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Federalism is a dead idea. So what now?

By Mike Steketee - posted Friday, 30 April 2010


If last week saw Kevin Rudd's brave new world of co-operative federalism in action, why did it bear such an uncanny resemblance to the premiers' conferences of the bad old days?

You may recall the script: the premiers express outrage at the miserly money the commonwealth is offering, warn that states and their inhabitants will all be rooned, the prime minister throws a few more dollars at them, and the premiers emerge to tell their states' voters how their tough stand saved the day.

Off stage, Canberra journalists are briefed that the federal government gave the states no more than it intended and, sometimes, less.

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John Howard's decision to allocate all of the GST revenue to the states was supposed to end all that, and it did for a while. The states even agreed to abolish some of their more inefficient taxes in return for the money.

But what Canberra gives it can also take away and this week, after an all-in brawl, it took back one-third of the GST revenue in exchange for health cash in the hand, with further negotiations with Western Australia pending.

Surely there has to be a better way. Howard offered the Irish, I-wouldn't-be-starting-from-here solution this week: "If we started this country again, you wouldn't have states, you'd have regions."

Many voters agree: in a Newspoll survey commissioned by Griffith University's federalism project and reported in Inquirer in recent weeks, voters rank state governments below federal and local governments in terms of how well they do their job and a rising number, now up to four in 10, favour abolishing them.

But for all the illogicality of governments based on colonial boundaries drawn in the 19th century, the reality is that it is not going to happen.

The states are entrenched in the Constitution and voter support for them as a counterweight to Canberra remains substantial, particularly in outlying states such as Western Australia and South Australia.

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The likelier outcome on present trends is that the power of the states will gradually wither. But the panoply of state and territory parliaments and their bloated bureaucracies will remain. That is no way to run a country.

Apart from the regular parade of scandals, the main reason state governments are on the nose is because voters do not think they do a good job in delivering essential services such as health, education and public transport.

At least to some degree that is because they do not control their own destiny. Queensland Treasurer Andrew Fraser who, at 33 brings a clear eye to a situation to which others have grown accustomed, said last year.

"Without fiscal sovereignty, state sovereignty is illusory," he said. "The sheer imbalance of the fiscal capacities of the states vis-a-vis the commonwealth invites a form of implicit fiscal bullying and tacit mendicancy."

For all his fine words about renovating the federation, Rudd has ignored one-half of the debate: the taxation and revenue side. Rudd's approach, epitomised by health, has been to gain more control over spending to match the commonwealth's taxing clout. But there are limits to this while the states retain constitutional control over large areas of government activity, including health and education, and with referendums to change the Constitution to give the federal government more powers unlikely to succeed.

Treasury head Ken Henry's review of the tax system canvasses reforms in state taxation. While the report has been sitting on the desk of Wayne Swan, who is fearful of what it may unleash, this area should be relatively uncontroversial.

In 2007-08, the states raised $53 billion in tax revenue and another $36bn through other means, including sales, dividend income and interest earnings, for a total of $89bn. But they spent $157bn. If the states were businesses they would have gone broke long ago.

Instead, they stay afloat by receiving money from Canberra, both through the GST revenue and grants for specific purposes.

According to the Organisation for Economic Co-operation and Development, the gap between state revenue and spending is larger in Australia than in any other developed federation except Belgium.

The states themselves think there is plenty wrong with this system. In a submission to the Henry tax review last year, the Council for the Australian Federation, representing the states, said the gap between state spending and revenue broke the nexus between government decisions on the level of services and the revenue raised to fund them and allowed governments to shift blame.

That is a polite way of saying that, if you are spending someone else's money, you are likely to be less careful, particularly if you can blame the commonwealth for not providing enough.

The submission added that the mismatch in funding created duplication and excess administration, and meant governments were less responsive to the needs of their communities.

Andrew Fraser put it more bluntly in a speech in January: "Say you were designing a kite; you wouldn't decide to put 80 per cent of the weight on one side and 20 per cent on another and expect it to fly. Say you were designing a nation; you wouldn't set about having one level of government gaining 80 per cent of the revenue because it wouldn't fly. And neither do we."

Fraser was exaggerating only slightly: on the latest figures, the $89bn the states raised was 26 per cent of total government revenue in Australia, whereas their spending is 41 per cent of the total.

Fraser proposed two years ago replacing the GST revenue the states receive with a share of income tax. The idea is that the states would set their own rate of income tax - something they would have to justify to their voters - and the commonwealth would collect it on their behalf.

The advantages for the states are that it would be their own revenue source and it would grow significantly faster than the GST. There is nothing radical about this proposal: Australia is the only federation among developed countries in which the central government takes all income tax.

The states have the constitutional power to levy income tax and the Fraser government legislated in the 1970s to enable them to impose an income tax surcharge or give a rebate.

Spooked by the politics, none of the states moved to do so, instead finding it easier to keep holding out the begging bowl to Canberra and blame it for deficiencies in services.

The states' situation now is much more dire. Still, the commonwealth may have to ease the way by reducing its income taxes to leave room for the states -- something it could readily do if it regained all the GST revenue.

Henry has raised the possibility of a state-based income tax, as well as alternatives such as Canberra setting a base rate for payroll tax and land tax and allowing the states to vary the rate.

This would stop the states competing against each other to give exemptions from the tax, as they have done with payroll tax and land tax, leaving them to rely again on Canberra.

Those who believe the federal government's taking over 60 per cent of hospital funding will solve the states' problems should think again.

Although health and education are the biggest items in the states' budgets, the Council of the Australian Federation's submission says spending on law and order, housing and welfare has been growing almost as fast.

Of course, the states always can look at ways to save money in these areas.

But they are likelier to do so if they are the ones that have to raise the revenue to pay for them.

As long as we are stuck with the states, we may as well try to make them work.

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This article first appeared in The Australian, April 24, 2010.



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About the Author

Mike Steketee is The Australian's national affairs editor and a former political correspondent and Washington correspondent. He won a Walkley award for journalism leadership in 2000.

Creative Commons LicenseThis work is licensed under a Creative Commons License.

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