by Dan Nahum & Jim Stanford
[Originally published via Medium, 26 Oct 2020]

Like governments around the world, the COVID-19 pandemic and resulting recession knocked a huge hole in Queensland’s state budget. Big losses in revenues from the recession, combined with extra costs of fighting the pandemic, turned a planned $234 million operating surplus for this financial year into an $8.1 billion deficit.

That’s a dramatic but not unmanageable problem. In fact, big deficits are appropriate in a deep recession (Australia’s first in three decades). They represent a timely injection of spending power by the one stakeholder in society — government — with the capacity and financial resources to maintain or expand economic activity despite the macroeconomic headwinds.

Moreover, the decline in interest rates to record-low levels (below zero, adjusted for inflation) makes the economic burden of servicing deficits much smaller. The most urgent priority for government is to continue to contribute to economic recovery, rather than undermining it by prematurely focusing on deficit reduction.

Nevertheless, old habits die hard, and the current campaign has revived traditional phobias about government debt. For example, LNP leader Deb Frecklington has criticised the large deficit, and pledged to achieve a surplus by the end of the next budget’s four-year forward estimates. She hedged her bets somewhat, suggesting she would aim for surplus “if possible”. But how could it be possible, given the $8 billion hole she is starting from? Ms. Frecklington is vague: her government would achieve surplus “by working extremely hard”.

It would take more than politicians’ hard work to eliminate this large but appropriate deficit: it would take mathematical wizardry, as well. Because in addition to pledging a budget surplus, the LNP has made other, contradictory promises: including no tax increases, an increase in front-line public services, no forced redundancies for state workers, and new funding for infrastructure.

You don’t need a degree in maths to comprehend that freezing (or cutting) taxes while increasing spending will grow the deficit — not shrink it. Even though some COVID-related expenses will moderate if contagion is restricted and the economy fully re-opens, eliminating an $8 billion deficit in four years would still require some combination of dramatic cost-cutting or higher taxes. The LNP has promised to do neither.

The crosshairs of any deficit reduction exercise would inevitably settle on the workers who deliver health care, education, and other public services — regardless of comforting words to the contrary by campaigning politicians. Employment expenses are by far the biggest expense of state government, amounting to 40% of total current expenditures. It is impossible to imagine major spending reductions without cutting deeply into that line item.

Research from the Centre for Future Work has indicated that cutting public services, and the workers who deliver them, would badly damage Queensland’s economic recovery. Just freezing total payrolls (by freezing wages and suspending normal hiring) would reduce state GDP by $9 billion over three years. Thousands of public sector jobs would be eliminated — along with thousands more in the private sector, which depends on the spending power generated by public service delivery. Indeed, we estimate 20,000 person-years of private sector employment would be lost through this partial version of austerity.

But eliminating an $8 billion deficit in four years will require much more than a freeze in payrolls: deep cuts to wages and staffing levels would be inevitable. We estimate a 5% cut in total payrolls (barely offsetting half the deficit after three years) would cut $16 billion from state GDP, and eliminate 35,000 person-years of private sector employment. The resulting stagnation would increase the deficit: undermining the very goal (deficit reduction) that motivated austerity in the first place.

So it’s not just public sector workers who pay a steep price for any misguided effort to eliminate the deficit during a recession, nor the citizens who depend on the essential public services they deliver. Thousands of private-sector jobs would also be sacrificed.

Ms. Frecklington received an unlikely endorsement of her deficit-elimination plan last week from visiting Prime Minister Scott Morrison. Just days earlier his own government tabled a budget with the biggest deficit in history ($214 billion), and forecasting large structural deficits for at least the next decade. His own Treasurer, Mr. Frydenberg, was explicit that this is not the time to obsess about balancing the budget. And in August, Mr. Morrison actually urged the states to increase spending to counter the recession. Yet Mr. Morrison suddenly changed his tune when he arrived in Queensland, suggesting the budget could indeed be balanced within four years if the state government could just “get people off unemployment benefits.”

Mr. Morrison is correct that the crucial ingredient in any deficit reduction plan is rebuilding the economy and creating jobs. That’s what generates the revenue essential for budget repair. But government walks a fine line in trying to achieve that recovery. If fiscal support, vital to partial recovery so far, is withdrawn, the economic rebound would be short-circuited, and the budget balance would deteriorate again.

Economic experts — from our own Reserve Bank to international institutions like the World Bank — have also highlighted the importance of focusing on economic recovery rather than deficit reduction. “By borrowing today to support the economy we are avoiding an even bigger loss of output and jobs that would damage our economy and society for years to come, which would put ongoing strain on the budget,” RBA Governor Philip Lowe said in August.

The most important priority for whichever party is elected on 31 October must be supporting economic and social recovery from this pandemic. That means more investment in services, infrastructure, and incomes — not less. They shouldn’t be distracted by pursuit of a fiscal holy grail that is simply not relevant in the post-COVID world.

Dan Nahum and Jim Stanford are economists with the Centre for Future Work.

Originally published by Medium on October 26, 2020

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