RAW: State Budget Mid Year Update – What Needs To Be Revealed

It is expected that the Treasurer, Jack Snelling, will release his mid-year update this Friday. The fact it will come so close to Christmas suggests a lot of nasties will be (finally) revealed. As we pointed out in our previous reviews of State debts and Mike Rann’s financial legacy, budget numbers of the past ten years reflect poorly on the competence of Treasury economists and finance gurus as political spin has come to overwhelm the process.

However, one suspects that if the fullest and most frank disclosures of the extent of the problems were to be made the announcement would come about 4pm on Friday, 23^rd December.

Nonetheless, here in some detail is what you should look out for but two headline numbers to focus on are:

*   All of State Government Liabilities to now reach $22billion

*   Adjustments to current year and forward estimates of $2.5b – negative

*   Very possibly, AAA rating will be announced as gone this Friday

State Super

The unfunded portion of the State’s old superannuation scheme remains out of control. When the Treasurer announced his budget in early June, a surplus for the year in that scheme of $110m was projected. However, (and this one is no fault of the Treasurer), those projections were based on market returns that were then to be adversely affected by world stock market turn downs in June, which amounted to at least 10% on equities.

Depending on when the Treasurer dated his calculations, the estimated impact on returns and thus the unfunded liabilities of the State at the end of last financial year, is in the order of negative $200m.

Against this, the gains on the values of US Government bonds will help offset a portion of that.

In this financial year, the position has been adversely affected by the two reductions in official interest rates. These not only reduce variable interest income but, more importantly, affect the discount rate by which the value of future liabilities is calculated; lower discount rates mean the current value of future payments goes up. Kryztoff estimates the impact of this on the total unfunded liability position is in the order of a massive $1.2 billion.

State Super projections are also based on average annual returns on the fund’s assets which are assumed at 7%. Well, there is no 7% happening this year at present and while no one can predict the future in markets, this assumption presently does look awfully aggressive given predictions about Europe and the global economy generally for the foreseeable future.

Payroll Tax

In the State budget, the Treasurer effectively implied his Government was going to raise payroll tax rates by 20%. That hasn’t yet been announced and should now be removed from the calculations for this year and the forward estimates. The impact of this is about $30m this year and $150m in 2014.

Land Taxes

Although house prices and transactions have been at best steady or declining for the past year, the Treasurer saw fit to project a massive 34% hike in returns from land tax and stamp duties over the next four years, including a 50% increase in the land transactions portion.

While the stunt of some independently assessed 7% increase in land values was used to raise Land Taxes this year, going forward no such bullish projections should be used (at least until increases in values and transactions actually start occurring.) The impact of that is estimated at $70m this year and $350m in 2014. Anything less than that suggests that a hike in the actual rate of Land Tax is on its way.

GST Revenues

The State Government very much likes to blame its woes on reductions in GST revenue coming from the Federal Government. The mid-year Federal Government review suggested a fall of $50-80m over the forward estimate period – around, at most $20m a year. It’s chicken solids.

The big hit is in 2014 where the State Government has projected a sharp increase in the rate of GST expected from the Federal Government, even though at present that portion is fixed.

Kryztoff suspects this boost in that year was very much designed to present a (relatively) glowing surplus figure in that year. However, stripping that ‘miscalculation’ away takes off $120m in that year.

In Aggregate

Of top of all this is the fact that the State’ economy shrunk by 1.6% in the last quarter, a stunningly bad result that the government was only too happy to join the media in glossing over. The impact of this goes to the underlying growth projections in the budgets for forthcoming years on such things as Gross State Product, CPI and employment levels.

Just what Snelling does about this will be interesting but the impact of the other items is going to be quite enough (if revealed) to damped Christmas cheer for any who follow the fortunes of this State.

Then there are continual budget blow outs in areas such as health that show no signs of being placed under control – special task forces or not.

But for the purposes of this analysis, we shall ignore all those impacts, though they should be quite significant (in the hundreds of millions of dollars each year.)

So, we project the State Budget loss for this year will go from $263m to something more like $400m, matching last year’s whopper of $427m.

Going out to 2014, the result in that year will go from a $655m surplus to at best break even.

