Document Index Budget Paper 3

Chapter I: Recent Developments

• Reform of Commonwealth-State Financial Relations
• 1999 Premiers' Conference
• Loan Council
• Fiscal Developments in the States

This chapter provides an overview of:

• the proposed changes to Commonwealth-State financial arrangements to commence in 2000-01 as part of A New Tax System;
  
  
• the decisions taken at the 1999 Premiers' Conference and Loan Council Meeting on financial arrangements for 1999-2000; and
  
  
• public sector finances and fiscal developments in the States.

REFORM OF COMMONWEALTH-STATE FINANCIAL RELATIONS

On 13 August 1998, the Commonwealth Government announced its plan to reform the Australian taxation system. A key element of the A New Tax System package is the reform of Commonwealth-State financial relations. The principal objectives of these reforms are to:

• achieve a more efficient national tax system, including the elimination of a number of existing taxes which are impeding economic activity; and
  
  
• improve the financial position of all State Governments by providing access to a more robust tax base that can be expected to grow over time. This enhanced revenue security will ensure that the States can provide a sustainable level of quality services --such as hospitals, schools and law enforcement -- into the future.
  

Implementation of the reforms requires the active involvement and support of both the Commonwealth Government and the State Governments. At a Special Premiers' Conference convened on 13 November 1998, Heads of Governments developed an Agreement on Principles for the Reform of Commonwealth-State Financial Relations, which established a set of guiding principles for progressing the reforms.

At the 9 April 1999 Premiers' Conference, Heads of Governments signed an Intergovernmental Agreement on the Reform of Commonwealth-State Financial Relations (a copy of the Intergovernmental Agreement is at Appendix B) which gives effect to the following reform measures:

• From 1 July 2000, the Commonwealth will appropriate all of the Goods and Services Tax (GST) revenues to the States so that no State is worse off than under current arrangements. After 2001-02, the GST revenues will be distributed amongst the States on a pure horizontal fiscal equalisation (HFE) basis.
  
  
• Financial Assistance Grants and payments of revenue associated with the safety net surcharge arrangements for alcohol, petroleum and tobacco products will cease from 1 July 2000.
  
  
• The States will adjust their gambling tax revenues to the extent of the impact of the GST on gambling operators from 1 July 2000 and abolish:
  
  
  • - bed taxes from 1 July 2000;
    
    
  • - Financial Institutions Duty and debits tax from 1 January 2001;
    
    
  • - a number of business-related stamp duties from 1 July 2001; and
    
    
  • - stamp duty on non-residential conveyances on real property from a date to be determined.
    
    

The States' receipt of the GST revenues is also subject to their meeting other obligations.

• - The States will fund and administer a First Home Owners Scheme from 1 July 2000 to offset the impact of the GST on house prices for first home buyers. The Scheme will involve the provision of $7,000 to eligible applicants who are buying or building their first home as their principal place of residence.
  
  
• - The States will assume responsibility for local government funding. To ensure adequate funding arrangements for local government, the States will maintain the growth in general purpose assistance to local government on a real per capita basis and meet existing Commonwealth conditions on the payment of assistance to local government.
  
  
• - The States will pay to the Commonwealth the cost of administering the GST. To promote accountability between the parties, the States and the Australian Taxation Office (ATO) will develop a performance agreement that establishes an agreed basis against which the administration of the GST by the ATO and its agents can be assessed.
  
  

As the GST revenues will not be sufficient initially to fund the States' current expenditure and the new responsibilities they are assuming, the Commonwealth has guaranteed that in each of the transitional years following the introduction of the GST, each State's budgetary position will be no worse off under the new arrangements.

The Intergovernmental Agreement also provides for the establishment of a Ministerial Council from 1 July 1999, comprising Commonwealth and State Treasurers, to oversight the implementation and operation of the Intergovernmental Agreement and to ensure compliance with its terms. The Ministerial Council will also provide a forum for the discussion of the per capita relativities to apply to the distribution of the GST revenues among the States and obviate the need for the annual Premiers' Conference process.

