Victorians slapped with COVID debt repayment bill

Victorians will be handed the bill from the state’s protracted pandemic response in Tuesday’s state budget, with the Andrews government to detail a $31.5 billion “COVID-19 Debt Repayment Plan” to repay emergency funds borrowed at the height of the global crisis.

The COVID repayment plan, which is likely to include both savings and new revenue measures, will be pitched at the centre of Treasurer Tim Pallas’ ninth and most difficult budget, as higher than predicted interest rates start to bite.

Victorian treasurer Tim Pallas is preparing to deliver his ninth and most difficult budget on Tuesday. Credit: Joe Armao

The budget will seek to distinguish “emergency” debt, used to prepare the health system and prop up the economy as part of the government’s COVID response, from more productive borrowings used to fund the state’s massive infrastructure program.

The government hopes it will also provide assurances to credit rating agencies closely watching this year’s budget for signs that it is serious about repairing its finances and stopping debt from reaching unmanageable levels.

It has also been attempting to redirect blame for the size and cost of its debt to the Reserve Bank, which has increased the official cash rate 11 times over the past 12 months.

A senior government source, speaking anonymously to disclose confidential discussions from national cabinet, said that when Australia was confronting the worst impacts of the pandemic, Reserve Bank Governor Phillip Lowe told state leaders it was likely he would “never sign off on an interest increase” during his seven-year term.

Lowe attended a number of national cabinet meetings throughout the COVID crisis alongside federal Treasury secretary Steven Kennedy to provide guidance on the likely impact of the pandemic on fiscal and monetary policy.

The government source said Lowe’s “incredibly direct” and “emphatic” instructions were for Victoria to borrow and spend to avoid a generational increase in unemployment which could scar the state for decades.

According to the source, Lowe said: “In my term I’ve never increased interest rates and I don’t think I’ll ever sign off on an interest rate increase.”

Lowe’s term as governor ends in September. An RBA spokesperson neither confirmed nor denied the comment attributed to Lowe, saying the governor was unable to discuss any matters before national cabinet.

The purported comments to state leaders are consistent with Lowe’s public comments on interest rates. In February 2021, he said he had a “high degree of confidence” that interest rates would remain on hold until 2024, when inflation would return to the Reserve’s two to three per cent target band.

The aggressive tightening in monetary policy since the last Victorian budget was delivered means that by 2025 an estimated 8 cents of every dollar raised by the government goes towards interest repayments.

However, Victoria has so far been shielded from the full impact of rising rates by the Treasury Corporation of Victoria (TCV), the state’s central financing authority, which took the unusual decision to issue fixed-term government bonds of up 30 years, when the cash rate was near zero, as part of its debt funding program.

The TCV, which manages Victoria’s borrowing, will need to this year refinance almost $5.5 billion worth of borrowing, rising to $8.2 billion in 2023-24, and then $9.2 billion the year after that.

“The people who manage that debt are very good operators,” said interest rate strategist Martin Whetton, the Commonwealth Bank’s former head of fixed income. “The stuff they borrowed during the pandemic is not falling due.”

Darren Langer, the co-head of Australian fixed-income for Yarra Capital Management, said that despite Victoria already having a lower credit rating than the other states, this had not weakened the market for government bonds. He said TCV was currently selling about $2 billion of Victorian government bonds a week. “They are not having trouble raising money,” he said.

“There is nothing there at the moment to concern us, but we would hope to see a lot of the state governments start to address the amount of debt they are borrowing for general government revenue.”

In June 2019, before Australia’s border closures forced Victoria to suspend its two largest exports – tourism and education – and prompted the Andrews government to enforce two years of rolling public health lockdowns, Victoria’s net debt was $25.4 billion, or 5.5 per cent of the state economy.

At the start of this month, TCV’s total borrowings to cover the debt of the state government and state-owned enterprises had reached $140 billion. According to state Treasury’s latest available predictions released just before last year’s election, net government net debt is expected to reach $116 billion – about one fifth of the state economy – at the end of this financial year and grow to $166 billion by mid-2026.

S&P Global Ratings in its most recent assessment of Victoria’s finances predicted that total tax-supported debt will reach $194 billion by 2025. It has kept Victoria on a AA rating, which is a notch lower than NSW, Queensland and South Australia.

S&P rate analyst Anthony Walker said Victoria’s budget was “very weak” compared to other Australian states. He said Victoria’s debt was expected to reach 210 per cent of operating revenues in 2025, which would be the highest among Australian states and triple the level Victoria had at the start of the pandemic.

“Our trigger for a lower rating would be if deficits continue at a similar pace,” Walker told The Sunday Age. “There have been extremely large deficits driven by a very weak operating environment, as well as a very large infrastructure program.”

Economist Saul Eslake said although Victoria’s debt was significantly larger now as a proportion of the economy than it was in the worst of the Cain and Kirner Labor governments 30 years ago, the costs to the state’s finances were still smaller due to lower interest rates.

He said the government had only three options to slow its accumulation of debt: contain the growth in spending, increase revenue through hikes to stamp duty, payroll tax or land tax, or cancel or delay major projects.

The government has already signalled it plans to cut spending and last week announced that work would temporarily cease on one of its signature major projects, the proposed $13 billion Melbourne Airport Rail Link, while the federal government reviews its status.

The government has not flagged any new revenue raising measures in the budget. The senior government source said it had “no choice” but to make tough decisions.

Shadow Treasurer Brad Rowswell said the Opposition would oppose any tax increases. “Is their solution to get themselves out of a mess that they created, to tax the very people who we need to invest more in our state? What they have actually got to do is spend less, not take more.”

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