On all of the State’s financial liabilities, these should increase by $1b in debt by end of 2014 (currently projections are for a decline of $700m) and the unfunded State Super liability will increase by $1.4 billion. All up total State liabilities will increase from the projected $19.5b to around $22b.

The AAA Rating

As previously noted, this State is already the proverbial country mile from retaining the AAA rating. Using the ratio of all of government financial liabilities to revenues as the guide (which is one of the stated methods of calculation used by Standard & Poors), we are already $3.8b shy of the key 90% ratio level required to maintain AAA. (The ratio in fact comes out at 114%.)

The budget projections in June saw that figure only coming back to $3.2b in FY 2015 after increasing to $4.4b in the 2013/14 year.

The adjustments set out above suggest that by the end of 2014/15 financial year, this State will be in fact $5.6b shy of AAA (a ratio of 121%).

When S&P do next come to inspect the finances of the State they will no doubt note a number of negative trends that are becoming entrenched in the Government’s financial strategies (which are of interest to S&P in their ‘qualitative measures’) including:

• Large operating and cash losses from 2008 that can now be expected to extend to at least 2015
• An unwillingness to take hard measures in relation to public sector employment levels
• Reliance on sales of what remains of the Government’s saleable assets to make ends meet
• Continual borrowing to pay operating costs
• The relatively small portion of total revenues derived from its own taxing activities and the high levels at which they already exist.
• The unfunded superannuation scheme being out of control at the current levels of Treasury support, in no small way due to the $2b in losses incurred in the GFC for which this Government has declined to make any statement or fiscal adjustment.

While S&P is certain to downgrade the State from AAA to AA+, may be even as a part of the mid-year revisions to be announced by Treasurer Jack Snelling on Friday, the real likelihood, given where the budget is at, the trends associated with it and the further blow out in the unfunded State Super liability is that a further down grade is also inevitable before this Labor Government goes to the polls again in March 2014.

Given how far off this State now is, questions have to be asked of S&P as to why it has taken them so long to react to the massive deterioration in this State’s finances since the GFC.

Conclusion

This State Government, aided by the mainstream media which possesses few clues about finances, has been actively promoting this view that its problems has resulted from external factors such as the Federal Government reducing its GST payments but they only talk then about $10m here or $20m there.

The facts are this Government is haemorrhaging cash and has been since the GFC with $6b lost on operations and another $2b on asset valuations since that time. The June budget projected a stabilisation (only) of that situation over the next four years but the reality is that the situation is only getting worse over this period.

It gets yet worse when annual payments for the new Adelaide Hospital of $350m a year kick in then, yet more will be required beyond the current $450m currently being injected into the unfunded State Super liability and the interest burden on our debts start to climb.

Adelaide was once referred to as the Athens of the South, a reference to our climate, culture and sea side location. It is rapidly risking being referred to as that again under the strain of a budget situation that is careering out of control, just like in that other Athens.

The spin the government is trotting out is that this will be ‘a choice between investment into our future and retaining AAA rating.’ Even members of the Economic Advisory Board have decided to place their own reputations on the line in support of this rubbish. The reality as noted above is that the AAA is gone and not coming back for a very long time, if ever.

Investment and jobs v AAA sounds great but there are no economic benefits arising from the Adelaide Oval redevelopment and even if one accepts a new hospital is required, (which this writer does not), the means of funding it via a public private partnership is a disaster waiting to happen. What would have cost say $3b in borrowings will now cost around $12billion in a stunt designed merely to avoid parliamentary scrutiny and keep the debt figures as low as possible in the budget papers.

One of the reasons economic growth has stopped in this State is because most government building programs have closed down in favour of channelling money into their election pledges.

The only responsible way forward is to slash public sector employment now (estimated as costing $600m – $700m pa beyond what is required), deferring for at least five years Adelaide Oval and canning the new Royal Adelaide Hospital in favour of further upgrades to the current premises.

In the Labor Caucus room, this may sound like political suicide. However, it will buy the Government two years to get things sort of back on track, whereas a runaway budget problem in 2014 will certainly mean electoral Armageddon.

In short the choice for Labor is to either wean itself off its policies of hard core political patronage or perishing big time at the polls (even up against Isobel Redmond and her hapless colleagues.)

Over to you Jack and Jay.