The reforms to Commonwealth-State financial arrangements require the passage of legislation by the Commonwealth and the States. The Intergovernmental Agreement will be attached as a schedule to relevant Commonwealth and State legislation.

On 31 March 1999 the Commonwealth House of Representatives passed two Bills to give effect to the Commonwealth's commitments: A New Tax System (Commonwealth-State Financial Arrangements) Bill 1999; and A New Tax System (Commonwealth-State Financial Arrangements -- Consequential Provisions) Bill 1999.

The A New Tax System (Commonwealth-State Financial Arrangements) Bill 1999 (the Bill) fulfils the Government's commitment to appropriate all the GST revenues to the States and includes provisions to ensure that the GST revenues are distributed across the States on the basis of HFE principles after the second year following the introduction of the GST.

The Bill also makes provision for the Commonwealth to provide State Governments with transitional assistance to offset any revenue shortfalls in the initial years following the introduction of the reforms. This transitional assistance will ensure that no State budget will be worse off as a result of the reforms to Commonwealth-State financial arrangements and will take the form of one-year interest-free loans to the States in 2000-01 and grants to the States in subsequent years.

The Bill also establishes arrangements which `lock-in' the GST rate and base. Consistent with the Intergovernmental Agreement, the Bill provides that the GST rate and, in most cases, the GST base cannot be altered without the unanimous support of all State Governments. However, in order to facilitate the administration of the GST in the initial months of operation, the Commonwealth will reserve the right to make unilateral changes to the GST base in the first 12 months of operation. These changes will have to be of an administrative nature, necessary to facilitate minor adjustments to the GST and made having regard to the need to protect the revenue of the States. From July 2001, changes to the GST base of an administrative nature will require the majority support of the Commonwealth and States.

Finally, the Bill maintains the States' entitlement to National Competition Payments and the protection provided by the business franchise fees windfall tax from 1 July 2000 following the repeal of the existing States Grants (General Purposes) Act 1994.

The States have agreed to enact legislation to fulfil their commitments including the abolition of certain indirect taxes, the provision of funding to local government and the introduction of a First Home Owners Scheme.

The Intergovernmental Agreement on the Reform of Commonwealth-State Financial Relations will commence on 1 July 1999, with most reform measures taking effect from 1 July 2000.

1999 PREMIERS' CONFERENCE

At the 1999 Premiers' Conference, it was agreed that the level of Financial Assistance Grants (FAGs) to the States will be maintained in real per capita terms in 1999-2000. On the basis of current estimates, Commonwealth general revenue assistance to the States is expected to be $17,719.6 million in 1999-2000, an increase of $706.2 million or 4.2 per cent on the previous year, as shown in Table 2.

Other key elements of the 1999 Premiers' Conference agreement on financial arrangements in 1999-2000 are as follows:

• The pool of FAGs and unquarantined Health Care Grants (HCGs) will be distributed using the per capita relativities calculated by the Commonwealth Grants Commission (CGC) based on a five year assessment period and including an assessment for depreciation.
  
  
• The Commonwealth will provide National Competition Payments (NCPs) to the States as specified in the Agreement to Implement the National Competition Policy and Related Reforms. NCPs of up to $439.1 million will be made in 1999-2000 and will be determined after the National Competition Council (NCC) reports in June 1999. These payments, like the per capita component of the indexation of FAGs, are conditional on the States achieving satisfactory progress in the implementation of National Competition Policy reforms.
  
  
• The Commonwealth will provide the Australian Capital Territory with Special Revenue Assistance (SRA) of $13.2 million, in the form of transitional allowances of $9.3 million and $3.9 million as special fiscal needs. These amounts are in accordance with the CGC's recommendations and will be funded directly by the Commonwealth.
  

Estimates of general revenue assistance to be provided to the States in 1998-99 and 1999-2000 are shown in Table 2.

