Defining what is meant by ‘fair’ in Hockey’s budget

How well does the budget “share” the pain around and by what definitions of fairness? AAP/Lukas Coch

Joe Hockey says that this budget shares the pain. But what is the right share for whom? This budget is like all the others – it lacks a compass that tells us the overall effect of government spending and taxation on fairness as indicated by the distribution of national income and wealth. We have no target for fairness in society and no way of assessing the budget against the target.

The budget is full of ad hoc piecemeal changes to the distribution of national income and wealth. Consider the range of arbitrary changes: the 2% tax on earnings over $180,000, the $7 co-payment to the GP, the tighter means-testing of Family Tax Benefits A and B, the effective cuts to pensions through lower rates of indexation, lower benefits to the young unemployed, the subsidy to companies for employing over-50s, paid parental leave of six months at full pay means-tested at $100,000 of income.

And these are just the measures with the most direct effects on income and wealth distribution. Other policies have more indirect redistributive effects, such as the increase in fuel excise, the 1.5% cut in the company tax rate, increase in university fees along with deregulation of fees, cuts to industry subsidies, and the increase in the pension age to 70 by 2035.

And there are even more indirect effects on income distribution such as the interest rate implications of the overall effect of the budget on economic activity - a contractionary budget like this one implies that interest rates will be lower than they otherwise would be. Changes in interest rates affect the distribution of income in complicated ways.

Where did all these piecemeal budget policies come from? What was the guiding principle in terms of fairness? I suggest there wasn’t one. It was driven by motives like “it’s time for all of us to contribute”, as Hockey said in his budget speech.

The actual budget numbers were apparently pulled out of the air since no analytical justification was provided – why $180,000 as the income threshold for the 2% tax? Why a $7 co-payment? Why indexation of parental leave at $100,000? And so on. We have no idea whether these changes, in total, will make household income and wealth more unequal, or less?

Government budgets are a hotchpotch of ad hoc tweaks here and there with no rhyme or reason. We need to fix this. First, governments should set a target for the distribution of household income and wealth using a standard measure such as the Gini coefficient. It is a number between zero and one. The higher the number the more unequal is the distribution – and it can be applied to both income and wealth, at the household or individual level, before and after tax, and so on.

According to the ABS, Australia’s GINI coefficient for household after-tax income is 0.32 which is roughly the OECD average, significantly below the United States but significantly above the Scandinavian countries.

Once we’ve set the fairness target, we need an independent organisation like the National Centre for Social and Economic Modelling (NATSEM) to do a pre-budget assessment for the government, against our fairness target, of proposed budgetary changes.

Then at least we will be able to make an overall assessment of the fairness of the budget, in the same way as we assess the budget against a range of fiscal targets such as the budget deficit, growth of government spending and government debt.

Speaking of the fiscal targets and outcomes, we also need a more rational debate about the appropriate size of government. In this budget, government receipts are projected to increase from 23% of GDP (the amount of goods and services produced by the country in a year) in 2013-14 to 24.9% in 2017-18, while government spending is projected to fall from 25.9% of GDP to 24.8% in 2017-18, implying a return to a small surplus in those four years.

Is this good? The government thinks it is but has not really explained why, except for folksy stories about how we cannot continue to live beyond our means – the sort of thing a parent tells their young adult children.

We deserve a more mature analytical explanation from our national government about the target size of government. Is government spending of 25% of GDP too much, too little or just right on average over the economic cycle? Australia has small-ish government (across all levels combined) by OECD standards, smaller than most European countries but higher than some Asian countries.

Do we want to compare ourselves with Europe or Asia? We need to recognise for example that every dollar of government spending costs about 20 cents in “deadweight losses” through disincentive effects of the ultimate tax collections on working, saving and/or investing.

That needs to be weighed up against the social benefits of government spending, including achieving a “fair” distribution of national income which ultimately comes down to some social value judgements.