When doctors take charge of the economy

Three men hold the key to mortgage rates, taxes and essential services ... and the nation’s prosperity.

Treasurer Jim Chalmers and the CEO of the Business Council of Australia Jennifer Westacott on a political panel hosted by Sky News. Picture: John Feder

Three doctors are now tending Australia’s economy through a delicate transition. Three? Is the nation that crook? OK, they’re not emergency medicos, but Jim Chalmers, Treasury secretary Steven Kennedy and Reserve Bank governor Philip Lowe have PhDs and street nous.

They are facing the most testing circumstances of their professional careers, what Kennedy calls “the most complex international environment in 70 years”.

This week the trio, in different ways, laid out the scale of our challenges, over this year and beyond, as big-gulp inflation changes the policy game on our shores. Settings that were dialled up to “extraordinary” because of the pandemic need to be restored to normal lest they further distort the dynamics of the economy.

The RBA’s 50-basis-point rise in the cash rate target, now 0.85 per cent, was a jolt to every link in the financial transactions line. It was the central bank’s largest interest rate rise in 22 years.

Veteran economists could not recall a policy move that came as such a surprise to market watchers. Lowe said the bank “is committed to doing what is necessary to ensure that inflation in Australia returns to target over time”. That 2 to 3 per cent band may be out of reach for some time, former RBA chief Ian Macfarlane says, nominating 5 per cent as a more likely home base.

How quickly things have turned and will continue to change as mortgage rates rise, home prices tumble off crazy highs and household spending adjusts to the new cost of money and consumer price-shock of almost everything we need.

This was always going to happen, of course, but a many-headed beast has been unleashed, not helped by Russia or China, and we can’t pretend market rules don’t apply to us.

Commonwealth Bank head of Australian economics Gareth Aird said the RBA had “radically shifted gear”. He now expects a string of aggressive moves to quash inflation will push unemployment higher next year.

The drip-drip-drip of higher borrowing rates across the rest of the year as the RBA catches up to the play is the backdrop for Labor’s first budget, which Chalmers, the new Treasurer, confirmed would be on or about October 25.

Prime Minister Anthony Albanese has a growing list of messy issues pooling at his door.

By then Labor will have had five months of shifting the furniture and marking out its terrain. We’ll see its priorities and expertise at the wheel, and just how much appetite Anthony Albanese has for political danger, if any, in power.

But the Prime Minister has a growing list of messy issues pooling at his door, most of which are bequeathed from the vanquished and a helter-skelter world. The Treasurer’s demeanour reflects surface positivity, but there are early signs of aversion to risk. The fiscal statement is a golden opportunity to begin to lift the speed limits on economic growth and deal with endemic problems that limit our institutions to deal with the major crises that come around once every decade.

Kennedy offered solutions on Wednesday in a tour de force address at an Australian Business Economists lunch, providing a rich insight into Treasury’s assessment of the nation’s chronic ailments.

It’s the best, if not only, window into the advice that prompted Chalmers to raise the post-election alarm about the dire state of the budget.

“In many ways a lot of my focus with the new Treasurer will be ensuring that we have sustainable spending and taxing behaviour,” Kennedy said, given our post-pandemic social compact for more, more and more from Canberra and the pressures from an ageing population.

Unintentionally reviving the Coalition’s annoying earworm campaign ad about Labor’s leaky budget, which readers can rediscover at their leisure, Kennedy called for prudent fiscal repair. It applies to both sides of politics.

The path involves spending restraint and a better-quality tax mix, rejecting as unusual the politicians’ campaign chimera of stabilising debt through growth and a favourable interest-rate dynamic. That just won’t cut it, in both senses. Kennedy pointed out “budget surpluses have played an important role in historical episodes of debt reductions”.

“Significant medium-term spending pressures have emerged over the past two years, and this will see spending remain at a higher level than pre-Covid,” Kennedy said of pledges on aged care, disability services and, eventually, national defence.

“We will need a tax system fit for purpose to pay for these services, that appropriately balances fairness and efficiency. This is achievable.”

Almost in a forlorn reprise, late on Wednesday the OECD issued its Economic Outlook, calling for tax reform, to shift the burden from personal income tax to land and consumption. As Kennedy noted in his speech, the average tax paid by wage and salary earners will rise to a record 27 per cent in just over a decade (from 23 per cent today).

Treasury secretary Dr Steven Kennedy briefing Jim Chalmers at the Treasurer's Logan home. Picture: Supplied

The tax system offers too many lurks for the well-off and those who can massage their incomes to dodge tax.

To fortify the revenue base, we need to wind back “tax expenditures”, including $42bn for superannuation and $12bn for trusts.

It has been a long 13 months between non-required public outings for Kennedy, with the pandemic and political cycles locking him into Canberra’s exclusive econocrat zone. Straight off the top, two observations can be made of the Treasury chief’s intervention. First, this was not a speech Kennedy would have made if the Morrison government had been returned on May 21.

