Watch Out For The Gst Funk

Sydney Morning Herald

Monday June 5, 2000

ROSS GITTINS, ECONOMICS EDITOR

As no official within cooee of a politician is game to say the obvious, let me: G-S-T spells a wild and unpredictable ride for the economy this year.

The extreme political sensitivity of the GST has induced a marked lack of frankness in our econocrats. The Reserve Bank is heavily into don't-mention-the-war mode, while Treasury is doing its Pollyanna routine: with our New Economy, what could possibly go wrong?

The first thing to say is that, though it's never the right time for micro-economic reform, the GST is arriving at a particularly inconvenient period.

We've got enough trouble on our hands simply coping with the local consequences of Alan Greenspan's continuing struggle with the double-headed monster of an overheating US economy and an overvalued sharemarket.

And the GST has also coincided, not entirely by chance, with the Reserve's need to tighten the stance of monetary policy from stimulatory to neutral as the economy approaches its 10th year of expansion something that wouldn't have been necessary had the economy slowed last year as Treasury predicted.

The next thing to say is that it's hard to believe the sudden flattening in retail sales this year and the equally abrupt collapse in consumer and business confidence can be solely, or even largely, attributed to the rise in interest rates.

The timing doesn't fit. The rot set in before the rise in rates was anything more than minor and, in any case, monetary policy works with a long lag.

What's more likely is that the dominant factor in our sudden loss of confidence is angst about the GST. Remember that, in distinction to the experience of other countries, the Australian public has been working itself into a state over the GST for the past 15 years.

And for small business, the GST is accompanied by a revolution in the way it pays its tax, with the likelihood that it will be obliged to pay a lot more income tax than it ever did before. What would that do to your confidence? Now even big business is getting its knickers in a twist over the zealous efforts of Allan Fels.

It won't be surprising to find that small business has shelved its investment plans while it comes to terms with the rules of the post-GST world. And that could take some time.

(To the extent that the rise in rates is compounding the national GST funk, it wouldn't have been helped by the fuss John Howard made about the rate rises. He, of course, is especially sensitive about interest rates precisely because of the GST.)

Other countries' experience told us to expect consumers to do a lot of bringing-forward and pushing-back of spending either side ofJuly 1 as they sought to beat the GST. It also told us the bring-forward would exceed the push-back.

What's happened to housing fits that story perfectly, but what's happened to retail sales certainly doesn't. And unless we see an almighty rush on the stores this month, the retailers could have lost out on both sides of the line.

The next imponderable is how much stimulus we actually get from the July tax cut. If the national funk continues after the GST's full horror is revealed, a lot of the tax cut may be saved (as Treasury quietly predicts).

On the other hand, the Melbourne Institute's survey found that the public is grossly underestimating the size of the cuts. When it discovers the truth, it may calm down and start catching up on its spending.

Then there's the GST's effect on inflation expectations. One point to note is that the public's perception of the extent of the rise in the cost of living will be set in concrete long before we see the September quarter CPI result in late October.

And the public will form its perceptions about price rises the way it always does: in the most exaggerated and unscientific way.

What's more, as even Treasury now acknowledges, the initial rise in prices is likely to be excessive, with prices subsequently adjusted down as competitive pressures exert themselves and as embedded cost savings become apparent.

The public will be oblivious to those later adjustments. And workers will be measuring the adequacy of their tax-cut compensation against the initial rise, not the ultimate rise.

Another point is that, though economists will be dividing the CPI into separate boxes marked ``one-off GST effect" and ``ongoing inflation", consumers and wage earners won't be making that nice distinction. To them, it's all inflation.

And remember this: a lot of foreign participants in the financial markets won't always think to make the distinction, either. At a time when thanks to their obsession with the US the overseas markets will have become particularly inflation-conscious, we'll have added three to four percentage points to our standard measure of inflation, which will persist for 12 months.

The more you think about the GST, the more risks you realise it carries for the macro economy over the coming year. And most are on the downside.

© 2000 Sydney Morning Herald

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