Today a tweet from “Australia’s most idiosyncratic economist” Christopher Joye caught my eye. I followed the link and found a scaremongering article trying to whip up concerns about Australia’s levels of government debt.
A key part of Joye’s argument is to accuse the government of creative accounting by including Future Fund assets in the calculation of net debt. Carving out these assets, along with some other tactics, leads him to assert that the true size of the government’s debt is around 40% not 11% of GDP. But it is Joye’s accounting that is flawed, not the government’s.
Joye’s argument centres on the notion that government pension obligations to public sector employees constitute an “unfunded liability”. Unlike other liabilities, i.e. government bonds, this liability is not included in the calculation of the government’s debt, thereby understating it. To remedy this, Joye argues that the calculation can be corrected by noting that the Future Fund was created with the precise purpose of funding these liabilities, so excluding them from the net debt calculation addresses the omission of the unfunded pension liabilities.
Superficially, this argument can sound plausible. But, closer scrutiny shows that Joye is cherry-picking to distort the numbers.
Analogies between government and household finances can be dangerous, but I will cautiously draw one here to illustrate the point. Imagine a family with a $300,000 house financed with a $200,000 mortgage, a net asset position of $100,000. Over time, the family works to save and pay down the mortgage. But they also want their daughter to attend a private high school and have been putting money aside into a saving fund to be able to afford the fees. A few years later, the debt has been paid down to $175,000 and they have put $25,000 into the school fund. So how does the family balance sheet look now? Assuming that property prices are unchanged, the family has assets of $325,000 (house and saving fund) and a debt of $175,00, so net assets of $150,000.
Not so fast, Christopher would argue! Those school fees are an unfunded liability! Since the school fund is there solely to fund that liability, it should be excluded, so the family only has assets of $125,000.
It’s nonsense of course. A commitment to pay pensions (or school fees) is a liability of sorts, in that in entails a commitment to making payments in the future. But why stop there? The government is also committed to making welfare payments, so there’s another unfunded liability. We can ignore the baby bonus, as that’s likely to be eliminated, but the government has a whole range of commitments for future payments.
But that ignores all the sources of future receipts for the government. If public pensions are an unfunded liability, what about the unfunded asset represented by all future income tax receipts? Corporate taxes provide another solid income stream, not factored into the governments assets.
The family’s school fees are a liability of sorts, but their capacity to earn income into the future effectively provides an even greater asset. Both are uncertain, which is why accountants stick to financial assets, like loans, bonds and deposits or even stocks, land or houses, all of which have a relatively clear value today and, more importantly, can be bought or sold for figures very close to those assessed values.
Christopher Joye drastically overstated the government’s net debt position by factoring in future government payments and ignoring future government receipts. As the less “idiosyncratic” economist Stephen Koukoulas eloquently put it:
This is like painting a red dot on a daddy long legs and telling people it is a redback spider.