Frydenberg’s choice: ego or stimulus?

In December 2012, treasurer Wayne Swan faced a choice: tax revenues had continued to underperform Treasury’s forecasts and the global economy was deteriorating. He’d already cut $10 billion from spending in MYEFO a few weeks before to preserve a promised budget surplus, which he and prime minister Julia Gillard had committed to scores of times.

Now he’d have to cut spending again if he was to cover further shortfalls in tax revenue. But with unemployment at 5.3% and rising, spending cuts risked weakening the economy at a time when it was already struggling. So he could either save his pride and spare the government political embarrassment and maintain the surplus, or cop the humiliation of breaking a promise and prop up the economy.

He chose the latter, eating a platter of shit sandwiches in the process and earning derision from the Coalition (which would go on to break its own promises about a return to surplus). But history confirms it was the right call: the Australian economy at that point was entering an extended period of weakness. The unemployment rate would continue to rise, spending most of 2014-15 above 6%. It would have been a lot worse if the government had ripped another $20 billion out of spending.

Seven years later, Josh Frydenberg, a treasurer as yet untested by major economic challenges and one with a curiously low, almost non-existent public profile, is in a similar situation. The government is “back in black”, he and Prime Minister Scott Morrison have repeatedly insisted, finally achieving the budget surplus that eluded the Gillard, Abbott and Turnbull governments. And Frydenberg has insisted that the surplus is the government’s primary economic objective, one that will not be sacrificed for anything else.

But he too faces a weakening economy, with rising unemployment and, if anything, a global economic situation worse than in late 2012. At least Swan had no problems with wages and household income growth — WPI was growing at a healthy 3.7% then, way ahead of anything we’ve seen under the Coalition for the last six years — and way ahead of anything we’re going to see before the 2020s. And unlike in late 2012, the Reserve Bank is calling for fiscal stimulus to aid its own efforts to get employment growth high enough to put pressure on wages.

Based on the July jobs data released yesterday, there’s no chance of unemployment falling below 5% any time soon, and the RBA thinks it has to fall well below 5% to produce that much-needed upward pressure on wages. In trend terms 24,000 jobs were created (41,000 seasonally adjusted), but trend unemployment edged up over 5.25%, rounding to 5.3%. And the ABS revised down its June report as well: roughly 1,000 jobs added in June in seasonally adjusted terms was revised down to a loss of 2,300, the first job losses for some time.

However, participation was up again to 66.1%. Jobs growth is still good, and luring more people into the workforce so that we’re at record levels of participation — a wonderful thing for an economy with an ageing population. But it’s nowhere near strong enough to get unemployment down, and underemployment and underutilisation rates remained unchanged.

Without further stimulus, we’ll be stuck with stagnant wages and near-zero interest rates.

There’s another important difference between 2012 and 2019. For Swan, every dollar the government borrowed came with an interest rate of around 3% pa — 10 year bonds were just over 3% at the end of that year, five year bonds a little under. Frydenberg can borrow at less than a third of that rate, with Australian bonds following bonds elsewhere below 1%. The 10 year bond yield hit a new all time low of just 0.88% on Thursday, the sixth day in a row the yield has been under the Reserve Bank’s cash rate. The two year yield is 0.72% and the five year yield 0.66%.

It’s a painfully clear indicator there is little confidence in the economy, especially with a volatile US election campaign a year away, when anything could happen.

In fact it’s hard to see a reason why the government shouldn’t borrow — or use the windfall from the spike in iron ore prices — to invest in high quality infrastructure projects. Tts own infrastructure assessment body has made clear that we need to maintain a high level of infrastructure investment all the way through the 2020s if we’re to just keep up with the relentless pace of population growth the Coalition is presiding over.

With a weakening economy and negligible borrowing costs, only ego and ideology would get in the way of providing some fiscal stimulus.