Grattan on Friday: Labor can’t afford to fail budget test

Julia Gillard has had a victory with her China trip. AAP/Dean Lewins

Having decisively seen off Kevin Rudd’s last hope of returning to his old job, Julia Gillard has put the knife in again with a China visit widely hailed for its big advances in this vital relationship.

An agreement for an annual leadership dialogue and a currency deal that will reduce costs of commerce, together with defence, climate change and other initiatives, and the generally good ambiance surrounding the trip made it a diplomatic success that, only a few years ago, would have been anticipated from a Rudd prime ministership.

Yet, in one of those unlikely circumstances of politics, the Sinophile Rudd had trouble with China relations while the foreign policy tyro (at least until she became PM) has struck a rich lode.

In another twist, it is of course more than likely that it will be Gillard’s opponent Tony Abbott who will be chatting to the Chinese in that first dialogue under the new architecture.

It is hard to translate foreign policy successes into solid domestic advantage, but in this case Gillard’s achievements do fit the government’s narrative about the importance of looking to the Asian Century in preparing Australia for the future.

The NBN debate which has dominated politics at home this week, with the announcement of the Opposition’s compromise plan, is also focused on the future, and it is an issue on which Labor still sees itself as well placed.

Next week is crunch time on another “preparing for the future” front, with Friday’s Council of Australian Governments meeting dealing with the Gonski school funding plan. Negotiations are intense and Gillard will be personally engaged over coming days. It is unclear where the Commonwealth-state head butting will end up. Queensland and Western Australia are the most difficult states. If it can’t get all states, the federal government will live with a patchwork.

After that, it’s on to a budget which, with the weak revenue situation, would be a serious challenge even if it were not an election year.

The promise of a 2012-13 surplus was ditched months ago, and now a recent report in the Australian Financial Review has suggested that there is little prospect of a surplus across the whole budget forward estimates period, which runs to 2016-17.

Some government sources say that is too pessimistic. It would certainly provide a lot of ammunition for the opposition. While it is one thing to explain away a deficits in the near term, especially if most economists are not too fussed, it is another to have no surplus in prospect.

Asked on Sky last weekend whether the budget would offer “a pathway back to surplus”, Finance Minister Penny Wong said “the budget will certainly comply with the Government’s medium term fiscal strategy which has the objective of surpluses over the economic cycle.”

The government’s approach is to let the automatic stabilisers operate (which means not seeking to offset the impact of unexpected changes in the economic situation). But it needs significant savings because the agenda on which it will appeal to the voters, including the school funding program and the disability insurance scheme, demands big spending which must be offset.

There is a degree of flexibility over timing in long term programs, but not so much as to undermine the appearance that the government is committed to them.

The abandonment of the surplus promise also provides some budget wriggle room. There is not now any absolute benchmark against which to measure the bottom line.

The government will cast its deficit numbers as what’s needed to protect growth and jobs – banking on people thinking jobs are the most important priority (unemployment this week rose to 5.6 per cent).

Given Labor’s situation, the budget will be critical. If it turns sour, the government will have no fallback.

It needs the budget to be seen in a sufficiently good light to allow it to apply real pressure to Abbott – for example, to put substance in his budget reply (not an unreasonable demand, so close to the election) and to indicate the Coalition’s pathway back to a surplus. The opposition has been able to push away calls for fiscal details by saying it needs the budget figures.

If the budget tanks – because it is not seen as economically credible or there is sniping within the Labor party over measures – Abbott will once again slip off the hook. One tricky area is the dole – if nothing is done to help those living on this meagre amount, Labor backbenchers are likely to be vocal.

One depressing aspect for Labor is that it will be dropping its budget into a political climate that is deeply negative. That the ALP has been so widely written off makes it harder to get a positive reception for its budget. But the government strategists are still banking on it being able to sharpen the choice on values and policy.

With only five months until the election, there’s an air of fatalism among some in the higher reaches of government. But there is perhaps also a new collegiality in the cabinet. The Ruddite ministers are (mostly) overboard, with former colleagues having no regrets, blaming them for leaks and failure to consult. Those left form a tighter group, as they try desperately to steer the raft.