• John Spoehr

18 May 2006If the economic cycle works against him, Peter Costello could be in big trouble, writes John Spoehr




THE HANDING OVER of the prime ministerial mantle is under way. The metamorphosis of Peter Costello is happening before our eyes. His annoying smirk has been replaced by a smile, a tell tale sign that he will soon have the job he has coveted. The scene is being set for a smooth leadership transition and he looks more than a little relaxed and comfortable about the prospect of living in the Lodge soon.



While the budget was overshadowed by the Beaconsfield mining disaster it appears to have set the prime minister in waiting up for a smooth ride through to the election. It had all the hallmarks of a big spending pre-election Budget, pushing tried and true political buttons. It was clearly designed to ease Costello in as the new leader. But just how confident should Peter Costello be about winning the next federal election? Will his presidential-style budget pronouncements be enough to insulate him against the political damage that rising interest rates and petrol prices is likely to generate? He might end up being a political casualty of a downturn in the Australian economy next year.



While the Budget revealed that sustained economic and employment growth has generated a revenue windfall that made it possible to deliver $37 billion worth of personal income tax cuts, it will not compensate many Australians for rising interest rates and petrol prices. More broadly, the Budget obscures that fact that many Australian households and companies are sailing close to the wind financially. They are debt laden and poorly positioned to weather the storm of rising interest rates and petrol prices.



The fundamental problem that Peter Costello faces as prime minister is one that has haunted politicians throughout history. Economic booms don’t go on forever, particularly if they are constructed on the back of excessive borrowing fuelled by profit hungry banks and rapacious speculators. A generation of Australians may not realise it but booms are followed by downturns. Some are shallow while others are deep like the recessions of the 1980s and 1990s. While it’s to be hoped that the coming downturn will be a shallow one, there is little doubt that it will hit middle and low income earners hard. This is because loan repayments on household debt now consume around 10 per cent of household income. In this context relatively small interest rates rises have the potential to break the financial back of many households.



Voters will punish the Coalition at the next election if the tax cuts and changes to family benefits in the Budget fail to compensate them for rising interest rates and petrol prices. Rising interest rates since the last election have added an extra $70 a month to the average household while petrol and childcare costs have skyrocketed over the last twelve months. It now costs around $40 dollars a month more to fill up your car and $100 a month more to place your child in childcare. A further increase in interest rates of just half a per cent would cost households an extra $4 billion in repayments.



The major beneficiaries of the tax and family benefit changes introduced by the Howard government over the last decade have been high income earners. The ACTU estimate that the top 5 per cent of income earners have received around a quarter of the total personal tax cuts delivered by the Howard government since 1996. While this year’s Budget delivers an extra $6200 to those earning over $150,000 it provides just $512 to the average income earner.



Household debt is not the only debt problem that Australia faces. Australia’s burgeoning foreign debt is going largely unnoticed. The Budget ignored it and Peter Costello is likely to continue to ignore it until the Opposition rams home an effective reminder that it cannot be ignored any longer. Remember the ‘Debt Truck’ that Peter Costello used to illustrate how much foreign debt had accumulated under the Labor government prior to the 1996 federal election? A timer on the truck had debt ticking over at around $193 billion. Today it is around $500 billion. Labor might want to resort to the use of a debt rocket to illustrate the point this time around. Australia’s current account deficit (a measure of how much more we import than we export) is running at around $56 billion this financial year and is set to rise. The Budget should be doing a great deal more to support Australian manufacturing to export more and replace imports. It is struggling to survive because the sector has been forced to operate on an uneven global playing field. Much of it may eventually disappear from our shores if it is left exposed to unfair competition from China, India and other high tariff countries. A much higher level of investment in the Budget in research and development, transportation and other infrastructure, education and skills was necessary to ensure that manufacturing remains strong in Australia.



It was surprising how little attention was focused in the Treasurer’s Budget speech on tackling future skills shortages when this is one of the most pressing policy challenges facing Australia over the next decade. This is an Achilles heal of the Howard government. Under the Coalition the public education and training sector has been forced to rely far too much on full-fee paying students. Universities are now exposed to significant financial risks if overseas student numbers decline in the face of competition from other countries. At a time when the sector should be gearing up to deal with the challenge of growing skills shortages in Australia it is preoccupied with capturing a larger share of overseas students to fill a budgetary hole created by inadequate public funding of higher education. The sector needs a multi-billion dollar injection to focus its attention on building Australia’s qualifications and skills base in the face of rapidly accelerating retirement rates.



The recent lending binge sets the scene for a credit squeeze which combined with rising oil prices, threaten Peter Costello’s political ambitions. Rising interest rates and petrol prices have the potential to rapidly erode the latest round of tax cuts for many. If they do, the government will struggle to win the next election. Fortune has been on John Howard’s side but it may abandon Peter Costello if the economic cycle works against him. •



John Spoehr is executive director of the Australian Institute for Social Research at the University of Adelaide. This article also appears in the Adelaide Review.



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