Further details of the Commonwealth's financial assistance to the States are contained in Chapter III.

Table 2: General Revenue Assistance to the States, 1998-99 and 1999-2000 (estimated)

1. These FAGs estimates do not include offsets for State fiscal contributions.
   
2. Transitional allowances and special fiscal needs paid to the ACT in accordance with CGC recommendations.
   
3. The Agreement to Implement the National Competition Policy and Related Reforms specifies that $200 million and $400 million in 1994-95 prices is to be distributed between the States on an equal per capita basis in 1998-99 and 1999-2000 respectively. The receipt of the payment is conditional on a State meeting the obligations of the Agreement.
   
4. State fiscal contributions cease in 1998-99.

LOAN COUNCIL

At its meeting on 9 April 1999, Loan Council endorsed the Loan Council Allocations (LCAs) nominated by the Commonwealth and each State for 1999-2000.

Loan Council noted its decision (originally reached by correspondence) to discontinue the National Fiscal Outlook (NFO) report. When the NFO was first published in 1993, it provided fiscal forecasts for all States and for the total public sector. Since this information was prepared on a consistent basis, the NFO promoted greater transparency in the fiscal positions of all governments. However, in recent years there has been a significant improvement in the standard and consistency of budget reporting. In particular, the revised Uniform Presentation Framework, agreed by Loan Council in 1997, ensures standardised budget reporting across States, including the release of mid-year budget reports. These reports, which were first published in 1998-99, contain most of the information previously included in the NFO. Statement 9 of Budget Paper No. 1 draws on some of this data (updated with the Commonwealth Budget and available State budgets) to present an overview of the national general government sector fiscal position. In these circumstances, Loan Council agreed that the NFO was no longer required.

Loan Council issues -- including the Commonwealth's 1999-2000 budget time LCA and the estimated 1998-99 LCA outcome -- are discussed further in Chapter IV.

FISCAL DEVELOPMENTS IN THE STATES

The underlying budget position, on a cash basis, of the State non-financial public sector -- which comprises the general government and public trading enterprise sectors of all States -- is shown in Chart 1[1]. In 1998-99, an underlying deficit of $6.7 billion is expected, representing 1.1 per cent of GDP. This follows a surplus of $3.6 billion, or 0.6 per cent of GDP, in 1997-98.

However, the inclusion of certain `one-off' transactions in the 1998-99 deficit means that this estimate is not directly comparable to the 1997-98 result. These transactions related to the funding of superannuation liabilities in New South Wales and Victoria. This has inflated total underlying outlays, making the underlying deficit larger than it would have been in the absence of such transactions. Adjusting for the effects of these superannuation payments yields a 1998-99 underlying surplus of around 0.4 per cent of GDP.

Abstracting from superannuation funding, the change in the State non-financial public sector underlying balance has been precipitated by developments in the PTE sector. There has been little change in the (adjusted) fiscal position of the aggregate State general government sector. PTE sector underlying outlays have, however, increased substantially while revenues have fallen. The PTE sector has accordingly shifted from a surplus of 0.3 per cent of GDP in 1997-98 to a deficit of 0.5 per cent in 1998-99, the first underlying deficit result since 1991-92.

The latest forecasts for the State non-financial public sector suggest a movement back to a modest surplus position (cash basis) in 1999-2000. Subsequent years' projections show the PTE sector remaining in an underlying deficit position. In contrast, the position of the general government sector is expected to improve steadily over the medium term, helping the non-financial sector to a further modest surplus in 2000-01 and larger surpluses in the following two years.

Chart 1: State Underlying Deficit by Sector^(a)

1. The general government sector underlying deficit (cash basis) is defined as underlying outlays less revenue.
   Source: 1998-99 State mid-year reports, 1999-2000 State budgets where available, and Commonwealth Treasury estimates.
   

