For budgets only smaller is tougher

In any case it is unclear that the government's appetite for additional expenditure, largely financed by public borrowing, to stimulate private demand was an appropriate response to what were a series of economic dislocations engendered by distortionary regulation overseas.

As chronicled in the recent book Robust Political Economy by Mark Pennington, the GFC followed from government interventions that exacerbated the potential for systemic failure in financial markets.

These included the maintenance of interest rates below their natural rate by central banks, regulations which relaxed home purchase lending requirements for low income earners, capital regulations that encouraged banks to securitise risky mortgages, and the creation of legally protected monopolies in the credit rating business.

After having engaged in wasteful expenditure adventurism - including $900 stimulus cheques, the costly school halls program, the tragic home insulation subsidy, and questionable community grants to local governments - the government is looking to forge a new reputation as 'symmetrical' Keynesians who can now deliver a budget surplus as the economy grows as astutely as they deliver a deficit as the economy slows.

However, it is abundantly clear that the government has not achieved this outcome even on their own terms.

In 2008 - 09 the commonwealth Budget transitioned into a $27.1 billion deficit, compared to a $19.7 billion surplus the year before under John Howard and Peter Costello, in response to what turned out to be only one quarter of (seasonally adjusted) negative GDP growth in 2008.

The Australian economy has grown ever since, admittedly at less than potential partly due to the adverse consequences of fiscal stimulus upon the structure of production, and the Budget papers will also certainly estimate that growth will continue over the forward estimates.

By the time that the government delivers its projected surplus by 2012-13, the Budget will have been dragged through four consecutive fiscal years of deficit not to mention an upsurge in net debt.

To put it simply, four years of deficit and debt in response to one quarter of negative GDP growth is inconsistent with achieving fiscal symmetry over the business cycle.

What the government does not appear to sufficiently recognise that its 'sticky' budget deficit is compounding economic difficulties presently being felt by industries and households alike.

For a start a growing budget deficit, all other things being equal, places upwards pressure on interest rates, which most economic commentators now suggest is the most likely direction for monetary policy.

In a global economy with open capital markets an increase in domestic interest rates induces capital inflow which in turn leads to an exchange rate appreciation. This trend dampens the international competitiveness of Australian tradeable sectors, such as tourism and the like.