Labor has created the cult of the surplus. It did this to win economic and political virtue. It invited the world to judge its performance by the surplus pledge. Indeed, Julia Gillard told business leaders a few weeks ago the Australian budget was "one of the seven economic wonders of the modern world".
This was hubris on steroids. The origin of this 2010 surplus pledge was to show that Labor was master of the economic upturn as well as master of the economic downturn. As Wayne Swan kept saying, the government would be Keynesians on the way down and Keynesians on the way up. Labor would be a government for all seasons.
In recent years the Prime Minister and Treasurer have spared no superlative in declarations that their surplus pledge will be delivered this year. In the past 18 months they have had opportunity after opportunity to pull back, qualify or abandon this promise in the light of dramatic changes in global events. They refused.
Maybe it was pride. Maybe it was horror at the prospect of admitting defeat. Maybe it was fear of looking weak. Maybe it was their gambler's instinct that Labor's luck had changed. While there was hope of achieving surplus there was no convincing excuse to abandon the pledge. This was the trap.
"Failure is not an option," Gillard said back in 2010 of the return to surplus. Mark those words. Gillard put her reputation on the line. The return to surplus was guaranteed, she said, "no ifs, no buts: it will happen". She was re-elected in August 2010 with the surplus pledge in her kitbag. Back then, two years ago, it looked easier than today.
Swan unveiled the surplus pledge in his 2010 budget. It was a surprise and had been demanded by nobody. The previous position was that, given the fiscal stimulus, Labor would return to surplus by 2015-16. What did this new, tougher position mean? It meant Labor looked substantial, tough and responsible - yet it didn't have to do anything upfront. Perfect.
Swan's proudest boast had been to avert a domestic recession in 2009 by massive pump priming and the Reserve Bank's dramatic interest rate cutting. But Swan, along with Kevin Rudd and Gillard, knew the public had a short memory. In the current real-time political cycle, Labor wanted to campaign at the 2010 election as fiscal conservatives on the rebound. Labor was determined: it would give Tony Abbott and Joe Hockey no scope for any attack on its fiscal responsibility.
Beyond that, Gillard's 2012 revival strategy was premised on the surplus. This was its foundation. Upon this financial rock her new agenda would be built, its fiscal responsibility guaranteed.
This is the background that explains why Labor cannot now pretend bringing down a deficit is a decision of no great consequence. It has years of chest beating, rhetoric and plans to the contrary.
Failure to achieve surplus will vest opposition Treasury spokesman Hockey with prophetic status. He has warned consistently that Labor would never deliver a surplus because this was not in its political DNA.
If the surplus is not delivered it will prove Labor's misjudgments and it will mean its substitute "return to surplus" plan B will provoke inevitable scepticism.
Ultimately, it goes to character. Whether it is Rudd or Gillard as PM, Labor has an incurable addiction to over-promising. It makes, for reasons of short-term politics without proper assessment, pledges of long-run consequence. This is a bad way to run a country. Yet Labor has done this from day one to the present day. It cannot help itself.
Labor's story is that of "ambition in goals, weak in delivery" and the list is embarrassingly long - cutting the homeless rate, bringing down an effective mining tax, stopping boats with a more humane policy than John Howard's, boosting our school performance on the international ratings, fixing the federation through the Council of Australian Governments, pledging in the 2009 defence white paper a huge military procurement agenda that was unrealisable and achieving the surplus by delivering the greatest and fastest fiscal consolidation seen. This list just scrapes the surface.
If Gillard fails on the surplus front Abbott will link this broken pledge to the "no carbon tax" pledge to expose the PM on trust, her maximum vulnerability.
Labor is watering the garden for its new stance. The media is filled with stories that prepare the path. Much of business would be privately delighted. Labor can invoke the latest OECD report on Australia that says if the economy weakens the correct response is to "ease monetary policy and let the automatic stabilisers work" (meaning let the economy stay in deficit).
