Investor InsightsNews > Australia’s Federal Budget 2020/21- from intensive care to rehabilitation

Australia’s Federal Budget 2020/21- from intensive care to rehabilitation

October 2020

This year’s Federal Budget is one of the most extraordinary we’ve had since the second world war, as the Australian government navigates a post-COVID recovery. An ‘eye-watering’ $213.7 billion deficit (11% of GDP) is forecast as spending is ramped up and tax cuts brought forward. Will all of this be enough to reboot the economy and what does all of this mean for investors?  

The key measures

There were few surprises on Budget night as most measures had been flagged by the Treasurer prior. There was a shift in focus from providing immediate life support to the economy to announcing incentives to lift employment and capital spending as the economy moves out of intensive care and towards rehabilitation.

  • Measures favour business and jobs. The full cost write-off for capital assets installed pre-June 2022 for turnover below $5bn and the carry of back of tax losses are particularly supportive. The strategy has shifted from supporting employment towards incentives for business to employ and invest. This is a gamble and will depend on a vaccine in 2021, a reduction of social distancing measures and border re-opening (nationally and globally) to build confidence to hire and invest.
  •  The Budget is supportive of business to lift employment and capital spending. However, the economic forecasts only have inflation back to 2% and unemployment to 5.5%. This flags the RBA will need to do more in November. We expect the RBA to cut the Term Funding Facility (TFF) and rates to support lending to Australian businesses and households, particularly given some relaxation in lending guidelines.
  • Infrastructure spending and tax cuts will support activity through 2021. Incentives for younger workers to retrain or shift jobs are directed at reducing dependence on JobSeeker and JobKeeper.
  •  Overall, when combined with the expected RBA support, the measures are enough to aid Australia’s economic recovery. However, the risk is that it assumes that activity lifts on incentives and this trickles down to jobs and investment rather than letting the safety net incentives dominate by extending JobKeeper and JobSeeker. If confidence does not build the numbers will be under grave threat if business does not respond by hiring and investing. Clearly more prolonged lock downs and border closures would test the effectiveness of these incentives and drive a reorientation to support rather than growth measures.

Finally, these measures have to be paid for. As a result, net debt is more than double what was forecast in the December 2019 outlook, rising to around 44% of GDP. However, this is still better than most developed countries. However, the risk is that at some stage higher interest rates will make this level of debt unsustainable.

The challenges ahead

Over the medium-term the challenge remains to try and stabilize deficits and debt out to 2025. Australia’s debt will remain well below most other advanced economies, but a plan needs to be established to plug the outflow of spending by unwinding the temporary support measures and maximise workforce participation and productivity.

While interest rates are currently very low, we can’t assume this will continue over the next five to ten years. Lower immigration and possibly lower commodity prices could also make it hard to see Australia return to balance let alone a surplus.

The biggest challenge going ahead is to change the course of the Australian economy and little progress has been made during this Budget in this regard. Even as the pandemic recession starts to subside, we believe the globalised trade and investment world of the last 20 years is likely remain under severe pressure.

US domination is likely to continue to retreat with many more players looking to set the investment and trade rules. This means Australia must stand ready to re-adjust growth drivers from commodity exports, re-establish key strategic supply chains domestically, boost national security, develop diversified and new energy sources and re-invigorate investment in infrastructure and skills. The budget did little to address this challenge and our sense is that much more spending will be required above and beyond these announcements.

What does all of this mean for investors?

If everything goes to the relatively optimistic plan laid out in the budget the Australian economy will recover and it will particularly benefit domestic demand, especially construction and retailers. However, with current very low interest rates retirees face a major challenge to produce returns that will deliver a comfortable retirement.

The budget is underpinned by the belief by using low rates to support business hiring and investment will boost productivity, growth and investor returns. Clearly this depends on confidence improving in order to put the enormous pools of savings to work across the business and household sectors that are underpinned by the explosion in government borrowing. Whilst this strategy carries risks it is hard to see an alternative other than placing the economy on life support for multiple years.

In conclusion

Overall, the budget makes progress on building a bridge through to 2024 for jobs and investment. However, the economic forecast shows that more needs to be done and the RBA will need to deliver more stimulus to gain confidence the forecast can be met. On the positive side we can address our shorter-term challenges, but further action will be needed if Australia is to be well-positioned in the post-pandemic world.

Speak to your adviser if you have any questions on how the Budget changes may impact on your personal financial situation.

As with every budget, the government announcements outlined are proposals only and need to successfully pass through Parliament before becoming law. Announcements may be subject to change during this process.

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