Medicare levy hike gone, tax cuts to come

 

Chief Economist's view

As the delivery of the Federal government budget fast approaches, both the Coalition and the Labor opposition are busy voicing key policy initiatives. In this week’s Brief, we look at the Coalition’s recent announcements regarding the ditching of the hike in the Medicare Levy and the prospect of income tax cuts to be phased in over the coming decade.

This week, Federal Treasury Morrison announced his intention to rescind the rise in the Medicare Levy, proposed in last year’s budget to fund the NDIS. The loss of $8.2 billion in revenue that this entails will be made up, according to Mr Morrison, by additional revenues that are being generated by a strong economy (i.e., stronger than had been assumed at the times of the 2017/18 Budget and the more recent Mid-Year Economic & Fiscal Outlook (MYEFO)). These higher revenues will also be used to fund proposed cuts to income tax rates.

Treasurer Morrison’s claim that more revenues than previously expected will be forthcoming is backed by data on the progress of the 2017/18 Budget. The Department of Finance’s monthly financial statement for March showed that tax receipts are tracking $4.6 billion better than had been forecast in the MYEFO and the budget is tracking $10.6 billion better than forecast at the time of 2017/18 Budget. The improvement in the budget comes predominately from better-than-expected company tax and income tax revenues; amounting to additional revenue of $4.3 billion since MYEFO. Clearly, the full improvement of $10.6 billion in the budget balance over 2017/18 to date alone would cover the loss of revenue from the Medicare Levy over the forward estimates.

Nonetheless, if there was no improvement in receipts over the forward estimates, relative to MYEFO, the budget would deteriorate, on average, by around $2 billion each year over forward estimates. However, the savings made in 2017/18 would mean that the level of government debt would largely the same. The deterioration in the budget of around $2 billion per annum would still allow the Coalition to deliver on its promise to achieve as budget surplus by 2020/21 given the MYEFO estimate is for a surplus of $10.2 billion.

What about the scope for income tax cuts? The scope for significant fully-funded income tax cuts over the forward estimates relies on the revenue gains seen in the current year’s budget being repeated over the forward estimates, rather than being a one-off windfall. Recent government announcements seem to suggest that the Coalition views the 2017/18 improvement as permanent.

For example, in a recent speech, Treasurer Morrison emphasised that, “As a Government we have also not relied on commodity price assumptions to prop up our budget”, suggesting that the improvement does not depend on unsustainable levels of commodity prices. Treasurer Morrison has also cited the upward revision to the Australian economic outlook by the International Monetary Fund as evidence of improving prospects for the domestic economy.

So what kind of outlook for the Australian economy has the government baked into its budget projections? One would have to say that the government has an optimist outlook for the Australian economy. MYEFO projects growth in real economic activity to average 3.0% per annum over the forward estimates. This forecast is high when compared to market-based forecasts of an annual average real GDP growth rate of 2.7% as reported by Consensus Economics.

The Coalition will use the 2018/19 Budget as a centrepiece for the election year. They will seek to deliver income tax cuts and abandon the hike in the Medicare Levy. However, they need to take a prudent approach to ensure that they don’t make the same mistake as all Federal governments over the last decade and a half. Whether it is a reliance on elevated commodity prices or elevated domestic and global economic growth rates, history has shown that fortunes change rapidly. With the budget still in deficit, promising permanent large tax cuts can quickly result in the evaporation of the promised return to surplus should the global or Australian economy fall prey to the myriad of risks overshadowing an otherwise buoyant outlook.

Table 1: Financial market movements, 19 - 26 April 2018

Equity index

Level

Change

10-yr government bond

Yield

Change

Foreign exchange

Rate

Change

S&P 500

2,666.9

-1.0%

US

2.98%

7.1 bps

US Dollar Index (DXY)

91.56

1.8%

Nikkei 225

22,319.6

0.6%

Japan

0.06%

1.7 bps

USD-JPY

109.30

1.8%

FTSE 100

7,421.4

1.3%

UK

1.50%

-1.6 bps

GBP-USD

1.392

-1.2%

DAX

12,500.5

-0.5%

Germany

0.59%

-0.7 bps

EUR-USD

1.210

-2.0%

S&P/ASX 200

5,910.8

0.5%

Australia

2.87%

8.2 bps

AUD-USD

0.755

-2.3%

Source: Bloomberg

 

For economic update by region, click here.

About QIC

Investment Capabilities

Knowledge Centre

Latest News

About QIC