CHAIR —I call the committee to order. We will now turn to examination of the Department of the Treasury and we will commence with outcome 2—Effective government spending and taxation arrangements. I welcome to the table Senator Ian Campbell and officers of the Treasury. I remind officers—and I remind you too, Senator Conroy—that an officer shall not be asked to give opinions on matters of policy and should be given reasonable opportunity to refer questions asked to superior officers or to a minister.

Senator CONROY —Was that a reflection from the chair?

CHAIR —No, I just thought that, the way in which the script read, it was probably more appropriate to direct it to you rather than the officers.

Senator CONROY —I want to start with Treasury corporate issues. Could I explore the progress with the refurbishment of the Treasury Building. Have you got an office there, Senator Campbell?

Senator Ian Campbell —I have not spotted it.

Senator CONROY —You haven't scored an office yet? When did the refurbishment begin?

Mr G. Smith —This is not really the responsibility of output 2. We will try and answer these questions, but you have to understand—

Senator CONROY —I am happy to defer them. Which output do they come under?

Mr G. Smith —This is a difficulty, because, essentially, the corporate services, if you like, of the department are inputs to the three outputs—

Senator CONROY —Do they take that personally?

Mr G. Smith —As you probably know, they are no longer separately reported: they are incorporated within the—

Senator CONROY —Where would you suggest I ask these questions?

Mr G. Smith —I have no problem with you asking them, but it would have been great if we had some warning. I will try to answer them, because I do not have those staff here.

Senator CONROY —I am happy to defer them to later on this afternoon, if the relevant staff are not here.

Mr G. Smith —It is a question of how detailed we go. In any event, in the case of the refurbishment, we do not own the Treasury Building. The Treasury Building was refurbished, of course, by its owner, and we lease the building.

Senator CONROY —Do they pay for it or do you pay for it?

Mr G. Smith —In our lease contract I think there is actually a mixture of both. The building was completely gutted and rebuilt, and most of that was paid by the owner. I think some of the fit-out component would have been part of the lease contractual arrangements. We were occupying one end of the building and we have moved to the other end of the building.

Senator CONROY —Did it have a better view?

Mr G. Smith —No, this happened because the building is being refitted in parts: the part that we exited is currently still being refurbished; the part that we have moved into—where Finance was—became vacant. Finance moved out first because they moved into another building altogether. It was very comprehensively refurbished. The building was approaching 40 years of age—

Senator CONROY —It was very old; it has been around for a long time.

Mr G. Smith —so it was way past its use-by date. It was completely refurbished, and we moved in in December last year. The refurbishment, obviously, was basically completed before then other than some minor fit-out, repairs and so on that continued after we moved in. I am talking about the component of the building which the Treasury now currently occupies. Of course, as I say, the rest of the building is still being refurbished and should be finished quite soon. Their expectation is that further space will become available—I think some small part of it already has become available. We are taking some further space in July, and Finance and other tenants are taking some space later this year.

Senator CONROY —Okay, so it is partially completed?

Mr G. Smith —Yes, this is the building, and we only lease a part of the building.

Senator CONROY —But the whole building, you said, was being refurbished?

Mr G. Smith —The whole building was old, so the whole building was being refurbished in stages, but there are different tenants for different stages.

Senator CONROY —What is the cost to Treasury of the refurbishment/fit-out—what were the dollars you paid?

Mr G. Smith —It is best to think of it as the change in our rental: because it is much better accommodation, our rent has gone up compared to what we were paying before. As I say, it is not our building, so we would have to ask Finance for the cost of the building refurbishment, because they are the owner.

Senator CONROY —You must know what you contractually pay in terms of the fit-out of your bit of the building.

Mr G. Smith —I would have to take that on notice.

Senator CONROY —I am happy for you, if you can, to organise someone to come over this afternoon.

Mr G. Smith —Whoever I got up would have to take it on notice because we would have to go back and look at the various components. There is more than one stage in the exercise, so we would have to go back and add it up anyway. My recollection is that it was in the order of $10 million for the total fit-out.

Senator CONROY —Is that Treasury's total fit-out or the building's total fit-out?

Mr G. Smith —That is a capital transaction, and I think the depreciation is charged off that on an annual basis. I think that was the order of magnitude but I would have to check that.

Senator CONROY —So it was roughly $10 million for the Treasury part of the fit-out?

Mr G. Smith —Yes, I think.

Senator CONROY —How did that compare with the original estimate of the cost?

Mr G. Smith —I do not know; I will have to take that on notice.

Senator CONROY —Have the final accommodation arrangements between Treasury and Finance and Administration been settled? Has the old `ownership is nine-tenths of the law' adage been applied?

Mr G. Smith —That sounds good to me, but I do not think that is what we have been doing. It has happened in stages. There was an initial refurbishment and we moved most of the Treasury into that space. There was then a six-month lag before a second stage came on stream and we then moved the Tax areas of the Treasury into that additional space. More recently, we have contracted to take additional floor space sufficient for approximately—this is very rough—100 further persons. We have already occupied one part of that space, and that is an extension of the second floor, which I think is roughly half the amount I have just described. The other half we hope to take in July.

Senator CONROY —How much space did you have before the refurbishment in the building? If it is easier, answer in terms of floors—you could say, `We had two floors'. If it is easier, talk in terms of square metres.

Mr G. Smith —Imagine this building having four blocks, so it is really four buildings that are joined together. We originally occupied two of those blocks, so basically half the building. That would be a rough estimate of what we originally occupied. It may have been slightly less than half because I think Finance was slightly bigger than us. We still occupy about half the building, although when we take this additional space—which is necessary because we are taking the additional functions from the tax office, and Treasury staff numbers are going up by about 100 or so, as you will see in the budget papers—we will obviously occupy more space than that.

Senator CONROY —So will you take a third block when you are finished? Will you have three-quarters of the building?

Mr G. Smith —We are taking a slice of the central area—what is called A block.

Senator CONROY —How much of a slice?

Mr G. Smith —About half of it, I think.

Senator CONROY —Can we say that you will occupy 2[half ] blocks?

Mr G. Smith —If you are happy with this level of aggregation then I am.

Senator Ian Campbell —We could happily provide detail as to the square meterage.

Mr G. Smith —I am sure we can get to the square metres, but I do not have it.

Senator CONROY —I appreciate the offer, Minister.

Senator Ian Campbell —We can take that on notice. We can provide you the gross and the net rental, and we could also compare it with the Centenary House rental while we are at it.

Senator CONROY —I appreciate your kind offer, as always, Senator Campbell. I am really just after the factual information rather than your opinion.

Senator Ian Campbell —It will be factual.

CHAIR —I do not think Senator Campbell was offering an opinion so much as a comparison, Senator Conroy.

Senator Ian Campbell —As all well-trained valuers should do.

Mr G. Smith —With this expertise, it will be well known that the footprint of this building is, and has always been, inefficient—that is, because of its design, it has a lot of space that cannot be actively used. We still have that problem. That is probably reflected in the rental rate.

Senator Ian Campbell —Having just been in the US Treasury building, it is probably far more efficient than that building.

Mr G. Smith —That would not be hard.

Senator CONROY —Have you ever been there, Mr Smith? I am sure you have.

Mr G. Smith —I have never been there, actually.

Senator CONROY —You have never been to the US Treasury building?

Mr G. Smith —I have never been to Washington in my life.

Senator CONROY —I think you will have to rectify that, Senator Campbell.

Senator Ian Campbell —Have you been to the Treasury building, Senator Conroy?

Senator CONROY —No, I have not either. I have been to Washington, though—I have got one up on Mr Smith there. Clearly, we have to round out Mr Smith's education. I will leave that in your hands, though.

Senator Ian Campbell —It will be like Mr Smith goes to Washington!

Mr G. Smith —I will take note of that and mention it to my wife tonight, so that is pretty well locked in now.

Senator CONROY —You have the commitment there from the parliamentary secretary.

CHAIR —Can we turn back to the estimates rather than your travel log, please, Senator Conroy.

Senator CONROY —It is very kind of Senator Campbell to accommodate them.

Mr G. Smith —My career has had a lot of airing today.

Senator Ian Campbell —You have all sorts of options.

Senator CONROY —Are all Treasury staff now going to be within the one building?

Mr G. Smith —I do not know how precise we need to be in these things. The Treasury formally includes the Mint and, of course, they are not there and never have been. If we define the Treasury as the non-Mint part of the Treasury, they are all there unless they are posted overseas or whatever.

Senator CONROY —I have some recollection that some parts of the Treasury, under the previous arrangement, were outside—was it Tax?

Mr G. Smith —I had mentioned the Tax thing. We moved the Tax people into the main Treasury building about six months after we took the first component of the refurbishment.

Senator CONROY —They were original Treasury staff as opposed to the ATO staff who are coming across?

Mr G. Smith —They were original Treasury staff. I think they moved to a building in Barton about four or five years ago. That happened because the Treasury gained functions from the Attorney-General's department—namely, the business law areas—and that meant we could not fit in the building anymore.

Senator CONROY —I remember you banished a section of Treasury.

Mr G. Smith —Some Tax people were sent to some marvellous accommodation in Barton for four years.

Senator CONROY —But they are back home.

Mr G. Smith —They are home.

Senator CONROY —And they are happy.

Mr G. Smith —The morale within the Treasury is very good, thank you.

Senator CONROY —Am I correct in understanding that the Treasury maintains a suite within the department for the exclusive use of the Treasurer?

Mr G. Smith —There is and always has been a Treasurer's suite.

Senator CONROY —Is it for his exclusive use?

Mr G. Smith —I hope he is not listening.

Senator CONROY —You do not wander in, sit down and put your feet up, do you?

Mr G. Smith —Because there are periods of the year when the Treasurer does not require use of the suite, some part of the office is occasionally used for the temporary placement of special project officers, with the agreement of the Treasurer's office. The space is quite commonly being used.

Senator CONROY —Who would those special project officers be?

Mr G. Smith —For example, we have used the space for a special project team that was set up to develop some internal corporate management policies in the salary and remuneration area. In other words, a team was set up to develop some proposals for the executive board and, for the sake of putting them somewhere, they occupied the desks in that area. That is an illustration.

Senator CONROY —But that is not regular? That was a one-off?

Mr G. Smith —It is a piece of space that becomes available for periods. Obviously, they leave that space if ever the Treasurer requires it.

Senator CONROY —How often does the Treasurer come?

Mr G. Smith —He visits a few times a year. His main period there is during the budget process: the Treasurer comes to the Treasury—

Senator CONROY —We get to watch it on telly: he strolls on down.

Mr G. Smith —He comes to the Treasury around budget time—that is the principal time. A lot of the budget is put together in the Treasury area in those last couple of weeks before the budget.

Senator CONROY —During that period, would he come down for 24 hours, a week or two weeks before?

Mr G. Smith —It varies. It is more than 24 hours, it is a week or two of that period. But he may—and I think he did this year—come earlier than that as well. He comes over sometimes for briefings as well. Treasurers of old have always had a suite in the old building.

Senator CONROY —I appreciate you will not be able to give me this figure now, but could I get a calculation of how many other uses it has been put to in the last 12 months and of how long for each time? You mentioned one particular—

Mr G. Smith —I am aware of three, but that is just from my own awareness.

Senator CONROY —I am happy for you to take that on notice: how many times has it been used other than by the Treasurer and for how long?

Mr G. Smith —It would add up to a few months in the year.

Senator CONROY —Is the new suite larger than the old suite?

Mr G. Smith —I would expect so. I would have to take that on notice.

Senator CONROY —Does it take up a quarter of a block?

Mr G. Smith —It is actually in the corner of the floor where the budget area is and, in fact, that is the logic of it. The budget policy area of the Treasury on the fifth floor is especially secured for some weeks before the budget. There are special security arrangements, so that whole area has greater security arrangements than it has for the rest of the year and than there are in other parts of the Treasury. It is a part of that area; you have the budget policy division, some other budget related offices and the Treasurer's suite because they all work very closely together on the budget.

Senator CONROY —I have just been advised that we thought we did request Corporate Services to be here this time around.

Mr G. Smith —There is the difficulty of having them sit here for five days, but I am happy to get them up. They will not know the answers off the tops of their heads, anyway.

Senator CONROY —Hopefully they are listening. Hopefully they are plugged in to us.

Mr G. Smith —Yes. Those floor areas and those sorts of things can be researched.

Senator CONROY —Can I get an indication of how much larger the new office is as opposed to the old office in terms of square metres? I think that would be the most appropriate measurement.

Mr G. Smith —We would have to check that, but it would certainly be bigger because the last one was quite small—like the rest of the Treasury Building. The per officer floor space for the whole of Treasury has increased with the refurbished building.

Senator CONROY —Sure. You have a bigger office, do you?

Mr G. Smith —My office is barely adequate!

Senator CONROY —Is it more barely adequate than it was previously?

Mr G. Smith —It is more barely adequate.

Senator CONROY —I look forward to some poor sucker reading that and trying to work out what we were talking about.

Mr G. Smith —Put in brackets `irony'.

Senator CONROY —Is it common practice among other departments for ministers to have suites?

Mr G. Smith —I think so, because I originally came from a state government where ministers almost exclusively used the departmental suites because the state parliaments are so small. This building I guess speaks for itself.

Senator CONROY —I have a barely adequate office, as well! Senator Campbell, how is your office?

Senator Ian Campbell —I am hoping Senator Abetz will sign the agreement so it will get refurbished.

Senator CONROY —I think there is a nice office going not far from this building!

Senator Ian Campbell —DOFA or the Special Minister of State told me that I had not spent a single dollar on office fit-out since 1990, so I have been a very cheap senator.

Senator CONROY —Mr Smith, you would not charge Senator Campbell rent to use that suite, would you?

Mr G. Smith —I think that is a Finance question. I do not think Finance would own this building, would they?

Senator CONROY —I am talking about if he went over and worked out of the spare suite at the Treasury. You would not charge him rent for that, would you?

Mr G. Smith —I think that is a good point, that we have three ministers in the portfolio and these facilities—

Senator CONROY —Three desks could go in the one room. It sounds big enough.

Mr G. Smith —The Treasury welcomes all three ministers from time to time.

Senator CONROY —Do they all use that one suite?

Mr G. Smith —They could do.

Senator CONROY —Do they have three separate suites?

Mr G. Smith —No, they do not have three separate suites.

Senator Ian Campbell —We are working on a roster.

Senator CONROY —Good luck!

Mr G. Smith —There is only one suite but there are three ministers.

Senator CONROY —Within this one suite is it correct that the Treasurer requested a new desk for his office?

Mr G. Smith —I am not across that detail.

Senator CONROY —Would you be able to come back to us later on today about that?

Mr G. Smith —Today! I could certainly see how we go.

Senator CONROY —Would you be able to give us a description of the new desk when you come back to us with those details?

Mr G. Smith —You are asking me for a description of the desk. I can do my best.

Senator CONROY —And how much would it cost?

Mr G. Smith —I am sure that if there is a new desk there would be a cost that we could get.

Senator Ian Campbell —I would like to know if it was from Thailand and if it is made out of teak.

Senator CONROY —It is entirely possible it is a teak desk from Thailand, Senator Campbell.

Senator Ian Campbell —That is what I want to know.

Senator CONROY —We will all wait with bated breath.

Mr G. Smith —The general position is that we did refit pretty well everyone's desk when we moved.

Senator CONROY —But the Treasurer did not ask for everybody else's desk to be refitted, that was just part of the refitting.

Mr G. Smith —I think everybody got a new desk—

Senator CONROY —Everybody got a new desk. Did you get a new desk?

Mr G. Smith —with the exception of me. I asked to keep my old desk.

Senator CONROY —So that one was more than adequate.

Mr G. Smith —Mine was a bit of an antique. I quite liked the look of it.

Senator CONROY —I am happy for you to take this on notice and come back to us this afternoon. I will chase it up this afternoon, as I am sure you will understand. Was it delivered in time for the current budget session?

Mr G. Smith —I will start writing some of these down.

Senator CONROY —Am I right in my recollection that the Treasurer previously had an official residence in Canberra?

Mr G. Smith —An official residence in Canberra for the Treasurer? I do not think so.

CHAIR —There is a grace-and-favour residence for the Treasurer in Canberra, isn't there, that was gifted to the Australian people by a Melbourne family before the Second World War?

Dr Grimes —I have a vague recollection—it is nothing more than that—that there was such a residence. But that is going back a very long time.

Senator Ian Campbell —There was a question asked about this, as I recall—

Senator CONROY —Did you ask it?

Senator Ian Campbell —No. There was some speculation about whether the Treasurer might live there when we first got elected in 1996 and I think if you refer back to the Hansard of the first estimates you will find that one of your colleagues probably asked questions about that.

CHAIR —I do not think it has been occupied by the Treasurer, or the person who was at the time the Treasurer, for—

Senator Ian Campbell —Since about Harold Holt's time, is my recollection.

CHAIR —Yes, I think Harold Holt may have been the last Treasurer to use it.

Senator CONROY —I did not realise you were such a historian, Senator Brandis. You continue to amaze.

Mr G. Smith —I do not think this is a Treasury house. I do not think we have this house.

CHAIR —I suspect that is right.

Senator CONROY —Otherwise it would have been sold.

Mr G. Smith —It may be called `treasury house' like buildings get called treasury buildings.

CHAIR —It is like Dorneywood in the United Kingdom.

Mr G. Smith —I am leading towards the thought that it is nothing to do with our estimates.

Senator CONROY —The question is whether or not it is. I am sure corporate services will be able to tell us whether this is right.

Senator Ian Campbell —I think we should go back to the Treasurer's desk, his in-box, his chair and that sort of thing.

Senator CONROY —Could you ask: if it was in the possession of Treasury, is it still?

Mr G. Smith —I find it hard to believe that I would not know that we owned a house. I have certainly never heard of this house. I do not think it is on our balance sheet so I am pretty sure that it is not a Treasury estimates thing. If it exists in public ownership it must exist in the public estate somewhere, which would be the property people.

CHAIR —I think that is right, Mr Smith.

Mr G. Smith —I have known a few Treasurers in my time and I have known the houses they have rented.

Senator CONROY —I was not suggesting that the Treasurer lived in it.

Senator Ian Campbell —One had a trampoline in the backyard!

Senator CONROY —Where are DOFA going? Have DOFA got enough space now that you have taken up another half block? Who got the boot to make space?

Mr G. Smith —Finance moved, you will recall, to what I think is now called John Gorton House. It was actually the old admin building which is the one at the almost mirror opposite side of the parliamentary triangle. It used to be occupied by Foreign Affairs. The sequence was this: Foreign Affairs built a small building just down the road from the parliament. I believe that was in the eighties. They squeezed in there.

Senator CONROY —I hear there was a space available down there that you might be able to squeeze a few more people into. Were they trying to sell you that pup?

Mr G. Smith —I popped in there the other day and my eyes are not that good; I could not see the ceiling.

Senator Ian Campbell —That was for the ego of the foreign affairs minister who commissioned the building.

Senator CONROY —I am told it has now been found to be too small for the current occupant's ego.

Mr G. Smith —Foreign Affairs left the admin building and it was refurbished by the owner and Finance then took that lease. I do not think they are the only lessee, but they took that lease.

Senator CONROY —So they are not coming back to share the building with you?

Mr G. Smith —They are going to take some of the building.

Dr Grimes —Indeed, I think that at the moment part of the Department of Finance and Administration has actually physically relocated to the Treasury building as some space has become available. From memory, the superannuation area of Finance is in that part of the building, but I am not aware of what other areas of Finance—

Senator CONROY —Presumably, given you have taken half a block though, in general someone must have been going out. Do you think that Finance will be split? Will Finance all be back in the Treasury building?

Mr G. Smith —This is not our business, frankly, but we know the National Capital Authority has become a tenant and Finance is a tenant. They are the ones that we are aware of, but that is not our building.

Senator CONROY —So you have not booted Finance out; they are coming back?

Mr G. Smith —Bits of them are coming back, I gather.

Senator CONROY —Fully though, over time, when the full refurbishment is done?

Mr G. Smith —I do not think so. I think their plan is to stay where they are in terms of their major operation. As you know, Finance was a merger of the old Finance with Administrative Services so they have a range of interests and businesses. But I think one or two—superannuation is one of them—have apparently already moved back in.

Dr Grimes —These were parts of the department of finance that were actually physically located in other parts of Canberra—primarily Civic I think—that have now been centralised back, as I understand it.

Mr G. Smith —It is closer to their headquarters.

Senator CONROY —I wanted to talk about staffing. What are the staff numbers currently in Treasury before the influx of the ATO staff that are coming across?

Mr G. Smith —Our approximate staffing number at the moment is 560.

Senator CONROY —Has that increased in the last couple of years?

Mr G. Smith —Yes, as I mentioned before what has been happening to the Treasury over the last few years is that—

Senator CONROY —It is growing.

Mr G. Smith —firstly, transferred into the Treasury were business law functions that were previously in the Attorney-General's. I think this occurred in 1996. Then in 1998 I think, the consumer affairs functions that were also in the Attorney-General's previously moved in, so we now have a consumer affairs division in the Treasury. Both of these things added to our numbers. The third transfer of function, if you like, into the Treasury that has gone on over the course of these years will be this one of the tax legislation function. That will lead to a further increase in our average staffing level, going forward.

Senator CONROY —Are you planning on acquiring anybody else?

Mr G. Smith —Being complete, over the same period of time there has probably being a slight tendency to decline in other areas of the Treasury, particularly in relation to the Mint, which I am fairly certain has seen a decline in staff numbers.

Senator CONROY —I am happy for you to take this one on notice.

Mr G. Smith —We published some of this. We may be able to help.

Senator CONROY —If I could get the break up between policy offices and administrative and other staff, and whether this proportion has stayed reasonably constant in recent years.

Mr G. Smith —This is not necessarily the language that we use because, for example, in a policy area you will often have, say, a divisional support officer or an executive assistant, so there are always questions about what you mean by that. We basically have the department divided into three. The three correspond to the three programs of the department or the three outcomes of the department. The staffing numbers for each of those three are published. I can give them to you now if you want them: they are actually sitting there in the portfolio budget statement. Some of those people would be what you might call admin, but there would be a question as to what you mean by admin. I can say to you that our corporate services division, which constitutes the larger part of what you might call admin, is approximately 110 staff at the moment out of the 560, from memory. But there would be through the policy division people who are not professionally qualified, you might say, in terms of a policy advising purpose. You would have to add those on as well.

Senator CONROY —Maybe I can help.

Mr G. Smith —There is another 30 of those.

Senator CONROY —This may not work. Can we take it that the regional proxy for the distribution of staff across the levels—this is slightly changing the focus—is in the table given on page 131 of last year's annual report?

Mr G. Smith —I do not have the annual report with me, but that would presumably be the classifications.

Senator CONROY —Yes. I call them levels.

Mr G. Smith —That would not be a good guide to an admin/policy split.

Senator CONROY —I understand that Treasury regards middle management as the EL1 and EL2 levels?

Mr G. Smith —No. Treasury's management model has a five-level system, and this was introduced in 1998. Under that system there are only five layers in the entire department, including the secretary as one layer and the executive directors as the second layer.

Senator CONROY —Where do they equate to in terms of EL1 and EL2?

Mr G. Smith —An executive director is SES band 3; so that is two of the three levels. The third level is a general manager. General managers are either SES band 1 or band 2. The fourth level is manager. When you say `middle manager', I think that is probably the most appropriate level to correspond to your terminology—namely, someone who has several people who work to them. Most often they would be EL2, although they could be an SES band 1, and, in special cases, they could be as low as an APS6, but primarily they will be an EL2. Rarely do we give the manager accountability to EL1s. Everyone else is the final level which of course consists of the people who do all the work, which we would generally tend to call analysts, or words to that effect, in the policy areas at least.

Senator CONROY —Is Dr Henry coming at all this week? Is he overseas? Is he away on holidays?

Mr G. Smith —As you know, it has become a bit of a pattern that the secretary cannot come the first day. The Reserve Bank board meeting was yesterday, so he was away yesterday. He is in and out this week. There is no obvious moment for him to come, but, if you have a particular desire—

Senator CONROY —When we say that we are calling Treasury, I was wondering whether he needs his own personal invitation to come. Do we need to say, when we say Treasury, that we would like the secretary to come?

Mr G. Smith —As you know, he has come over the—

Senator CONROY —I must have missed him yesterday.

Mr G. Smith —He was not here yesterday; he was in Sydney yesterday.

Senator CONROY —I must be missing him today. Is he here and I just have not seen him? Is he in a back room?

Mr G. Smith —We have had a continuation of yesterday's program today so we have stuck with the personnel. I realise it is only me.

Senator CONROY —No, you should not feel that way, Mr Smith. You know how much we appreciate you.

