Economists back budget blowout in wake of coronavirus pandemic

Economists have backed a massive blowout in the budget deficit amid unprecedented fiscal support in the wake of the corona­virus pandemic.

Economists have backed a massive blowout in the budget deficit amid unprecedented fiscal support in the wake of the corona­virus pandemic while arguing that the government will need to do more to stop lasting economic damage from Australia’s first recession since 1991.

In Thursday’s Economic and Fiscal Update, Josh Frydenberg projected an underlying cash budget deficit of $85.8bn in 2019-20, slumping to $184.5bn — or 9.7 per cent of GDP, a post-war high — in 2020-21, versus a $6.1bn surplus forecast in the ­December Mid-Year Economic and Fiscal Outlook.

On top of an economic hit costing more than $100bn by the end of 2020-21, the impact of policy measures — including more than $20bn from extensions of the JobKeeper and JobSeeker programs announced this week — will boost the COVID-19 response package to nearly $174bn.

The deficit will push net debt to $677bn, or 35.7 per cent of GDP, by June next year, from $373.6bn, or 19.2 per cent of GDP, at June 2019, but market economists and ratings agencies said the debt was manageable and expect additional stimulus to be announced in the October budget.

“Debt levels have increased materially, associated with the budget deterioration,” Westpac chief economist Bill Evans said.

“That said, they remain below many other advanced nations and arguably still manageable in an environment of ultra-low interest rates — with the 10-year government bond trading below 1 per cent, a rate below the ­nation’s medium-term growth potential.”

Financial markets stayed buoyant, with the S&P/ASX 200 index up 0.3 per cent to 6094.5, 10-year government bond yields down 2.6 basis points to 0.86 per cent and the dollar trading around US71.5c after hitting a 15-month high of US71.82c in early offshore trade.

Mr Evans predicts another extension of the JobKeeper and JobSeeker programs until June 2021 — costing $15bn — and a pull forward of legislated personal tax cuts costing about $14bn a year and additional infrastructure and cash payments costing about $8bn in the budget.

“Those policies combined would lift the estimated budget deficit by around $30bn,” Mr Evans said.

AMP Capital’s head of investment strategy and chief economist, Shane Oliver, said additional stimulus announced in the past two weeks would “help turn the fiscal cliff in October into a fiscal slope”.

Coronavirus-related fiscal stimulus excluding loans and guarantees this year increases to 8.7 per cent of GDP, which is “well and truly at the high end of comparable countries” but “it’s doubtful that this will be enough given the long tail of unemployment flowing from the corona­virus shock”, Dr Oliver said.

If not for the JobKeeper program and people leaving the workforce, the “effective unemployment rate” would be 11.3 per cent — well above the “official measured rate” of 7.4 per cent.

This has fallen from 14.8 per cent in April thanks to the reopening of the economy, but with the threat to the recovery posed by the second wave of cases in Victoria and lockdown in Melbourne, and the risk of a flow-on to NSW, effective unemployment may still be 9 per cent or more going into next year, so continued income support was essential, Dr Oliver cautioned.

The October budget was likely to include even more fiscal support from a pull forward of the tax cuts, and additional investment incentives and support for specific industries were likely.

The government may have delayed extra stimulus to gauge how much more help would be needed, with “a lot riding on how quickly the latest outbreak of coronavirus is brought back under control”.

“Spreading out the announcement of new stimulus measures may also get more bang for the buck in terms of the boost to confidence,” Dr Oliver said.

His forecast of a $220bn budget deficit in 2020-21 reflects both a bigger hit to revenue and additional stimulus of about $17bn to be announced in the October budget.

“Our assessment remains that the blowout in the budget deficit is affordable,” Dr Oliver said.

“The budget and associated debt blowout is unlikely to cause a major problem as public debt is relatively low, borrowing costs are very low, the government is borrowing in Australian dollars and it’s not dependent on foreign capital. Letting the deficit rise is the right thing to do.”

RBC chief economist Su-Lin Ong said the economic update “will be taken reasonably well” by the market as it could have looked a lot worse, albeit “the risk is that the deficit and thus bond issuance is revised up at a later date, including at or even before the October budget”.

“Still, at just 35.7 per cent of GDP, net debt to GDP by the end of 2020-21 looks very low by international standards, suggesting the commonwealth balance sheet retains plenty of headroom to expand further in the face of some possible extra slippage in future,” Ms Ong said.

“Given the sombre labour market picture depicted in the update, we would be surprised if there are not more measures announced in the coming months and the October budget.”

Global ratings agency S&P said the budget update was consistent with its AAA rating for Australia.

But risks to Australia’s rating was “tilted to the downside”, with Victoria’s lockdown set to drag on the national economic recovery in the September quarter by an estimated 0.75 per cent.