The reason is obvious: a fourth-term administration has an established way of doing things, and so does the bureaucracy that serves it. A new government, whatever its colouring, provides openings; a world of possibilities, in theory at least, the previous show was not interested in.

Second, Kennedy’s blunt assessment of Australia’s woes does not quite match the new Treasurer’s glass-near-empty view. Kennedy offered points of light and promise, not least of which is near full employment. Is that difference a problem?

Not necessarily, because Chalmers is trying to change the national conversation about our economic challenges. Albanese Labor has created expectations about what it can do to ease cost-of-living pressures, raise wages and productivity, and run Canberra more efficiently than the previous franchisees.

Kennedy is not a fiscal jihadist, but he is not as solemn about the challenges as his political master. Does budget repair have to begin right now? Is the economy on a crash course? No and no. Is anyone proposing austerity? Again, no. But doing something this term, and early, should make the transitions easier in the next term, and then later in the decade.

The role of the treasurer, as one keen observer in the markets realm noted many years ago, is essentially “head of government marketing (economic)”.

Governor of the Reserve Bank of Australia Philip Lowe. PIcture: Louie Douvis

Grim Jim’s grave rhetoric, which risks startling people about their prospects, is about resetting the debate and trying to establish cover to do good things that might bring temporary pain to some for broader gains in the community. But it’s a superior approach than that of his predecessor; Josh Frydenberg gained Treasury’s respect for his work ethic but never put his personal stamp on the role.

In part, it’s due to the failed operational strictures of Team Morrison, where the former prime minister and his surrogates commandeered messaging control. Loyal to a fault, Frydenberg played within himself, failing to cut through on policy in the community other than reinforcing his likability.

Lots of other smart people weren’t heard, let alone listened to. It’s a mistake Labor, now safely out of the “discipline at all costs” that prevailed because it was always scared of a full-blown Morrison assault, would be wise to avoid in government. Early signs are that Albanese will give his Treasurer room to move and to grow. We shall see.

But how much space is there for Labor to act? Albanese systematically ditched Labor’s broad 2019 taxing agenda, raising new taxes and closing loopholes. Those proposed measures – including changes to superannuation, negative gearing and trusts, halving the capital gains tax discount and abolishing cash refunds for excess franking credits – from a doomed campaign would be handy now. Chalmers starts with forecast deficits of $224bn across the next four years and gross debt of $1.2 trillion.

Time and again, global bodies have called for a switch in the tax mix to help sustain our budgets.

“The current recovery would also be a good time to reduce Australia’s heavy reliance on taxation of personal incomes, which adds to the vulnerability of public finances to an ageing population,” the Paris-based OECD, headed by former Australian finance minister Mathias Cormann, said this week.

“Furthermore, consideration should be given to increasing or broadening the base of the Goods and Services Tax, reducing private pension tax breaks, reducing the capital gains tax discount and further replacing stamp duty with a recurrent land tax. Such reforms would result in a more sustainable tax base.”

They sure would. Many will recall the relentless campaign by Cormann, Frydenberg and Morrison over Labor’s “tax bomb”. Albanese’s retreat, in line with voter wishes, rules out revisiting such measures in this term. So, too, does Labor’s micro agenda in the recent campaign. Chalmers also has ruled out changing the GST. Sadly, given the reform task, there are more outs than ins.

On the same day as Kennedy’s manifesto was nailed at the Four Seasons in Sydney, Chalmers addressed an event hosted by The Australian and Sky News. The Treasurer said he did not fear a recession but the nation faced “incredibly serious and incredibly significant” challenges.

Chalmers pointed to a string of reviews to presage changes to improve the nation’s performance. “I genuinely think Australia has a real­ly big opportunity to have a stronger economy and society after Covid than before,” he said, sounding less dire.

Getting there will depend on fixing leaks in the tax system while restoring its health and fairness. Removing the Coalition’s spending “rorts and waste” and fleecing multinationals will be as easy and pleasurable as it will be triumphantly symbolic at a time of fat company profits. But all that busy work will barely cover the ongoing budget costs coming down the line, some of which Labor originated and which it now should be obliged to address. The looming structural fiscal gap is in the order of $40bn to $50bn in today’s dollars. The first budget of a term is the platform for a reset.

More cost-of-living relief from Labor in October won’t help the RBA’s Lowe or fellow board member Kennedy in the fight against inflation, made more difficult by the mess in energy markets.

Some wise old owls see an inflation rate of 8 per cent this year, not far behind where it will settle at 9 per cent for other rich countries according to the OECD. If community expectations on inflation continue to change, a wage-price spiral is possible, which would not be kind to anyone, especially those on low incomes.

One senior Canberra official welcomes the “democratic dividend” from the peaceful change of government we’ve just experienced. The source anticipates policy adventure, fresh eyes and a mood to solve problems. There’s potentially some goodwill with a range of new and different people in parliament, and a wounded Coalition to help Labor settle in and achieve momentum. Politically, there may never be a better time to follow the doctor’s advice.