May is budget month and I know you are all getting pretty excited about it. No doubt, the 9th of May is already highlighted in your diaries and you are clearing those pesky social engagements that might interrupt one of the big economic nights of the year!
Not wanting to throw in too many spoilers but I can make some bold predictions below:
- The new treasurer will bemoan the appalling set of books left by the old treasurer.
- Spending will be far higher than revenues.
- No thought will be given to a balanced budget at any time in the near future.
It does seem a very long time ago that Josh Frydenberg announced the budget was back in black (early 2020) and then by June had gone on a spending spree, to combat the shutting down of the economy during Covid, that would have made Imelda Marco’s blush.
It is important to remember that a balanced budget was possible back then and we even had a surplus in 2018-19 so it is still possible now. The government just needs to manage its spending.
The reason Frydenberg was talking budget surpluses (higher revenues than expenses) was big windfall gains out of iron ore and coal and those windfalls have continued and been assisted by demand for our gas as well.
Let’s look at the Australian government budgets over the last ten years:
You can easily see the impact of the Covid19 expenditure measures and while with 20/20 hindsight we can argue some of them, they achieved what they set out to do.
These measures were meant to be temporary and wound back post Covid. The problem is that some of these increased expenses are now baked into our social welfare system and we have seen a very dramatic increase in both the federal and state public service payroll.
Covid 19 measures started in early 2020 so it is worth looking at the budget for 2018-19 and how we have tracked since.
You can see from the above that our government revenue has been growing nicely with an increase of 21% and yes, that is thanks to windfall tax revenue from our resources area mainly.
The problem is our expenses, which should have reduced dramatically post the Covid stimulus package, are still increasing.
Average expense growth from 2014 to 2019 was 3.21%.
Based on this, once normalized, our government expenditures should have been around $550Bil by 30 June 2023. The forecast is $628.5Bil.
Yes, the NDIS scheme is far more costly than planned, interest rates have increased on that very large debt we now have, and we need to see additional spending in defense in the forward estimates.
Social security and welfare accounts for 36.2% of the budget and health is another 16.3% so 52.50% of all federal government expenditure sits within these two categories.
This is broadly the same as it was ten years ago but unemployment was just under 6.0% in March 2014 vs 3.5% in March 2023.
- Our participation rate has increased to 66.8% which means from our available working population (persons aged between 15 and 64) almost 67% are doing some form of paid work. This is pretty good, but Germany has the highest participation rate at 79.8% at December 2022. United States is 62.6% at March 2023.
- Unemployment numbers are often queried as it includes anyone who has worked more than 1 hour per week, however this is the world standard so it is a reasonable measure versus other developed economies.
So, lower unemployment should have taken pressure off social welfare but those expenses have been moved elsewhere.
More spoilers on the budget.
Despite this large increase in revenue the government will need to increase taxes to meet its new spending initiatives and we have already seen the first move on superannuation balances.
The massive spending on reducing carbon dioxide emissions has just started and as one analyst pointed out to our group recently, it actually offers no productivity increase as the transition is from one energy system to another. The link below from the ABC talks to the ‘trillions’ of dollars we will need to spend to transition https://www.abc.net.au/news/2023-04-19/australias-energy-transition-needs-gas-safety-net-report-finds/102236352
To put that into perspective our total accumulated gross government debt is forecast to be around $950Bil by June 2023 and our total federal government annual income is $561Bil. This article talks to ‘trillions’ not ‘billions’. To achieve the replacement of our current energy grid to renewables will require new transmission lines, new infrastructure and storage facilities and homes investing in batteries and electric vehicles.
That money will need to come from somewhere and with little appetite to reduce spending elsewhere it will require increased taxation.
Despite the assurances on new taxes, we are already hearing about franking credit changes, changes to taxation of family trusts and some form of wealth tax on family homes worth more than $3million.
All this has to happen while cost of living pressures like interest on mortgages, energy and health have continued to grow.
Jim Chalmers definitely has a few challenges in front of him and there is the very real likelihood that government revenue will slow in the coming years as effectively no new coal or gas projects will be approved in Australia. We do have some rare earth projects coming online that will offset some of these losses in the coming years but many of these are startups so effectively very little tax revenue in their build and write off stages.