Of course, growth may stay at trend and the surplus still not appear. Most private-sector forecasters believe Labor will struggle to meet its target and many say it is a fight not worth waging. That is, cutting spending further to achieve surplus only hurts an economy suffering from a high dollar and consumer caution with the Reserve Bank now cutting rates to keep the waters flowing. This is true - as far as it goes.
But it dodges the bigger issue. Labor has a double problem in its May 2013 budget if it suffers a "bottom line" shortfall and is unveiling vast new spending programs - witness the National Disability Insurance Scheme and the Gonski school agenda. This highlights the constant defect in its fiscal policy - it is good at making gross savings but not net savings. Swan and Finance Minister Penny Wong deserve kudos for cutbacks in some Howard era programs but Labor cannot help spending on its own dreams. There is a touch of Whitlamism about contemporary Labor.
Anybody who thinks there is no economic downside from a surplus failure is deluded. The message from the gyrations of the past few years is the imperative to find new and stronger fiscal policy anchors. This is a preoccupation of Treasury as revealed in speeches during the past year from its chief, Martin Parkinson. It concerns economist Ross Garnaut, who recently told Inquirer: "Once you breach the barrier there's no easy limit on expansion of the deficit."
The head of private forecasting group Macroeconomics, Stephen Anthony, tells Inquirer: "I acknowledge the Keynesian argument for a more accommodating fiscal policy now given weakness in the economy, an argument that appeals very much to the self-interest of the public sector and companies dependent upon the public sector. This, however, dodges the critical question: is it better to adopt a tough fiscal policy now or in two years' time when, with the resources boom coming off, we may face a more serious prospect of a downturn? I believe the answer to the question, in terms of minimising risks, is to take the harder decisions now. That means we have a surplus when we may really need it."
The recent budget mid-year Macroeconomics report said Labor's predicament arose because Swan, across five budgets, "has a track record as a net discretionary policy spender at around $120 billion".
Anthony forecasts a budget deficit for 2012-13 and a larger deficit for 2013-14, and warned the structural budget deficit in the current year was about $34bn or 2.2 per cent of gross domestic product. It is hardly a surprise the professionals want a stronger fiscal policy anchor.
This debate plays out against a dramatic and frightening global outlook. It was captured this week by Alan Kohler writing in The Australian: "The dirty secret of the US Federal Reserve is that it's engaging in a surreptitious currency war using quantitative easing to depreciate the currency. The Fed is effectively giving other countries two choices: allow your currency to appreciate against the US dollar and thus make your economies less competitive and crunch your export industries or print money with us and risk (or perhaps guarantee) inflation."
It is a diabolical threat for Australia. The dollar is not falling as it normally would. Central banks in Europe and the US are punishing Australia by actions that keep our dollar at an unsustainably high level. What to do in this situation?
"The priority is to get interest rates down and get the dollar down," Anthony says. "This situation demands a tight fiscal policy and easier monetary policy. Statements from Labor ministers reveal this is what they want to achieve. What is lacking is the vigorous resolution to achieve it. The risk is we surrender this necessary realignment and succumb to budget deficits for the next few years."
Gillard and Swan face difficult decisions. Their complexity and risks are being seriously underestimated in public debate. There is one option that must be dismissed: the fantasy, beloved by some commentators, that Labor will call a pre-budget election to postpone such complications. It is hard to imagine a better way to gift Abbott his campaign and the election.
Calling an election before the budget would unleash every possible anti-Labor demon: that it was running away, that it lacked the courage to achieve surplus, that it could not be trusted and that its new programs were not properly financed. Labor won't be fool enough for that path.
The task facing Gillard and Swan is a budget that retains their fiscal credentials, that offers a viable election year story, that explains for the long term how their new programs are financed and that keeps alive a strategy for trend growth.
Yes, it's a character test.
Addiction to over-promising in Julia Gillard's 'government for all seasons' | The Australian:
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