Mega stimulus to test Australia’s AAA credit rating

Mega stimulus to test Australia's AAA credit rating

The additional spending beyond the initial package will be at least $50 billion, but could be $60 billion or more – a figure economists says is necessary to limit serious economic damage.

Focus on rising unemployment

S&P Global Ratings director Anthony Walker said a forecast recession and the unemployment rate jumping above 7 per cent would erode corporate and personal income tax revenue, putting the AAA stable sovereign rating under pressure.

He said the situation had “turned for the worse” in recent days as international travel and industries were in effect “shut down” in response to the coronavirus.

In the short term they have space for more fiscal stimulus without jeopardising the AAA rating, dependent on other economic variables.

— Jeremy Zook, Fitch Ratings

“If Australia matches other massive fiscal stimulus in the United Kingdon, New Zealand, Canada and potentially the US, it would support the economy.

“But what does that structurally mean for the budget, and will we end up in a position like 2008-09 where 10 years later we’re still talking about that promised surplus?”

“There is fiscal headroom at the AAA level, but it is rapidly deteriorating.

“Our real focus is on unemployment going up, which would have large second-order effects on consumer spending and repaying mortgages.

“And if debt went over 30 per cent of GDP including any contingent liabilities [government loan guarantees] …”

In a new report on Thursday, Moody’s credit analyst Martin Petch said the AAA stable credit rating was supported by the country’s “very high economic strength”, reflected in its solid and stable growth history, as well as strong growth potential.

“The stable outlook on Australia’s rating reflects our expectation that, in the event of shocks – in the housing market, to access to external financing or from the coronavirus outbreak – the resilience of the economy, supported by countercyclical macroeconomic policy, would allow Australia’s credit metrics to remain consistent with a AAA rating.”

The government on Thursday committed to inject $15 billion via the Australian Office of Financial Management to buy loans issued by small banks and non-banks, to help keep credit flowing to consumers and small business.

Adding in a collapse in tax revenue, the total budgetary costs of the coronavirus will exceed $100 billion over the next two to three years.

‘A means to an end’

Government net debt is low by international standards at just under 20 per cent of GDP, but it is poised to jump significantly.

Australia is one of only 11 countries to have a AAA credit rating, which was regained after being downgraded in the wake of the global financial crisis. Some economists believe retaining the AAA credit rating is not that important.

Former prime minister Kevin Rudd’s economic adviser during the global financial crisis, Andrew Charlton, said Australia should be planning for a “very large” discretionary fiscal boost of “materially in excess of 5 per cent of GDP”, on top of the budget’s automatic stabilisers from weaker tax revenue and higher welfare spending.

That would amount to more than $100 billion in government budget spending and tax relief.

“The credit rating is a means to an end and you don’t want to prioritise that because the real focus needs to be on ensuring the economy isn’t falling apart.

“The second fiscal stimulus must support firms and households to survive through the crisis.”

The RBA’s Dr Lowe expressed confidence in the government’s “prudent” budgeting giving it capacity to spend significantly more to support the besieged economy, and pointed to long-term strengths in natural resources and a skilled and educated workforce.

Fitch Ratings sovereign analyst for Australia, Jeremy Zook, said Australia had budget space to add to its initial stimulus and could retain its AAA rating depending on how the economic downturn affected variables such as per capita GDP, foreign debt, the current account balance, currency status and governance.

“In the short term they have space for more fiscal stimulus without jeopardising the AAA rating, dependent on other economic variables.”

“In Australia there is generally a cross-party track record to implement fiscal stimulus and to roll back the stimulus once the crisis has passed.”

Strong fiscal position

Fitch measures gross debt for the federal and state governments combined, which is currently about 40 per cent – about the median of AAA-rated countries.

S&P Global is likely to review the sovereign rating before the May budget.

“We’re probably not going to wait for the second Tuesday in May, and we will act accordingly between now and then,” S&P’s Mr Walker said.

Potential government guarantees on some bank loans to home owners and, possibly business, known as contingent liabilities, would add to the government’s balance sheet liabilities and further pressure the credit rating.

A collapse in economic activity and extraordinary government responses to the coronavirus crisis will also pressure the AA credit rating of the big banks, which currently receive an upgrade by piggybacking on the federal government’s strong balance sheet.

But Moody’s Investors Service credit analyst Frank Mirenzi said the RBA’s co-ordinated policy responses with the government was “credit positive” for Australian banks, “as they enable access to stable funding and liquidity and promote credit availability to the economy”.

“The credit profiles of Australian banks also remain robust, with capital and liquidity in a much stronger position heading into this downturn than during previous crises.”

A spokeswoman for Treasurer Josh Frydenberg pointed to the Organisation for Economic Co-operation and Development and International Monetary Fund backing Australia’s strong fiscal position.

“Additional stimulus measures could be implemented without endangering debt sustainability in a number of economies, including Australia and Germany,” the OECD said last month.

The IMF recently said Australia’s public debt “remains low”.

“Both Commonwealth and state governments have substantial fiscal space and should be prepared to provide additional stimulus in case downside risks materialise,” the IMF said.

The independent Parliamentary Budget Office warned on Thursday that successive federal governments’ – both Coalition and Labor – use of alternative financing arrangements for spending tens of billions of dollars on projects such as the National Broadband Network was not captured in the reported budget balance.

Government equity investments, loans and guarantees did not detract from the budget bottom line, but add to the government’s debt liabilities.

“If the use of alternative financing arrangements continues to grow without a change to reporting practices, a larger share of government spending would be difficult to scrutinise, which could pose risks to the Commonwealth government’s fiscal position over the longer term,” the PBO said.

“The fiscal and underlying cash balances should be viewed together with other published indicators, such as net financial worth and net debt, to provide a more complete picture of the health of the balance sheet.

“It is important to note that Australia’s fiscal position is significantly stronger than many other countries and could reasonably be considered sustainable by any budget metric.”

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