Mr G. Smith —But he has no desire to—

Senator CONROY —We just want to be sure he is not thinking that it is only us.

Mr G. Smith —It is a matter of finding an optimal part in the scheme of things to come. If there is something—

Senator CONROY —Has he found an optimal part for today or tomorrow?

Mr G. Smith —If you would suggest to me, if you want him, what sorts of subjects you would like him to come for—

Senator CONROY —So in the future we should nominate the areas that Dr Henry should come for?

Mr G. Smith —I think the most common area you have had him for is program 1.

Senator CONROY —Yes, macro.

Mr G. Smith —That would still be possible.

Senator CONROY —I am sure we would all like to see Dr Henry, just to make sure he is well.

Mr G. Smith —He is fine.

Senator CONROY —He may even want to come along, because I understand he has had to take a very significant interest in the AOFM.

Mr G. Smith —He has been to the AOFM.

Senator CONROY —That is what I mean. I know he takes a very personal interest in the AOFM. I am not asking for that, I am just saying that that is later on today.

Mr G. Smith —The secretariat often gives us an indication of preferences, so by all means.

Senator CONROY —You could take on notice that in future we would prefer him to be here as often as he can for all of the programs. But we accept that that is not always possible.

Mr G. Smith —It is not always possible.

Senator CONROY —As I am sure you would remember, Mr Evans was particularly attentive to the Senate estimates process and frequently sat through all of the estimates. We were hoping that Dr Henry would continue Mr Evans's excellent attendance at Senate estimates.

Mr G. Smith —He has been here quite often, and I am sure that can continue.

Senator CONROY —So we do not need to let you know in advance what we would like him for? We would like him for the lot, within his travel commitments.

Mr G. Smith —I can understand that you would like him for the lot.

Senator CONROY —We will come back to that issue, I am sure. It is my understanding that the secretary was recently ordered a pay increase by the Remuneration Tribunal—is that correct?

Mr G. Smith —I have only read that in the newspapers. You would appreciate that the secretaries of departments are not people I am too sure about.

Senator CONROY —That is one of the reasons we may want to chat with him.

Mr G. Smith —The pay arrangements I think are centrally organised for them; they are not decisions of the department. As you say, the Remuneration Tribunal may have been involved in that, but I have no knowledge of the pay arrangements. I did read that in the newspapers, though.

Senator CONROY —I wanted to ask what rise was awarded in this decision.

Mr G. Smith —I saw the figure in the newspapers, but I would not be able to confirm it.

Senator CONROY —You cannot always believe everything you read in the newspapers. You heard Mr Carmody saying that extensively.

Mr G. Smith —I would have gone further and said I rarely believe them.

Senator CONROY —I was wondering if you could let us know what the rise awarded was.

Mr G. Smith —I will have to take that on notice.

Senator CONROY —Would that be hard to find by this afternoon?

Mr G. Smith —I have no idea.

Senator CONROY —I am sure the pay section would be able to help.

Mr G. Smith —As I say, it is centrally organised but we will do what we can. I hope they are listening.

Senator CONROY —Could you find out what the rise awarded was and what the overall level is now?

Mr G. Smith —Yes.

Senator CONROY —I understand from that article also that there seems to be a degree of back pay—if I could use that phrase that is on the headline. Has there been back pay and, if so, back to when? Has the secretary picked up additional responsibilities? I do not mean since he became the secretary, but has the position of secretary picked up additional responsibilities? Is there anything you could advise us of?

Mr G. Smith —I would presume only the broadening of the role of the Treasury that we have been discussing.

Senator CONROY —Was there a relative remuneration adjustment made for the executive directors, deputy secretaries and staff below?

Mr G. Smith —This is the point at which I can come in. The Treasury's pay arrangements basically apply to the Public Service proper, which goes to SES band 3. Secretary remuneration is determined elsewhere. The Treasury has not adjusted the pay model for its own staff for about three years, because the Treasury three years ago entered into a certified agreement which was the primary basis of pay and that agreement comes to an expiry in September this year. There were provisions for increases over those three years in that agreement and the pay model for the SES—which goes as high as the executive directors—was set at that time and has tended to mirror the certified agreement movements.

Senator CONROY —I understand there is currently a round of pay negotiations at the Treasury—is that correct?

Mr G. Smith —Yes, the current three-year certified agreement comes to an end in September.

Senator CONROY —Has there been a pay offer put to staff?

Mr G. Smith —A pay offer was put to staff under a certified agreement last week.

Senator CONROY —Are you able to tell us what it was?

Mr G. Smith —Yes. In very broad terms, the thing that is probably of interest to you is that it is a two-year agreement rather than a three-year agreement and it provides for six per cent in each of the two years. There are of course, as with all certified agreements, other elements to the agreement with regard to terms and conditions, leave arrangements and all those sorts of things.

Senator CONROY —Is there a bonus attached? When you say `other terms', do you mean that there is access to extra remuneration on top of this, if I can make that as broad as possible?

Mr G. Smith —No. The certified agreement does not apply to the SES; it only applies to staff who are not working under AWAs. All of the SES and quite a few of the staff below SES work under AWAs. The staff that are subject to the certified agreement are basically being offered a six per cent increase. The way the Treasury operates is that at each classification level it has two pay points, lower and upper, which are determined through performance appraisal. There is also an entitlement to a loading, which basically takes you to the lower pay point of the next classification if your performance is at that classification level—in other words, if you are found to be working at that higher classification level on five out of seven criteria. Under the new certified agreement that latter entitlement is removed for APS6, EL1 and EL2, so it is actually only available for the lower grades. The only way that staff would be able to get higher remuneration than provided under the certified agreement is if, as a result of performance appraisal or other negotiations, they can obtain a higher pay rate through an AWA.

Senator CONROY —We have removed the incentive.

Mr G. Smith —It is not actually an incentive payment. It is based on the idea that, if you are actually working at the higher classification level, you should be paid at the higher classification. To illustrate, supposing you are an APS5 working in an area which has unusual demands and you are found on appraisal to be working at the APS6 level—that is, with the work level standards of an APS6. The Treasury pay model then enables you to be paid at that rate.

Senator CONROY —Were Treasury involved in preparing the government submission to the national wage case?

Mr G. Smith —They would have been involved in an advisory capacity, but the labour market area of the Treasury is under program 1.

Senator CONROY —I was not going to ask any questions about it; I was just asking whether you were involved.

Mr G. Smith —We would have been involved in the sense that the Treasury is an advising department, but of course the submission would have been prepared by the relevant portfolio.

Senator CONROY —From recollection, the government submission advocated a $10 or $12 pay rise as part of the national wage case. I think the final decision was $18.

Mr G. Smith —If you are going to ask questions about it, it would be best to go to program 1, because I am not very familiar with it.

Senator CONROY —I was just wondering if $10 or $12 equated to six per cent, and what the relativity was.

Mr G. Smith —The position with the six per cent is that the Treasury has just had a three[hyphen]year agreement where the increases were three, two and two.

Senator CONROY —Are you playing a bit of catch-up there?

Mr G. Smith —And we have reached the point where the Treasury is now in the lower quartile of Public Service pay rates for all equivalent grades. I am not sure whether that is true of every single grade, but nearly all grades. So, as a result of our three[hyphen]year agreement, which was a very long agreement, we have fallen well behind. We have assessed our productivity position; we have done an output pricing review; we have done a lot of work on this, and we believe that our productivity position justifies the six per cent. I just note that it is on the base of only two per cent wage increases over each of the last two years.

Senator CONROY —I will come back to that under output 1. Were you able to confirm, other than the newspaper article, that the secretary's pay rise has been backdated?

Mr G. Smith —I do not know anything about that, I must admit.

Senator CONROY —But you will come back to us?

Mr G. Smith —Yes.

Senator CONROY —Will this general pay offer to the staff be backdated to October?

Mr G. Smith —The new certified agreement is due to commence, I think, on 3 or 4 September. It has not been voted on yet; the negotiation has not finished. An initial offer has been made.

Senator CONROY —Could you explain to the committee the process that Treasury goes through on a national graduate recruitment round? Does it recruit graduates in a separate process to the recruitment of officers at other levels?

Mr G. Smith —Yes, I guess, by definition. Basically what happens is that we advertise the availability of graduate positions in the Treasury. This I think is done very early in the year. Then we engage in a recruitment development process which involves visiting universities, all the things that—

Senator CONROY —I remember it well.

Mr G. Smith —Were you there? You would know then that we, like many employers, then seek to attract to the Treasury the sorts of people that we need in terms of that base level recruitment. Typically we would recruit in the order of 40 graduates a year. It obviously goes up and down a bit but that is the sort of broad order of it. However, Treasury's staffing need each year is at least double that because, of course, we have exits of more like 80 a year. Again that goes up and down year by year. So we also advertise positions at other levels through the year at different times. In recent years we have tended to do it twice a year with bulk round recruitment offers at the APS5, APS6, EL1 and often EL2 levels.

Senator CONROY —Do you conduct interviews across the country or just here in Canberra?

Mr G. Smith —In the case of the graduates, we often go to see them in their home states, although we have also brought them to Canberra, so we do both. In the case of others, we may, if they are not in Canberra, do a telephone interview. We would not normally send the panel to the state involved.

Senator CONROY —It is more the graduates that I am interested in.

Mr G. Smith —We sometimes bring the graduates to Canberra and we also—

Senator CONROY —When you are interviewing, where do you normally do your interviews?

Mr G. Smith —I think the interviews are most often done in the states.

Senator CONROY —I am sorry; I meant the physical location. Do you use Commonwealth government offices?

Mr G. Smith —Typically on campus, I am advised. I have never done one.

Senator CONROY —Would you frighten them off, do you think?

Mr G. Smith —Probably.

Senator CONROY —Could I just have confirmed whether that interview process takes place on campus or whether there are any other venues that have been used?

Mr G. Smith —It is quite possible that other venues have been used.

Senator CONROY —As I have said, I am happy for you to take that on notice.

Mr G. Smith —I just do not know. The recruitment team usually finds suitable places for them, but I am not sure where they are.

Senator CONROY —Were there any senior appointments—and I would probably define that as SES level and above—made in the department or to external bodies to which the Treasurer has the power of appointment between the announcement of the election and the election date?

Mr G. Smith —I am sorry; I may have missed that question. Could you just repeat that?

Senator CONROY —Were there any senior appointments, SES level and above, made in the department or to external bodies to which the Treasurer has the power of appointment between the announcement of the election and the election date? I am happy for you to take that on notice.

Mr G. Smith —The reason I struggled with that question is that the SES appointments in the department are not at the discretion of the Treasurer. They are merit appointments which have the normal Public Service arrangements. So the great bulk of appointments in the Treasury, including at SES level, do not involve the Treasurer in a decision making capacity at all. So what I presume you are talking about would be appointments to, say, boards or something of this kind.

Senator CONROY —That is what I think I was referring to when I said `external bodies'.

Mr G. Smith —I would have to find out whether there were any in that period.

Senator CONROY —Are there any appointments that the Treasurer must tick off on inside Treasury?

Mr G. Smith —I do not think the Treasurer ticks off on appointments under the Public Service arrangements at all.

Senator CONROY —He just stops a few happening every now and then.

Mr G. Smith —The position at law is that I think the secretaries are the people who are appointed by government, not by the minister, usually. That is usually a decision made elsewhere. But the Public Service appointments are all made through the Public Service processes.

ACTING CHAIR (Senator Watson) —Order! The time being 12.30, the committee stands suspended.

CHAIR —I declare open this session of the Economics Legislation Committee's examination of estimates. I welcome to the table Dr Henry, the Secretary to the Treasury.

Mr G. Smith —I have answers to some of the questions we took on notice this morning. First of all, I was asked the price of the table, a description of the table and whether it was delivered in time for the budget this year. It was delivered in time for the budget this year. It is an Australian table manufactured, I believe, in Queensland. It has a solid blackwood top with veneer sides. It has a draw—a pencil draw, I think it is called. It was delivered early in May and its price was $2,774. It replaced a table that was quite old—similar to the tables that were replaced when the rest of the Treasury building was refurbished.

I was asked about where we conduct graduate interviews, and I said that one place was on campus. I am advised that it does depend on the city and facilities available. Other places that have been used include the offices of other portfolio agencies or our own portfolio, such as tax office facilities and/or the business facilities or meeting rooms that they have in hotels—those sorts of places have been used as well.

I was also asked about the uses of the area which is currently designated as the Treasurer's suite. We have been able to identify four uses since we moved into this refurbished part of the building. Initially it was used by most of a division of the Budget Group. The Commonwealth-State Relations Division occupied the area before it was ready for the Treasurer. There have been three uses other than the Treasurer himself that we have identified: one is the Certified Agreement Project Team; another is the Trade Practices Review Project Team—which I think is there now; and the third is for the placement of an officer prior to their posting overseas. So it has been used by number of people and there is no particular pattern to those uses—they are all ad hoc.

Much as I would like to, I do not think I will have floor-space plans for areas today. Those are the questions, I think, that I took on notice.

Senator CONROY —I did not ask for the plans; I asked for the area in square metres.

Mr G. Smith —I do not have that. It could be quite difficult to get it for the old building. I am not sure whether we have that, but we will try to find it.

Senator CONROY —I understand it was previously the practice that Treasury would maintain a number of external officers in Australia.

Dr Henry —In 1992 or 1993 we established offices in Sydney and Melbourne. Some years ago, as a cost-saving measure, we closed those offices down and in some cases brought the staff back to Canberra. Those offices were initially established for business liaison. We took the view that we could achieve as much in business liaison by having people travel more regularly from Canberra to places like Sydney and Melbourne—indeed, it made sense to expose more people in the department to face-to-face meetings with businesspeople in Sydney and Melbourne. So there were both cost reasons and effectiveness reasons that led us to close those offices.

Senator CONROY —When did you say you closed them?

Dr Henry —I did not say exactly when. I think it was 1999, but it may have been the year 2000.

Senator CONROY —How does Treasury get the intelligence that those officers previously collected?

Dr Henry —We have people in our domestic economy division who have responsibility for conducting business liaison. They have a network of contacts throughout Australia that they speak to on a reasonably regular basis. Some of that is face to face.

Senator CONROY —Roughly how many business consultations does Treasury conduct in cities outside Canberra each year?

Dr Henry —I would have to take that on notice. It is conceivable that somebody who comes along to answer questions under outcome 1 would be able to answer that question off the top of his or her head. Certainly I could take it on notice and provide you with an answer.

Senator CONROY —Without naming names, because I do not want to breach confidentiality, can you give us an indication of the broad industry that you consult? Where do you draw the information from, without naming a CEO or a company?

Dr Henry —Sure.

Senator CONROY —So you think these consultations are sufficient for you to keep your finger on the pulse?

Dr Henry —They are certainly helpful. I think they are as effective as the old arrangements and certainly much cheaper.

Senator CONROY —Do you make any consultations outside capital cities—in regional areas?

Dr Henry —I believe so. Again, I would have to get details on that for you.

Senator Ian Campbell —I think it should be put on the record too that the two ministers and I would probably conduct consultations—Treasury officers would either be present or would certainly be briefed on those consultations—on almost a daily basis not only in capital cities but also very heavily in regional areas. Certainly the Treasurer, I and Senator Coonan—

Senator CONROY —We saw evidence of Senator Coonan briefing officials after meeting in regional areas—at the Royal Perth Yacht Club. Just yesterday we heard all about the briefing process.

Senator Ian Campbell —A very good club too!

Senator CONROY —I am sure you have wandered in and out of it too!

Senator Ian Campbell —It is one of the few clubs ever to win the America's Cup off the Americans.

Senator CONROY —Is Treasury aware that the Reserve Bank, after closing its operations in cities outside Sydney, has now seen fit to establish regional officers in order to provide better briefings from the board of the RBA on the assessment of the economy? They seem to have gone in a different direction.

Dr Henry —Yes, I am aware of that.

Senator CONROY —So basically you need a regional office to get the intelligence? You are on the board of the Reserve Bank.

Dr Henry —That is true. They have taken the view, given their financial position and their policy responsibilities, that it makes sense for them to establish offices in Melbourne. I am not sure where the other offices are, but certainly they have offices in Melbourne. I believe they are using existing Reserve Bank office space in Melbourne.

Senator CONROY —I understand the Treasury stations officers at a number of overseas consular missions. Could you update me on the current postings? I know you have an excellent one in Tokyo. I was assisted very well by your officer in Tokyo last year.

Dr Henry —Thank you, Senator; I am pleased to hear it. We do indeed. We have an SES officer in Tokyo and one in Beijing. We have an SES officer at the Australian Delegation to the OECD in Paris, we have an executive level 2 officer in London and similarly in Jakarta and we have an SES level officer in Washington.

Senator CONROY —At the World Bank, the IMF and places like that as well?

Dr Henry —We do have somebody working in the office of the Executive Director to the IMF. The executive director is obviously not just executive director for Australia but for a constituency of 14 countries. That, effectively, is a posted officer, although that person is technically an employee of the International Monetary Fund rather than a Treasury employee for the period of that posting.

Senator CONROY —Does Treasury pay the salaries, accommodation costs and other allowances or is it shared with DFAT?

Dr Henry —In respect of those that I identified as being filled by Treasury officers—and that is excluding the one who is in the office of the Executive Director to the International Monetary Fund—we pay salary, allowances and office accommodation costs.

Senator CONROY —And salary is adjusted to take into account local cost of living and those sorts of things?

Dr Henry —The allowances do reflect local cost of living. Those allowances are not determined by us. I stand to be corrected on this but I believe that we follow the determinations made by the Department of Foreign Affairs and Trade with respect to those allowances.

Senator CONROY —Could you take on notice the total cost of those postings?

Dr Henry —I am happy to do so.

Senator CONROY —Do you have plans to expand or contract the number of overseas postings?

Dr Henry —There are no firm plans in either direction, but there is a review of our overseas representation under way at the moment. This is a live question for us.

Senator CONROY —I asked previously how many policy officers are employed by the Treasury. Could you repeat the answer, Mr Smith? Did we get a number?

Mr G. Smith —I did not give a precise answer. We have about 560 people currently in the department.

Senator CONROY —I was conscious of the way you described the breakdowns.

Mr G. Smith —Yes, I know. We were battling over the idea of some of them being administrative. As a broad order, about 420 of those you might call policy officers.

Senator CONROY —How many officers would you say are directly involved in the preparation of the budget documentation?

Mr G. Smith —The budget policy documentation consists not only of the primary documents produced in the Treasury but also portfolio budget statements and all of those sorts of things that are prepared on a much more decentralised basis. But if we just talk about the central ones produced in the Treasury, a lot of that is done with assistance from the department of finance. Just regarding Treasury people, in the Budget Policy Division I think there are about 28. Then we also have Budget Paper No. 3 and some other bits and pieces that come out of the Commonwealth[hyphen]state area. I am giving the entire staff of these divisions, and that division I think has 11 staff. Then a contribution is also made by the taxation analysis division and pretty well the whole of that division works at some point on the budget, and so there are about another 25 people there. Of course, the budget is only one of the things that all of those people work on.

Senator CONROY —The budget is obviously your busiest time of the year. That month or six weeks would be fairly chaotic, I imagine.

Mr G. Smith —It is busy for those people, of course. There are other areas of the Treasury that have very busy times at other times. But, for those people, the budget and MYEFO, to a lesser degree, are the busiest times of the year. There are other people in the department working on the documents, including people in the accounting area for our portfolio budget statement, and I do not want to leave them out. We do have the actual printing coordination task—the actual publication, if you like. That is another part of the Treasury that works extraordinary hours.

Senator CONROY —In particular, I wonder whether you can describe to me the process through which the budget documents are drafted: which documents are drafted by the Treasury, which are drafted by DOFA and that sort of thing?

Mr G. Smith —It might be easier for Dr Grimes to do that. Basically, there are several major papers, and so they all have a different source. Perhaps we can go through each budget paper from 1 to 5.

Dr Grimes —Do you want me to run through Budget Paper No. 1?

Senator CONROY —I am not sure of the depth of the answers.

Dr Grimes —We could go quite deep.

Senator CONROY —I am sure you can go to any depth you want to go. I am not trying to waste time; I am just interested generally. Are they purely Treasury officers?

Mr G. Smith —With Budget Paper No. 1, which is the budget strategy and outlook document, the expenses part and many of the tables and so on towards the back, particularly the IAS31 tables and so on, have a primary source in DOFA. Most of the rest is I think Treasury?

Dr Grimes —That is probably a fair characterisation. I think it needs to be recognised that the production of the budget is fundamentally a joint endeavour between the two departments. But there are certain elements of the budget papers where responsibilities are distinctly allocated.

Senator CONROY —Which documents then are initially drafted by Treasury and which by DOFA? Can I say that No. 1 is mainly Treasury with DOFA tables and that No. 2 is mainly DOFA with—

Mr G. Smith —As you know, Budget Paper No. 1 is made up of a series of statements, and so it is different for each statement. Treasury would be the primary drafter of statements Nos 1, 2, 3, 4 and 5; Finance would be the primary drafter of No. 6; No. 7 is Treasury; No. 8 is mostly Treasury; No. 9 is probably Finance, in terms of initial drafting. Everything is joint, but we are talking about initial drafting.

Senator CONROY —Yes, just the initial. Who ticks it off?

Mr G. Smith —No. 10 is Treasury, and there is a fair bit from Finance; No. 11 is Treasury; and No. 12 is probably more Finance.

Dr Grimes —I think with Nos 11 and 12, those statements are made up largely of tables, which are all produced in the department of finance.

Mr G. Smith —The tables right through—not every one, but a very large proportion of them—ultimately source out of the Finance system. Then the final statement is just a set of tables on historical Commonwealth data.

Senator CONROY —I will probably sit on No. 1.

Mr G. Smith —That is No. 1. I would love to go through the other four.

Senator CONROY —You may want to take that on notice then. I am not asking you to but, if you would like to, you can do that.

Mr G. Smith —No, I do not think I will.

Senator CONROY —Just so that I understand its process: the initial drafts are done, bounced over to the other department and then bounced up to the respective ministers' offices, and it is sort of an iterative process around and about.

Mr G. Smith —Each statement really tells quite a different story. Basically, the primary process is that they are being prepared as the ERC and other processes are going on. They begin to build, say, through the March/April period. Ministers and their officers typically do not get involved until quite late in the piece.

Dr Grimes —Probably about two weeks out from the budget.

Mr G. Smith —As a general rule.

Senator CONROY —Where does the draft budget speech originate?

Mr G. Smith —A draft of a budget speech is prepared by the Treasury, but largely the budget speech is the product of the Treasurer.

Senator CONROY —How far out does Treasury bob up the initial draft of the speech?

Mr G. Smith —Very late in the piece; the week before the budget usually. It is pretty well the last thing done.

Senator CONROY —I am sure. I am just trying to avoid asking questions that you cannot give me an answer to. You bounce it up to the Treasurer's office and you never see it again?

Mr G. Smith —No, we do see it. As you know and as I said before, the Treasurer and the Treasury work pretty well hand in glove in that last week or two before the budget. We have a Treasury officer who assists in the preparation of the speech right through to the final draft. We check for accuracy and for all the usual things—everything in that speech—right through to its final sending to the printer. When we miss a typo, it is our fault.

Senator CONROY —So you would describe your involvement as reasonably intense?

Mr G. Smith —It is.

Senator CONROY —You have extensive involvement?

Mr G. Smith —Yes.

Senator CONROY —Did you see the pen picture painted by Tony Walker in the Australian Financial Review on 11 May 2002? That is the Saturday before the budget.

Mr G. Smith —The odds are that I would have, since I do read the Financial Review. The truth is that I have no recollection of it.

Senator CONROY —Perhaps I can refresh your memory. The Saturday before the budget, he wrote:

As readers are digesting this article Costello will be in his Treasury Place office constructing the speech on which much of Australia will be hanging on the evening of May 14.

.........

Perhaps surprisingly for a member of a younger and therefore supposedly technically savvy generation, Costello will not type the speech on a computer: he will write it in longhand on a legal pad.

He will use a blue ink uniball eye pen made by the Mitsubishi Pencil Co of Japan. The ink, according to its makers, is waterproof and fade-proof, but this hardly matters since a member of Costello's staff will speedily transfer the words to a diskette, which a Treasury courier will take in a secure container to Canberra. It will be transported under tight security to a printing works so that copies can be made for inclusion with the Budget papers themselves.

That was a process Mr Walker was describing on the Saturday before the election. Do you remember seeing any legal pad paper?

Mr G. Smith —I cannot give you any information about the Melbourne office of the Treasurer.

Senator CONROY —But you did the initial draft?

