|CPDS Home Contact|
Articles explaining the Review
A review of the Commonwealth Grants Commission arrangements for sharing Commonwealth taxation with the states is reportedly being arranged by three states (Bolt C. 'Three states lambaste tax share system', Financial Review, 30/9/01)
The Case: NSW, Victoria and Western Australia are particularly concerned about large financial transfers to Queensland through the Grants Commission. Queensland has now developed through the growth of mining and tourism industry, and can expect future prosperity. Despite this Queensland receives over $2bn pa more than its economy contributes to Commonwealth taxes and other revenues. This allows Queensland to pay huge subsidies to attract industry. And, due to 60 years of subsidies, Queensland has no debts. There appear to be uncertainties about the adequacy of Grants Commission's methods (Egan M, Brumby J and Ripper E. - Treasurers of NSW, Victoria and WA, 'Donor states carry an unfair burden', Financial Review, 30/11/01)
Queensland's response: The Treasurers of NSW, Victoria and WA want to overturn a core principle of Australia's federal system - which is that no matter where people live they are entitled to equal access to government services. This principle involves horizontal fiscal equalization. The donor states are being simplistic in promoting efficiency at the expense of equity. They are claiming that Queensland is being subsidized. However the Commonwealth sets taxes so that people in similar circumstances pay equally. It then provides GST and special purposes revenues to the states. The fundamental flaw in the three Treasurers' analysis is that they ignore distributions other than GST. In 2001-02 Commonwealth GST payments were $30.6bn and Special Purpose Payments (SPP) were $15.1bn. Queensland gained $41m over its population share on GST payments, and $66m less than its population share of SPP's. And in Balanced Budget Assistance Queensland received $213m below its population share. Queensland supports the current Grants Commission process because (a) the Commission is independent expert body (b) process is open an consultative (c) Commission's judgments are backed by a high level of analytical rigor (d) all Treasurers review Commission's methods and (e) terms of reference are set in conjunction with other states (Mackenroth T. - Queensland Treasurer 'Queensland happy to stay horizontal', Financial Review, 5/12/01)
The Proposed Review: Two well-regarded economists, Ross Garnaut and Vince Fitzgerald, have been appointed to review the basis of Commonwealth-state funding. The system they have been asked to review reflects substantial changes in the financial structure of the federation since 1901 - most particularly Commonwealth domination of the national tax base and a state dependence on financial grants which is much higher than in other federations such as US, Canada and Germany. As states are responsible for most important service delivery, their dependence on Commonwealth funding is a critical issue. According to a background paper, this review will not explore the return of income tax powers to the states (considered a politically dead option) but how to get existing arrangements right. This is worth doing, because of the complexity of existing arrangements - and the conflicting objectives. Grants to the states can be for general or specific purposes, and amount to some $50bn pa (or which $30bn are for general purposes, and are 90% derived from the GST). Allocation of these grants are determined by the Commonwealth Grants Commission - to allow each state enough money to provide services at the same standard as other states. This requires redistributing tax revenues from NSW, Victoria and Western Australia - because others have less revenue raising capacity (eg because of smaller populations and economies, higher services costs or more school age children). The process of determining grants is very detailed, results in 2000 pages of annual documentation and involves specific assessments of state revenue and spending needs across many areas. Grants provided for general purposes do not need to be spent on any particular programs. The present system does not adequately reward / punish states for good and bad policies (according to Ross Garnaut). At a press conference, the economists were also critical of special purpose funding (eg for spending on hospitals with conditions attached). There are many such programs - which can have conflicting requirements and assessments applied. Also the Grants Commission effectively takes away specific purpose funding by reducing general purpose grants (Woods A. 'A better balance for the states', Australia, 18/12/01)
A web-site for the Review presents a Background Paper - which includes Terms of Reference and a discussion of the issues involved.
The Commonwealth's Condition: Federal Government will not support changes to Commonwealth / State funding arrangements unless all states agree (Strutt S. and Allen L', Beattie Blocks plan to overhaul state funding', Financial Review, 1-2/12/01)
|CPDS Comment on Review||
CPDS Comments on the Grants Commission's Treatment of Queensland
The Queensland Treasurer has not answered the question being posed by the 'donor' states in the public debate that is outlined above. He spoke of the desirability of horizontal equalisation. The 'donor' state are concerned (amongst other things) about the fact that, when funds are allocated by the Grants Commission on the basis of horizontal equity, Queensland receives significantly more funds from the Commonwealth than the revenues the latter obtains in Queensland - and that this is at their expense .