All will be revealed on the 9th!
Problems with the electric dream
Sitting on the M1 last week in what could only be described as a very expensive carpark, made me consider the transition to electric vehicles.
I am not anti-electric cars and can certainly see their appeal. They are a more efficient use of power as burning petrol gives off a lot of unutilised heat. The conventional wisdom is electric motors can be up to five times more efficient than petrol in regards to the power to wheel ratios.
While some would argue electric vehicles cars are still powered by the conventional grid which is largely coal based, more efficient use of that coal fired power would not be a bad thing.
The concern is that the move from petrol/diesel to electric will require a substantial increase in supply, just when we are reducing it.
I am not the expert here and my approach is simply looking at the math.
Electric vehicles have batteries that can be charged to somewhere between 40Kilowatts and 100Kilowatts (kWs). Let’s average that as 50Kws as there aren’t many big ones.
I have a 13.24 Kw solar panel system and apparently – according to google that would charge about 40kW in 5 ½ hours in ideal weather conditions. Google tells me it runs at about 7.5kWs an hour. This assumes I have nothing else running at home. I am saying 40kW as I assume the battery still has some charge.
If I have to charge it at night, then I could have a fast charger such as a 22kW station which would charge it up in 2-3 hours.
The amount of time it takes to charge is not really the issue though. Whether fast or slow you still need the same amount of energy.
To put this in some sort of comparison, a two-door fridge needs about 0.375kW of power to be run from 6pm to 6am.
Running a standalone air conditioner in a large bedroom from 6.00pm to 6.00am would consume approximately 21-22kWh.
So, adding an electric car to that mix will substantially increase the home energy consumption.
Chat GPT (my new artificial intelligence friend) tells me a standard three-bedroom household consumes 900-1500kWh per month of power (lots of variables here). If we add an electric car to that mix being charged even twice a week that would increase the number of kWh by 80-100 kWh per week or 320-400kWh per month. The household would now be consuming 1220-1900kWh per month. That is a 27% to 36% increase in power demand on top of the grid we already have.
I am not addressing the cost as we can assume the cost of running the car is reduced. Electric energy costs are likely to rise but it is unlikely they will be higher than the $100 it costs for fifty litres of fuel?
My concern is simply about capacity.
Electric vehicles aren’t the only thing that will require power so somewhere in this new energy mix we are going to need a lot more power.
Finally, he talks about markets!
A quick update on markets.
The strengthening we have seen this 1 July 2022 has continued with the Australian All Ordinaries up 4.92% to 26 April.
The US S&P 500 is up over 6% for the same period, the German Dax is up 24%, the French CAC 40 is up 26% and the UK FTSE over 10%.
Over the rolling twelve months, 27 April 2022 to 26 April 2023, the Australian All Ordinaries and the US S&P 500 would both be slightly negative but the DAX, CAC and FTSE would all be solidly positive.
The AAN models have benefited from this and many of you would have received an update recently to 31 March 2023.
Inflation, both here and overseas has eased but though there is general consensus that interest rates rises are nearing highs, they are likely to stay at these levels for some time.
Australia’s latest inflation figure at 7.0% was better than expected but still historically high and certainly higher than the target range for the reserve bank.
Many mortgagees are yet to come off their fixed rate loans and when they do it will definitely hurt. We would urge anyone in this situation to talk to their mortgage broker or lender as they may find they can negotiate a better rate than the new default variable offer.
It is anticipated that reduced consumer spending will achieve further reductions in the inflation levels and possibly reduce the need for any further interest rate rises.
There is general acceptance that recession is imminent for Europe and the US, though Australia may avoid this with the help of a strengthening China. The only question is how much of this is factored into current prices.
We remain cautious and our portfolio managers are finding opportunities as good quality assets are discounted along with poorer quality options. Volatility can be our friend in this sort of market.
As always if you have any queries at all, please do not hesitate to contact us.
Paul Forbes, RFS Advice CEO