Mr G. Smith —It is certainly true that a Treasury officer is with the Treasurer in Melbourne on that weekend. There is high amusement and outrage that we work on Saturdays and Sundays—high amusement, indeed. Yes, a Treasury officer is in Melbourne if the Treasurer is in Melbourne working on this sort of material, and that is pretty normal.

Senator Ian Campbell —I think where the senator's questioning is running, Mr Acting Chairman, is that he really wants to know what sort of wood the Treasurer's desk in Melbourne is made out of.

Senator CONROY —No, I am just looking for the longhand legal pad.

Mr G. Smith —I have no idea what paper is used. That is really a matter for the Treasurer and his office.

ACTING CHAIR —Can you get back to questions in the appropriate area, Senator Conroy?

Mr G. Smith —I do not think we have that sort of information.

Senator CONROY —That sounds like a heroic effort by the Treasurer, Parliamentary Secretary.

ACTING CHAIR —Senator Conroy, can we come to questions of substance?

Senator Ian Campbell —I think perhaps the Leader of the Opposition should go back to using a legal pad or paper, because I notice that every time I see his laptop on display in the House of Representatives it is on screen saver. He obviously has not quite figured out how to use it yet. Kate Lundy should give him lessons.

ACTING CHAIR —Senator Conroy?

Senator CONROY —Does that all sound familiar, that process that the Treasurer slaved his way through?

Mr G. Smith —I mentioned before that I have worked with many Treasurers, and they do take an enormous personal interest in this speech. In my experience they all pen away. But I have never taken any notice of the paper that they use.

Senator Ian Campbell —So you are saying that Mr Keating did not type out Bringing Home the Bacon on a computer; he actually wrote it out longhand perhaps.

ACTING CHAIR —Let us not speculate.

Senator CONROY —At least we all know the Treasurer was constructing his speech—

Senator Ian Campbell —He was thinking about his future piggery investments, I think, Mr Acting Chairman.

Senator CONROY —with an ink pen on the Saturday before the budget.

Mr G. Smith —It does indeed happen largely on the weekend; that is right—as I have said, very late in the process.

Senator CONROY —Very late in the process, but a week out.

Mr G. Smith —No. This is the weekend before the actual budget.

Senator CONROY —You said a week out.

Mr G. Smith —Which is on a Tuesday.

Senator CONROY —I will move on.

Mr G. Smith —I think it is sent to the printer on the Monday.

Senator CONROY —A newspaper article by Laura Tingle in the Sydney Morning Herald on 26 October alleged that significant budget decisions were taken by the government on the weekend of 6 and 7 October 2001, the weekend after the federal election was called. I am sure you would have been busy at that time, but does that ring a bell?

Mr G. Smith —It is much less likely that I would have noticed an article such as that one, and so I have no recollection of it. Sorry, did you say `budget decisions'?

Senator CONROY —Yes.

Mr G. Smith —In October 2001?

Senator CONROY —Yes, 26 October last year.

Mr G. Smith —I am not sure what we mean by `budget decisions' here.

Senator CONROY —I will read you the quote, just so I can help. It states:

The government added hundreds of millions of dollars to the Budget surplus just two days after calling the election, by reversing an earlier decision to let government departments keep money they had not yet spent.

Can you confirm that that occurred?

Mr G. Smith —I honestly do not know. I cannot remember back to October. If the government took decisions then, I would have to take that on notice to see what we could say about that. It is certainly not something I am familiar with.

Senator CONROY —Dr Henry, does that ring a bell with you at all?

Dr Henry —I think we have to take that on notice.

Senator CONROY —Do you think it would constitute—

ACTING CHAIR —That is more a Finance issue than Treasury's, isn't it?

Senator CONROY —Do you think it would constitute a serious and significant breach of the caretaker conventions of the government and, hence, the Public Service should assume a caretaker role during the election campaign?

Dr Henry —I am not sure. Without being able to recall—

Senator CONROY —That is just a general question.

Dr Henry —I am aware of conventions that relate to the period between the issuing of writs and the holding of an election. Are you talking about such a period?

Senator CONROY —No, I was just talking about after the election was called. I was not specifically discussing when the writs were issued.

Dr Henry —I am a bit hazy on this.

Senator CONROY —Is the key point in your mind the issuing of the writs?

Dr Henry —It would be a point in my mind; but without—

Senator CONROY —For direction, because I am not trying to catch you out: it is 12 noon on the Monday after the calling of the election. That is when the writs were issued.

Dr Henry —That rings a bell.

Senator CONROY —So if that sets your mind at ease, I am not trying to—

Mr G. Smith —Are these decisions before or after that?

Senator CONROY —These are decisions taken over the weekend before 12 o'clock on the Monday.

Mr G. Smith —So they are taken not in the caretaker period?

Senator CONROY —I am just asking whether you view the caretaker role as starting right on that date.

Mr G. Smith —No, the caretaker convention commences on the issuing of the writs. But now that you refresh my mind in terms of timing, what I do know is that we of course publish the pre-election fiscal outlook two weeks or so after that. When we published that, we took account of all government decisions that had been taken up to that time. Some of those expenditure decisions would have flowed through from Finance, so I may not have much knowledge of them in my own head at the moment, but all decisions of government up until the time that we put the PEFO together were reflected in the PEFO—that is, the pre-election economic and fiscal outlook statement. That was also issued at much the same time that the mid-year economic and fiscal outlook was published. In the preparation for the MYEFO last year—the mid-year economic and fiscal outlook statement—the government was active in taking all sorts of decisions. There were obviously decisions, and properly so, right up to the issuing of the writs.

Senator CONROY —So you are completely comfortable making hundreds of millions of dollars of expenditure after the election is called and before the writs are issued?

Mr G. Smith —That is what governments do.

Senator CONROY —What is the effect, in your view, of the decision to allow the department to carry over the underspend? What would that do to the bottom line? What would be the decision's impact on the budget bottom line of this financial year that I am referring to?

Dr Grimes —Are you talking about a specific department or just in general?

Senator CONROY —The article says:

It marked a reversal of earlier Cabinet decisions to let departments—

That is plural, so I am presuming all—

... spend money this financial year that had been allocated, but not spent, last financial year.

Dr Grimes —I think it is worth noting that any decisions about carryovers of money would be handled by the Department of Finance of Administration rather than Treasury.

Senator CONROY —These decisions affected the outcomes in PEFO—is that a fair statement?

Dr Grimes —I am not sure which decisions you are referring to.

Senator CONROY —I do not want to get the context the wrong way around, so I will read you the article to make sure I explain it to you. The article states:

The Government added hundreds of millions of dollars to the Budget surplus just two days after calling the election, by reversing an earlier decision to let government departments keep money they had not yet spent.

Dr Grimes —It would certainly be the case that, if carryovers were not allowed to occur, that would provide a benefit to the budget bottom line in the following year, relative to the situation where they were to be allowed. However, I must point out that any of the details about these issues would be handled by Finance rather than us.

Senator CONROY —I was really just looking to get the answer there, so thank you, Dr Grimes. I think that is right; PEFO's bottom line was boosted by this decision.

Dr Grimes —I am unable to comment on this specific decision. The reason why I am doing so is that I just do not have direct involvement in that decision.

Senator CONROY —I appreciate that. I am not trying to put words in your mouth.

Dr Grimes —My answer was of the generic case.

Senator CONROY —I was not trying to drag you into that, but that is the outcome: if a decision like that is taken, it does boost the bottom line as you have described it—in a generic sense.

Dr Grimes —Relative to allowing the carryover. That is a self-evident proposition.

Senator CONROY —I agree it is self-evident. I just wanted you to confirm it. Funnily enough, the journos believe a Treasury officer more than me. Frankly I am shocked by that, but it is usually the case. I can talk till I am blue in the face and a few words from you can undo all my good work. I was interested in the timing of compiling the MYEFO and PEFO. On which dates were they respectively released?

Mr G. Smith —I do not have those dates available. MYEFO was released, from memory, the day after PEFO.

Senator CONROY —Was it the other way around? I think MYEFO went first.

Mr G. Smith —MYEFO was released and then PEFO.

Dr Grimes —There is no doubt they were released within the deadlines established by the Charter of Budget Honesty Act, which from memory is two working days.

Senator CONROY —I did not know the Charter of Budget Honesty affected the timing of the release of MYEFO; I know it does PEFO.

Mr G. Smith —It provides for a MYEFO and it provides that it be done I think by the end of January. The secretary signed the PEFO on 17 October—I am not sure if that is the release date, but I think it is.

Senator CONROY —So MYEFO would have been the day before: 16 October. I think it was the day before; MYEFO went first.

Mr G. Smith —That could well be.

Senator CONROY —When was the decision taken to release MYEFO so early in the financial year?

Mr G. Smith —The decision of when to release MYEFO was the Treasurer's. He certainly asked us to prepare for a MYEFO at least several weeks before then, but I cannot be precise.

Senator CONROY —I will not hold you to anything. Did he outline his grounds for releasing it very early? I think you said you had until the end of January.

Mr G. Smith —It does not require him to release any grounds.

Senator CONROY —The Treasurer took the decision?

Mr G. Smith —I presume he makes the decision as part of the government and I am not quite sure of the process they go through. The MYEFO is released on the authority of the Treasurer and the Minister for Finance and Administration.

Senator CONROY —How many post-budget sets of national accounts were available at the time of the compilation of the MYEFO?

Mr G. Smith —Just one: the June quarter national accounts would have been available.

Senator CONROY —How long would the MYEFO need to have been delayed to incorporate the next set of national accounts?

Dr Henry —Early December. It was either 6 or 7 December, I think, for the September quarter national accounts.

Mr G. Smith —If you delayed it for that, you would have to take further time to incorporate it within the estimates. You would have to do a new estimates round, so you may not be able to publish until January.

Dr Henry —When I say one set of national accounts, there are really two between budget and MYEFO. There is one published in June, and that is the March quarter national accounts, and there is another set published in September, and that is the June quarter national accounts. There would have been two publications following the budget and before MYEFO.

Senator CONROY —How many of those two would be relevant to the forecast year?

Dr Henry —All of them are relevant in the sense that they affect either the base or rates of growth applying in the future.

Senator CONROY —Was the discretionary publication of MYEFO during the election campaign a breach of the caretaker conventions?

Dr Henry —No.

Senator CONROY —What do you think was the point of publishing a separate PEFO on the day after MYEFO, given that it was largely the same document? How much extra expense did that entail?

Mr G. Smith —It is a requirement of the Charter of Budget Honesty Act that the secretaries publish a PEFO.

Senator CONROY —Sure.

Mr G. Smith —The advice we had was that that should be a separate document.

Senator CONROY —You could not consolidate them into one and just call them `MYEFO-PEFO' to save money and time?

Mr G. Smith —That same thought came to me, to be frank, but the advice we received was that, given that there was a legislative requirement for a PEFO, it should be a separate document because it is authorised by people different from those who authorise MYEFO.

Senator CONROY —I was just about to come to that point. PEFO is signed by you, I think, Dr Henry and Dr Boxall, at that stage?

Dr Henry —That is correct.

Senator CONROY —So it is considered to be the authoritative, independent Treasury view of the state of the world.

Dr Henry —Treasury-Finance.

Senator CONROY —Sorry, Treasury-Finance—I am not trying to shut Finance out of the limelight. It is the authoritative, independent review. Do you think the decision to publish MYEFO the day before, given it was virtually the same document, reflects or draws into question your independence. If they are the same document and one is produced by the government and one is produced by the independent Treasury-Finance analysis within 24 hours of each other, and they are identical, do you think that that in any way reflects on your independence.

Dr Henry —No. Let me answer the question in this way: I can assure you it did not put any pressure on me and I doubt that it would have put any pressure on Dr Boxall. Rather, it may well have encouraged the government to reflect on the timing of the MYEFO and the contents of the MYEFO. The fact that the MYEFO was being published so close to the PEFO put no pressure on me in any way. My statutory obligations were perfectly clear.

Senator CONROY —Thank you. Does the decision to bring forward the MYEFO mean that all of Treasury's costings were based on assumptions that were predetermined by the government?

Dr Henry —The assumptions used in the PEFO were our assumptions as opposed to government assumptions. You are right to draw the distinction in that, technically, the assumptions that underlie both budget and MYEFO documents are government assumptions rather than bureaucratic assumptions. But, as I say, the juxtaposition of those two documents put no pressure on me, so I did not feel—and it certainly was not the case—that the assumptions in the PEFO were government assumptions. They were our assumptions.

Senator CONROY —Do you think that it was just good luck on the government's part that the government happened to have all the same assumptions that you had the next day?

Dr Henry —No, the process in budgets and MYEFOs is that the departments produce a set of forecasts, both economic forecasts and fiscal forecasts. Technically, when they are published in the budget, they are government forecasts, and so it would be opened to a Treasurer or a finance minister to say with respect to the forecasts we produced, `I don't think that forecast is right and I'm going to publish something different.' Technically, that would be open to a Treasurer or finance minister. I am not aware of it having happened, but technically it would be open to them. But look, in both cases, the fact is that we produced the forecasts and those forecasts appeared in both the MYEFO and the PEFO.

Senator CONROY —So it works out that they are the same forecasts?

Dr Henry —Yes.

Mr G. Smith —Yes.

Senator CONROY —As I said, I guess it is good luck for the government that they got the same forecasts as you the next day, but given they were both prepared by you—

Dr Henry —Well, we produce both sets.

Mr G. Smith —The government chose to agree.

Senator CONROY —They could write that inflation was going to the zero per cent.

Dr Henry —What it reveals is that they accepted the forecasts of the agencies.

Senator CONROY —Thank you.

Dr Henry —And that is invariably the case, I think.

Senator CONROY —They can change them if they want in the MYEFO, but they cannot change them in the PEFO?

Dr Henry —That is quite correct.

Senator CONROY —Can you clarify the protocol regarding costings of proposals brought forward from the government into the election period? Is my understanding correct that the government is entitled to have officials work up new policy proposals prior to the election and then rebadge them in the election period as election policies?

Mr G. Smith —There is no restriction on the government requesting policy advice from departments prior to the calling of an election.

Senator CONROY —But they can then take that work which you have prepared on behalf of the government—

Mr G. Smith —That is its purpose.

Senator CONROY —and put that out as the election policy, which is identical to the work produced by the government department the previous day or the previous week. That is okay, I think. That is a tradition?

Dr Henry —Yes.

Senator CONROY —Given that this happened in a whole string of cases, do you think there is a point to having Treasury cost the work that they prepared themselves? I had a bit of a discussion last week with Dr Watt about how Finance did the Charter of Budget Honesty and various things, but that is slightly separate from the PEFO discussion. It seems that you prepare the document, it becomes a government election document and then they give it back to you to cost, as an independent witness. Is that just a bit silly?

Mr G. Smith —Not all of the policies go through that pathway. When they come back, they may be different from anything we have seen before or they may in fact be things we have never seen before.

Senator CONROY —I accept that. They will slip a few spivvy things in there as well, as usual. You have done the work and prepared it as an ongoing piece of work before the election period and then they bowl it back to you as the government's election policy: `Can you cost it for us?' If it is your own work it would not take long, I imagine. `Oh, that looks familiar—tick!'

Mr G. Smith —It is a bit risky; we might change our minds. We have been known to change our minds.

Senator Ian Campbell —Also, Treasury policies would only be a portion of the policies that the government takes to an election.

Senator CONROY —I am just talking about the specific Treasury ones in this case. I had a lengthy chat with DOFA about how they cost the government's policy on defence, for instance, and DOFA assured us last week that they robustly tested the assumptions underpinning the Defence documents—this was the zero dollar cost of the war on terror. Unfortunately the Department of Defence said this week that Finance never approached them. That is something we will have to get to the bottom of.

Senator Ian Campbell —Treasury and Finance had a lot of time to cost policies because they did not have to waste much time costing ALP policies because you did not put many policies before them.

Senator CONROY —Can you believe, Senator Campbell, that we had a long discussion with DOFA about the amount of Labor Party policies they costed before the election was called?

Senator Ian Campbell —Yes.

Senator CONROY —There was a lengthy discussion about how many. Some suggested it ran into the hundreds.

Senator Ian Campbell —Quite often your discussions are lengthy.

Senator CONROY —There is some suggestion that Finance costed some hundreds of ALP policies during the period before the election, which is surprising given that the government believed there were no opposition policies. That is an aside.

Mr G. Smith —As a generality the Treasury does the taxation costings—often we do not even do the non-tax revenue costings—and Finance does all of the expense costings.

Senator CONROY —I want to move on to the document Fiscal Policy Under Accrual Budgeting, which was the information paper on budget policy released in April 1999. Would you say that the broad principles set out in that document are still current as regards government policy?

Mr G. Smith —I would have to check what the principles were in that document. I do not have it with me. Certainly things have moved on a little in those three or four years.

Senator CONROY —I understand that things have.

Mr G. Smith —You would have to go to specifics to see if there is anything to change there. That is back in time a bit for me. I do not have the document with me.

Senator CONROY —I am not trying to catch you. I think by and large the principles stated there are pretty much still the principles—

Mr G. Smith —I think it would largely still be relevant but I would not want to be held to every fine definition.

Senator CONROY —And I am not trying to. Can we turn to the medium-term fiscal strategy set out in that document. It says:

... the Government will aim to achieve fiscal balance—the accrual counterpart of the underlying cash balance—on average over the economic cycle.

Is that still the government's objective?

Dr Grimes —It needs to be recognised that the underlying cash balance and the fiscal balance over a number of years will actually be very similar.

Senator CONROY —In a couple of years time, they are almost going to be the same.

Dr Grimes —Because the accrual numbers eventually become cash numbers.

Senator CONROY —They wash through; I accept that point entirely.

Dr Grimes —All of those accrual numbers are eventually recognised as cash movements. For the medium-term fiscal strategy—which is expressed over the medium term, so it is a number of years—there will be little difference between the underlying cash balance and the fiscal balance. Indeed, they will be functionally equivalent. For that reason, the government apparently expresses its medium-term fiscal strategy in terms of budget balance over the course of the cycle, which embraces both the fiscal balance and the underlying cash balance.

Senator CONROY —I was wondering if you could point me to that reference because the quote that I gave you was quite specific. It said:

... the Government will aim to achieve fiscal balance—the accrual counterpart of the underlying cash balance—on average over the economic cycle.

This statement talks about the fiscal balance specifically rather than the budget balance. It actually draws a specific distinction. I accept the point that you are making: the budget balance can incorporate both. This particular document—and I am happy to be corrected—is still the government's objective.

Dr Grimes —That would be correct because over the medium-term it is virtually equivalent whether you express it in terms of fiscal balance or the underlying cash balance.

Mr G. Smith —The government actually publishes its medium-term objectives in the budget. Rather than going back to the 1998 paper, the current expression in the budget is set out in part 2 of Budget Paper No. 1 and it does not actually focus on the fiscal balance.

Senator CONROY —I am sure it does not.

Mr G. Smith —I think that the more contemporary expression of the government's fiscal strategy is the published fiscal strategy which is in part 2 of Budget Paper No. 1.

Senator CONROY —I can understand why they are refining their position as we go, but thank you for that. The government goes on to state that a primary fiscal target is:

[middot]maintaining surpluses over the forward estimates period while economic growth prospects remain sound.

Is that also still the government's objective?

Mr G. Smith —That is included at page 1-7 of the budget paper this year.

Senator CONROY —If that is still the case, how does Treasury justify the $3 billion budget deficit in 2001-02? Wasn't the run-up at a time when economic growth was 3[frac34] per cent?

Mr G. Smith —The government's focus has been, as you know, on the cash result, and the expression in 1-7 is:

The primary objective of the strategy is to maintain budget balance, on average, over the course of the economic cycle. The supplementary objectives of the fiscal strategy are:

[middot]maintaining surpluses over the forward estimates period while economic growth prospects remain sound.

There is a surplus in the forward estimates period.

Senator CONROY —I appreciate that maybe the government was feeling a bit hairy-chested in 1999 with the introduction of accrual accounting.

Mr G. Smith —That document's purpose, because it was released at the time of the transfer of arrangements from a cash to an accrual system, was to restate and reflect what type of goals and fiscal strategies would be relevant to an accrual framework relative to the previous cash framework. Since then, the government's focus has been very much on cash, and that is driven by the view that the financial markets and others have pretty much focused on cash, and so the last two or three budgets have focused on cash. Both figures are provided and it is well known that in the last two or three publications there has been—particularly in this particular year—a larger deficit on the accrual than the cash, or in some cases there has been a small accrual deficit while there has been a cash surplus. Over the forward estimates period, the budget is maintained in surplus.

Senator CONROY —I was going to come to the forward estimates. I note that on an accruals basis the budget is in net deficit over the three-year period from 2001-04, throughout which the economy is projected to grow at or above its long-run average.

Mr G. Smith —How are you working that out? Are you adding them up?

Senator CONROY —You look at the deficit one year, then the next deficit.

Mr G. Smith —You are accumulating them.

Senator CONROY —Yes. If you look at the position of the budget over three years.

Mr G. Smith —That is perhaps not what we do: what we are forecasting is a deficit in 2001-02 and a very small surplus, I think of $200 million—that is right to the nearest hundred million, anyway—in 2002-03, and then $2.6 billion in 2003-04. I do not think we accumulate them.

Senator CONROY —I am looking at it in terms of the budget's projected impact.

Mr G. Smith —You are accumulating them, and I cannot deny the arithmetic, that it is $3 billion in 2001-02 and then $2.8 billion when you add the next two together, so that is less than $3 billion. But the intention of the statement through the cycle is actually a description of position, not a description of accumulation.

Senator CONROY —I understand the point you are making. But in a period when there is sound growth, it is running close to the line, if not in what I am describing as a net deficit.

Mr G. Smith —The government's position is up to the government. The government has a policy of running a surplus, and what you are observing is that it is not a very large surplus when compared to GDP. That is true; those percentages are provided and in each of the forward estimates years it is less than one per cent of GDP. But it is still a surplus.

Senator CONROY —I have had this discussion at length with DOFA: it is a surplus achieved by reprioritising and rephasing a number of expenditures over the course of the next couple of years and pushing them out. But I will not bore you with that, because I have spent hours with Finance on that.

ACTING CHAIR —And a lot of cost cutting.

Senator CONROY —I do not know what the ARC do for a living, Acting Chair. Wasn't this year's deficit also achieved at a time when the economy has been growing strongly for almost 10 years?

Mr Comley —I would like to draw attention to the point that a lot of people focus on growth rates and growth rates only. By definition, growth rates just measure the change from one year to the next. One thing we do know is that in 2000-01 we had a slower growth year than other years. In fact, when you look at what we have said in the previous budget papers about the potential growth rate of the Australian economy, it was a growth rate that was around a couple of percentage points below medium-term potential growth. You cannot completely ignore the level that the economy was at in the year preceding the budget year, because that forms the base. If I started from a lower level, even if I had a round trend growth for that next year, it would not necessarily mean I would automatically conclude that I would want a very high surplus in that year, because you have to take into account the level you came from as well.

Senator CONROY —I appreciate that, but after 10 years of very strong economic growth, for the budget to be basically in deficit, if you take my perspective, and in a narrow surplus, if you take Mr Smith's kinder observation—although they may not be his exact words—that does not seem consistent with running a medium-term fiscal strategy. You are supposed to accumulate when the times are good so that you can cope with the downturn. I thought that was a fairly simple way of describing maintaining the balance over time, so that when the times are good you are salting a bit away. We are just not salting much away.

Mr G. Smith —It is up to the government what its policy is, and the government's policy is not to have large surpluses, quite clearly. The government's policy is to have a surplus, and the surplus is there, but it is not the government's policy to build up ever larger surpluses.

Senator CONROY —I did not know the government had made a statement about that.

Mr G. Smith —It is entirely up to the government and they have elected over the last couple of years to also pursue—

Senator CONROY —To run down the projected surpluses?

Mr G. Smith —They have pursued other priorities, and that is a policy matter. That is entirely up to them.

Senator CONROY —Can you point me to a statement by the Treasurer or the Prime Minister about the policy not to run large surpluses?

Mr G. Smith —The policy is to run surpluses, but there is no reference to large surpluses.

Senator CONROY —Those were, I think, your words. If we could play back Hansard, I think you were saying that the government's policy is not to run large surpluses. I was wondering if you had any reference to that.

Mr G. Smith —The government's policy does not say that it will run large surpluses. It says that it will run surpluses, and that is what it is doing.

Senator CONROY —I thought the government's policy was to achieve fiscal balance over the cycle.

