How much Newstart should be raised to stimulate Australian economy

The best way to stimulate the economy would be to increase the Newstart allowance because it would be quickly spent, in full.

By how much? Well earlier this month, KPMG chief economist Brendan Rynne suggested between $77 and $83 a week, which would cost about $3 billion. Seems reasonable.

Rynne’s argument was mostly about fairness, not fiscal stimulus: Newstart hasn’t increased in real terms since 1994 – if it had kept pace with wage increases, it would be $83 higher, or $360.85; if it had stayed at 30 per cent of the average wage of the lowest paid workers – in hospitality and retail – as it was in 1994, it would be $355, or $77.15 a week higher.

Said Rynne: “…the low level of Newstart might well be encouraging the unemployed to seek higher income support in the form of disability payments. This is both psychologically damaging for the individuals and costly for government. …the low level of Newstart (also) has the effect of locking people into jobs for fear that they could not survive on Newstart and cannot risk moving jobs.”

These are valid issues, not countered in any way by the government’s argument that the best form of welfare is a job. Does anyone seriously think getting 30 per cent of the lowest paid job would stop you looking for one?

To that can be added the problem of stimulating the economy effectively.

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Cabinet considers QE amid rate warnings

QE likely to pack a punch

As my colleague Michael Roddan reported in The Weekend Australian on Saturday, Treasury has advised the government that unconventional monetary policy and/or fiscal stimulus might soon need to be considered.

The quantitative easing (QE) usually proposed for Australia would involve the Reserve Bank buying residential mortgage-backed securities to lower the banks’ cost of funds.

US and European QE mostly involves the central bank buying government bonds to lower the bond rate, but that wouldn’t have the same impact in Australia because consumer and business interest rates are not set according to government bond rates.

As an aside, it would be rather ironic if the Australian Competition and Consumer Commission was inquiring why the banks are not passing on the RBA cash rate cuts while the RBA was buying mortgage-backed securities to try to lower the banks’ actual cost of funds.

In any case, monetary policy is well into diminishing returns, in fact there is a solid case that it’s doing the opposite of stimulus by scaring people: if interest rates are this low then the economy must be in serious trouble.

It’s clear from the retail data that the tax cuts already paid out have only been partially spent, if at all.

This is showing up in business and consumer confidence indexes, both of which have fallen since the latest round of rate cuts started, and anecdotally, virtually every economist and CEO I speak to says the rate cuts are now having the opposite effect to that intended.

As for fiscal stimulus, the conventional focus is on infrastructure spending or bringing forward tax cuts.

The problem with the former is that there is already a lot of it going on, so there’s likely to be a shortage of construction capacity not to mention an excess of transport disruption. I don’t know about other cities, but Melbourne is very hard to get around these days because of all the roadworks.

Meanwhile, it’s clear from the retail data that the tax cuts already paid out have only been partially spent, if at all. Retail sales grew 0.4 per cent in August, month on month, which was up on the previous month’s 0.2 per cent but not much better than the average of the past two years (0.3 per cent per month).

The problem with tax cuts (all of them) is that they only give back part of the tax increases from bracket creep, and even with the recent cuts, taxes will continue to rise.

The Parliamentary Budget Office says that average tax rates for those in the $20,000 to $38,000 per year income bracket will see a 4.5 percentage point increase in their average tax rates due to bracket creep; and households in the $38,000 to $58,000 per year income group are expected to see a 3.9ppt increase over next ten years.

A slight reduction in the rate of increase in the tax burden is never going to encourage a rush to the shops.

The only thing that would have an instant and total pass-through to the economy would be an increase in the Newstart allowance.

It would also have the added benefit of being compassionate and the right thing to do; it might even buy some votes for the Coalition.

* Alan Kohler is Editor in Chief of InvestSMART.com.au