RSM Australia

Countdown to tax reform - 2015 Intergenerational Report

Joe Hockey, Australia’s treasurer, released the 2015 Intergenerational Report (IGR) on Thursday 5 March 2015, and in so doing has taken a step closer to kicking off the stalled tax reform process.

The IGR is produced by Federal Treasury on a periodic basis, at intervals of no greater than five years. Its purpose is to assess the long-term sustainability of current government policies and how changes to Australia’s population size and age profile may impact on economic growth, the workforce and public finances over the next 40 years, ie. 2055 for this report.

The key drivers of economic growth are at the centre of the IGR’s analysis:

  • population
  • participation
  • productivity

The projected changes in each of these is forecast to assess the likely implications for our future standard of living, and the attendant public policy settings.

And about tax reform?

As 2014 closed out, the Federal Government foreshadowed the twin white paper processes (tax reform and reform of the Federation) would commence early in 2015. The political meltdown over the holiday break resulted in that reform start date being deferred, with no new date offered – although certainly not prior to the release of the IGR.

Now the IGR has been released, the government can be expected to use the projections to build the case for the need for wide ranging tax reform, as well as reform in many other areas of the policy spectrum.

Whilst there has to date been no indication of when the twin reform processes will start, it will no doubt be a question much asked of the treasurer by the media. With the window for the next federal election being somewhere between August 2016 and January 2017, there is precious little time for any meaningful tax reform process to be undertaken, with recommendations being reviewed by the government and the public case for reform bills, and then taken to an election which could be as early as August 2016.

As the Henry Tax Review took around one and a half years from start to government policy announcements, and with the turn-of-the-century Howard/Costello tax reform process taking nearly 2 years, it can be questioned how significant this round of tax reform may possibly be. That will become clearer in due course.

Population and demographic changes

The IGR projects Australia’s population to be 39.7m by 2055. This is achieved by an average annual growth rate in the population of 1.3% over the period, which is noted as being slightly lower than the average population growth rate over the last 40 years, at 1.4%. This also assumes that annual net overseas migration will run at a rate of 215,000 per annum, which is lower than the recent actual rate.

It will be interesting to see whether this projected population figure again starts the acrimonious fight that engulfed former PM, Mr Rudd. He suggested that Australia should aim for a population of 35m, following which a very public media brawl erupted between supporters of a 'big Australia' (with its positive economic benefits), and those who supported a much lower population target (prioritizing sustainability over economic benefits).

But it is the change in the demographic structure which will have the greatest implications for policy.

The number of people of working age (for this purpose defined as being between 15 and 64) supporting every person aged 65 and over, has fallen from 7.3 people in 1975, to a current estimate of 4.5 today. The IGR projects the figure will drop to 2.7 people by 2055.

This will have obvious implications for the raising of taxation revenue, and an increase in the services demanded by an ageing population.

On a positive note, Australia’s average life expectancy is projected to increase from the current 91.5/93.6 (male/female) of today to 95.1/96.6 by 2055.

Participation

The IGR expects the proportion of the population participating in the labour force to decline over the next 40 years, as the population ages. Of working age Australians, the current participation rate of 64.6% is expected to drop to 62.4%. This reduction in participation foreshadows slower economic growth over the next 40 years, but opportunities are identified to counterbalance this through increased participation by women and young people, as well as attracting older Australians to continue working.

Comparisons are made between Australia’s female participation rate and that of Canada – Canada’s female participation rate is 4% greater than Australia’s. New Zealand’s participation rate for people over 65 is also much higher than Australia’s. With Australia’s minimum pension age already being pushed back beyond 65, and an expectation that the access age for superannuation will eventually be brought into line, the “stick” component of encouraging a longer working life is already in operation.

Productivity

The IGR notes that Australia’s rate of productivity growth has slowed, so that during the 2000s it has averaged 1.5%. During the 1990s, it averaged 2.2% per annum, as a result of the significant economic reforms made during the 1980s and 1990s.

Continual innovation and reform will be required if Australia is to increase the productivity growth rate. And of course productivity growth is all about international competition – as Australia’s productivity increases, so will that of our major competitors, and we may need to run harder simply to maintain our relative international standing.

Economic projections

Economic growth is projected to be 2.8% per annum on average over the forecast period, being slightly slower than the 3.1% per annum achieved over the last 40 years as a result of an ageing population and a declining participation rate.

The budget position

The IGR notes that Australia has a current daily shortfall of revenue over expenses of $100m, which is $100m per day. Three alternative future scenarios are modelled in the IGR, with the following assumptions, and 2054 – 55 outcomes.

  Underlying cash result (as a % of GST) Net debt (as a % of GST)
Previous policy 11.7% - deficit $5,559 bn
122%
Currently legislated 6% - deficit $2,609 bn
60%
Proposed policy (1.47%) - surplus $0 (by 2031-32)

Revenue

The IGR recognises that bracket creep is going to play a significant role in mending the national balance sheet. In other words, effective tax rates will increase for all individual taxpayers.

The average tax-to-GDP ratio for the period 2000 to 2008 (post-GST and pre-GFC) was 23.9%. Currently, the ratio is 22% of GDP, with a return to the 23.9% average projected to occur around 2020. Only then would the government be in a position to cut tax rates, and ameliorate the pernicious effect of bracket creep.

Conclusion

It can be expected that the IGR will be front-page news for some time, with vested interest groups attacking or supporting particular aspects of the underlying modelling. But at the end of the day, the IGR is merely a working document which aims to throw some focused light on the likely future Australian population, its demographic distribution and propensity to work.

As the IGR loses topicality, expect to see a bridge built leading from the report to the commencement of the long-awaited tax reform process.

We will continue to follow the tax reform process when - eventually - it gets underway and we will keep you updated.


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