In his maiden Budget, Treasurer Josh Frydenberg announced that the Australian Budget is ‘back in the black’ for the first time in over a decade, with a $7.1 billion surplus in 2019-20. But there is a catch: the surplus is still a forecast, subject to risks and uncertainties that could derail it.
Budget forecasting is a challenging task. We cannot know for sure what will happen in the future and/or how it will impact the budget, despite the increasingly sophisticated tools available to help bureaucrats do better modelling. Tax revenue and expenditure forecasts have to be revised throughout the year, to reflect the best knowledge and information available at the time.
Forecasting company tax receipts
A particular source of deviations in tax estimates in recent years is forecasts of company tax receipts. For the decade between 2008-09 and 2017-18, recently released research by Miranda Stewart and myself, in collaboration with the International Budget Partnership (IBP), shows how the final company tax outcomes in most years had to be revised during the year by more than 6 per cent; a significant revision by the standards of the IBP. Deviations in company tax estimates often accounted for more than half of the deviations in estimates of overall taxation receipts.
Commentators have expressed concern at the trend of overestimating of tax receipts, especially company tax receipts, during this period –although the trend was finally reversed in 2017-18 with a higher-than-expected growth in company tax receipts, also expected for 2018-19 (there are concerns however that this growth may not be sustainable). The consistent overestimates led to debates about the accuracy and robustness of Treasury forecasting and the appropriateness of fiscal choices by the Government.
The Australian Treasury’s forecasting capabilities are comparable to other advanced economies, or even better in some cases. But the debate reveals a credibility issue that needs to be addressed by the Government. The Treasury commissioned reviews in 2012, 2015 and 2017 with the goal of improving Treasury’s macroeconomic and revenue forecasting, leading to various changes to the processes and methodology used.
Our study in collaboration with the IBP highlights a less discussed issue with forecasting errors: accountability. Deviations from forecasts are inevitable, but it is important for the Government to account for budget deviations in a transparent and appropriate manner, so that the public is fully informed and can hold the Government accountable. Our study looked at how budget deviations are accounted in Australian Budget Papers from 2013-14 to 2017-18. We update our analysis here with examples from the 2019-20 Budget Papers concerning the estimates of 2018-19.
The Budget is the main accountability platform
Unsurprisingly, the annual Budget (usually in May, and this year in April due to the forthcoming federal election) is the main platform for accountability of budget estimates. The Budget is regarded as ‘perhaps the government’s most important political, economic and social document’ and receives substantial media and public attention.
The main purpose of the annual Budget is to look forward. In Budget Paper no. 1, we find the Government’s plan and estimates for the Budget year and the underlying economic assumptions.
The budget also updates previous year’s estimates and provides an explanation of what has changed since the last update in December’s Mid-Year Economic and Fiscal Outlook (MYEFO). This year, in relation to company tax receipts, Statement 4 of Budget Paper no. 1 (pp. 11-12) declares:
Compared with the 2018-19 MYEFO, company tax receipts are expected to be $1.2 billion higher in 2018-19, $3.4 billion higher in 2019-20 and $8.0 billion higher over the four years to 2022-23. The large upward revision in 2019-20 reflects expected gains in 2018-19 mining profits flowing into 2019-20 as a result of the delays between when profit is accrued and when company tax is paid. In addition, while commodity prices are assumed to decline over 2019-20, the continued period of elevated prices relative to the 2018-19 MYEFO further improves mining profits and company tax in that year. The Government’s decision to extend and expand the Australian Taxation Office’s Tax Avoidance Taskforce will also increase tax receipts, particularly in 2021-22 and 2022-23.
Further analysis is found in Budget Paper no. 1, Statement 7, which discusses the forecasting bases and deviations from the previous year. In 2018-19, company tax receipts are (again) the largest contributor to the expected forecast error for tax receipts, consistent with the trend of the past decade.
Why do we see such variation in company tax receipts? Fluctuations in resource commodity prices, which last year increased mining profits and thus company tax (but sometimes do the opposite), are the most cited reason in budget documents for deviations in company tax receipts. Such fluctuations also generate ‘significant uncertainty’ for future estimates of company tax receipts. While there has been a small bump, prices are expected to decline again next year, reducing company tax estimates and worsening the overall fiscal outlook, as acknowledged by the Budget Paper.
Improving budget accountability for revenue estimates
While the annual budget looks forward, it is also important to look back so as to learn from mistakes and report on past deviations and errors. Australia’s Budget Papers have two limitations in accounting for past deviations.
First, explanations for past deviations are often conflated with forward looking discussion, and the latter is the focus of the budget. For instance, the 2019-20 Budget highlights compliance activities by the ATO Tax Avoidance Taskforce as a factor in future company tax collections. However, it does not set out what other factors affected company tax receipts in the previous year. The Budget Paper does not explain either the magnitude of the effect caused by fluctuating commodity prices on company tax receipts.
Second, the timing of the annual Budget occurs before the previous year is completed (the 2018-19 budget year ends on 30 June 2019). Thus, the 2018-19 figures provided in this year’s Budget are only revised estimates, not actual outcomes.
The Final Budget Outcome report is only available in September, after the end of the previous budget year. Past Outcome reports provide only brief explanations about forecast deviations and do not identify causal factors. One recent improvement by the Government is to account for whole-year deviations in its 2017-18 Final Budget Outcome report.
There is clear room for improvement in Australia’s accountability regime for budget deviations. Other countries have been increasing their evaluation and reporting of forecasting. For example, the United Kingdom now provides annual forecast evaluation reports.
Our study focused on company tax estimates, but the lessons learned are general and can be used for improving Australia’s budget reporting. We recommend that Australia’s Final Budget Outcome report should be established as the main place of evaluation and accountability of forecasts and deviations. It should set out government explanations of budget forecasts and deviations in a consolidated, coherent and consistent manner, after the end of each financial year. For the annual budget process, a shorter and more accessible discussion could still be presented in the Budget Papers released in May. This will improve budget accountability and the credibility of fiscal policy.
Other articles in the Budget Forum 2019
The Instant Asset Write-off Will Lift Investment—but Is That What We Want?, by Steven Hamilton
Refundable Franking Credits: Why Reform Is Needed (and Why It Should Be Targeted) – Part 1, by John Taylor and Ann Kayis-Kumar
Refundable Franking Credits: Why Reform Is Needed (and Why It Should Be Targeted) – Part 2, by John Taylor and Ann Kayis-Kumar
“All Without Increasing Taxes”? A Closer Look at Treasurer Frydenberg’s Refrain Repeated Eight Times in His Budget Speech, by John Taylor and Ann Kayis-Kumar
Tax Offsets and Equity in the Scheme for Taxing Resident Individuals, by Sonali Walpola and Yuan Ping
Targeted Tax Relief Makes the Tax System Fairer but the Economy Poorer, by Steven Hamilton
A Simpler Tax System Should Spark Joy—Eliminating Tax Brackets Sadly Doesn’t, by Steven Hamilton
A Budget That Supports Indigenous Australians?, by Nicholas Biddle
Women in Economics 2019 Federal Budget Reflections, by Danielle Wood
Tax Progressivity in Australia: Things Aren’t as Simple as They Seem, by Chung Tran and Nabeeh Zakariyya
Coalition and Labor Voters Share Policy Priorities When They Are Informed About Inequality, by Chris Hoy
Future Budgets Are Going to Have to Spend More on Welfare, Which Is Fine. It’s Spending on Us, by Peter Whiteford
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