The ratio of aggregate State net debt to GDP has fallen steadily since 1992-93, with an overall improvement in State underlying budget positions, and the application of these funds -- plus the proceeds from equity and asset sales -- to debt retirement. This trend is expected to continue. Chart 2 shows recent trends in the net debt to Gross State Product (GSP) ratio of each State alongside the aggregate State net debt to GDP ratio.

Chart 2: State Public Sector Net Debt
as at 30 June^(a)

1. Net debt is defined as gross debt less financial assets. The total is the total of State debt as a percentage of GDP.
   Source: 1998-99 State mid-year reports and 1999-2000 State budgets where available.
   

Fiscal developments and strategies in individual States are outlined below.

New South Wales' 1998-99 Half-Yearly Budget Review shows that a modest general government underlying budget surplus (cash basis) is expected for 1998-99, after allowing for the impact of the Government's superannuation conversion offer. This represents a small improvement on the 1997-98 underlying deficit outcome.

New South Wales is expected to maintain a relatively sound fiscal position over the next few years, with the underlying surplus growing steadily. It is anticipated that capital outlays will peak in 1998-99, but current outlays restraint will also be required to compensate for an expected easing in growth in own-source revenue during this period.

The State's non-financial public sector is expected to record an underlying deficit (cash basis) in 1998-99, due to the PTE sector balance moving from surplus into deficit. The non-financial public sector net debt to GSP ratio is expected to decline in the medium term, reflecting a return to underlying surpluses, but is likely to remain above the States' average in 1998-99 and 1999-2000.

New South Wales' General Government Debt Elimination Act 1995 includes a short-term fiscal target that the general government sector be operating in a position of sustainable underlying surplus by 1998-99. The State's long-term target is to eliminate general government net debt by 2020, while fully funding accruing superannuation liabilities and maintaining general government net worth.

Victoria's 1999-2000 Budget shows that the general government sector is set to record an underlying deficit (cash basis) of 0.2 per cent of GSP in 1998-99, the first deficit since 1994-95. However, this result is influenced by the application of $2.5 billion in privatisation proceeds towards unfunded superannuation liabilities. The underlying balance is projected to return to a surplus of 0.4 per cent of GSP in 1999-2000 and to remain in surplus over the medium term.

Victoria's total non-financial public sector underlying surplus is expected to record a large underlying deficit in 1998-99, largely as a result of the superannuation funding transaction described above. A small underlying surplus is forecast for 1999-2000.

Victoria's energy privatisation programme, now nearing completion, has generated close to $30 billion in proceeds for the State Government, most of which has been used to retire State debt. Non-financial public sector net debt is estimated to fall to 4.0 per cent of GSP by the end of 1999-2000, compared with 30.7 per cent of GSP at the end of 1991-92.

The Victorian Government has a number of long-term fiscal objectives including maintaining public sector debt at a level consistent with a AAA credit rating, maintaining a sustainable accrual based operating surplus, and bringing tax rates into line with national averages.

Queensland continues to have the strongest financial position of all the States, and remains the only jurisdiction in a positive net asset position (that is, where financial assets exceed financial liabilities).

Queensland's 1998-99 Mid-Year Fiscal and Economic Review shows that the general government sector is expected to record an underlying budget surplus (cash basis) of 0.8 per cent of GSP, lower than the surplus recorded in 1997-98 but higher than forecast at budget time. The forecasts published in Queensland's mid-year review project ongoing underlying surpluses over the forecast period to 2001-02.

The total non-financial public sector underlying surplus is expected to decline in 1998-99 and 1999-2000 to reach its lowest point since 1986-87. Declining general government underlying surpluses drive this result.

Queensland has adopted a fiscal strategy of maintaining a public sector underlying surplus and achieving full actuarial funding of all accruing employee entitlements, while preserving Queensland's low tax status.

Western Australia's 1998-99 Mid-Year Review indicates a general government underlying budget deficit (cash basis) of 0.7 per cent of GSP in 1998-99, compared with 0.3 per cent of GSP in 1997-98. A further small deterioration is expected in 1999-2000, prior to an improvement in later years.