Mr G. Smith —No, it says `maintain surplus over forward estimates'. That is a supplementary goal, and that is what I said. It says `maintain surplus'; it does not say `maintain ever-increasingly huge and large surpluses' or something of that kind. It does not put any of those adjectives in, and that is their right and their prerogative and their policy. Clearly, over the last couple of years, the government has provided tax cuts and whatever else that it regards as other priorities. More recently, there have been expenses associated with security matters and whatever else. I think you are trying to draw a view that there is an inconsistency between the numbers and the policy, and all I am drawing attention to is that the government's policy is not an unfettered view that surpluses should get larger and larger. It is a view that there should be surpluses over the forward estimates while economic growth prospects remain sound.

Senator CONROY —They remain pretty sound for the next year or two, don't they?

Mr G. Smith —They do remain sound, at least as far as I am aware.

Senator CONROY —They have been pretty sound for 10 years.

Mr G. Smith —I think Mr Comley made the point that there was a slowdown.

Senator CONROY —I think we dropped from four per cent to two per cent in one year after a string of years of four per cent.

Mr G. Smith —That is right; there was a slowdown, and that has reflected in the fiscal outcome.

Senator CONROY —I accept that, but it is not like we have been in a recession, and that is what you would normally associate deficits with.

Mr G. Smith —Certainly we would not describe the experience we have had as a recession.

Senator CONROY —I do not think I have heard any of the people at the table describe it as a recession, which is when you generally anticipate that the budget will be in deficit. You continue to make the point that government policy is not to run large surpluses.

Mr G. Smith —What I am saying is that I think you are trying to interpolate into it a policy different from the statement. That is all I am saying. I am saying that the statement does not add those adjectives. It says:

[middot]maintaining surpluses over the forward estimates period while economic growth prospects remain sound.

Senator CONROY —Would you agree that there is a difference between running a balanced budget and running fiscal balance over the economic cycle?

Mr G. Smith —I think Dr Grimes made the point that there is very little difference between the fiscal measure and the cash measure, but in fiscal policy terms there is very little difference. The focus has been on cash, as I have mentioned, over the last couple of budgets. When you say `maintaining surpluses', I think the focus is on maintaining cash surpluses. As it happens, we currently forecast a fiscal surplus in each of the forward estimates years as well.

Senator CONROY —Maybe I misexplained myself. I am trying to get a sense of whether the government has moved away from a medium-term strategy of fiscal balance—and I am not trying to pick between accrual and underlying—to a more immediate one of basically balancing the books each year.

Mr G. Smith —I think the government's focus has been on the cash result, but I think its medium-term strategy could be expressed in either term and get a very similar result.

Senator CONROY —I want to talk about the modelling of the impact of fiscal policy on the economy. I want further information on figures given on 1-8 and 1-9 of the budget paper for the impact of fiscal policy on the economy in recent years.

Mr Comley —The essential idea is that you are trying to get a measure of the impact of fiscal policy on the economy. Inevitably any measure of this type requires some approximation—in a sense, it is a summary measure. We start by saying, `What would be the best starting point to calculate the net change of the fiscal policy on the economy?' Generally speaking, cash is probably a better measure of the impact on the economy than the accrual measures because you are trying to get a feel for the direct injections or subtractions from the economy. So we have underlying cash as the starting point.

Crudely speaking, the change in underlying cash measures from one year to the next is the starting point, but we make a couple of adjustments to that. The adjustments are to pick up some of the things in the underlying cash measure, which are probably things that do not directly impact on economic activity in the economy. For example, if we have changes to interest payments to the Commonwealth, it is not clear that a change from one year to the next has a big impact on the way aggregate demand is in the economy at that time. So we subtract that, in a sense, from the cash balance in both years.

We do the same, for example, with dividend payments to the Commonwealth. For example, if one of the GBE payment dividends changed substantially in a year and that affected the budget balance, we would not think that that would have a big impact on aggregate demand, so we subtract that. The description here starts with changes in underlying cash and makes adjustments for those payments like interest dividend flows.

Senator CONROY —I note that the fiscal stimulus over 2000-01 and 2001-02 is estimated to be one per cent of GDP, while it is estimated that there will be a contraction of around half a per cent of GDP in 20002-03. Were these figures determined by modelling or by estimation?

Mr Comley —Modelling means many things to many people and I would not think about it as estimation. Essentially, we have taken the accounting difference in the measures from year to year and then adjusted for those factors in the underlying cash balance that are not seen to affect aggregate demand. I think the point is that when we say one per cent and half a per cent, we do not mean that if we had not taken that fiscal action then GDP would have been either one per cent lower or half a per cent higher than the two years. What we are measuring there is, in a sense, the direct impact of fiscal policy without trying to model the feedback effects that might occur. We would not want to give the impression that if we had not had that fiscal expansion then GDP would have been one per cent lower. We are saying that is the first round impact and there would be other impacts that would feed through that would modify that figure.

Senator CONROY —I am a little slow here, so you may have to reiterate. How do you get from an initial assumption of fiscal stimulus from the government to the figure for the impact on the net economy? How do you take that step?

Mr Comley —It is not reported here. Our modelling process would do that.

Senator CONROY —That is what I am tyring to get to. It has to be estimated or modelled—it is one of the two.

Mr Comley —You would have in mind some fiscal multiplier as to the impact of fiscal policy on the economy. There are various ways you could do that. Firstly, you could use a model such as the TRIM model, which can give you an estimate of those things. Secondly, you could use a less model driven way—a more rule of thumb approach to the likely impact on the economy. The academic literature would vary as to exactly what that would be, but most of us would say that the impact is somewhat less than the initial impact—so less than one per cent.

Senator CONROY —Which method did you use to get these figures?

Dr Henry —Perhaps I can clarify that, at risk of Mr Comley then clarifying my clarification—which is probably where we are going to end up. As I understand it, the figures that are in the budget papers are simply obtained by taking the change in the underlying cash balance between one year and the next and dividing it by gross domestic product.

Senator CONROY —So it is an estimate rather than the model figure?

Dr Henry —Absolutely. It is an attempt to isolate a direct or initial impact of the change in the stance of fiscal policy on the economy, but from that direct impact would flow—

ACTING CHAIR —That would be a very small figure, wouldn't it? Given your divisor, that would be a very small and insignificant figure.

Senator CONROY —Careful! You have an accountant loose on you now.

Mr Comley —No, it is not a small number. The number reported here is that it is around one per cent of GDP so in ,for example, 2000-01 and 2001-02 it is around $6 billion or $7 billion. It is not a small number.

ACTING CHAIR —Changes in cash divided by—

Mr Comley —GDP. That is a small number; that is around one per cent. There is always a question of what is small and what is large, but it is about one per cent of GDP.

Senator CONROY —I know Dr Henry gave a very brief description of how you got to the estimate. I am wondering if you could take on notice to give a slightly more detailed description. Other boffins brighter than me, I am sure, would be interested.

Mr Comley —It might be best when the rest of outcome 1 comes to pick it up. You are essentially talking about how we do our forecasting process, because you are asking how we fed through the change in the fiscal position to the actual growth estimates. I think my colleagues can take that.

Senator CONROY —I would probably rather have it on notice, to be honest.

Dr Henry —I was thinking we could keep you here all night!

Senator CONROY —I know! That is why I was thinking, `How do I bail out of this quickly?'

Mr Comley —Without wanting to pre-empt that answer, it is not going to be a mechanical answer that sort of says, `One goes to 0.3—'

Senator CONROY —I understand that.

Mr Comley —because in the forecasting process there are a range of things that involve judgments.

Senator CONROY —I am looking to find out what the range of things are and what the judgments are. I guess that is what I am looking for. I refer you to the table on page 2-4 of Budget Paper No. 1, which I think is known as a reconciliation table. Can you explain the meaning of the line items `net effect of policy decisions' and `net effect of parameter and other variations'?

Dr Grimes —In the first instance, that is the total effect on the budget bottom line of revenue, expenses and net capital investment decisions in total. In the second instance, that is the total impact on the budget bottom line of parameter and other variations. It is to make clear the signs in this table: a positive sign against expenses actually is an increase in spending, so it is a detraction from the budget balance. Those net effect lines can provide a useful summary for seeing how the reconciliation table works.

Senator CONROY —If I add the figures of the net effects of policy decisions for a particular year across the respective year's budget papers in which it appears in the forward estimates, I can get a reasonable approximation of the total net effect of policy decisions of that year from those budgets?

Dr Grimes —That is correct.

Mr G. Smith —Only an approximation, because they would have varied as a result of parameter change in subsequent years.

Senator CONROY —So that I am clear: if I add the value for 2001-02 given successively in the 1988-89 budget through to the 2002-03 budget, it will give me the total net effect of policy decisions for 2001-02 over the last four years—with the caveat that Mr Smith put on it.

Dr Grimes —Another caveat should be added—that is, where a measure was not able to be implemented for some reason. An amendment in the Senate would be one example.

Senator CONROY —Do you do that calculation as a matter of course? Is it published anywhere in the budget papers?

Dr Grimes —No, that calculation is not published.

Senator CONROY —Is it correct that doing this calculation for the year 2001-02 gives a result of minus $17 billion—that is, discretionary policy changes reduce the budget bottom line by $17 billion?

Dr Grimes —I do not have any grounds to dispute that number, but I would note that the number would be built up by adding together the numbers published in the budget papers.

Senator CONROY —It is quite a big spree, Parliamentary Secretary—$17 billion over four years. That is your low cost government that you were talking about, Senator Watson, with all that cost cutting going on—$17 billion in expenditure going out the door.

ACTING CHAIR —I am looking at the budget figures for next year. If you examine those department by department, you will notice some very significant cuts, starting with $24 million from Department of the Prime Minister and Cabinet and $250 million from the department of foreign affairs.

Senator CONROY —Maybe they have chopped off a wing of that small building of theirs.

ACTING CHAIR —And no doubt you will feel the impact in the Senate as well.

Senator Ian Campbell —I always find it amusing to be challenged by Labor senators on fiscal discipline and economic management.

Senator CONROY —And you have such a good record at the moment! Just keep on repeating it to yourself each morning.

Senator Ian Campbell —This from a senator who 10 minutes ago said that you should run deficits when the economy is in decline. Labor ran deficits year in, year out.

Senator CONROY —I did not say that at all.

Senator Ian Campbell —You left $96 billion worth of debt, which we are still trying to pay off.

Senator CONROY —Can you confirm that the corresponding total for 2000-01 is minus $15.8 billion; and, for 2002-03, it is minus $7.8 billion and counting?

Dr Grimes —I would not be able to confirm any of those figures here. It would require going back and adding together the numbers that have been published in the budget papers, once again noting those caveats that Mr Smith outlined previously.

Senator CONROY —Can you confirm this calculation for me of the net effect of policy decisions per budget across the full forward estimates for each budget? If you tally those between 1996-97 and 2002-03, my calculations come to a staggering $42 billion spent, and counting.

Dr Grimes —We will have to take that on notice.

Senator CONROY —I appreciate that. That is $42 billion worth of policy expenditures, Senator Watson! Let me refer you to the table on page 5-33 of the budget papers, which shows the historical record of Commonwealth receipts. Can you confirm that in the line item `Total individuals and other withholding', the figures show that, after a dip in 1999-2000, they are to return to almost their before tax cut levels in 2000-01 and then exceed the before tax cut levels thereafter?

Dr Grimes —I can confirm the figures that are shown in the table, but I think it is worth noting that the tax cuts are still preserved. They continue. The tax scales remain at the levels at which they were introduced as part of tax reform, with lower tax rates applying to individuals. The increase that you see in this table is driven by employment growth and by aggregate wages growth in the economy.

Senator CONROY —Bracket creep?

Dr Grimes —There would be some element of increased tax from growth in nominal wages.

Senator Ian Campbell —Senator Conroy, in your $17 billion figure, did you include the $12 billion in tax cuts that you voted against?

Senator CONROY —We did not vote against them, Senator Campbell.

Senator Ian Campbell —You voted against the tax package.

Senator CONROY —We won't let the facts get in the way of your argument.

Senator Ian Campbell —Did you include the $12 billion in tax cuts in the $17 billion?

Senator CONROY —We are still looking for the $5 billion you lost on currencies. I will find it some day

Senator Ian Campbell —Does that $12 billion make up part of your $17 billion? What other part of the $17 billion would you oppose?

Senator CONROY —Are you sensitive about your economic record here, Senator Campbell?

Senator Ian Campbell —No, I just want to know how you do your maths.

Senator CONROY —You seem very sensitive about something you are so proud of.

Senator Ian Campbell —Your maths on foreign currency loans was extraordinary. It would have failed grade 2.

Senator CONROY —You have lost $5 billion—I would stay out of that one. You just seem so incredibly sensitive. I am just getting some information from Dr Grimes and you just seem very sensitive about your economic record you are so proud of.

Senator Ian Campbell —I just asked a simple question: does your $17 billion include the $12 billion? You asked me to answer a question about it; I want to know what made up the $17 billion.

Senator CONROY —I am working on the basis that we all want to go home on Thursday night.

ACTING CHAIR —Here, here!

Senator CONROY —I would love to debate this with you at considerable length, but—

Senator Ian Campbell —You ask a question, but you do not want the answer.

Senator CONROY —What I am trying to figure out, Senator Watson, is when is the minister going to stop asking questions of me so I can get back to asking questions of the officials?

ACTING CHAIR —My comment in relation to certain departmental things included, of course, certain government priorities which were related to defence.

Senator CONROY —I was just wondering if you are going to take charge and chair the meeting at any point, Senator Watson, because Senator Campbell is actually asking the questions of me.

Senator Ian Campbell —Mr Acting Chair, the senator asked a question about my opinion about the $17 billion figure that he has created, and I am trying to clarify—

Senator CONROY —No, it is actually $42 billion by the time you add up your entire government.

Senator Ian Campbell —Does that include $12 billion in tax cuts?

Senator CONROY —Senator Watson, are you going to take charge so we can return to asking questions of the officials?

Senator Ian Campbell —You cannot ask a question about $42 billion and then, when I asked for clarification about the amount—

ACTING CHAIR —I think the parliamentary secretary sought a clarification from you. It might be a difficult matter for you.

Senator Ian Campbell —Senator Conroy comes up with a figure and it gets a run in the papers because the journalists do not double-check his maths. I am suggesting to everyone in Australia that, when Senator Conroy comes up with a figure, you look very closely at how he derives it.

Senator CONROY —Actually, I thought that the Treasury officials confirmed the $17 billion, and they will come back and confirm the $42 billion when they do the simple maths over six years, Senator Campbell. The actual Treasury officials did confirm the $17 billion.

ACTING CHAIR —Perhaps it might be a lot safer to rely on the Treasury officers to give us the answers.

Senator CONROY —I would like to keep asking them the questions.

ACTING CHAIR —Go ahead, Senator Conroy.

Senator CONROY —Thank you, Senator Watson. Do you do estimates of the impact of bracket creep on a year by year basis and, if so, are they published?

Mr G. Smith —We do not publish a regular estimate.

Senator CONROY —You do do a calculation, though?

Mr G. Smith —From time to time we are asked to do calculations of that kind, but we do not publish a series on it. There is more than one definition of the concept, of course.

Senator CONROY —Sure.

Mr G. Smith —We do not publish that as a matter of course, no.

Senator CONROY —Is there any reason why you do not publish it?

Mr G. Smith —What is published is a matter for the government to consider.

Senator CONROY —Parliamentary Secretary, is there any reason why you do not publish the calculations done by Treasury on bracket creep?

Senator Ian Campbell —We publish all of the figures in terms of total receipts, we publish the figures in relation to expenditure and we publish figures in relation to expenditure and receipts as a percentage of GDP. One of the things that is remarkable about this government's economic achievement is that, year after year, through good times and bad, we have been able to reduce government spending as a proportion of gross domestic product and taxation as a proportion of gross domestic product. When this government came to power, spending as a proportion of gross domestic product was at its highest level in Australian economic history, as was taxation. This government has been able, through prudent economic management, to not only pay back over half of the $96 billion debt we inherited from Labor but also reduce taxation as a proportion of gross domestic product down to levels that have not been seen in Australia since the mid-1970s.

Senator CONROY —Thanks for the ad!

ACTING CHAIR —Is it true that bracket creep includes a number of factors other than just proportional tax increases? Doesn't it include such things as collection rates in the economy, higher incomes and maybe even productivity type factors?

Senator CONROY —I think Mr Smith made that general point. I think he was saying that there are a number of different definitions, and I accepted that and moved on.

ACTING CHAIR —I thought it would be helpful to get Treasury's view about the sorts of factors to be included in bracket creep, because it is a term that is very loosely thrown around.

Senator CONROY —I think Mr Smith made that very point, Senator Watson.

Mr G. Smith —`Bracket creep' as a term is, obviously, colloquial language—you would not expect that to be a technical term, would you?

Senator CONROY —What about `fiscal drag'? It is not quite the same, but—

Mr G. Smith —It is probably something you know more about. The fact is that you could include a number of different measures because you can use a number of different indices to deflate the estimates. It is always possible to get different results depending on the different methods that are used. I have seen some extraordinary things in the media in the last few weeks, estimating bracket creep. They seem to include in their estimate the entire increase in tax collections, which of course is nonsense.

ACTING CHAIR —Erroneous. Thank you for that clarification.

Senator CONROY —Just on the media commentary, I note that Access Economics, in their most recent Budget Monitor, estimate that bracket creep has an impact of $1.1 billion in 2001-02, rising to $5.1 billion in 2004-05. If this is right, doesn't it mean that the budget will be in deficit apart from bracket creep in each year of the forward estimates?

Mr G. Smith —I do not know whether it is right. I have to check that against the estimates. I have not seen that estimate of theirs.

Senator CONROY —If they are right, though, that would naturally be the case. It is a simple matter of maths to take out the bracket creep aspect. I am sure you know some of them. They are respected—

Mr G. Smith —I would prefer not to answer hypothetical questions.

Senator CONROY —I did not think it was hypothetical; I thought it was a question of maths.

Mr G. Smith —The hypothesis is that they are right.

Senator CONROY —I will let you cast that slur on their professionalism.

ACTING CHAIR —Next question?

Senator CONROY —We are very sensitive about the fact that we are in deficit, aren't we? It is just something that really grates.

ACTING CHAIR —I do not want any slurs on anybody. Next question?

Senator CONROY —I was wondering whether you are aware of the following quote from the Treasurer's budget speech at the Press Club in 1999:

Accrual accounting was a very big move, but having put in place a Charter of Budget Honesty, having put in place a medium-term fiscal framework, having put in place accrual accounting, I don't think any Government in the future could ever go back to the tricks of the 80s and the 90s. The balance day transactions, the use of privatisation for recurrent consumption, concealing the true nature of the underlying deficit. And ramping down the forward estimates by not making provision for capital expenditures. I think these are now irreversible, changes. I hope they're irreversible changes.

Is that familiar? I am happy to table it and pass it around. Senator Ian Campbell, or anyone, does it ring any bells? Mr Smith or Dr Henry, could you expand further to the committee regarding the relative advantages of the accrual accounting measure for budget transparency? Dr Henry and I chatted about accrual accounting the last time we met. I was just wondering whether you could expand on the benefits of accrual accounting.

Dr Grimes —I think that the large advantage from accrual accounting from a macroeconomic policy perspective is that it actually provides a much richer set of data against which to assess fiscal policy. We have already had a discussion here this afternoon about the fiscal balance and the cash balance. The fact is that, under accruals, you do have further information, not just the cash information but also the accrual information. You have also got a full balance sheet. So, instead of just having information on net debt, as was the case under the old cash system, you now have extensive information on net worth—the full range of assets and liabilities that the Commonwealth might have. You have got a full operating statement showing flows for revenues and expenses in accrual terms as well as a full cash flow statement showing receipts and payments in cash terms. So there is a much richer set of data against which to evaluate fiscal policy and judge the stance of fiscal policy.

Senator CONROY —Dr Henry, did you help the Treasurer construct his 1999 Press Club speech?

Dr Henry —No, Senator.

Senator CONROY —Would Treasury have had anything to do with that Press Club speech? You genuinely do not know, do you? Do you normally help with the Treasurer's Press Club speeches?

ACTING CHAIR —It is going back a while.

Senator CONROY —We can go back three or four weeks and say, `Did you help with this year's?' Is it normal for Treasury to help with the Press Club speech?

Dr Henry —Normally we would help.

Senator CONROY —So it is possible Treasury helped with the 1999 one as well?

Dr Henry —That is possible.

Senator CONROY —I think, Mr Smith, you made the point that the government was emphasising the cash balance.

Mr G. Smith —That is the one that is mentioned in the budget speech. It is the one that is generally quoted.

Senator CONROY —Why do you think the government would put such emphasis on the cash measure of the budget bottom line this year?

Mr G. Smith —I answered that before.

Senator WATSON —You have had that answer already.

Mr G. Smith —The cash figure is a very important figure. It is just as important as the fiscal figure, and it is a figure that is very familiar to financial markets. It is a figure that perhaps has its closest parallel with all of the countries in the world that have cash budgets. It is a figure that is easiest understood.

Dr Grimes —It is worth noting that the cash number is one that is not estimated. Your cash result is something you can measure absolutely directly—

Senator CONROY —It is also one you can manipulate outrageously.

Dr Grimes —whereas your accrual result will involve a degree of estimation—for example, estimating depreciation rates and estimating the rate of accumulating superannuation liabilities. Inherently, no matter how good your estimation technology is, there will be a degree of uncertainty in your accrual numbers. The advantage with cash is that you can tangibly measure cash at the end of each year.

Senator CONROY —It is always nice to know what is in the wallet. Everyone understands that concept. I go back to the Treasurer's speech. By focusing this year on the cash measure, do you think that is, as the Treasurer said, `concealing the true nature of the underlying deficit'—in this case, it is a $3 billion deficit—by not emphasising the $3 billion deficit? Are we back to the tricks of the 1980s and 1990s?

Mr G. Smith —I do not think so. You could ask this question of every business in the world that runs both a cash statement and a profit and loss statement: because you publish a cash statement and because most of your creditors and most of the people with a financial interest in your organisation are very interested in cash, does that mean they are fiddling the books because of all this focus on cash? The answer is no, you do both.

Senator CONROY —You have almost anticipated my next question.

Mr G. Smith —The answer is that cash and accrual are both important guides to the state of the finances of an enterprise. We have published the cash figures, we have published the accrual figures on a GFS basis and we have published the accrual figures on an AAS 31 basis. In the budget documentation there is enormous disclosure against all of those criteria. The truth is that data is used by different people for different purposes. The primary use of the budget balance by the financial markets tends to be cash because that is the one they best understand. It is horses for courses, I suppose.

Senator CONROY —Just going back to the Treasurer's speech, when we introduced this measure—

Mr G. Smith —We have not stopped publishing it; it is still there.

Senator CONROY —Just coming back to his statement, he said:

... having put in place accrual accounting, I don't think any Government in the future could ever go back to the tricks of the 80s and the 90s.

What were the tricks in the 1980s and 1990s that the Treasurer referred to? Were they the balance transactions or ramping forward estimates?

Mr G. Smith —It is amazing how history moves on, isn't it! It was not that long ago that the real focus of budgets was on what we would now call the headline balance. The headline balance included financial asset sales. We still publish the headline somewhere deep in the bowels of the thing—it is in table 4, so it takes a while to get there. The headline, once upon a time, was the budget result, and the headline was something that often could be readily manipulated—we publish it, but it does not really have much economic meaning—so we used to then publish the `underlying'. That is where the term `underlying' came from. What you now have is a cash figure and a fiscal balance figure which are in the essence of being underlying relative to the old headline.

Senator CONROY —But what we are interested in is the transparency of the budget itself, not the economic effects. The budget has two functions, and the Treasurer is making out that the truer, fairer set of accounts is the accrual basis, not the economic effects for the cash, which is a legitimate thing for people to focus on. It is a question of the government's focus here.

Mr G. Smith —As I think Dr Grimes explained, the accrual measure is putting a more complete measure of the state of the entities involved in the budget, because you get the balance sheet and all of those extra bits which you do not get with cash.

Dr Grimes —It is actually very interesting that people often interpret and talk about accrual budgeting or accounting as being quite separate and distinct from cash budgeting or accounting. The reality is that accrual budgeting is actually an integrated system which embraces cash; cash is one element of an integrated accrual system. So it is sometimes not helpful to think of it as being cash or accrual; it really is cash and accrual—you are adding extra information under an accrual system.

Senator CONROY —I have tragically studied some accounting but certainly not to the levels of my esteemed colleague, Senator Watson.

Senator WATSON —Would it be helpful to provide a reconciliation between the accrual result and the cash movements, as most corporates do?

Dr Grimes —Yes, there is a reconciliation of cash in Budget Paper No.1, financial statement 12, note 2—which is the standard thing.

Senator CONROY —I was going to ask a slightly similar question, Dr Grimes: given this new-found admiration for the underlying cash balance, has the Treasury given any thought to publishing a full mirror set of cash accounts to accompany the set of accruals accounts in the budget papers?