However the reason that NSW, Victoria and WA were publicly reported as giving for reviewing the Grants Commission arrangement may also need to be reconsidered.
The main reason that the equalisation procedures which result in the Grant's Commission's 'generosity' to Queensland should be reviewed is not that its economy is now strongly developed so that it can afford to become a net contributor (because of growth of the mining and tourism industries that the donor states referred to). In point of fact, an examination of Queensland's budget suggests that it is facing growing difficulties (see CPDS Comments in About Queensland's Budget).
Rather the main problem is that Queensland has not needed (financially) to take the development of its economy very seriously (and thus provides only a weak per-capita base for State and Commonwealth government taxes and charges). It could do this because it has been able to rely on receiving a share of national tax revenues which provide compensation for its own weak tax base. For this same reason Queensland receives payments from the Commonwealth that substantially exceed the taxes and charges the Commonwealth receives in Queensland.
Clearly the Grants Commission's procedures have not been 'policy neutral' and have resulted in significant economic inefficiencies.
In the 1980s efforts (by the author and others) to develop a productive modern economy in Queensland were constantly frustrated because:
In the 1990s political rhetoric has endorsed the real development of Queensland's economy - but for the reasons outlined above this has not needed to achieve practical productive capabilities (and in fact does not appear likely to do so). Queensland's Economic Strategy suggests why both traditional and recent strategies have not created a well developed economy.
Indicators of the lack of serious development of Queensland's economy are also outlined in Queensland's Economic Strategy which includes reference to:
Queensland's Financial Position
Moreover, it appears very likely that Queensland's financial position has deteriorated in recent years - so that any expectation that other states might now profit financially at Queensland's expense are uncertain (See About Queensland's Budgets).
The core problem seems to be that the weak tax base that has been created by defective economic strategies now makes it difficult to fund a rapidly-growing decentralised state at a reasonable standard. Furthermore any substantial increases in tax rates can be expected to require economic adjustments. Thus the review of the Grant's Commission arrangement might come to a different conclusion to that which the Treasurers of NSW, Victoria and WA reportedly suggested (see the Case above).
Other CPDS Comments on the Proposed Review
In addition to the effect the Grants Commission rules have on the base a state's economy provides for Commonwealth taxes, the implications for Australia current account deficit might also be considered. Encouraging industries that involve large turnover but produce little domestic income not only produces a weak taxation base but must also have implications for Australia's at-times-restrictive current account deficit (as the latter reflects the difference between domestic expenditure and domestic income - see The Current Account Deficit Constraint, 1998).
Regarding special purpose payments from the Commonwealth it is noted that:
More generally, it can be noted that the high level of state financial dependence on the Commonwealth tends to give a higher than desirable level of internal policy influence to state financial authorities - and this was presumably one of the reasons for Queensland's primary emphasis on state financial goals in the 1970s and 1980s - and the resulting lack of real interest in developing a productive modern economy (as discussed above).
2/11/01 (and revised subsequently)
|Comments on Outcome||
OUTCOME OF THE REVIEW
The final report of the review, Commonwealth State Relations for the 21st Century, is available on the Review website.
Media reports on the proposal stress the disunity amongst states which the proposals have produced - and the Commonwealth's desire to avoid taking any leadership role.
A possible solution to this particular political impasse may be to consider whether the Review was asked the wrong question - ie how to better organize federal financial relationships. The Review was asked this question because its architects believed that there had to be something wrong with Grants Commission methods if other states had to provide large fiscal transfers to Queensland which was perceived to be an economic success story.
However Grants Commission arrangements were only a part of the problem. The main problem (as outlined above) was the defective economic strategies that Queensland adopted which resulted in a weak tax base and a need for large fiscal subsidies from other states.
The issue that gave rise to the Review might have been better addressed directly, rather than indirectly through questions of Grants Commission arrangements.
Furthermore there are many deficiencies in federal-state relationships that have nothing to do with horizontal fiscal equalization which risk being buried if this is seen as the major point of contention.