Percy Allan: reforming the Australian federation like dominoes

By Percy Allan

July 31, 2015

Reforming the Australian federation is not easy because it requires near unanimity by all governments. So the question is not only what should be done, but more importantly how it will come about?

Any academic specialising in this area will say the challenge is correcting “vertical fiscal imbalance” and simplifying “horizontal fiscal equalisation”. But my guess is that most people don’t understand, let alone care about VFS and HFE. Instead they are concerned about news reports that:

  • The Commonwealth is living beyond its means with the gap between revenues and expenditure widening each year forcing increased borrowings that swell public debt;
  • Hospital spending at state level is growing three times faster than the general economy so is unsustainable unless new funding is found and hospitals are run more efficiently;
  • Australia’s personal and company tax rates are amongst the highest in the world and nothing is being done to stop ordinary wage earners drifting into higher tax brackets;
  • Inefficient state taxes, namely stamp duties on property transactions and insurance policies, are a barrier to young people buying houses and older people downsizing to apartments; and
  • Recent social reforms offering national support for all disabled persons, equalisation of schooling resources and universal childcare subsidies are unfunded.

These burning platforms are realities, not fabrications. Attempts to ignore them won’t boost confidence and make the economy grow faster, but rather make voters lose trust in their leaders. We need to acknowledge that the above problems pose a threat to both our economic growth and social fabric. The federation faces a crisis that won’t go away without a national discourse and hard decisions.

Lobby groups are pushing for either tax relief (businesses calling for a higher GST to reduce company tax) or higher spending (welfare groups asking for higher income taxes to fund social programs). But such pleadings won’t win broad support because their demands are too narrow and sectional.

“There are too many stakeholders to bring their leaders around a single table as Hawke once did … today’s politicians are too combative to find common ground.”

Others including retired politicians, ex-mandarins and newspaper editors call for a grand bargain — like the Hawke National Economic Summit of 1983 — that everyone can sign off on. The Australian and the Financial Review have temporarily suspended their rivalry to convene a National Reform Summit of business, unions and welfare leaders to fill the leadership vacuum left by politicians.

The grand bargain as promoted by Bob Hawke, when PM, is hard to revive because our economy and society have become less cohesive and more competitive. Unions no longer represent most workers, business is split between cosy giants and disruptive newcomers and welfare groups disagree over government and private provision. It’s not only harder now to get consensus, but there are too many stakeholders to bring their leaders around a single table as Hawke once did. Also the Commonwealth government does not have a bucket of money to buy reforms and there is no Hawke clone to act as conciliator. Today’s politicians are too combative to find common ground.

So any reform of the federation is more likely to result from pre-emptive action by one level of government that forces a counter-move by the other tier producing a combined outcome that hopefully advances the wider interest of the country. Such a chain-reaction or domino effect has already started and could result in the following scenario that would overhaul Commonwealth/State taxes, spending and fiscal relations.


Domino One — Commonwealth plays first

The National Audit Commission showed the federal government’s spending was growing much faster than its revenues, which was unsustainable. In response the federal treasurer in last year’s budget capped the growth of Commonwealth grants to the states for health and education. This resulted in a saving of $80 billion in health and education grants over the decade starting 2017/18. Hockey’s move was the first domino to fall.

After protesting about this cut for a year, the states eventually realised that unless they came up with a solution they faced massive hospital closures. While they could blame the Commonwealth for their plight, hospitals are ultimately a state responsibility, so they needed to find the money themselves.


Domino Two — NSW calls bluff

The impasse was broken by New South Wales Premier Mike Baird, calling for an increase in the GST from 10% to 15% to help ensure hospital services survived. South Australia’s Premier, Jay Weatherill, lent his support, giving the proposal a bi-partisan credibility. One newspaper poll of its readers found 58% approved and only 33% disagreed. Tabloid editorials praised Baird for his leadership. The Premiers of Victoria and Queensland suggested an alternative way to save hospitals; double the Medicare levy to 4%. But that was widely condemned because it would lift Australia’s marginal tax rate to 51%; amongst the highest in the world. Baird’s initiative marked the second domino to fall.


