Flat White

Our broken federation and its broken GST

16 October 2018

2:42 PM

16 October 2018

2:42 PM

The reignited debate about the distribution of GST revenue this month highlights some of the worst aspects of Australia’s damaged federation.

Federal Treasurer Josh Frydenberg today capitulated to demands from the states that the federal government guarantee in writing that GST reform will not result in any state being ‘worse off’. The federal government’s changes proposed in July involve marginal changes to the complex horizontal fiscal equalisation formula and the introduction of a ‘relativity floor’ to ensure a state’s share of the GST pool does not drop below 75 cents relative to its share of the national population.

In other words, if Western Australia experiences another boom a decade from now, the state will stand to lose only one or two billion dollars each year compared to what it actually generates, in contrast to the $4 billion in revenue it has lost to other states and territories in recent years. This has been reported as a big ‘win’ for the West according to its supporters (or ‘pork barrelling’ according to critics).

But even so, WA’s increased share will not come from other states: the federal government will provide a series of funding top-ups over a number of years of about $9 billion to ensure that no state’s share of the GST pool is lower because of the changes. The debate this week has centred on whether this guarantee will be entrenched in the legislation governing GST redistribution.

This highlights how the GST exacerbates the worst habits of the state governments. Under the neo-Marxist model of distributing from each state according to its ability to each state according to its need, the states are incentivised to maximise their share of the GST pool. Perennial beneficiaries such as Tasmania and South Australia have banded together with the eastern states to lobby the federal government to ensure they will not be “worse off”.

In reality, the only people that will be worse off are taxpayers. But the states are no longer responsible to taxpayers in a substantive way. Under the crippling phenomenon known as vertical fiscal imbalance, the states collect little revenue through taxation but have limitless spending demands – and limitless expectations that the federal government will fund those demands.

The federal government has used GST redistribution to mollify claimant states like Tasmania and South Australia and to use revenue generated in the states to offset its own fiscal obligations in the Northern Territory and the ACT. According to research by the Institute of Public Affairs in April, over $104 billion has been transferred from New South Wales, Western Australia, and Victoria to the other states and territories since the GST was introduced in 2000.

The government has at least partially acknowledged a key problem with the GST: the reality that WA was receiving only 33 cents to the dollar relative to its share of the national population. But the new relativity floor is entirely arbitrary: there is no rational basis for saying that receiving 80 cents is fine but 74 cents is wrong.

Actual reform of the GST would challenge the premises of fiscal equalisation. As long as the current framework remains in place, states will be discouraged from pursuing pro-growth policy reform. States that bear the political cost of promoting contentious reforms will not always see the benefits in terms of state government revenue as long as equalisation is in place to transfer tax revenue to states that “need” it more.

By rewarding smaller jurisdictions to forego revenue from their own initiatives, equalisation perversely makes those states more reliant on other jurisdictions. A state like Tasmania, which receives over 40 per cent of its state revenue from GST payments, is particularly sensitive to this.

The centralised GST system compounds the problem of lost autonomy. In a properly functioning federation, a state is able to levy its own taxes and determine which rate applies in that jurisdiction (or whether there needs to be a tax at all). Jurisdictional competition challenges the states to discover the best range of policies to attract business and individuals to operate in their jurisdiction.

As West Australians have learned for several years now, the doctrine of fiscal redistribution is hardly fair. All states should reject arbitrary payment floors – the only fair policy is to let the states keep the taxes they raise.

Morgan Begg is executive director at the Samuel Griffith Society.

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