Dr Grimes —There is a set of cash accounts here in the budget papers.

Senator CONROY —Where are they?

Dr Grimes —The first cash flow statement is at table B3, on page 218.

Senator CONROY —Thanks. I would like to understand some more about the difference between the cash and accrual budgets' bottom line numbers. We touched on this briefly at the last estimates and I think Senator Sherry had a chat with both you and Mr G. Smith and gave some information about the wedge between the accruals and the cash numbers. I was gratified to see that this was expanded upon in the budget paper this year, and I refer you to the box on page 57 of Budget Paper No.1. I would like to go through the lines of the memorandum items to clarify any understanding.

Dr Grimes —This of course just focuses on the cash and accrual wedge for revenue rather than for expenses.

Senator CONROY —Am I correct in understanding that the line item `PAYG deferrals' refers to the transitional arrangements which allow some of the company tax payments which accrued in 2000-01 to be deferred to later years?

Dr Grimes —That is correct.

Senator CONROY —The impact of the transitional arrangements after the first year of operation, 2000-01, is to inflate the cash receipts compared to the accruals receipts since, effectively, cash tax payments that have been deferred from 2000-01 are still coming in even though the whole amount has been brought to book in accruals terms in 2000-01; is that correct?

Dr Grimes —It is correct that it boosts cash above what it would otherwise be. Mr Greagg may correct me, but I think that the company tax estimate is very similar in accrual and cash terms. Basically, cash is normally below accrual; the typical pattern you see is where the accrual number is actually higher than the cash number. This PAYG deferral effect effectively boosts cash for a number of years, relative to the normal gap that there would be with the accrual measure.

Senator CONROY —Agreed. Does this mean that from 2001-02 it is the accruals measure that is no longer affected by this transitional arrangement—that is, that the accruals measure is the truer measure of the budget revenue position in this context?

Dr Grimes —I do not know what you mean by a `truer measure', because it comes back to the debate about which is the correct measure, the accrual or cash; both have their distinct purposes.

Mr G. Smith —We actually have accrual revenue higher than cash revenue in every year in those forward estimates, including the 2001-02 year. So if you wanted to move to accrual we would end up with a higher estimate of tax receipts than the one that is incorporated within the cash result. It is really on the expenses side that you are seeing the creation of the larger wedge at the moment, in terms of aggregates.

Senator CONROY —I do not recall seeing the other two line items, `ASIS and other' explicitly in previous budget papers which have concentrated on the PAYG issue in this context. Are they newly identified this year? Is this the first time we have seen them?

Dr Grimes —Once again Mr Greagg may correct me, but from memory the ASIS credits change was actually introduced at the MYEFO. That was following ABS advice that the ASIS credit should operate as an accrual revenue component, being recognised at the time these credits were given to the motor vehicle companies in question. The other component refers primarily to receivables that are booked by the Australian Taxation Office, for example, as a result of audit activity and a range of other activities as well. Mr Greagg may be able to add something to that.

Mr Greagg —That is pretty well right.

Senator CONROY —For the other item, can you explain why there is a systemic timing issue that means the cash tax receipts are consistently behind when the tax is brought to book in accrual terms.

Dr Grimes —It is the normal pattern that you would see under accruals, where revenue is actually being recognised as a receivable and the cash is being collected with a lag. The typical pattern you see in accruals is that accrual revenue is recognised earlier than cash revenue and then the cash catches up. At the end of each year, for example, the tax office will have records of a large amount of tax revenue which is being assessed or has been notified to the tax office but which has not yet been collected in cash terms. That will be collected in cash terms either in the next year or in a subsequent year.

Mr G. Smith —You would expect the total level of receivables to grow each year, and it is that growth that would be the wedge between the cash and the accrual.

Senator CONROY —Could you explain how this relates to the qualification in the Auditor-General's report on the Commonwealth financial statements which discussed this issue of accrual treatment of taxation revenues.

Mr G. Smith —That is a different issue all together, really. If I have the right one: is it the ETM versus TLM debate?

Senator CONROY —I am not familiar with that terminology for it.

Mr G. Smith —We actually did talk about it a bit yesterday. Under accounting standards there are probably a million different ways of recognising the revenues under an accruals system, but the two fundamental techniques are the ETM and the TLM. ETM stands for the economic transactions method and TLM stands for the tax liability method. The simplest way to describe the difference is by supposing somebody has an obligation to make a tax payment in respect of their transactions in June. Under the ETM method the June amount would be recorded in June, because that is when the economic transactions took place—for example, the GST—that would lead to that tax liability. But there is a one-month lag before you have to pay your GST or before you even have to lodge your GST documentation, so under the tax liability method the liability to pay occurs in July for a monthly payer. So you have a one-month difference between TLM and ETM. They are both actually accrual because in each case they record the revenue on the basis of the obligation to pay rather than whether or not the cash has been received.

Senator WATSON —Are both those methods in accordance with Australian Accounting Standard 31?

Mr G. Smith —I think AAS 31 is basically an ETM.

Senator WATSON —That is the basis on which you prepare your accounts?

Dr Grimes —This is a matter of interpretation. AAS 31 actually embraces other accounting standards, in particular the accounting standard on revenue—and I cannot recall the number at the moment, primarily because I am not an accountant.

Senator WATSON —Which are the ones that you adopt when preparing your accounts?

Dr Grimes —That is the basis on which we prepare the AAS accounts. The Australian Accounting Standards require that revenue be recognised when it can be measured reliably. There are two tests. It is probable that you have control of future economic benefits and that those future economic benefits can be measured reliably. The difficulty with the ETM is that you have to estimate to a high degree the amount of revenue you have accrued in a particular period, and experience in recent years suggests that there is a high degree of unreliability in the estimate of ETM revenue. In previous years, we experienced variations between the initial ETM estimate that was made and published as part of the ATO's annual accounts and the final revenue figure for a particular year of $3 billion—and I think above that, but I would have to confirm those figures; certainly quite a considerable amount of money.

The point is that the ETM has a high degree of unreliability in it relative to the TLM. I think it is a matter for interpretation of Australian Accounting Standards as to whether ETM can be measured with sufficient reliability at this stage, and I stress `at this stage'. Presumably over time, as estimation methods become better and we gain greater experience with an accrual system, it may be possible to move to a system where you recognise accrual revenue at an earlier point—that is, where you can measure reliably on an ETM basis.

Senator WATSON —You were saying that some of the estimates provided by the tax office are on an ETM basis.

Mr G. Smith —The tax office does its accounts on an ETM basis, consistent with the view of the Audit Office. We believe that TLM is the more reliable method for budget purposes—when you are trying to make estimates going forward; it is another matter when you are looking back and reporting an outcome—for the reasons that Dr Grimes just explained.

Senator WATSON —I agree with you.

Mr G. Smith —The head of revenue that we are particularly concerned about in terms of the accuracy of ETM for budget purposes would be the company tax. We would not be so concerned about the statement based heads of revenue, because they are beginning to form a fairly reliable pattern. There may be a chance to progress towards a single accounting approach at some point in the future, but we are still rather concerned about the accuracy or the reliability of an estimate based on ETM for the business tax area generally.

Senator WATSON —You bring back that estimate provided by the tax office to a more conservative figure, do you?

Mr G. Smith —We use the TLM. The TLM is based on tax returns lodged, so it is a more concrete measure than the ETM. As I say, it is not a material issue with statement based taxes but it seems to be still a significant factor for assessment based taxes. That is why we have that preference. We think our preference is consistent with the accounting standard, but of course two people can take two different views of an accounting standard. Was that complete enough?

Senator CONROY —I was not quite sure about your answer before, Dr Grimes. Could we get a reconciliation between cash and accrual accounts similar to the reconciliation between GFS and AAS 31 on page 10-14 of Budget Paper No. 1 2002-03?

Dr Grimes —To understand your request: a reconciliation between the fiscal balance and the underlying cash balance?

Senator CONROY —Yes.

Dr Grimes —It will obviously be quite a different reconciliation to this table because there are quite different items involved. We would have to take that on notice, obviously.

Senator CONROY —In aggregate, then, the box on page 5-7—just going back to what we were talking about before—suggests that tax revenue on an accruals basis will outstrip tax revenue on a cash basis in each of the years shown—and I think Mr Smith was making this very point. In particular, it shows that accruals revenues exceed cash revenues by, I think, $1.9 billion in 2001-02 and $0.7 billion in 2002-03. Is that what you were referring to, Mr Smith?

Mr G. Smith —The accrual figure is higher, and that reflects some factors, which would have dragged it the other way, being offset by other factors.

Senator CONROY —Sure. Is it also correct that, overall, the accruals budget balance is weaker than the cash budget balance by $1.8 billion in 2001-02 and $1.9 billion in 2002-03, as expressed on page 1-3 at the start of the budget?

Mr G. Smith —Yes.

Senator CONROY —Presumably this is due to the difference between the accruals and cash measures of the expenses in these years. Am I right in adding these two differences to approximate how much expenses on a cash basis must exceed those on an accruals basis—namely, by $3.7 billion in 2001-02 and $2.6 billion in 2002-03? Does that make sense?

Dr Grimes —That would be broadly correct.

Senator CONROY —Is this discussed in similar detail to the box that we have just been studying anywhere in the budget papers?

Dr Grimes —The expenses differences?

Senator CONROY —Yes.

Dr Grimes —Not that I am aware of. But I would not read anything particular into that. I could probably outline one or two of the major areas where there are differences between accrual and cash estimates of expenses. The most important one of those would be superannuation expenses for Commonwealth government employees, where the accrual expense is actually higher than the cash component. Also, each year, obviously, Commonwealth employees accrue benefits which are not going to be paid out in cash terms for many years to come, including things such as long service leave. So there would also be an accrual expense effect there which was not matched by a cash payment effect.

Senator CONROY —You have anticipated my next couple of questions. Are those the major differences?

Dr Grimes —They are some of the major differences. Other ones that we have seen in recent times include the scheme for HIH last year, where an accrual expense was recognised in 2000-01. That was a difference in that particular year. Now the cash payments are occurring, but the expense was accrued in the previous year. In this current year that we are in at the moment, there is the Special Employee Entitlements Scheme for Ansett group employees, where there was an accrual expense recognised in the current year but the cash payments will be less than that.

Senator CONROY —Down the track, yes. I appreciate that you have just given us a pretty detailed answer. I was wondering whether it was possible to take it on notice and just outline all of that and any others that are there. When I asked about a reconciliation between cash and accrual statements, GFS, AAS or whatever, you took it on notice. Do you prepare that yourself or would you have to do a substantial amount of work to prepare that before you could give it to the committee?

Dr Grimes —We would have to do work before we provided that to the committee.

Senator CONROY —Is that possible? Is it an enormous amount of work? I appreciate that it is different to what you do.

Dr Grimes —We would have to scope that out. We would consult the Department of Finance and Administration in preparing any of this information. It would really be a joint endeavour between the two departments. We would do it jointly with Finance.

Senator CONROY —I would like to get an understanding of what it means to be in accruals deficit in a particular year. In conceptual terms, does that mean that we are not meeting all our future liabilities that are being brought to book in that particular year?

Dr Grimes —It means that the expenses accrued in a particular year which are reflected in the balance sheet as liabilities exceed revenues accrued in that year which were reflected in the balance sheet as a change in assets.

Senator WATSON —In regard to the reconciliation that I referred to earlier, and which Senator Conroy has now referred to, the inclusion in Budget Paper No. 1 would certainly bring those figures more into line in terms of the manner in which the accounts are presented by corporations around Australia which do include that reconciliation.

Dr Grimes —As you point out, the reconciliation in cash is here—but on an accounting standards basis.

Senator WATSON —But I think you need it in a simpler form.

Dr Grimes —There is a simpler cash flow statement: the third table in statement 12.

Senator WATSON —Yes, I have that one. So you have the depreciation differences there; where are the accrual differences?

Dr Grimes —They are there.

Senator WATSON —There they are. Thank you very much.

Senator CONROY —Dr Grimes, before the break I asked if you could give me an understanding of what it means to be in accruals deficit in a particular year and whether, in conceptual terms, that means that we are not meeting all our future liabilities that are being brought to book in that particular year. Could you refresh my memory on your response; I think it was fairly short?

Dr Grimes —I cannot recall precisely what I said.

Senator CONROY —That makes two of us!

Dr Grimes —In a year where you have an accrual deficit, it means that expenses in that year—which lead to an increase in liabilities—exceed your revenues in that year, which would in effect be in addition to your assets. So you would have a reduction in your net worth position.

Senator CONROY —Isn't that exactly the point the Treasurer was railing against in the quote that I have read out a few times now about ramping down the forward estimates by not making provisions for capital expenditures?

Dr Grimes —I do not know that this is not making provisions for capital expenditures; it is just capturing your revenues and expenses in the period in question. The advantage of the accrual measure is that it does give you an indication of the change in your net worth or in your assets and liabilities in a particular period of time. The advantage of the cash measure is that it actually shows your movements in cash in that period.

Senator CONROY —Isn't it also the point that the Treasurer has been railing very publicly in the last few weeks, with respect to the Intergenerational Report on this matter, about making adequate and responsible provision for future expenses? Doesn't an accruals deficit in this year mean that you cannot do that for this year? The Treasurer is out there talking about why this is a terrible thing, but he is actually contributing to it now.

Dr Grimes —It may be worth observing that discussion we had earlier about the medium-term fiscal strategy, which is a strategy of building up surpluses over time. It is not ruling out that you might have a deficit in a particular year.

Senator CONROY —But we are only building up very modest surpluses, according to Mr Smith.

Dr Grimes —Nevertheless you are building up surpluses and providing for an improvement in net worth over time. That improvement in net worth over time indicates that your net assets position is improving—your assets are growing faster than your liabilities.

Senator CONROY —It is just a bit rich that Mr Costello is giving us a lecture about the problems of not providing for 40 years time when he is not providing right now! I will not ask you to comment on that.

I want to go over something that we have gone over a few times before: the treatment of the GST. I refer you to page 11-3 of Budget Paper No. 1, which is the preamble to the Government finance statistics statements. Can you confirm that the Commonwealth, states and territories have an agreed framework—the accrual uniform presentation framework—for the presentation of government financial information on a basis consistent with the ABS publication Government finance statistics?

Dr Grimes —That is correct.

Senator CONROY —Can you explain to the committee how the GST is treated under this framework?

Dr Grimes —The GST is classified by the Australian Bureau of Statistics as a Commonwealth tax, and it is reported as a Commonwealth tax in this framework. But, as you are aware, the government's position is that the GST is in substance a state tax—that is, all of the revenue that is gained from the GST is paid in full to the states and available for the states to spend as they see fit. In the remainder of the budget documents, the GST is classified as a state tax, consistent with that interpretation of the GST as a state tax.

Senator CONROY —Can you confirm that the Treasurer's Budget Paper No. 1 treats the GST this way? Pages 11-5 to 11-7 show the GST as `taxation revenue in' and payment to the states as `grant expenses out'.

Dr Grimes —Correct.

Senator CONROY —Does Treasury agree with that treatment?

Dr Grimes —Treasury is not providing a particular interpretation. These statements are produced in accordance with standards established by the ABS.

Senator CONROY —The Treasury follow them. That is the only point I make.

Dr Grimes —Yes. In this case the government is following those standards in its uniform presentation framework financial statements.

Senator CONROY —This is the way that the Auditor-General and the ABS recommend that you treat GST in the GFS statements?

Dr Grimes —This is the approach that the ABS adopts.

Senator CONROY —Isn't it also the way the GST is treated in the PBSs of most government departments, including your own? If you check, you will find that it is.

Dr Grimes —For an individual department, it is irrelevant.

Senator CONROY —These are your documents, and the PBS calculations are irrelevant!

Dr Grimes —I will explain. The accounts of a particular department are the position of that department relative to all other sectors, including other parts of the Commonwealth. So, for individual departments, there would be no difference. The only difference would be for the Australian Taxation Office and Treasury. In the case of the Australian Taxation Office, it is where revenue is recognised as flowing into the Australian Taxation Office. In the case of Treasury, the GST revenues are being provided through to the states. For other agencies, this classification should be an irrelevant consideration. It is only for the tax office and Treasury that there would be any relevance here.

Senator CONROY —Why didn't the Treasury publish time series of Commonwealth revenues and expenses comparable pre and post GST on the agreed UPF basis? Shouldn't you at least provide parallel accounts with the GST added back in and state taxes netted out?

Dr Grimes —Presentation of the budget papers is a matter for the government to consider and determine. It is not a matter for Treasury.

Senator CONROY —The government can keep living in the land it likes. Let us move on to Commonwealth-state financial relations. I refer you to page 167 of Budget Paper No. 2, discussing the `Reduction in budget balancing assistance as a result of not indexing petroleum revenue replacement payments forgone'—a mouthful. Can you confirm that the relevant savings to the Commonwealth are $139 million in 2002-03, $165.1 million in 2003-04, $173.3 million in 2004-05, and $266.5 million in 2005-06—a total of $743.9 million over the forward estimates period?

Dr Grimes —I assume that that is just adding the numbers in the table?

Senator CONROY —I think that is the case. When was the decision made to cut the states' funding to pay for the Commonwealth's decision to abolish fuel tax indexation?

Mr G. Smith —The decision was raised with the states, I think, at the ministerial council meeting on 22 March.

Senator CONROY —You had already made the decision, though?

Mr G. Smith —No. At that point, the Commonwealth was proposing this, or advising the states. I think the decision essentially is now made, but the intention to make the decision was advised to the states as part of a Commonwealth offer at the MINCO meeting.

Senator CONROY —`Offer'—is that how you describe it?

Mr G. Smith —That is the word that has been used over the decades to describe the documentation that is provided by the Commonwealth to the states at Premiers Conferences. The ministerial council is not the Premiers Conference, but it is really what is left of the Premiers Conference, I suppose.

Senator CONROY —So when the decision was made to cut the states' funding to pay for the Commonwealth's decision, when the intergovernmental agreement between the Commonwealth and the states was signed, was there any mention of subsequent changes at the whim of the Commonwealth's autonomous policy changes? Is there a clause there that says, `By the way, we reserve the right to change our mind whenever we want'?

Mr G. Smith —I do not think the Commonwealth takes the view that it has changed its mind at a whim at any time it likes. The original scheme of this was that the states had a tax, which was found constitutionally invalid; the Commonwealth picked up the tax and then paid it as a revenue replacement payment to the states. That went on for a few years. Those amounts were then incorporated within the agreement. So it was really the Commonwealth's offer to the states to pick up the share of tax that they had lost as a result of losing a court case.

Senator CONROY —All that happens now is that they are not getting a flow of revenue from this; they are getting all of the GST money. The agreement does not talk about, `here is this thing that we collect for you,' in terms of the indexation.

Mr G. Smith —This is not about the GST money.

Senator CONROY —This is purely about the GST money. You cut their GST money.

Mr G. Smith —No, it is not about the GST money. This is about the guaranteed minimum amount.

Senator CONROY —They only get GST money.

Mr G. Smith —That is not true.

Senator CONROY —You have abolished FAGs on the basis that they only get GST money.

Mr G. Smith —No, that is not true.

Senator CONROY —You have not abolished FAGs?

Mr G. Smith —You have got it half right. Yes, we did abolish FAGs. But they did not only get the GST. They got the GST plus budget balancing assistance. The calculation we are dealing with here is the calculation of budget balancing assistance. What the states were given was a guarantee that they would be made no worse off than they would otherwise have been as a result of the package. In practical terms that meant the states were given all of the GST, but in addition they were given extra funding—which I think has been as high as $3 billion in a year—to bring them up to the amount of funding that is determined by a thing known as the guaranteed minimum amount.

The determination of the guaranteed minimum amount is made by the Treasurer. What has been done here is not to change the GST going to the states; it is to change the calculation of the guaranteed minimum amount to remove an indexation factor of one of the components of the calculation of that amount that is no longer indexed. So the effect of the decision is temporary; it only operates for the period that the guaranteed minimum amount exceeds the GST. I realise that is rather complicated.

Senator CONROY —No, it is not complicated at all.

Mr G. Smith —I am happy to explain it in more detail.

Senator CONROY —No; it is fascinating. Was there a clause written into the agreement? You say that it was up to $3 billion—is that at the discretion of the premier?

Mr G. Smith —The agreement does not contain the actual procedures for the determination of the guaranteed minimum amount. The agreement refers to a methodology developed by heads of Treasury. That methodology includes, amongst many other factors, an amount for these revenue replacement payments, and it is a component of that which is no longer indexed in the collection arrangements of the Commonwealth which will no longer be indexed in the methodology of the calculation of the GMA. In other words, the states will not receive a notional indexation of the petroleum excise, as a result of their guaranteed payments, in excess of the GST.

Senator CONROY —Isn't it also true that any increased GST revenue above original forecasts is of direct benefit to the budget bottom line?

Mr G. Smith —That depends on the year.

Senator CONROY —Well, let us talk about now and next year.

Mr G. Smith —That would have been true in the last year.

Senator CONROY —I do not think anyone crosses over this year, do they?

Mr G. Smith —No, they do not cross over this year. I think first state crossing over is next year.

Ms Edsor —It is Queensland—probably in 2003-04.

Mr G. Smith —On our current estimates, the first state will go above the GMA in 2003-04. That is just a statement of fact.

Senator CONROY —I know, each state has done a calculation about when they cross over.

Mr G. Smith —Yes, I think these were actually published at the time of the ministerial council meeting.

Ms Edsor —Yes.

Senator CONROY —No state crossed over this year when you took the money off them, so you benefited from all the extra GST revenue this year and you still slugged them for the guaranteed minimum amount?

Mr G. Smith —I am not sure what you mean by `extra GST revenue this year'. The states are guaranteed this: they get the whole of the GST and they will then also get a supplementary payment if the GST falls short of the guaranteed minimum amount.

Senator CONROY —Which it was projected to do in each year up to 2003, and onwards for the other states.

Mr G. Smith —Yes. For the first two years of operation of the GST, the guaranteed minimum amount has exceeded the GST in all states.

Senator CONROY —I want talk to about the First Home Owners Scheme. How many people have been given first home owners grants? Could I get a breakdown from each state? I am happy for you to take some of these on notice.

Ms Edsor —I have to take the breakdown for each state on notice, but the total of original first home owner grants since the inception of the scheme on 1 July 2000 up until 30 April 2002 was 318,019.

Senator CONROY —How many people have been given first home owners grants to purchase houses worth $3 million or more?

Ms Edsor —I do not have that information.

Senator CONROY —Could you take that on notice?

Mr G. Smith —As the scheme is administered by the states, we do not have a data set based on the value of the houses, so we would not be able to answer that question.

Senator CONROY —The states have never supplied you with that information?

Ms Edsor —They have not supplied us with that information.

Senator CONROY —They have given you no information at all about the value of houses? They just say, `We've got 20,000 applications' and you send them the money?

Ms Edsor —There are two ways of funding the FHOS: the additional FHOS and the original FHOS. Basically, the states report to the Commonwealth on the number of grants paid and the value of those grants in each month.

Senator CONROY —They do not give you any indication at any stage about the value of the house purchased?

Mr G. Smith —The value of the house is not a parameter in the policy and, therefore, it is not collected.

CHAIR —Excuse me, Senator Conroy, can I interrupt your questions for a moment. Senator Watson wants to make a brief statement.

Senator WATSON —My statement refers to a recent press release from Senator Sherry. My comment is:

Watson rejects ALP's claims. Liberal Senator John Watson today rejected claims by Labor retirement income spokesman Nick Sherry that he had confirmed ALP costings were sound. Senator Watson said he was commenting on the soundness of the calculations that had been undertaken by the Treasury officers not by Senator Sherry who was seeking to reconcile his calculations with those produced by the Treasury officers.

I thank the committee.

CHAIR —Thank you, Senator Watson.

Senator CONROY —You should have put that out on the AAP like everybody else, Senator Watson.

Senator WATSON —I will.

Senator CONROY —I would like to ask some questions about the HIH assistance package.

Mr G. Smith —We will see how we go there.

Senator CONROY —The budget papers indicate that the HIH policy holder hardship assistance program has been revised down by around $107 million since MYEFO. Why was that done?

Dr Grimes —I understand that follows an actuarial review that was commissioned earlier this year. Beyond that, I do not have any of the details directly to hand.

Senator CONROY —I am happy for it to be referred—

Dr Grimes —The next outcome will be outcome 3 and the officers there will have much more direct knowledge.

Senator CONROY —I will quickly run through the rest and, if needed, you can refer them to those on the next outcome. Why are payments on claims now expected to be spread over a longer period than previously anticipated?

Mr G. Smith —The scheme is formally being administered by a unit within program 3 so, if we are getting there, it is definitely not a budget question.