Small expected deficits in Western Australia's PTE underlying balance imply that movements in the non-financial public sector underlying deficit will broadly mirror those in the general government sector.

Western Australia's combined PTE and general government net debt is currently marginally above the States' average and is expected to remain stable for the medium term.

Western Australia's fiscal strategy is to achieve a whole of government accrual-based operating surplus over the forward estimates period, while achieving Consolidated Fund and general government underlying cash surpluses. The Government is aiming to maintain or increase net assets and to reduce net interest costs as a proportion of gross own-source revenue.

South Australia's Mid-Year Budget Review 1998-99 projections indicate that the general government sector will remain in an underlying deficit position (cash basis) for the foreseeable future. However, the deficit is projected to decline from 0.9 per cent of GSP in 1998-99 to 0.4 per cent in 1999-2000, largely as a result of outlays restraint.

The total non-financial public sector in South Australia is expected to be in underlying deficit in 1998-99 and beyond. This result is driven primarily by the fiscal position of the general government sector.

South Australia's net debt position, which as a proportion of GSP currently ranks third highest of the States, is expected to show modest improvement in the near future, as the general government sector reduces the size of its underlying cash deficit.

The Government's fiscal objectives are to maintain the government sector in underlying balance over the medium term, reduce government debt with the aim of achieving a AAA credit rating and eliminate the State's unfunded superannuation liability over thirty years.

The recent consolidation in Tasmania's government finances is continuing notwithstanding budgetary pressures associated with slow economic growth. In 1997-98, outlays restraint and increased public authority income occasioned Tasmania's first general government underlying budget surplus (cash basis) in 22 years. Tasmania's Mid-Year Report predicts increasing underlying surpluses in 1998-99 and beyond.

Reflecting continued, although declining, PTE sector underlying surpluses, the non-financial public sector in 1998-99 is set to record an underlying surplus for the fifth successive year.

Tasmania's non-financial public sector net debt to GSP ratio should fall over the medium term but will remain substantially higher than the States' average.

Tasmania's fiscal objectives are to maintain a budget sector underlying surplus and to reduce general government and total State government net debt, while not introducing new taxes or raising existing tax rates.

The Australian Capital Territory's 1999-2000 Budget indicates the general government sector moving from an underlying deficit (cash basis) of 0.6 per cent of GSP in 1998-99 to an underlying surplus of 0.4 per cent of GSP in 1999-2000. This improvement reflects a combination of declining capital outlays and rising revenue (particularly grants from the Commonwealth), which is expected to outweigh higher current outlays. The Budget projects continued improvement in the underlying balance, based on outlays restraint and further growth in revenues.

The Australian Capital Territory's fiscal objectives include achieving a zero accruals-based operating loss by the 2004-05 budget and fully funding superannuation liabilities by the 2001-02 budget.

The Northern Territory's general government underlying balance (cash basis) has deteriorated over 1998-99, due to difficulties on both revenue and outlays. The Territory's 1999-2000 Budget estimates suggest an underlying deficit of around 0.8 per cent of GSP in 1998-99, following four successive years of underlying surpluses. An increase in the deficit to 1 per cent of GSP is forecast for 1999-2000, as growth in outlays outpaces an expected rise in revenues.

As a result of developments in the general government sector, and notwithstanding ongoing surpluses in the PTE sector, the Northern Territory's total non-financial public sector is also expected to record underlying deficits in 1998-99 and 1999-2000. However, non-financial public sector net debt is expected to decline slightly as a proportion of GSP by the end of 1998-99 to around 23 per cent.

The Northern Territory's fiscal strategy embodies a range of fiscal targets including not increasing per capita current expenditure in real terms, maintaining an own-source revenue effort broadly comparable to that of the States and reducing Territory debt as a proportion of economic output.

[1] As not all States have adopted accruals-based budget reporting, the analysis included herein focuses on developments in the States' budgets on a cash, rather than an accrual, basis.