THE BIG PICTURE: Why there’s no need to rush back to budget surplus

During the year, the spotlight is rarely thrown on the Federal Government’s budget position. Certainly there is the handing down of the annual budget statement in May and then there is the half-year check-up around November/December. But apart from that, there is little focus. That is a shame, because monthly budget statements are produced, enabling a regular assessment about whether the numbers are stacking up.

The latest monthly budget numbers for March were released on April 29. Some criticised the timing of the data – occurring on the day of the Royal Wedding. But both Coalition and Labor Governments have made it a habit of releasing the monthly figures on a Friday afternoon. Clearly the spotlight makes the bean counters uncomfortable.

In the 12 months to March, the budget deficit stood at just under $60 billion. Given that the Federal Government is aiming for a deficit of $41.5 billion by June, it clearly has a lot of work to do over the next three months. In each of the next three months the budget result will need to be $6 billion better than a year ago.

Even when you focus on the so-called “profile” deficit – the estimate of where the deficit should be – there is a gap of $4.6 billion. That is, the deficit is almost $5 billion higher than it should be.

Part of the blame has been attributed to the floods and cyclone, resulting in increased government spending. But the annual total of government revenue is also well short of government/Treasury estimates. In the year to March, government revenue was $298.6 billion, whereas the full 2010/11 estimate stands at $319.7 billion. Even the “profile” position of revenues is almost $5 billion short of where the government/Treasury estimated it to be by now.

So while the floods and cyclone may have complicated the budget task for the Government, the Reserve Bank has also made life difficult as well with the rush to lift interest rates, especially the last move in November. The economy is only muddling through at present with higher interest rates and higher living costs restraining consumer spending. This is further evidenced by GST receipts – over the past six months annual GST receipts have been moving sideways.

The medium-term outlook for the budget is still favourable. Companies are in good shape, profits are rising and employment should continue to grow. The Government just needs to maintain discipline on spending (expenses) over the next few years and the budget position will trend back to balance. While it is laudable that the Government is committed to returning the budget to surplus, there is no need to rush.

The week ahead

The Federal budget dominates the domestic economic calendar over the coming week but it certainly doesn’t hog the limelight completely with trade, tourism and employment indicators also due for release. Overseas, monthly Chinese economic data will be released while trade, consumer spending and inflation indicators dominate in the US.

On Monday, the Advantage and ANZ gauges on job advertisements will be released. Job ads are growing at a steady pace, suggesting that the job market will continue to tighten. Hopefully that situation will be addressed with a lift in the skilled migrant intake when the Federal budget is handed down on Tuesday.

The Federal budget is handed down on Tuesday night. At this stage the budget deficit for the current financial year looks likely to be around $50-55 billion, rather than $41.5 billion as forecast late last year. The slippage this financial year has potential to extend into 2011/12, placing at risk projections of a surplus by 2012/13. The Government may forecast a deficit in the region of $20-25 billion for 2011/12, up from the current estimate of $12.3 billion. If it were to stick with the current projections, it would require fresh initiatives to either trim spending or boost the tax revenue take.

Data on tourism arrivals/departures and migration will also be issued on Tuesday together with trade figures for March. The downturn in short- and longer-term arrivals will be confirmed but the trade position may have returned to surplus by around $1.0 billion.

The other indicator to be closely watched in the coming week is the monthly job figures, issued on Thursday. Each month employment needs to rise by around 20,000 to keep the jobless rate stable and we are tipping a 25,000 increase in new jobs for April. As a result the jobless rate will remain at 4.9% or edge a touch lower to 4.8% – depending on what the participation rate does.

Turning attention overseas, China is scheduled to issue monthly trade data on Tuesday and should follow this up on Wednesday with the usual monthly “download” of data, covering spending, production, investment and inflation.

In the US, data on trade prices is released on Tuesday together with figures on wholesale inventories. On Wednesday, trade figures for March are issued together with the monthly budget estimates.

While the data in the first half of the week is unlikely to set the world on fire, the second half of the week is a different story. On Thursday retail sales, producer prices and business inventories are scheduled with consumer prices and consumer sentiment slated for release on Friday.

Economists tip a 0.5% lift in retail sales in April (up 0.7% if auto sales are excluded) – a healthy result when you consider the soft job market, but inflated somewhat by higher gasoline prices. The core measures of both producer and consumer prices (excludes food and energy prices) should have lifted by 0.2% in April, confirming that inflation is creeping back as a focus for investors. But little change is tipped for consumer sentiment.

Sharemarket

According to financial markets data provider, FactSet, the “World” sharemarket is currently up 7.1% in US dollar terms since the start of the year. European sharemarkets have outperformed, especially Eastern Europe, but even the Spanish sharemarket has lifted 24% with Germany up almost 18%. While Asian sharemarkets have been mixed, North American markets have lifted just over 8% with the US up 8.6%. Australia, by comparison, has tracked the world market, lifting 7.7%.

But you get a far different picture if you look at global markets in Australian dollar terms. On this basis, the “World” sharemarket has barely moved in 2011 as has the Australian sharemarket. Domestic investors may be disappointed by the performance of our shares, but less so foreign investors, focused on US dollar returns.

We haven’t adjusted our sharemarket forecasts since mid-March and see little need to do so now. CommSec expects the ASX 200 to reach 4,900 by mid-2011 and 5,200 by end 2011. The strong Aussie dollar will provide headwinds in the short-term together with our flat economy. A softer Aussie dollar and firmer domestic and global growth should boost Aussie shares later in 2011.

Interest rates, currencies & commodities

In Commodity Boom Mk1, demand for bulk cargo vessels rose sharply, causing freight rates to soar. In August 2002 the Baltic Dry freight index was hovering near 1,000, but in the space of a year it had doubled, and by February 2004 it stood at 5,700. But clearly it takes time to build new ships and freight costs didn’t stop there, hitting 11,793 in May 2008.

In Commodity boom MkII, freight rates have been better behaved, reflecting a better balance between demand and supply. Currently the Baltic Dry index stands at 1,269 – a level that is much more in line with the prevailing trend from the mid-1980s through to the start of the first commodity boom. Supply eventually catches up with demand, a point that is worth keeping in mind when thinking about commodities more generally.

Craig James is chief economist at CommSec.