The revenue woes for Australia’s states

We are most of the way through a very long budget season this year, beginning with Victorian Treasurer Kim Wells in May and is not due to end till Queensland Treasurer Tim Nicholls delivers his first budget on September 12.

Late on Friday night, Victorian Premier Ted Baillieu released details of the deep public sector job cuts first announced in the May budget. It followed continuing protests from NSW emergency services over cuts to the state’s workers’ compensation scheme.

From what’s on the table, we can see that state budgets are in a bit of a mess that seems to be getting worse rather than better.

These financial woes are not because of reckless spending. The trouble stems from revenues, which are flat-lining and seem set to stay that way for the foreseeable future.

Figure 1: State/local government receipts as % of Gross Domestic Product, 2000/1-2012/13 (Year to June) Source: Commonwealth Government (2012), Budget Paper Number 3, Australia’s Federal Relations, p. 164

We are only seeing the problem clearly now because the Rudd government’s recession-busting stimulus spending that was channelled through the states is coming to a premature end.

Top of the list of revenue woes facing the states are the proceeds from the GST, which since its arrival almost a decade ago grew annually at almost double digit rates.

For the last four years they’ve all but come to a standstill, and are no longer growing anywhere near the rates that are required to keep State Treasurers happy.

Table 1: Estimated impact of GST reduction on State budgets, 2011/12 and 2012/13 ($m). Source: State budget papers

They’ve come to a halt for a number of reasons. Households are spending less and saving more. And more of what they are spending is on services that are not subject to the GST. Health and education are top of the tree, but then there’s also overseas holidays and on-line purchases which are gathering momentum now that the dollar is so high and global supply chains have become so efficient.

Also households are borrowing less, which compounds what was already a tricky problem. For it is not just consumer credit which has taken a hit, but also housing finance which has slumped across the land.

Big falls in home lending mean less property market activity, which in turn translates into declines in house prices. With fewer properties being sold at lower prices, the states have seen another pretty big chunk of cash slip away, for duties on property market transfers represents one of their biggest own-source revenues.

Table 2: Stamp duties by State, 2007/8-2011/12 ($m). Source: State budget papers

For all but two of the states, the revenue tragedy has seen operating surpluses replaced by ever-bigger deficits. Top of the list is Queensland, which is budgeting for an operating loss next year of over $4.5 billion. Most of the other states are not that far behind. NSW is facing a $900m operating deficit, South Australia is in the red to the tune of almost $1 billion, while Tasmania is looking at back-to-back deficits of more than $200m.

Only two state operating budgets are in the black; Victoria with a threadbare $155m, and WA with almost $200m. Victoria is precariously placed, and has kept itself in surplus because of budget cuts equivalent to almost $1.2 billion, which may still not be enough to keep the credit rating agencies at bay.

WA is the stand out, for it alone is humming along. Interestingly, its GST revenues have also been whacked, but for very different reasons to the rest. Whereas the other states are hurting primarily because of declines to the GST pool, WA is feeling the pinch mainly because its other revenues are growing so fast it is deemed to need much less of a shrinking pool by the Commonwealth Grants Commission, which each year works out how to split up the GST pie amongst the states.

The Grants Commissions job is to ensure each state is given enough to be able to provide the same level of services as others without having to levy extra taxation.

Five years ago Western Australia’s royalty revenue was not much more than $1 billion. Next year it will be over $4 billion and will soon crack the $6 billion barrier in a revenue windfall of gold rush proportions.

So, while WA has also taken a hit from a property market slump, its mining revenues are booming to such an extent that its biggest fiscal problem is how to spend all the cash that is flooding in. For three years in a row, WA has underspent the funds it has available, and this year it has set up yet another trust fund into which surplus monies will be channelled.

All this begs the question: why is it that the rest of the country is doing it tough? In large part it’s for the very same reason why WA is doing so well: the mining boom has driven up the Australian dollar and this in turn has made trading conditions in manufacturing, education, tourism and the retail sector so much more difficult. Slower economic growth outside of WA and Queensland has meant less jobs and this has combined with the overhang of the global financial crisis to push household confidence to record lows.

Why isn’t resource-rich Queensland doing as well as WA? It has the misfortune to have coal as its main mining export, which is not booming at the whopping rate iron ore is in the West. In fact, in 2009-2010 Queensland’s royalty revenue fell by a massive $1.5 billion just at that moment when it was desperately needed.

So far the response by the states to their budget woes has been rather telling. Victoria and NSW have embraced austerity and announced 15,000 public service job losses. South Australia and Tasmania on the other hand have deferred any further budget cuts till the year after next, when state elections will be behind rather than in front of them.

Queensland is preparing for the worst, having set up a not-so-independent Commission of Audit headed by former Coalition Treasurer, Peter Costello, whose pretty tough findings will shape Campbell Newman government’s first budget set to be delivered in three months time.

It’s not just the states in a revenue jam. The Commonwealth has been suffering the very same problem for pretty much the same reason. The high Aussie dollar has slowed the growth of big company tax industries in manufacturing, retail and service sectors, while the industry behind the high dollar – mining – pays low taxes. The Commonwealth’s last budget was saved by a mixture of measures, the most important of which were the mining (a net $3 billion winner) and carbon taxes (net $4 billion), which together with the dumping of promised business tax cuts (net $2 billion) ensured the budget could be balanced.

For WA, the Australian fiscal federation right now looks like an expensive club whose membership seems not to be needed. There is no shortage of WA politicians who are keen to let it be known that succession may not be such a bad option. For those out West who share this point of view, it would be worth reflecting whose budget is most at risk from any unexpected downturn.

WA has become so heavily reliant on mining royalties arising from China’s economic boom that were the latter to go into recession not only would the WA economy be hit for six but the state budget would fall victim to a gigantic revenue wipe-out.

Putting all this together, the lesson in this for the States is that if they want to solve their budget blues the solution is not necessarily to go it alone or to hop into bed with austerity, but to search for new sources of revenue. They might like to look to another jurisdiction, which because of its small size doesn’t get the sort of attention enjoyed by its bigger and older siblings.

In the most clever of the budgets dished up this year, the ACT’s Treasurer Andrew Barr, began by pointing to his revenue dilemmas, just like his counterparts elsewhere. He then boldly announced reforms designed to make the territory’s tax base broader, fairer and more secure by replacing inefficient taxes while extending those that are better and more stable. To his credit, his work drew heavily on the Henry Tax Review when others allowed it to be forgotten. Amongst other things, stamp duties on land transfers will be phased out and replaced by a progressive tax on all ratable properties.

Although revenue neutral, the ACT has come up with a long-term plan that’s visionary and refreshingly constructive, and which offers hope to those states whose budgets remain in trouble.

This article first appeared on The Conversation.