to withstand these losses and the demand for credit."

The IMF estimates over US$2 trillion will eventually be written off as a result of the global financial crisis.

Banks have so far relied on government capital to offset the impact on their balance sheets. Private investors are unwilling to provide the capital the banks need.

Despite early calls from some economists, Mr Eslake said it was too early to declare the financial crisis over.

"The US has been in recession for over 12 months, longer than the average post war recession," he said.

"Consumers and business are cutting down on discretionary spending. More than three million jobs have been lost in the US over the past 12 months."

More concerning for Australia is the slowdown being experienced in China, with many other smaller Asian economies also concerned as they watch imports to the country fall.

"China's slowdown is not solely due to deterioration in its export markets, but it also owes a great deal to the collapse of its own property and investment bubble,” Mr Eslake said.

“Unfortunately it came at precisely the moment when the rest of the world was suffering from the effects of the global financial crisis.

"China's imports are falling more rapidly than their exports so oddly their trade surplus is actually going up."

Mr Eslake said it was too soon to conclude that China’s economy would in short order return to 8% growth rates.

"There will be a significant rise in unemployment in China over the next 18 months and as a result concerns about social and political unrest," he said.

"Small Asian economies have sought in past years to replace exports to the US and Europe with China and are now similarly in trouble."

While the inflation demon has been the one dominating headlines in recent years in Australia, Mr Eslake said the threat of deflation was far worse.

"Deflation can render monetary policy impotent. If inflation is negative you can not have interest rates lower than zero and it is impossible for monetary policy to engineer a recovery," he said.

Mr Eslake, who has spent 13 years as chief economist at ANZ, was quick to point out the difference between a recession and a depression.

"The US, Europe and some Asian countries are facing a depression. This is not a recession that is just bigger and longer than the garden variety," he said.

"Pre-war depressions were almost always caused by busted asset cycles and governments did not have the knowledge or tools to fix them, so they lasted a long time.

"People may not be spurned by lower interest rates to borrow and banks may not lend to them. Tax cuts will not work in these circumstances because people are more likely to save them than spend them."

The US dollar has been a topic of speculation for many businesses and although some people look at it negatively, Mr Eslake assured that the situation was not as bad as it seemed.

"Some people are very bearish about the outlook for the US dollar. As dire as the situation in the US looks, in most other areas it is worse," he said.

"It is winning against other currencies almost by default. Despite the troubles in America, they are doing more to address them than most other countries."

But how will Australia fare in the downturn? Mr Eslake said it was remarkable how resilient the economy had been in the face of the dramatic deterioration of the world economy.

"Unemployment will inevitably rise but during 2008 that wasn't apparent at all and consumer confidence has held up remarkably well," he said.

"Australian consumers are still shopping and Australia may well be one of the few countries in the world not to have a quarter of negative GDP growth. We will find out in four weeks.

"Australia's housing market and banking system have been stronger and more robust than those in the US and Europe. House prices will ease, but at nothing like the rate in the US."

The price of housing is an influential economic factor and Mr Eslake explained why he thought prices would not collapse dramatically.

"Australia remains significantly short of housing, we do not have an overhang of people selling at any price because they can not pay their mortgage," he said.

"It is remarkable how few Australians got behind in paying their mortgages when interest rates were nearly 10%, so why will they default when they go possibly less than 5%?

"Where the biggest drop in house prices is occurring is in the more expensive suburbs where people have taken on large debts they can no longer sustain.

"The only reason would be a significant increase in unemployment. I doubt it will be on the scale of other countries.”

When it comes to unemployment, Mr Eslake explained that business would be hesitant to lose any employees.

"Employers have spent the last few years worried about labour shortages. They are not going to short sightedly throw people overboard because it may cost them in the long term," he said.

Access to credit has been a main challenge during the global financial crisis. Mr Eslake said Australian banks were continuing to lend, albeit on tougher terms and with more diligent credit standards than in the past.

He also praised the Reserve Bank for decisive action.

"The RBA has been doing what they can and acting with unprecedented pre-emptiveness," he said.

"Deflation is not as serious a risk in Australia as it is with other countries in the world. It is hard to fault the swiftness of the Reserve Bank's actions."

By Luke Nieuwhof

CCI Journalist