Senator CONROY —Will the measurements of the amount of liability and that sort of thing be theirs?

Mr G. Smith —Yes.

Dr Grimes —All of those matters were related to an actuarial report that was undertaken.

Mr G. Smith —And they have an administration arrangement there which would cover that.

Senator CONROY —UMP might be in the same situation that we briefly we discussed.

Mr G. Smith —It is probably the same.

Senator CONROY —I understand that the guarantees provided to UMP and AMIL are contained within `Statement 9: Risks to the budget'. Is that right?

Mr G. Smith —Yes.

Senator CONROY —I understand that they have been classified as a fiscal risk. Can you explain why they have been classified as a fiscal risk and not a contingent liability?

Dr Grimes —I think the explanation is that at the time the budget papers were put together there was not final information to hand to be able to make a reliable estimate of the liabilities concerned. It was not so much a question of whether or not there were contingent liabilities here but a matter of estimating what those liabilities might be.

Senator CONROY —Has work been done now so we are in a position where we can make a better estimate? Then they would move into the contingent liability.

Dr Grimes —There have been subsequent developments since then—

Senator CONROY —That is true—big ones!

Dr Grimes —on a range of fronts. I think that would be best addressed under outcome 3.

Senator CONROY —I hope to have a chat with Mr Ray, but I want to mention, in case Mr Ray is listening, that it was Mr Smith who dropped his name in it.

Mr G. Smith —I am very popular back at the department at the moment!

Senator CONROY —I understand there are queues outside your barely adequate office to just check it out at the moment.

Mr G. Smith —They will not fit in.

Senator CONROY —Can you answer questions on loan guarantees?

Mr G. Smith —It would depend on where we are there.

Senator CONROY —I refer you to pages 9-5 to 9-9 of Budget Paper No. 1, which discusses details of fiscal risking contingent liabilities.

Mr G. Smith —Yes.

Senator CONROY —I note the number of loan guarantees and similar mechanisms used by the Commonwealth, particularly in the areas of industry support.

Mr G. Smith —Yes.

Senator CONROY —For example, I note that the Commonwealth has conditionally agreed to offer a guarantee to cover borrowing by the Australian Magnesium Corp. The maximum value of the guarantee is $100 million. I would like to understand a little bit more about what real or notional economic costs and benefits there are of this sort of guarantor mechanism. What is the economic benefit to the recipient? Is it that by covering their default risk they can effectively borrow at a lower rate?

Dr Grimes —I think these questions would be better directed to either the department involved or the Department of Finance and Administration.

Senator CONROY —I am trying to understand how you have classified them and whether or not they have been classified. It is a classification type issue I am trying to get to the heart of.

Dr Grimes —These would have been classified by Finance rather than by Treasury. To answer questions on the classification, you would go to the substance and details of the transactions involved.

Senator CONROY —I hope I am not going to bounce back to you in the next estimates to have a chat about that, but I am happy to take your word for it.

Mr G. Smith —The detail on each of those programs would definitely be best done in the actual portfolios.

Senator CONROY —As I said, it was more that I wanted to see whether or not there was a contingent liability put in place or if it was a fiscal risk. That is what I am trying to get to.

Mr G. Smith —I do not think Finance would be too cross if we put their name on that.

Senator CONROY —I would like to talk about the Auditor-General's report on internal budgeting released last Friday. The report indicated that, three years after the introduction of accrual based accounting, accrual based financial management practice had not been widely adopted by line managers. As one of the champions of accrual accounting, why in your view is this the case?

Mr G. Smith —When you talk about line managers, you are essentially talking about the expenditure side of the budget and I think Finance or the agencies concerned may have a view. I am not familiar with that reference in the auditor's report. We in the Treasury basically do not have the responsibility to provide quality assurance in relation to expenditure programs. That is what Finance does.

Senator CONROY —I have some miscellaneous budget questions. I had an extensive discussion with DOFA on some of these questions and they mentioned Treasury, so I am hoping you are not going to say, `No, that is those DOFA tricky buggers.'

Mr G. Smith —I would never say that.

CHAIR —Parliamentary language, please.

Senator CONROY —I withdraw. Could you please explain `interest from other sources' defined in Budget Paper No. 1 at page 5-21? Some of that could possibly be AOFM, so it may be that you want to pass it to them.

Mr G. Smith —This is obviously a very large collection of items, but interest could be obtained on cash balances held by all manner of agencies within the budget sector and generally would be the sort of aggregation of departmental interest receipts on cash balances. There could be an amount for just about every agency. I do not have a breakdown of interest on other financial assets held by the Commonwealth. The AOFM may hold some assets at times and receive interest as well; I am not sure. I do not have a breakdown.

Senator CONROY —You will not be here when we talk to the AOFM. Dr Parkinson will take over, won't he?

Mr G. Smith —I will not be here for that.

Senator CONROY —I think you proudly said you have never been in charge of AOFM, from my last recollection.

Mr G. Smith —That is true; but that may not last much longer. Who knows?

Senator CONROY —Movement at the station! I think Budget Paper No. 1, at page 12-10, has a breakdown.

Mr G. Smith —There is not a breakdown as to where it is from. This is a note to the accounting statement rather than to the total provided in the table on a GFS basis back at page 5-20; but, you are right, there is some breakdown there. That does not give you much further information, because it refers only to different classes of investment rather than to where they are.

Senator CONROY —I appreciate you saying that they are different areas and agencies, but DOFA referred me over to you as they were not able to help me.

Mr G. Smith —That was very good of them. It is a non-tax revenue item, so it is very interesting that they did that.

Senator CONROY —Can you explain what the `Other' component of `Interest from other sources' means?

Mr G. Smith —It means interest other than interest from other governments. The scheme of this section on interest is that the total amount of interest revenue has been split, in terms of table 9, into two forms. One is `Interest from other governments', which of course is the interest paid by most of the states and territories on various advances that have been made to them over the years, so that is separately identified. The `Interest from other sources' would be interest received from every other source, with swaps excluded from the definition of interest in that case, so it is basically everything else. As you have observed, there is some rather limited information in note 5 to the tables in statement 12. The largest item separated out there is `Indexation of HECS receivable and other student loans'; that may be included, but I am not certain.

Dr Grimes —We would have to take it on notice to get a final answer on this but, just as Mr Smith says, indexation of HECS receivable is almost certainly in that `Interest from other sources' line.

Mr G. Smith —I would expect also that the second largest item, which is the interest on bank deposits, would be there, because under the agency banking arrangements I would expect that that would be an aggregation of all of the agencies' interest receipts and maybe other interest receipts as well. And then there is this `Other', which is half—

Senator CONROY —That is the one I am coming to: what is `Other other'?

Dr Grimes —To get the breakdown on that we would have to go back to Finance and get that information.

Senator CONROY —It moves from $498 to $2 billion, so whatever this `Other' is, it is big.

Mr G. Smith —Yes, and I suspect that there is a program in there like the HECS one, but I do not know what it is.

Senator CONROY —I am happy for you to take that on notice. Looking at Budget Paper No. 1, page 10-14, can you explain what is contained in the 2001-02 minus $4.1 billion dollar `net writedown of assets/bad and doubtful debts'?

Dr Grimes —That would include a number of items, primarily writedowns of bad and doubtful debts by the Australian Taxation Office, which would be the base amount. As to the extra amount that makes up the $4 billion, I would have to take that on notice to get you a final answer. But I think that that may well relate to financial transactions associated with the corporatisation of the Snowy Mountains Hydro-Electric Authority; they are just book accounting transactions as a result of the corporatisation.

Senator CONROY —DOFA was able to explain about $4.1 billion of the $5.8 billion: $2.3 billion was a write-off for the Snowy Mountains—

Dr Grimes —There you go.

Senator CONROY —One billion dollars was a write-off in bad debts to the tax office; $0.4 billion was write-offs to Defence for specialised military equipment—maybe some helicopters in there; $0.3 billion was in write-offs within Family and Community Services and $0.2 billion was a write-off of HECS debt. That still leaves about $1.7 billion that I was hoping you could help me with.

Mr G. Smith —Clearly Finance have helped you a great deal, and I am not surprised by that because this is one of their tables. Did they say that that remaining amount was a Treasury matter?

Senator CONROY —They were not sure, to be honest. They were struggling to get me an answer.

Mr G. Smith —I suspect they took that on notice. We will talk with them and see if we can get an answer, but my suspicion is that that is something that they will be able to assist with.

Senator CONROY —I asked Tax earlier about their bad debts.

Mr G. Smith —Theirs was about $1 billion.

Senator CONROY —But we have not heard back from them yet.

Mr G. Smith —Theirs is most of that steady amount of about $1 billion a year.

Senator CONROY —Are you able to give us any more details about the other aspect?

Mr G. Smith —It is fairly clear what that typically arises under. When a company gets into financial difficulty and cannot pay tax, the tax office often stands as a creditor at some point. There are some pretty obvious examples in society but I am not going to say that they are in these figures because I would not know, but when a large company goes broke it may sometimes even receive a large tax assessment. There have been examples of that where a large tax assessment is issued to a company that has perhaps not been complying with the law—which is one of the reasons it has gone broke—and that tax will not necessarily be collected at the end of the day, it will be written off. So there is always a stream of that type of assessment which has to be written off.

Senator CONROY —We also asked DOFA about the $579 million decline shown in the same table under `Other economic revaluations'. They said it comprised a $123 million loss by AOFM on the repurchase of debt trading at a premium. What was the remaining $456 million expense in 2001-02? I am happy for you to take that on notice.

Mr G. Smith —We will certainly do the same, and we would expect that that would be material we would get from Finance. I am not sure which portfolio it is.

Senator CONROY —That is all I have on this section.

Mr G. Smith —Does that mean that we are moving to program 1?

Senator CONROY —The Intergenerational Report is still to come, but given Dr Henry is here, I was proposing that we—

Mr G. Smith —Could we safely come back after dinner for the Intergenerational Report? Is that the thinking?

Senator CONROY —I suspect that is the likely outcome. If we go to Dr Henry now—because I know he wants to get away—I think we have almost two hours. I am sure we will not get to the Intergenerational Report until after dinner.

[4.42 p.m.]

ACTING CHAIR (Senator Heffernan) —We are now dealing with outcome 1, Sound macroeconomic environment.

Senator CONROY —Dr Henry, the budget papers state that inflation is expected to moderate in the forecast period based on subdued wage outcomes, strong productivity growth and excess capacity. Is that still Treasury's assessment of inflation prospects?

Dr Henry —Yes, it is. I think in that we are referring to headline inflation. That is my recollection.

Senator CONROY —The budget view seems to contrast with the recent statements of the RBA that suggest that over the course of 2003 inflation is expected to rise back toward the top of the target band as a continuation of rapid growth in demand and activity would see capacity constraints start to put upward pressure on wages and prices.

Dr Henry —Firstly, I think the Reserve Bank is talking there about underlying inflation rather than headline inflation. Our comments are directed at headline inflation, and, as you know, from time to time the two can diverge. Beyond that, the difference in our point estimates is very small. I would not say that there is not a difference in terms of what has been published. It is possible to detect a difference, but the difference is very small—of the order of a quarter of a percentage point. We do not actually have a published figure from the bank that you can strictly compare with our published figure because theirs is a calendar year number and ours is a financial year number, of course. If we were to publish numbers on a similar basis you might be able to find of the order of a quarter of a percentage point which is, frankly, neither here nor there.

With respect to the direction in which inflationary pressures are moving, again I do not think there is much between the bank and the Treasury on that either. We certainly see, as the bank see, that there are upside risks. The bank have perhaps more of those upside risks reflected in their central forecast, if you like, in their thinking around the central figure than we do, but we would not disagree with the bank at all in respect of the identification of upside risks where the pressures are.

Senator CONROY —After today's national accounts figure have you sent the government a note yet saying, `I told you so'?

Dr Henry —No.

Senator CONROY —Have you had a chance to analyse the impact in terms of the slightly lower than market forecast growth figure today?

Dr Henry —Impact on what?

Senator CONROY —In terms of inflation prospects.

Dr Henry —No, but I do not think today's figure would change our thinking about inflation prospects. Our thinking is and continues to be very much as was set out in the budget papers, that we do see the economy being somewhere below potential, we see convergence to potential level of output, and we see that convergence happening over a reasonable period of time. Today's figures would be consistent with that picture.

Senator CONROY —To look at Mr Macfarlane's words and yours just then, do you still see `undercapacity'—I think that is what you said?

Dr Henry —Yes.

Senator CONROY —Whereas they seem to see capacity constraints kicking in. Is that the essential nuance between the two of you? Today's figure would seem to support your position.

Dr Henry —I think you are reading a little too much into it, and you are not alone. A number of people have tried to read a good deal more into it than that, but really there is not that much there. We share with the bank an assessment that there is a risk of lower excess capacity—and we are both talking about lower excess capacity—being reflected in higher inflationary pressures, including labour market pressures. We see that risk.

The reason that there has been some discussion of possible differences between us and the bank is that we have in some of our discussion—in the budget papers—made a comment about the speed with which the economy is approaching capacity constraints. The bank has also referred to the possibility of inflationary pressures arising as we approach those capacity constraints. We do not disagree that the risks for inflation, including wages growth, are very much on the up side as we approach those capacity constraints.

Senator CONROY —They seem to feel that we are going to, if you like, bump into those capacity constraints sooner than you do. I accept the point you are making: it is a relatively small difference in your outlook, but that seems to be the only nuance—and I am not trying to create a chasm. Is that fair?

Dr Henry —It could be. I certainly do not want to be putting words in the mouth of the government. It is not my place to do so. But do we have marked differences of view on this? No, I do not think we have marked differences.

Senator CONROY —I have not tried to suggest that.

Dr Henry —No.

Senator CONROY —What was the rationale for assuming the price of oil will be $23 per barrel? Was it a price based on any specific forecasts or was it just an informed best guesstimate? We have had that discussion before.

Dr O'Mara —Obviously oil is an extremely difficult commodity to forecast. We made an assumption that, when the world economy settled down a little and some of the tensions eased in the Middle East in particular, we would see oil prices settle toward the lower end of the OPEC target band, given that the world economy while recovering was still going to be operating below full capacity for a while. It seemed reasonable to assume that oil prices would be in the band but probably closer to the bottom of the target band rather than the middle or the top.

Senator CONROY —What is the target band that you are talking about? Is it 28 per cent?

Dr O'Mara —OPEC have indicated that they are attempting to manage supply in the 22 to 27 per cent range, depending on which measure you take.

Senator CONROY —Where was it when you were doing the budget?

Dr O'Mara —It was above that.

Senator CONROY —Above 27 per cent?

Dr O'Mara —No, it was above the 23 per cent that we assumed it would be. It was around 26 to 27 per cent at that point.

Senator CONROY —It was at the top end of the scale, but you felt that it would ease back?

Dr O'Mara —On the assumption that tensions would ease.

Senator CONROY —Do you contact Foreign Affairs to check how they think the Middle East or Pakistan are going? Do you give them a ring and say, `What do you reckon about the tensions?'

Dr O'Mara —It was a stated assumption and nothing more than that. On the assumption that tensions would ease in the Middle East over the period in question and the world economy would be recovering but still below potential, it was reasonable to suppose that oil prices would be closer to the bottom of their target band rather than the top.

Senator CONROY —What was the average oil price for the last three years?

Dr O'Mara —I could not give you a figure off the top of my head. We have a chart here, and my colleague might be able to work out an average over that three-year period.

Dr Parkinson —We could take that on notice unless it is absolutely critical.

Senator CONROY —I will not hold you to a rule of thumb calculation at the back of the room.

Dr Parkinson —Okay, we will just eyeball it for you.

Senator CONROY —That would be good. If you were wrong on the oil price, what would be the consequences? If it were a higher oil price and did not stabilise down to 22 per cent, what would be the consequences for the economy and inflation?

Dr O'Mara —In the budget papers we included some discussion of the risks around oil prices and some of the implications internationally. For example, we have indicated that, if world oil prices settle at a level higher than we assumed, it could have a marginal downward impact on economic activity in the major industrial countries and inflation internationally could be a little higher than we assumed. As far as the domestic economy is concerned, obviously we would need to think about the impact of the slightly weaker world economy on our export performance—which could be slightly in the downward direction. Higher oil prices would probably have a restraining influence on consumer spending to the extent that that flowed through into petrol prices locally. On the other hand, Australia is a net exporter of energy so over the medium term it could well have a beneficial effect on investment in our resources sector—our natural gas and coal sectors. We could see a very slight increase down the track in our terms of trade coming through from it.

Senator CONROY —Do you think that would move the inflation rate outside the Reserve Bank band? They are saying it is going to be up at the top edge. Do you think that could kick in?

Dr Parkinson —Dr Malcolm Edey in the discussion of the economics, finance and public administration committee last week, along with the governor, indicated that the bank thought that, if oil prices stay roughly where they were, it would add between a quarter and a half of a percentage point.

Senator CONROY —Thanks.

Dr Parkinson —Going back to what Dr Henry and Dr O'Mara said, that really is the difference. We are looking at the headline rate and, assuming that oil prices come off, the bank is looking at the underlying rate. If oil prices come off, there would be a dampening impact on the headline rate.

Senator CONROY —Are you aware of any other risks to the inflation outlook? For instance, there is the suggestion that, with the ACCC stopping its monitoring of the GST related price increases from 30 June this year, business might be able to attempt to rebuild the margins which they have said they have really had to crimp over the past two years? That was very much a business sentiment over last two years, that they had to absorb some of the GST. Are you concerned that that might be a factor?

Dr O'Mara —The level of business margins, obviously, is one factor that could influence the inflation outlook; although I would note that, at the moment, profitability in the corporate sector is actually quite high.

Senator CONROY —It certainly is bouncing along.

Dr O'Mara —It is above normal as a share of GDP. We need to take that into account in thinking about how much more margin rebuilding there might need today. The other key issue that we need to be mindful of is unit labour costs. Beyond all other factors, it is movements in unit labour costs that drive medium-term trends in inflation. Anything that influences either the rate at which wages increase or the rate at which productivity increases will be—

Senator CONROY —I was going to say that there is the offsetting productivity issue there as well.

Dr O'Mara —Exactly.

Senator CONROY —It is only if they get out of balance that you have a problem.

Dr O'Mara —That is correct, yes. They would be the other key issues that we would be very mindful of.

Senator CONROY —You have mentioned this risk from wages outcomes flowing through to inflation. The budget papers referred to the uncertainties for wage outcomes associated with the living wage case. Does Treasury think it would be appropriate to mention the uncertainties associated with the potential flow-on from high salary outcomes awarded to senior executives? Do you think they impact when people see large salaries as well—big increases, lots of options, packages, that sort of thing? Do you think that creates an expectation issue?

Dr Parkinson —You asking us to put ourselves inside the mind of the Australian populace. I would not like to hazard a guess; but clearly the more strands of information that point to rising inflationary pressures, the more inflationary expectations would be expected to increase.

Senator CONROY —Sure.

Dr Parkinson —But let us keep in mind that, while senior executives may get significant wage increases—and I do not know what number it is that you actually have in mind or what it is you are referring to—they are a very small proportion of the total.

Senator CONROY —I was not suggesting that they actually directly fed in; it was more the expectational issue that arises when everybody sees the boss getting huge million dollar options packages and bonuses, in One.Tel style.

Dr Parkinson —But recall that, equally, the populace has seen those high-flyers crash and burn. That will also have some influence on their expectations. You also should not forget that this is a dramatically more competitive economy than it was 10 or 20 years ago.

Senator CONROY —I absolutely agree.

Mr Comley —Those executive remuneration surveys have consistently been ahead of other average wage increases for quite a period of time. We have not seen any evidence that that has fed into generalised wage expectations or inflation expectations over quite a long period of time.

Senator CONROY —They have probably been a bit more obscene and blatant in the last 12 or 18 months.

Mr Comley —I have not got the numbers in front of me, and I would not comment on your use of language, but I think some of those surveys have actually moderated a little in terms of the increases that were happening.

Senator CONROY —I have seen some surveys recently that suggested that there is expectation that they will moderate. I am not sure I have seen the evidence that they have started to moderate yet, but I am aware of the surveys that say people are just coming off a bit in terms of the gouging of shareholders' pockets. It is a fair point, Mr Comley.

What was Treasury's view on the living wage case? From memory, Treasury argued against the increase as part of the government's submission. Didn't the Australian Industrial Relations Commission effectively reject Treasury's advice? Paragraph 111 of the decision said:

The modelling assumption within the TRYM analysis of an immediate and significant interest rate response to safety net increases which have a limited effect on aggregate wages growth seems to us to be unrealistic.

Paragraph 117 said:

To the extent that adverse effects arise from the RBA interest rate response imposed upon the model in response to marginal additions to aggregate wages growth and inflation, we think the TRYM results are unrealistic. The TRYM modelling provides no basis to find that the safety net increase we have decided upon will have adverse aggregate employment effects.

Mr Comley —It is for the commission to form its own view as to the evidence it finds compelling. I am not sure that throughout the whole decision you would say that all the arguments put forward were completely rejected. In fact, the final wage safety net adjustment was not at the point advocated by the ACTU; it was a point somewhere between the positions put by the government and the ACTU. As for whether the commission accepted specific modelling results, all of us can look at an individual model and come to judgments about whether we find a particular result persuasive, but I think those of us who have looked at models find it is a useful way to order our thoughts. Certainly we would think that the evidence from TRYM is a useful input to the process.

Senator CONROY —The government—which means it was with Treasury input—argued for a $10 wage increase or a 2.4 per cent increase for those on the federal minimum wage?

Mr Comley —That is correct.

Senator CONROY —The increase awarded equates to around a 4.4 per cent increase for those on the federal minimum wage; is that right?

Mr Comley —That is correct.

Senator CONROY —An increase of $18 a week was the final one. Just on that, you heard some of the discussion earlier about the Treasury's own pay case. Is it true that you are getting an increase of 12 per cent over two years?

Mr Comley —That is the preliminary offer that has been put to staff for consideration.

Senator CONROY —Are you fighting for more?

Mr Comley —I might be bargaining with the person on my left-hand side.

Senator CONROY —Would you like an agent?

Mr Comley —All I am saying is that, formally, there has been a preliminary offer put to staff for consideration. Following discussions, it will be up to, formally, the Treasurer to put a final offer to staff. But the offer at the moment is six per cent over each of two years.

Dr Henry —Let me make the point that there is a risk in trying to compare those two numbers, as one involves a certified agreement approach—enterprise bargaining based on productivity improvements—and the other is quite obviously something very different. It is a safety net for those who are not in a position, for whatever reason, to achieve productivity based pay increases through an enterprise bargain.

Senator CONROY —Let me confirm. It is proposed that Treasury officers receive a 12 per cent increase over the next two years. On top of that, around 80 per cent of APS6, EL1 and EL2 staff will be offered salaries of five per cent, 10 per cent or 15 per cent above certified agreement upper pay points. In other words, some officers will receive a 27 per cent pay rise over two years. Is that possible?

Dr Henry —Yes, it is possible.

Senator CONROY —So you think there is a productivity offset for increases of up to 27 per cent?

Dr Henry —Those increases can be achieved under the proposal only through individual contracts—AWAs—and not through the certified agreement.

Senator CONROY —There have been some Federal Court cases about only offering pay rises of that magnitude through individual contracts, as opposed to other forms, being considered to be inducing behaviour, I understand.

Dr Henry —My intention is to make an offer to staff through a certified agreement that I regard as being quite generous, and so I do not think I am at risk of not being seen to have negotiated on a bona fide basis with staff in order to achieve an enterprise agreement.

Senator CONROY —Do you think there is any irony in the fact that Treasury argued for a paltry 2.4 per cent increase for minimum wage earners but is looking at anything up to 27 per cent for some of its own officers?

Dr Henry —No. Let me put it in quite clear terms: the only way in which I can afford to pay those sorts of increases to staff is through quite explicit productivity enhancements. The fact is that I cannot obtain additional funding to pay for those pay increases—I simply cannot. For that reason, there is no risk of me creating inflation through this. I cannot get additional funding. I cannot pass on these wage increases in the form of higher prices—I am simply unable to do that. The government has told me that they expect me to deliver at least as much output—in fact, more output. The only way, therefore, that I can fund those pay increases is through productivity increases. It means that the people in the department are going to have to, on average, produce more.

Senator CONROY —The six per cent on six per cent compounds, and so it actually works out at slightly more.

Dr Henry —That is 12.36 per cent.

Senator CONROY —It works out at slightly more. Because I have never actually been involved in any negotiations like this, I was wanting to gain an understanding of it. Let us say that somebody can get the 27 per cent. Do they have to get a 27 per cent productivity increase? What is the measure of productivity that satisfies you about a 27 per cent increase? How do you put the two together? I am interested in how you measure that.