Domino Three — Backed in a corner

The next flash point was a remark by Joe Hockey on Andrew Bolt’s Sunday Bolt Report program that the federal government would promise tax cuts at the next federal election. He didn’t spell out how he would fund it. But if he had a higher GST in mind that idea was quickly gazumped by Baird’s bid for a GST rise to fund hospitals while also compensating lower to middle income earners for its inflationary impact. Baird’s proposal would still leave a 10% funding shortfall for hospitals, but that should be possible to close through greater hospital efficiencies.

Possibilities include scrapping inflexible nurse-to-patient ratios and absurd demarcation of tasks, full devolution of financial and managerial responsibilities to independent hospital boards, giving hospital general managers total control over personnel matters, outsourcing construction and management of all new hospitals, and better demand management by reintroducing small charges to stop hospital emergency wards being a free alternative to GP services.

Hockey could still fund income tax cuts for both individuals and companies, notwithstanding resistance within his own party to two obvious means. One is to extend the 15% tax on superannuation earnings in accumulation mode to those in pension mode. Or at least setting a threshold on pension mode earnings above which a 15% tax would apply. The other is to abolish negative gearing so that borrowing for investing has to be serviced wholly from capital returns, not wages or salaries. Again these measures are politically doable in return for lower tax rates for individuals and businesses generally. This constitutes the third domino.


Domino Four — An upset in the Territory

The fourth fuse has already been lit by the ACT which is gradually abolishing stamp duty on property conveyances over a 20-year time frame, with an initial five year plan having started in June 2012. It is also phasing out stamp duty on all insurance premiums, including building and contents, motor vehicles, professional indemnity (excluding life insurance) by June 2016. This is a good example of competitive federalism where one jurisdiction takes the lead and if others see it as feasible follow suit. It’s not clear how the ACT is funding this initiative, but all states and territories could do it by slowly phasing in land tax on owner occupied dwellings.

The practice (at least in NSW) of hypothecating insurance levies for fire brigades means the latter have continued expanding even though modern buildings are largely fire-proof. Cutting insurance levies by rationalising fire services should be a state priority. Attempts by fire services to rebrand themselves as emergency services should be resisted. The boom in real estate prices has put pressure on governments to scrap property conveyance and insurance duty to help young people afford a home and older people wanting to downsize to switch homes. The fourth domino is ready to fall.


Domino Five — Played by both sides

The fifth grenade will be thrown by the Opposition. It’s committed to maintaining the Gonski school funding model beyond the first term of the current government, but has not explained how it would pay for it. Yet if the above tax changes happen, extra revenue from Labor’s decision to prevent multinationals and high income earners avoiding local tax would be available for Gonski, unless the Coalition rejected this source. Any remaining funding gap could be met by federal savings measures that the Senate would find hard to reject if it wanted a continuation of Gonksi. That would be the fifth domino.

“Such an approach … would suit the combative instincts of our current crop of politicians”

A cascading series of large changes brought on by fiscal crises demanding difficult, but not impossible trade-offs stands a better chance of public acceptance than a grand bargain between our political and community leaders aimed at lofty ideals not understood or endorsed by the average citizen.

The German philosopher Georg Wilhelm Friedrich Hegel observed that historical progress followed a path of action, reaction and synthesis. Australia is ripe for such an approach given its heightened political polarisation and acrimony. It would suit the combative instincts of our current crop of politicians yet the innate distrust and conservatism of the Australian electorate means each pre-emptive action would need to be met by a fiscally responsible reaction to be credible. And a synthesis of such actions and reactions could amount to a new reform program to rescue our federation from paralysis.

The recent Greek crisis sent a strong message through all democracies that electorates that tolerate governments running up deficits and debts eventually imperil their own wellbeing and their country’s sovereignty. Ignoring the looming crises over national fiscal sustainability, state health funding, internationally competitive taxes, affordable property transfers and funding accepted social initiatives — is not an option. So let the dominoes fall.

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