Dr Henry —It would involve substantial increases in average productivity and then a determination by management of the relative contributions to departmental output being made by different people. On that basis there is an alignment implied—I will admit that it is not explicit, but there is an alignment at least—between the rates of pay that people will be offered and their contributions to departmental output. In the aggregate we have got to get it right. There is nothing clever about that; it is simple arithmetic. There has to be a productivity increase to allow these rates of pay increases to be offered. Within that average there will be some dispersion, and management will be seeking to align outcomes with people's contributions to departmental outputs.

Senator CONROY —You may recall that at the last Senate estimates we had a discussion about the relationship between productivity and labour market reforms. During that conversation and other statements made by Treasury and the government, it was commonly asserted that the productivity growth accelerated in the second half of the 1990s, in part because of moving to a more deregulated labour market over this period. To clarify, are you aware of any evidence to support this assertion?

Dr Henry —That productivity growth accelerated over the 1990s?

Senator CONROY —Yes.

Dr Henry —Yes.

Senator CONROY —Could you let us know?

Dr Henry —Without having the details at my fingertips, I believe there is a Productivity Commission report that sheds some light on that issue. I think the national accounts figures themselves reveal an acceleration in labour productivity growth in the second half of the 1990s.

Senator CONROY —Is Treasury aware of what the AIRC stated in their 2002 decision on the living wage case, concerning the relationship between different wage determining systems and productivity? They found that there is no evidence to support the contentions that safety net adjustments are an impediment to productivity improvement within firms paying them, and that productivity improvement will be necessarily greater in firms paying bargained wage increases. In other words, there is no evidence to support claims that a decentralised wage fixing system leads to higher productivity outcomes.

Dr Henry —I do not think that logic follows, Senator; but perhaps Mr Comley—

Mr Comley —I have a comment on that. Some information that was provided in chapter 5 of the government submission to the safety net adjustment would seem, at least to me, to be inconsistent with that. There is quite a strong relationship between the productivity growth and sectors across the economy, and those that actually had a smaller proportion of workers covered by the award wage system. In fact it is quite striking, in some of the areas, that over the past decade the differences in productivity growth range from 100 per cent productivity growth in communication services down to pretty well flat, or zero, productivity growth in such sectors as accommodation, cafes, restaurants, cultural and recreation services, and distributional services, where they have a higher proportion of those paid at award wages. So there some evidence that there is a relationship between the nature of the wage setting arrangements and productivity growth.

Senator CONROY —I would love to actually debate that with you at considerable length, which perhaps we may get a chance to do, but I am probably not going to do it here. I appreciate that answer, Mr Comley. Last Senate estimates, Dr Parkinson declined to respond to a question about the prospective path of interest rates—as you would expect. In light of the RBA's constructive comments last Friday, is Treasury in a position to have a discussion about interest rates and those sorts of things?

Dr Henry —Senator, we are never in that position.

Senator CONROY —Mr Macfarlane seemed relaxed about having that discussion.

Dr Henry —The governor has responsibility for monetary policy.

Senator CONROY —Does that make it more dangerous for him than you, then? I mean, if he feels that it is okay—and he is in charge of it—Treasury having a chat about it would seem to be of less threat to the state of the economy.

Dr Henry —That is a very interesting proposition, Senator. It is the first time I have heard it. It is interesting, but our position is not affected by it.

Senator CONROY —Does Treasury agree with the RBA's comments last Friday, suggesting that interest rates will be heading upwards to a more neutral stance, consistent with interest rates being around three to 3.5 per cent in real terms? That was the evidence.

Dr Henry —If you are asking me am I going to contradict the governor, I am not going to contradict the governor.

Senator CONROY —So you are going to agree with the governor?

Dr Henry —I am not going to contradict him. Seriously, I do not want to get into the position of providing an independent commentary on the future path of interest rates. I simply will not. I am happy not to contradict the governor, but I am not going to provide an independent commentary.

Senator CONROY —You think it is more dangerous for you than for the man in charge of monetary policy?

Dr Henry —I think it is entirely inappropriate. We have arrangements for monetary policy that are designed to achieve a level of operational independence from government. For me to be commenting publicly on the likely future direction of interest rates could be seen in some quarters, perhaps improperly so, as compromising that independence. I do not think it would compromise the independence, because the governor is sufficiently seized of his independence for him not to take any notice of any such comments I were to make publicly; but you would understand, Senator, that there is the risk that some in the community might not see things quite so clearly. I do not want to—

Senator CONROY —You are on the Reserve Bank board, though, aren't you?

Dr Henry —Yes, I am.

ACTING CHAIR —I think you have got your answer, though.

Senator CONROY —The Prime Minister and the Treasurer quite readily comment on interest rates nowadays. To my surprise, sometimes, I see they do make comments.

ACTING CHAIR —You probably do, too.

Senator CONROY —No. I think Mr McMullan makes forays into that.

ACTING CHAIR —You have been known to make some notorious comments that have got you into trouble, but I think—

Senator CONROY —I am not sure they had anything to do with interest rates, though. You are probably not in a position to talk about notorious comments getting people into trouble. I think I could defer to you on all counts. Did Treasury support today's announcement to raise interest rates?

Dr Henry —I am not going to comment. In the first place that is, if anything, a question that goes to our view on policy; but, more than that, it is—

Senator CONROY —You could not really disagree, though, could you? You were sitting on the board that made the decision.

Dr Henry —Of course I could not publicly disagree.

Senator CONROY —With house prices increasing by around 15 to 20 per cent over the past year in some cities, does Treasury think that an asset price bubble has developed in Australia's property market?

Dr Parkinson —I think there is clear evidence of excess supply in some markets. In particular, medium density housing in Melbourne and Sydney has vacancy rates very close to historic levels and anecdotal reports of falling rentals. That would suggest that there is significant excess supply. But as to whether that is spread more generally across the country, you need to be a bit careful: it depends a lot on the individual markets you are thinking about. It is a very segmented market.

Senator CONROY —I think I am living in a bubble myself.

Dr Parkinson —It may be to your advantage, if you bought early enough!

Senator CONROY —I am in the middle of a renovation. I am one of those who are in real trouble shortly.

Dr Parkinson —You have my sympathy.

Senator CONROY —Is Treasury aware of a 1997 RBA research discussion paper, `Asset price bubbles and monetary policy'? The paper argues that there may be circumstances where monetary policy should be tightened in response to an emerging asset price bubble in order to burst the bubble before it becomes too large.

Dr Parkinson —Yes, I am aware of that paper, but I am equally aware of the paper by Ben Bernanke and Mark Gertler, who are two of the most prominent monetary economists in the world. In fact, Bernanke has just been appointed to the US Fed that in fact takes the opposite position, that says—

Senator CONROY —Just let it rip.

Dr Parkinson —that there is very little you can do. You worry about asset prices to the extent that they impact on inflation; but, if you think that you can actually start addressing particularly asset price bubbles that are in very narrow segments of the market—

Senator CONROY —I am intrigued by that, because I have been perplexed—and I will not ask Dr Henry to comment on this because obviously he has been involved in the discussion—by why we are trying to finetune one particular narrow segment with the bluntest of all implements—

Dr Parkinson —I do not see any evidence that we are trying to finetune any particular segment. If you go back to the RBA's view, they anticipate that underlying inflation will be heading towards the top of their target band. I think it is incumbent upon them to make their forecasts and their policy decisions consistent with their mandate.

Senator CONROY —But you are making the point about US economists saying that there is not much you can do. You seem to be saying that there is no point in putting up interest rates to burst a bubble.

Dr Parkinson —There is a range of views. The only reason I threw that in was to say that it reinforces the fact that monetary policy is somewhat of an art, not a science.

Senator CONROY —It is imprecise. I think the first-year textbook says, `Don't finetune the economy with a blunt instrument.'

Dr Parkinson —First-year textbooks say a lot of things that have nothing to do with economics.

Senator CONROY —Are you disagreeing with the proposition that you should not try and finetune the economy with monetary policy?

Dr Parkinson —No. I think one of the reasons we have done so well in Australia over the last period is that we have both monetary policy and fiscal policy set in a medium-term framework. In many ways we did the microreforms and then we did the macroreforms through getting the macropolicy frameworks right.

Senator CONROY —Do you think the asset price bubble is being affected by any other factors? What factors do you think are causing it?

Dr Parkinson —You just said, `the asset price bubble'; in fact I mentioned that there were segments of the housing market in Sydney and Melbourne in which there were clear signs of excess supply, but there are lots of assets out there—

Senator CONROY —Like you, I am trying to narrow it down to housing. If we ever want to stimulate the economy in the future it seems that some of the fiscal policies designed to stimulate it have been remarkably successful. The multiplier effect of a stimulus in the housing market seems to have been quite extraordinary, probably more than all of us and even the government anticipated. I am not trying to be smart, I just think that people have often said something like, `Let's spend more money on roads to stimulate the economy,' but nowadays it does not seem to have too much of an effect. Certainly a very targeted measure into the housing area seems to have worked.

Dr Parkinson —You will recall, though, that these sorts of things actually act as a bring-forward, and that is one of things that is actually working out quite well. The economy has now got sufficient momentum that, as the stimulus to housing comes off, the economy is doing very well. But these things can fail. I do not recall this happening, but I recall my history book suggesting that the Whitlam government cut sales tax on motor vehicles dramatically in 1973 or 1974 for a very short period of time to try and kick-start things.

Senator CONROY —I remember the history book on it as well.

Dr Parkinson —But we are only remembering the history book; the only point of that was that, as soon as you turned off that tap, it stopped dramatically. In this particular case, it has been quite effective.

Senator CONROY —We could look back, do a test, get a coefficient and do all of those things to see whether or not that worked, but it seems that this fiscal measure seems to have probably exceeded what would have been expectation of the effect on pulling through. I accept that it is a pull-through issue, but it has probably pulled through more than was anticipated. The introduction of the GST was not a direct fiscal measure, but everyone felt that they were going to be paying 10 per cent more, and so they all rushed into the market and that caused a massive pull-through.

Dr Parkinson —In a way, their actions drove up prices by about 20 per cent in an attempt to avoid the 10 per cent.

Senator CONROY —That is the irony: it was probably up at around 30 per cent because it was such a huge pull-though. Then things really dropped off and it became an argument about the depths to which the housing sector, in particular, was falling. While I am not trying to rehash the debate we had around the GST, the government then introduced a new and further measure to counterbalance the effects of the dropping-off, and that seems to have had much greater impact then perhaps was anticipated. I do not mean that in any pejorative sense; I am looking at it in the purely econometric sense.

Senator Ian Campbell —There were predictions at the time—and I am not being too political—by noted economists that there was going to be this massive overheating and that inflation was going to go through the roof. That did not happen either.

Senator CONROY —What I am saying is that we can look back now. They were projections into the future.

Senator Ian Campbell —No, they were projections for 2001.

Senator CONROY —What we can do is look back and take a measure of the impacts. If people are concerned about an asset price bubble in one particular narrow area of asset, as Dr Parkinson has pointed to, it seems bizarre to me that we are using a macro tool.

Dr Parkinson —But you are imputing motives to the governor.

Senator CONROY —No, they are probably purely political.

Dr Parkinson —He has a mandate to—

Senator CONROY —I am sorry, I was not imputing that at all.

Dr Parkinson —I do not know where we are going on this then. He is clearly setting his monetary policy with a view to being consistent with his inflation forecasts, but you seem to be implying that what he is doing is setting his monetary policy to address some overheating in medium and high density in Sydney and Melbourne. You should take that up with him, but I think that is not the characterisation.

Senator CONROY —Unfortunately I did not have a chance to, because I was not on that committee last week. Does Treasury think the RBA is interpreting the two per cent to three per cent target band too narrowly?

Dr Henry —I will not allow Treasury people to answer that question.

Senator CONROY —Do you think the RBA is treating the three per cent as an upper limit? Is that an easier question?

Dr Henry —I will not answer that question.

Senator CONROY —Do you think the criticism made in some quarters that the Reserve Bank appears to be not paying enough attention to the employment requirement of its mandate is fair?

Dr Henry —No, I do not think that is fair.

Senator CONROY —Do you think the Reserve Bank is giving sufficient balance? There are twin objectives; I will not say `competing'.

Dr Henry —More than that, the policy framework—which the government has agreed is the appropriate framework—of achieving two per cent to three per cent inflation on average over the cycle is based on a view that those sorts of inflation outcomes would be consistent with sustained strong employment growth. So it is more than a question of whether the Reserve Bank thinks enough about the employment outcomes of its decisions; there is this fundamental question of whether the inflation targeting framework is consistent with desirable employment outcomes. I believe it is.

Senator CONROY —So you are saying that a desirable outcome of low inflation means greater growth, but there has to be a lag?

Dr Henry —Let me put it this way: the risk is that, without having some anchor for monetary policy in terms of inflation performance, we will get into a situation of imbalance that is expressed in terms of rates of inflation that are simply too high, and there will be a correction. It may or may not be policy induced, but normally it would be, with highly undesirable employment implications. The question is one of deciding what sort of inflation targeting framework is consistent with robust but sustainable employment growth. You would be aware that in the United States there is not an explicit inflation target. Nevertheless, there is a consensus that the Federal Reserve has substantial credibility in terms of inflation outcomes because it has for a long period of time now managed to set interest rates—

Senator CONROY —Does it have an employment objective as well? I actually do not know.

Dr Henry —It is an important issue. It has been up to the Chairman of the Federal Reserve to interpret exactly what the mandate is. A couple of years ago, in testimony before Congress, he was asked what he saw as being the objective of monetary policy, and he said something like, `To achieve the highest sustainable rate of growth.' I think everybody who read or heard what he said would have interpreted from that not that he was disinterested in inflation—not at all—rather that he was looking through inflation and saying that achieving moderate inflation outcomes is the best hope we have got—at least in terms of the things for which he is responsible—of achieving high but sustainable rates of growth. I think we are in that position in Australia.

Indeed, there has been a bit of discussion in the United States more recently of whether they should not be a little more explicit about the connection between the two things and adopt the Australian framework. In fact, one of the former governors has been on the public record recently suggesting that there would be merit in the Australian model being adopted in the United States, not because there is any inconsistency between what we do and what they do—in fact there is a great deal of inconsistency—but because to adopt the Australian approach would make things more transparent.

Senator CONROY —The bank has also been criticised for being Sydneycentric in determining monetary policy. That might come back to some of the discussion that we were having about certain areas. Does Treasury think there is any evidence to support this? In particular, Access Economics produced an article suggesting that interest rate changes attract the relative strength of the New South Wales economy. Is Treasury aware of that article? Do you think that is a fair view?

Dr Henry —No, but I understand what is implied in the comment. The bank has an inflation target—they are quite explicit about that and the government has endorsed it—of achieving two to three per cent on average over the cycle. The thing that is to be achieved—the thing that is being measured—is the CPI, which is a national average. It is not the CPI in Sydney—it is quite explicitly not that. We could say, `Okay, Bank, you have to achieve two to three per cent on average of the CPI in Sydney.' The ABS publishes that, so it is a meaningful figure. But that is not the target. The target is the national average, which is the average of eight capital cities.

Senator Ian Campbell —It might have been a good idea in the lead-up to the Olympic Games.

Dr Parkinson —There is no evidence that suggests that inflation outside of Sydney, if you take a long enough period, is dramatically different to inflation in Sydney. As the secretary said, they are looking at the all-group CPI, which is the weighted average of the eight capitals.

Senator CONROY —Do you think that criticism implies a criticism of the ABS's weighted average rather than of the Reserve Bank's? Do you think the weighted average measure is the best measure? If the ABS targets the weighted average of eight capital cities, do you think the problem is in the way the CPI is constructed in terms of those weights? Perhaps in these instances it would be fairer to criticise that than to criticise the Reserve Bank?

Dr Parkinson —I do not see what the problem is.

Senator CONROY —There seems to be a large perceptional problem in the broader community. The National Farmers Federation have made frequent criticisms.

Dr Parkinson —There are many perception problems in the broader community because of what people have said.

Senator CONROY —Prominent and informed people make this criticism. I am trying to gain an understanding of whether the problem is not the Reserve Bank's behaviour but the measure they behave towards. That may cause some of the criticism and it may be more fairly targeted there.

Dr Henry —I suspect that is what is behind the comments. The way it has been expressed to me over the years is that there are two sides to it. Monetary policy is a blunt instrument that impacts all industries and all regions independently of whether all industries or all regions are generating price pressures. That point that it is a blunt instrument is often made. For example, it may be said that, `The prices of certain products are skyrocketing but the prices of the products I sell are not skyrocketing, so why am I being hit?' Or it may be said that, `Prices may be skyrocketing in Sydney but they are not skyrocketing in Hobart, so why do people in Hobart have to have higher rates of interest?' That is the way I typically hear it said.

The bank's inflation target is an average in two senses: it is an average across all products and it is an average across all regions. Okay, it has capital cities in it; it does not strictly have non-metropolitan in it. Here I agree very much with Dr Parkinson, and the studies that I am aware of that have attempted to compare average rates of price increases in cities with average rates of price increases in non-metropolitan areas have not indicated that over time you get much of a divergence. I do not think there is substantial bias there. But that is the instrument we have. It necessarily applies very broadly and the target is necessarily an average with respect to both products and regions.

Senator CONROY —`Mortgage repayments' has been in and out of the CPI in recent years. What is the situation at the moment? I think it is out.

Dr O'Mara —It is out.

Senator CONROY —Does Treasury believe that there is a link between interest rates and the stance of fiscal policy and that this year's fiscal deficit will place pressure on interest rates?

Mr Comley —There are two levels. We would say that over the medium term the stance of fiscal policy has an effect on interest rates, so that if you changed your overall fiscal position over a number of years and you accumulated—

Senator CONROY —What is medium term? Is it five years?

Mr Comley —Probably five years, but I put one caution here. When you think about the link between, say, the stock of government debt and the stance of fiscal policy, whilst you might think about that being a medium term of five years, if markets thought that you had dramatically changed the trajectory of your fiscal policy then they may truncate the effects of a change in fiscal policy back to a point in time. For example, if you suddenly went out and said, `I'll have three per cent of GDP deficits,' and made statements to indicate that you have just changed your policy so that is what it is going to be from there on in, markets would probably project out the implications for net debt over a number of years and that would feed into interest rates.

So if you think of the level of interest rates we can sustain in Australia, a platform is going to be the medium-term settings that are going to be affected by the overall position of your fiscal policy. Taking that medium-term perspective we would not have any reason to believe that the fiscal stance that currently stands would put upward pressure on interest rates. Part of the reason for that is that we are at a very low level of debt at the moment, and so it is likely that we are in a range where even moderate changes of fiscal policy—unless the markets thought it was a big structural change in where we were going—are unlikely to have an impact on interest rates.

Senator CONROY —But there has been a huge turnaround in the government's fiscal position. I am not sure if you were there the whole time I was in discussion with Dr Grimes and Mr Smith, but we are fundamentally in accrual deficit for the next three years.

Mr Comley —I think the point was made this morning—and I think we had this discussion at the last estimates—that the overall fiscal strategy is still in place and being met. There is still balance over the cycle over the medium term. For example, net debt to GDP ratio is still going to be on a downward trajectory as a result and there have been cumulative surpluses over the previous years. None of that has changed.

Senator CONROY —We are basically in cumulative deficit for this year, next year and the year after, when the economy has been bubbling along at four per cent basically over the last 10 years or there has been substantive growth over 10 years.

Mr Comley —I do not want to rehash the discussion—

Senator CONROY —There is a change in fiscal position by the government.

Mr Comley —There was a long discussion this morning about the right way to view these things. Even if you take those three years with improvements after that, you are still in a position where your net debt to GDP ratio is declining.

Senator CONROY —So they are selling assets; any mug can sell an asset and get the net debt down.

Mr Comley —But in the fiscal balance measure you would be stripping out the sale of assets there. So you are in a position where we already have a low net debt to GDP ratio and that is declining over that period, even with the way the forward estimates are constructed at the moment. Given the stock of debt we are starting from, which is very low, I think it would be hard to mount an argument—

Senator CONROY —What is your definition of `very low'? And give me a definition of `very high'. You are saying it is very low; let us put some numbers on this.

Mr Comley —I do not think there is anything you can put `very low' on as a precise number, but if you are going to compare it with the OECD average—and from memory that is around 40 per cent of GDP—our current level is around six per cent of GDP. Norway might be the exception but of most other OECD countries we are essentially the lowest. If you are looking at very high levels of indebtedness, those significantly above the OECD average would be ones that I think would be in `very high' levels of indebtedness.

Senator CONROY —But even Ed Chan made the point recently—and he is a noted conservative on economic policy—that it is time to start borrowing.

Dr Henry —Sorry, who said that?

Senator CONROY —Ed Chan.

Dr Henry —For what reason?

Senator CONROY —Infrastructure.

Dr Parkinson —Just going back for a minute, Mr Comley made the point about the OECD average. I would reinforce his earlier comments. You do not run into problems when you get to the OECD average; you run into problems when you are perceived to be changing your policy dramatically.

Senator CONROY —And this government has; we are in cumulative—

CHAIR —Senator Conroy, let Dr Parkinson finish his answer.

Dr Parkinson —I take the point of the discussion this morning. You noted that over the three years 2001-02 to 2003-04 the fiscal balance is still negative, but you said that debt to GDP ratio was rising. In fact it is not, because the cumulative—

Senator CONROY —I did not know that I said that it was rising.

Dr Parkinson —You said it is not falling.

Senator CONROY —I do not think I said that either. Are you talking about this morning or now?

Dr Parkinson —Just a moment ago. The cumulative fiscal balance over the three years is, very roughly, $200 million, out of a $700 billion economy.

Senator CONROY —Your own reconciliation statement says that you have spent $17 billion.

Dr Parkinson —No, I have not. I have not spent anything.

Senator CONROY —Sorry, the government. My apologies, Dr Parkinson: the government has spent $17 billion.

Dr Parkinson —No. What we are talking about here is your comment a moment ago that debt to GDP would no longer be falling. All I am doing is saying that in fact no, it will fall, because at no stage does the cumulative fiscal deficit over that time exceed GDP growth.

Senator Ian Campbell —Mr Chair, that $17 billion, as best we can judge, includes a $12 billion tax cut which is money that we have given back to the citizens of Australia to choose how they spend. If you call that a turning around of circumstances, that is a gross exaggeration.

Senator CONROY —I guess you will need to get Treasury to give you an ABC on this stuff afterwards, Senator Campbell. You interjected over the top of Dr Parkinson.

Senator Ian Campbell —I did not, actually. I very politely waited until he concluded his remarks, which is not what you often do, and I asked the Chair if I could speak.

Senator CONROY —I actually thought Dr Parkinson was still in the middle of an explanation.

Dr Henry —I think what he is saying is that the percentage rate of increase in debt is smaller than the percentage increase in GDP, and therefore the ratio of debt to GDP must continue to fall. That is the first point. The second point is that the percentage increase in debt is absolutely minuscule, so you are pretty much—

Senator CONROY —The key point that Mr Comley has been making—

CHAIR —Sorry, Senator Conroy. Dr Henry, you were in the middle of saying `so you are pretty much'. Would you like to finish your answer, please?

Dr Henry —You are pretty much looking at a very small change in nominal debt, a very small percentage increase, and you are comparing that with a very substantial increase in nominal gross domestic product. Therefore the ratio too, debt to GDP, must fall.

Senator CONROY —I am actually agreeing with Mr Comley. The key here is if there is a change in the structural position. Notwithstanding that Senator Campbell does not understand that it does not include the $12 billion, that it has nothing to do with it, the point I am actually making is that we have an economy boiling along and we have spent a huge amount of money. That is an actual fact. If you added the changes over the six years I was able to get the figures, it was up to $45 billion, but in the last couple of years it is $17 billion. That is a structural change, Mr Comley.

Mr Comley —No, I am not sure it is. For a start—

Senator CONROY —How big does it have to be before you are defining something as a structural change?

Mr Comley —If I could elaborate why it may not be the case, the first is, as Dr Parkinson commented, you are talking about $700 billion of GDP in a year. But $17 billion, the figure you are talking about, I think is over forward estimates. So the base line you are actually talking around is in the order of $2,500 to $3,000 billion. You are talking about a change in the order of half or, at top, three-quarters of a per cent of GDP in a particular year. You might say, `That looks like a big change to me,' and at some levels that is a significant amount of fiscal expenditure, but one has to keep in mind what the base line was before that expenditure was undertaken.

If none of that expenditure were undertaken, you would in a sense have been significantly exceeding the fiscal strategy which the government had committed itself to. So it is not clear to me that having some expenditure off the base line that would have significantly exceeded the expenditure or the balance as allowed under the fiscal strategy would be viewed as a change in the strategy, and the fact that the balance over the cycle formulation effectively means that you have stable nominal debt and declining debt to GDP is still reflected in the figures through the forward estimates period. So I struggle to see that it is a dramatic change of strategy that would give concern for markets pricing in interest rates.

Senator CONROY —I guess we are going to agree to disagree on that one.

Mr Comley —Can I turn to the second—

Senator CONROY —I am happy for my education to continue, so go on.

Mr Comley —I am just trying to be helpful. I think when I started on this, the interest rate in fiscal policy, I said there were two factors: one was this medium term, which I think we have now talked ourselves around—

Senator CONROY —No, I think you have talked yourself around.

Mr Comley —The second issue is whether, effectively, the demand impact of fiscal policy is having a short-term influence on monetary policy settings. I am not going to comment on what the Reserve Bank is feeding into their interest rate decisions, but I do go back to the discussions we had earlier today and say that the budget actually has a fiscal contraction of half a per cent of GDP in 2002-03. In a sense, that is reducing aggregate demand from where it otherwise would have been, so it is not a demand stimulus coming through in 2002-03.

Senator CONROY —The $17 billion—just to correct your impression, Mr Comley—is for the one year: this year. It is not over the forward estimates; it gets much bigger. The $17 billion is a pretty substantive change, and then you add it to what the next couple of years have got—and I have not got my folder with me; otherwise I would just read them back to you—so my point is: $17 billion is over the one year, not the couple of years.

Mr Comley —I am not sure which baseline you are referring to there, because it would have to be a very high baseline to pull it back by $17 billion. On the question of the stimulus, I am essentially saying, `Given the conditions we currently have in 2001-02 and the monetary policy settings that they are consistent with, between 2001-02 and 2002-03 there is a negative fiscal stimulus of half a percentage point of GDP.'

Senator CONROY —Have you finished on all the points you wanted to make? You said you wanted to deal with the second one.

Mr Comley —Yes, I have finished.

Senator CONROY —I guess we will agree to disagree for the moment. I want to move on to housing. The budget papers state that `the decline in new dwellings will be offset by a certain extent by alterations and additions'—and I am personally responsible for some of that, so I hope you have taken that into account in your answers! Is that what you said?

Dr O'Mara —That is what we have said, yes.

Senator CONROY —I am keeping you in a job, there! Can Treasury give the committee an indication of the expected fall in new housing and the expected growth in alterations and additions?

Dr O'Mara —No, we do not publish those numbers separately. We have said that the aggregate of the two is expected to fall about three per cent next financial year and we have indicated qualitatively that within that we expect a significant fall in new dwelling construction and a significant rise in alterations and additions, but we have not put a published forecast on the two components.

Senator CONROY —I appreciate that it is not a published forecast, but that does not mean the Senate cannot receive a copy. Could we have a copy of that? Is it a state secret?

Dr O'Mara —There is no published forecast.

Senator CONROY —I appreciate that there is no published one, which means there is an unpublished one. I am simply asking if we can have a copy of the unpublished one.

Dr Parkinson —That would be a matter for the Treasurer.

Senator CONROY —Is it a state secret?

Dr Parkinson —We can raise that with him.

Senator CONROY —Senator Campbell, do you think disaggregating one figure into two bits is a state secret?

Senator Ian Campbell —We can raise that with him.

Senator CONROY —You do not feel confident that you can make a decision? You are his parliamentary secretary; I have read that you are the virtual Assistant Treasurer.

Senator Ian Campbell —I am confident I can decide that I can raise it with him.

Senator CONROY —You do not think that you can give the Senate—

CHAIR —I think you have asked the same question twice now. Time is on the wing. Come on, Senator Conroy, next question.

Senator CONROY —Thank you, Senator Brandis, I appreciate your assistance, as always.

CHAIR —I am concerned for you, Senator Conroy—so you can get on to as many topics as you can cover.

Senator CONROY —I am just keen to make sure that Senator Campbell makes his position plain, as do you. I appreciate your assistance. Is there a reason that you think the Treasurer would say no, Senator Campbell?

Senator Ian Campbell —I have said that I am very confident that I will raise it with him, and I am confident you will get a response to my raising it with him.

Senator CONROY —I am confident you will raise it with him. Do you think there will be a reason why this figure should be kept under lock and key?

Senator Ian Campbell —I am not even thinking about it.

Senator CONROY —`Not even thinking about it'—oh dear, the story of your life! Does Treasury think the phasing out of the additional First Home Owners Scheme is the primary reason for the decline in new housing activity?

Dr O'Mara —We have said in the budget paper that the additional First Home Owners Scheme, the additional $7,000, was designed specifically to give a stimulus to that component of new home construction. Indications are that it has had an effect. It is very difficult to isolate the effect of that from the impact of low interest rates, for example, and quite high levels of consumer confidence.

Senator CONROY —Interest rates were pretty low through that period.

Dr O'Mara —And declined further, you might recall.

Senator CONROY —That is what I was saying.

Dr O'Mara —That was presumably also a factor behind the strength in new dwelling construction. Employment growth has been occurring, particularly during this year; more recently unemployment has been falling; and consumer confidence levels have been maintained at quite high levels—all of those factors are undoubtedly contributing to the strength in new dwelling construction over the period. But the First Home Owners Scheme was a factor in that.

Senator CONROY —A major factor? Please do not be modest on behalf of the government; they have claimed the success of the measure all over the world.

Dr O'Mara —I cannot put a figure on it but I think we have stated in the budget papers that it is a significant factor.

Senator CONROY —Would it be a significant factor in the slow down in the new home area?

Dr O'Mara —The effect of the First Home Owners Scheme is, by definition, to draw forward into the market some people who might not otherwise have been looking to buy a new home until next year or the year after. To the extent that it has had that effect, you would expect some unwinding during 2002-03 and that is what we have factored in. Dr Parkinson commented earlier today about evidence of some oversupply in some parts of the market as well, which undoubtedly will begin to unwind during the next financial year and that is what we have factored into the forecast.

Senator CONROY —The budget papers say that the two sources of building activity will be moving in different directions; is that right?

Dr O'Mara —That is right: for new, down; and for alterations and additions, up.

Senator CONROY —Don't the budget papers indicate that they typically move in the same direction?

Dr O'Mara —Historically there has been a tendency for them to move broadly in the same direction because they are typically influenced by a similar set of factors. On this occasion we think new dwelling construction will weaken because some of the strength this year was due to the effects of the First Home Owners Scheme and that will unwind next year. On the other hand we think circumstances are very positive for continued strength in alterations and additions: high consumer confidence, rising employment, falling unemployment and still low interest rates.

Senator CONROY —But they are going up.

Dr O'Mara —From a very low level, and they remain historically low.

Senator CONROY —If interest rates go up any further, do you think that will start to have an impact? I do not have it here but Deutsche Bank produced a chart that showed that because of the volume of debt—because of high house prices—the amount of repayments, as a percentage of your budget, is going up. I think they produced the chart yesterday; I don't know if you saw it. Because of the value of the loans now, the repayments at the lower interest rates are almost as high as they were when interest rates were historically at a high. Am I making sense? Did you see that?

Dr O'Mara —I am familiar with analysis of that sort and in the budget papers, on page 3-15, we provide quite a bit of detail about the household situation on a range of dimensions at the present time. You will see in chart 8 that we have what we call the debt servicing ratio for households—the percentage of their disposable income that goes to making interest payments. You can see that at the moment it is historically at quite low levels. It is around the six per cent mark.

Senator CONROY —This is the Deutsche Bank chart that was released yesterday. Did you see it?

Dr O'Mara —I did not actually see that chart, I must admit, but I have seen other analyses—

Senator CONROY —Right, so you disagree?

Dr O'Mara —These data are ABS data. They are the official statistics on household income and household interest payments. They are certainly what we have been using and they show that interest payments are on average about six per cent of household disposable income at the moment. But it got as high as 12 per cent of household disposable income back in the late eighties.

Senator CONROY —Is there no forward forecasts on those figures?

Dr O'Mara —I beg your pardon?

Senator CONROY —That is the historical trend. Is there a forward forecast?

Dr O'Mara —No. We do not produce a forecast of that series, as such.

Senator CONROY —So you cannot tell us how that affordability—if I can use that word—is affected if interest rates keep going up?

Dr O'Mara —I would not use `affordability'.

Senator CONROY —Is there a better word? Please, have you got one?

Dr O'Mara —Debt servicing costs is what I would call it. Clearly, all other things being equal, if interest rates go up, one would imagine that that particular series would start to move up a little, but I emphasise that it would be moving up from levels that are historically quite low.

Senator CONROY —I might come back to you on that one. If official cash rates return to six per cent over the next 12 months, does Treasury think the budget growth forecast for housing will stand?

Dr O'Mara —I really cannot speculate on that, Senator. In principle, if interest rates go up, investment spending on housing could be expected to be weaker than otherwise, but beyond that I cannot speculate.

Senator CONROY —I understand you might not have seen the Deutsche report, but have you had a chance to examine the rationale behind those other reports and the ABS statistics you are quoting there? I do not think there is any point in my giving you the Deutsche report—I will happily table it and you can have a look at it—but have you had a chance to look behind those other analyses that you have mentioned?

Dr O'Mara —I think those analyses are simply making a very simple point that with average debt levels being higher then by definition any given increase in interest rates will have a larger absolute impact on interest payments. That is just simple arithmetic. I guess the point I am making is that any such increase would be coming from levels that are historically quite low and at a time when overall household financial positions more generally are sound. If you look at their overall assets, their net worth—

Senator CONROY —The aggregate figures.

Dr O'Mara —The aggregate figures for the household sector as a whole.

Senator CONROY —We had that discussion before about people who own the assets not necessarily being the people with the debt.

Dr O'Mara —Clearly around any average individual case—

Senator CONROY —In this particular case, I suspect this is one of those where that disbursement is probably larger than normal, in terms of your averaged figure. But it would seem to me to intuitively make sense—and please correct me if I am wrong—that the asset prices, and therefore the mortgages that have got to be gained to purchase, have outstripped wage growth and other factors over the last 10 years. Would that be a fair view?

Dr O'Mara —The only data on that that I am familiar with is something that the Reserve Bank presented just recently, where they have looked at house prices on average relative to real average weekly earnings. They have indicated that Australia wide that ratio has increased. In other words, I think the figures are something like: 10 years ago an average house might have been six times average weekly earnings annualised and now it is up to something like eight times. So I think they have made that—

Senator CONROY —That makes sense: all you have to do is look at a pay packet and look at the price of a house in some of the areas we are talking about. That intuitively seems right.

Dr O'Mara —Again, that is an Australia-wide average figure. They did not put the dispersion in it.

Senator CONROY —The dispersion is probably greater in some areas. I am sure there are asset price falls in some areas, like the Latrobe Valley in Melbourne, where you cannot give a house away, whereas 10 years ago it was quite a vibrant area, and it has gone through a lot of restructuring. There are going to be those pockets that drag the average down below what it would otherwise be. Intuitively that makes sense. Even though the average has only gone from six to eight, there are negative factors that are going to keep the figure of eight lower than otherwise. That would again seem to suggest—like the Deutsche Bank report—that the debt servicing, to borrow your phrase, or affordability, to use mine, is greater now than when interest rates were higher. You do not need as much of an interest rate increase to really bite. Intuitively does that seem reasonable?

Dr O'Mara —As I said earlier, if the absolute level of debt is higher then obviously any given increase in interest rates will boost interest payments by a larger amount. That is certainly true. It is true by arithmetic.

Senator CONROY —That is right; it seems to go that way. I was asking you to make a comment before about what would happen if interest rates went up. The general consensus of Treasury and the Reserve Bank is that there is upside risk. It is not a state secret that interest rates are likely to go up.

Dr O'Mara —I will not comment on that.

Senator CONROY —I think that is your forecast.

Dr Parkinson —There is no forecast of interest rates. You have been doing this for a very long time. You know that we do not talk about interest rates or exchange rates.

Senator CONROY —I was not asking you to speculate on how much they go up by. I was asking: if, as a lot of other people have said, they do go up, what would be the impact? I was not actually asking you to say that they were going up. I was just trying to have a discussion about what would be the likely impact if they do go up, without Treasury saying that interest rates were going up. I was not trying to catch Dr O'Mara out. I think he is possibly being unduly cautious. I will move on. Economic growth is also expected to be driven by continued strong consumption growth. Has consumption growth outstripped growth in disposable income?

Dr O'Mara —It depends what period you are looking at. Over recent years, consumption spending has been consistently quite strong.

Senator CONROY —Robust even.

Dr O'Mara —Robust if you want to use that word. It has occurred at a time of strong overall economic growth and at a time when incomes, therefore, by definition are rising, when real wages are going up, when household incomes are rising and households' overall financial positions have become very sound.

Senator CONROY —My next question goes again to that sort of dilemma we had a moment ago, and I am probably referring to the Reserve Bank Governor rather than a Treasury view. He seemed to believe interest rates would rise to a more neutral stance. This is the Reserve Bank Governor's position, not Treasury's. I am not asking you to either confirm or deny. If the Reserve Bank Governor is right, how do you think that would affect consumption growth? Is that the safe way to do it? Dr Henry is nodding.

Dr O'Mara —The answer is simple enough: if interest rates go up and all other factors are unchanged, it would probably have a moderating influence on household consumer spending.

Senator CONROY —Increasing wealth, due in large part to appreciating property prices, has also driven consumption, though. I can personally vouch for it, to give you one anecdotal piece of evidence.

Dr O'Mara —Household wealth has increased very strongly over the last five or six years ago above the long-term average rates. It is probably closer to 10 per cent compared with an average of five over the longer term, and it seems highly likely that that has had a positive impact on consumer spending over that period.

Senator CONROY —So if there were a correction in the property market, as many are predicting, would that have a negative impact on consumption growth?

Dr O'Mara —All other factors being equal, if the rate of growth of wealth were to be slower in the period ahead relative to long-term averages then that would possibly pull down consumer spending. But I do stress that all the other factors would have to be equal—we would need to think about employment growth, real wages et cetera.

Senator CONROY —You are qualifying yourself out of existence; it is all right, you are safe.

Dr Parkinson —It is probably also worth noting that a decline in income is likely to have a more significant impact on consumption than a decline in wealth. That is why Dr O'Mara keeps emphasising the fact that, while we are in a situation—

Senator CONROY —But both of them happen at the same time: the bubble has the impact, as well as declining income.

Dr Parkinson —No, not if employment growth and wage growth are occurring and the economy is growing quite strongly, as we are anticipating over the period ahead.

Senator CONROY —But there is not much of a fall in unemployment.

Dr Parkinson —No, but there is growth in employment.

Senator CONROY —Okay. Dr O'Mara, net exports are expected to detract from economic growth over the forecast period.

Dr O'Mara —That is what we have put into the forecast.

Senator CONROY —With the recent appreciation of the Australian dollar—and I know some people in Treasury would be happy about that—would Treasury expect net exports to further detract from economic growth?

Dr O'Mara —The net exports figure is really the impact of exports per se and imports, and our forecast does have exports growing reasonably solidly in the next financial year at about six per cent, which is significantly faster than we have seen over the past period, on the back of a recovering world economy. But we have also factored in very strong growth in imports over the next financial year, because so much of the growth that we are expecting to see next year will be the result of strong business investment—in plant and equipment, in particular, which tends to have a strong import component. So we have got exports rising solidly but imports rising a bit more quickly, to get the negative impact on overall net exports. But the recovery in export volumes is in part a reflection of the recovering world economy that we have factored in to the forecast.

Senator CONROY —Sure; but there has to be some impact from the rising dollar.

Dr O'Mara —In putting the forecast together we did what we always do with regard to the exchange rate: we assume that the exchange rate will remain around its average levels in the month or so prior to the forecast being prepared.

Senator CONROY —What was that level?

Dr O'Mara —We stated those figures in the budget papers. From memory it was around 53c against the US dollar and about 52c against the trade-weighted index.

Senator CONROY —So if the `57c dollar' that we currently have stays where it is now or keeps bobbing around and moving up a bit and down a bit, that would have to have an impact; it is a 4c increase and it would surely have to have an impact on our net exports.

Dr O'Mara —We would also need to look at the what the currency does against other currencies and the trade-weighted index. So far we have only had a very brief period and we have gone up more against the US dollar than we have against the trade-weighted index and against other currencies. We need to see how long these movements are sustained and what else changes at the same time.

Senator CONROY —Sure, but if all else is equal then there has to be an impact.

Dr O'Mara —If absolutely nothing else changes relative to what we have assumed—

Senator CONROY —That is a normal opening statement when you are among economist friends.

Dr O'Mara —Then it would be reasonable to think that export volumes could be affected to some degree by a higher exchange rate.

Senator CONROY —Do you think the assumption of 53c US or about 52c in the trade-weighted index is a conservative position?

Dr O'Mara —It is just a technical assumption. We did what we always do: we take the average in the month or so prior to the forecast being finalised.

Dr Parkinson —As we have discussed on other issues, we do not forecast the exchange rate.

Senator CONROY —We will get there later, but I do not want to slow us down because we are making good time. What would the appreciation of the currency mean for the economy more generally if it stayed where it is now, all other things being equal?

Dr O'Mara —In qualitative terms, we might see exports being a little lower than we have currently factored in and possibly imports being a touch higher to the extent that import prices are lower. We would probably see the inflation rate being a little lower than we are currently forecasting to the extent that lower import prices ultimately feed through to the CPI.

Senator CONROY —Treasury may recall that last Senate estimates we had a discussion about household debt, and we have covered that a little bit today. To briefly recap: Dr Parkinson agreed that, among other things, looking forward he would want to see some deceleration of the accumulation of debt. It has been almost four months since we spoke. Has there been any indication of a deceleration of debt accumulation?

Dr Parkinson —I have not looked at the numbers. I was not talking about the next three months. The view is very much the same view that the government put last week, which is that we do not have a problem with household debt at the moment but, were household debt to continue to increase rapidly over the next few years, we would begin to have some concerns about it. I am not worried about movement in one three-month period to another.

Senator CONROY —You would be looking at a medium-term strategy—a five-year strategy, Mr Comley—before you would think about it?

Dr Parkinson —If, over the next few years, household debt grows incredibly strongly then I concur with the comments that the governor made that you would begin to become concerned about it.

Senator CONROY —You did not mention medium term the last time we spoke.

Dr Parkinson —Touch[eacute]. But I have never given any hint that I am worried about quarter-to-quarter or month-to-month movements in any variable in any discussion we have had.

Senator CONROY —The Treasury budget papers claim that the household financial position remains sound—which I think you reiterated a moment ago—on the basis that, despite the rapid expansion in household debt, the debt-to-asset ratio has not increased by a significant amount and the debt servicing capacity or interest payments as a percentage of income have remained low. Is that a fair characterisation?

Dr O'Mara —That is what we said. Again, I draw to your attention the set of charts on page 3-15 of Budget Paper No. 1 where we set out those variables. Chart 7 looks at the household debt-to-asset ratio, and you can see that it has drifted up only very gradually from 35 to 36 per cent 10 years ago to around 40 per cent today. We have already commented on interest payments relative to household disposable income still being historically quite low.

Senator CONROY —As I have already alluded to and as we discussed last time, focusing purely on the debt-to-asset ratio argument can be misleading because those who owe the debts do not necessarily own the assets and debt is fixed in value but the prices of shares and properties are not. Do you have any new thoughts on that?

Dr O'Mara —They both sound like perfectly reasonable comments to me but, unfortunately, we do not have any data to do that disaggregation.

Senator CONROY —Then do you think perhaps that you are too sanguine about it? Given that you think it is a reasonable proposition, aren't you being conservative in that you assert yet again but also accept that these are reasonable arguments I am putting forward?

Dr O'Mara —Yes.

Senator CONROY —You have restated that position in the budget.

Dr Parkinson —In the budget we stated that, while household debt ratios are not a cause for concern in the near term, sustained further increases in debt to income ratios would increase sensitivity to interest rates and asset price movements. The bank, in its quarterly statement, said that a continuation of this trend in household debt clearly carries the risk of households at some point—

Senator CONROY —You are a mind[hyphen]reader, Dr Parkinson.

Dr Parkinson —becoming overstretched. If you look at chart 6 on page 3[hyphen]15 of the budget papers, you can see Australia's performance, in terms of household debt, as a per cent of disposable income vis-a-vis other developed economies. The striking thing is that we have come from such a low level, and that is really a consequence of the financial deregulation. One of the interesting things is that, if you look at the very slow growth in household debt as a share of disposable income, it sort of fits with your prize: that the business sector got most of the benefits of financial market deregulation in the 1980s. It is really only in the 1990s that households—

Senator CONROY —Have got to indebt themselves.

Dr Parkinson —have begun to get the benefits. The interesting thing is now that our ratio is broadly comparable to that in a range of other countries. But clearly, looking at that trend, were that trend to continue, you would get quite concerned over the next couple of years.

Senator CONROY —To a degree, you have read my mind; you have anticipated a couple of my next questions. We are talking about the debt servicing ratio now though, not just what is going to happen in another few years.

Dr Parkinson —Yes.

Senator CONROY —That is through no fault other than that we have not really collected or disaggregated these sorts of figures. So it is no[hyphen]one's fault that we are not able to look at who has the debt and who has the assets.

Dr Parkinson —It is a shortcoming in some of these statistics.

Senator CONROY —We can take it to the ABS and ask them whether they are able to do a disaggregation for us. I think that would give an invaluable insight into whether or not we can wrap it up to you and say, `No, we shouldn't really worry because of that issue.' You agreed last time that focusing on the balance sheet could be misleading, and you said that was why it was important to look at people's ability to service the debt.

Dr Parkinson —Yes. I think it is very important to look at both the balance sheet and household debt to disposable income, because some people will be more liquidity constrained; that is, impacts will bite earlier for some than for others.

Senator CONROY —Believe me, that is true.

Dr Parkinson —That sounds like a personal reflection.

Senator CONROY —It is. At the moment I break into a cold sweat each month.

Dr Parkinson —That explains a lot.

Senator CONROY —Is it not the case that debt servicing remains low because interest rates are below what the RBA considers to be a neutral rate? Again, I am not asking you to comment on what Treasury thinks but in terms of the RBA saying that rates need to go up to be neutral.

Dr Parkinson —It is a logical corollary that, if income does not change and interest rates go up, debt servicing costs increase. The question is what is the interaction between the growth in household disposable income and interest rate increases, and there I do not have any numbers in my head. Clearly, what you would be expecting is that there would be a rise—

Senator CONROY —And that would be a worry. You are saying, `At the moment, it's okay—it's low.' I am not trying to put words in your mouth, but the logical flow of what you are saying is that you are beginning to pay more attention to it.

Dr Parkinson —Yes, absolutely. I would not disagree at all. But let us not focus on changes at the expense of levels: we have seen two interest rate increases, but interest rates—cash rates—are still historically low.

Senator CONROY —I appreciate that, but the level of debt is also an issue here. `Level' goes both ways.

Dr Parkinson —Absolutely, but if you think about what happened—people have forgotten about September 11—that is why there were additional interest rate reductions in the economy.

Senator CONROY —Increases.

Dr Parkinson —Reductions. From last year. We were in a situation where there was a very real risk of a global recession. Central banks around the world actually did what they should do.

Senator CONROY —I mentioned to Dr O'Mara before about the Deutsche Bank report—modelling done by Deutsche Bank on household debt—which says:

Based on current levels of household income and debt, the modelling indicates that a two per cent rise in official interest rates could increase interest repayments as a percentage of income to a level higher than experienced in at least the last 15 years.

Dr Parkinson —I have not seen that. I would have to look at that piece of work.

Senator CONROY —Dr O'Mara, is that consistent with other studies you have seen?

Dr O'Mara —Not so much the precise numbers. The notion that the ratio would rise is certainly something that many people have commented on. Those numbers look too high to me.

Dr Parkinson —Yes, they do seem way too high.

Dr Henry —It does not seem right. It seems to be abstracting from the late 1980s for a start.

Senator CONROY —Could either Dr Parkinson or Dr O'Mara take it on notice to give us a response and a critique to the Deutsche Bank report. I am sure that would be valuable to the committee.

Dr Parkinson —We will take the question on notice, yes.

Senator CONROY —I am finished.

CHAIR —Senator Conroy, have you finished with output 1 and output 2?

Senator CONROY —No, there is still a bit of output 2, because Senator Sherry has questions on the Intergenerational Report.

CHAIR —Have you finished with these officers?

Senator CONROY —No, we still have AOFM, so I think Dr Parkinson is stuck for the night. Thank you to Dr Henry and Mr Comley.