With the budget looming, I thought it would be interesting to provide a graphical tour of how Australia’s general government footprint compares to that of our peers in the OECD.
L ots of charts follow below, but the key points are:
- By OECD standards the Australian general government sector has a relatively modest footprint. Both revenues and expenditures as a share of GDP are well below the OECD average. Spending per capita is also (just) below the average for OECD economies.
- As a share of GDP, Australia spends significantly less than the OECD average on social protection, largely reflecting much lower spending on old age-related cash payments. We also spend less on general public services and economic affairs.
- Expenditures on health and education, and on security and public order as a share of GDP are above the OECD average.
- Our government spending on investment is also higher than the OECD average.
- Relative to other OECD member economies, Australian government revenues are heavily reliant on income and company taxes. Australia’s statutory corporate income tax rate is one of the highest in the OECD1 and our top rate of income tax is also above the OECD average. But the net average personal tax rate and the tax wedge are both below the OECD average2.
- In contrast, Australian government revenues are much less reliant on taxes on the consumption of goods and services. Australia’s standard rate of value added tax is one of the lowest in the OECD.
- Australia has one of the lowest ratios of gross government debt to GDP across the OECD. Net interest payments as a share of GDP are also below the OECD average.
- As of 2017, Australia was one of only eight OECD economies to have positive net financial worth.
General government expenditure
Total general government expenditure3 relative to GDP is a decent measure of the overall size of government. On this basis, Australia has one of the smaller government sectors across the OECD, with only six member economies recording a lower share of spending relative to output in 2017:
Relative to the level of our GDP per capita (a rough measure of our relative wealth and of our relative development, here reported on purchasing power parity or PPP basis), Australian government expenditure as a share of GDP looks to be roughly in line or slightly below where we might expect it to be:
In terms of spending per capita (again measured in PPP dollars), Australia’s level of government expenditure is just below the OECD average:
And once more, this seems to be broadly in line (or slightly below) what would be suggested by the level of our GDP per capita:
Breaking down government spending by key functions indicates that one significant contributor to Australia’s lower overall share of government spending in GDP is our much lower spending on social protection (which covers spending on sickness and disability, old age, and unemployment, among other items) relative to other OECD economies:
That in turn largely reflects relatively low expenditures on old age-related cash payments, due to the impact of Australia’s superannuation system.
Australia also spends less than the OECD average on general public services (which includes but is not limited to spending on the executive and the legislature, foreign affairs, and research) and on economic affairs (spending associated with industry, transport and communications, and related matters).
In contrast, we spend more than the OECD average on health and education:
And more than average on defence and public order:
Australia’s general government spending on investment as a share of GDP is also above the OECD average:
General government revenues
Unsurprisingly, given the fact that total general government expenditure as a share of GDP is relatively low compared to our OECD peers, total general government revenue as a share of GDP – the broadest measure of the overall government tax take4 – is also relatively low by OECD standards, with only five member economies reporting a smaller share in 2017:
Regarding the sources of those revenues, Australia is unusually reliant on taxes on personal income and corporate profits relative to other OECD economies:
Australia’s statutory rate of corporate income tax rate is now one of the highest in the OECD.
The headline company tax rate faced by businesses doesn’t necessarily do a great job of capturing the tax rates companies face in practice5. That’s because it doesn’t take into account a whole range of policies that can alter the actual tax levied - for example, by changing the size of the tax base to which the statutory rate will be applied. One important example of this is the tax treatment of depreciation and in an attempt to take this into account, the OECD constructs forward-looking6 effective tax rates (ETRs) that take into account the impact of asset-specific fiscal deprecation rules and allowances for corporate equity (ACE), as well as the statutory rate7. These adjustments show that the presence of accelerated depreciation, for example, means that that ETRs in countries like the United States and Belgium are significantly lower than the statutory rate, while in Australia the reverse is true.8,9
The OECD reports two kinds of ETR. The Effective Average Tax Rate (EATR) reflects the average tax contribution a firm makes on an investment project earning above-zero economic profits10. EATRs are likely to be relevant to investments decisions involving choices between new projects. Australia has a high EATR by OECD standards:
The Effective Marginal Tax Rate (EMTR) measures the extent to which taxation increases the cost of capital. It corresponds to the case of a marginal project that delivers just enough profit to break even, but economic profit above that. EMTRs measure the extent to which taxation increases the pre-tax rate of return required by investors to break even on existing investments11. Australia is even closer to the top of the OECD tax league on this basis:
Another important complication here, however, is that Australia operates a dividend imputation system, one of only a handful of OECD economies to still do so12. That makes simple comparisons of statutory corporate tax rates problematic where Australia is concerned, since the ‘true’ tax rate faced by resident investors on domestic profits is determined by individual income tax rates and the capital gains tax. On this basis, if we look at the overall taxation of corporate income – that is, at taxes paid both at the corporate level and then subsequently by shareholders – then measures of the statutory level of overall taxation of company income that is distributed as dividends indicate that Australia is not as much of an outlier as the comparison of statutory rates might suggest13. Note, however, that this last point does not apply to foreign investors in Australia14.
Along with a high reliance on corporate income tax receipts, Australia is also relatively dependent on personal income tax compared to its OECD peers15. One useful measure of the taxes paid on labour income is the net personal average tax rate (NPATR) of a worker. This is equal to the total of personal income taxes paid plus social security contributions minus any cash transfers from the state16. Since both the amount of tax paid and the cash transfers received will vary according to family composition, working situation and income level, there will be a range of NPATRs across individuals and families. The chart below shows the NPATR for a single person earning average earnings. Across the OECD, the average single worker had a NPATR of 25.5 per cent in 2017, with the rate varying from Belgium (40.5 per cent) to Chile (seven per cent). In Australia the NPATR was 24.4 per cent, so a little below the OECD average.
Another important metric is the extent to which tax rates influence the overall cost of hiring labour – which requires accounting for not only the taxes paid by workers themselves, but also the additional payments employers make (typically, payroll taxes and employer social security contributions). The tax wedge is defined as the sum of personal income tax, employee and employer social security contributions plus payroll taxes, less any benefits received by the employee, expressed as a share of total labour costs17. As with NPATR, the tax wedge will vary with family composition, working situation and income level, and again the chart here focuses on the tax wedge for a single person on average earnings. On that basis, the average tax wedge across the OECD in 2017 was 35.9 per cent. Australia’s tax wedge was some distance below that at 28.6 per cent.
We can also compare top rates of personal income tax across the OECD. Here Australia was above the OECD average as of 2017 although we were not one of the top taxing member economies.
In contrast to Australia’s relatively heavy reliance on income and company tax compared to our OECD peers, government revenues are relatively less reliant on taxes on the consumption of goods and services (mainly comprising value added taxes (VAT) like the GST but also including sales taxes).
The standard rate of VAT in Australia (the 10 per cent GST rate) is also much lower than the OECD average VAT rate (19.3 per cent) as of 2018:
The OECD also calculates a VAT revenue ratio (VRR) to assess the potential tax base for VAT.18 In theory, the closer a country’s VAT system is to a ‘pure’ VAT, the closer its VRR will be to a value of 1, indicating a tax regime applying uniformly to a broad base and benefitting from effective tax collection. In 2016, the average VRR across the OECD was 0.56, with Australia sitting below that with a VRR of 0.5.
The final set of international comparisons in this tour across OECD government finances is the level of government indebtedness and government net worth.
Australia’s general government gross debt as a share of GDP is currently one of the lowest in the OECD and well below the OECD average:
That low debt burden is reflected in a share of net interest spending relative to GDP that is also low by OECD standards:
A broader measure of a government’s financial health is provided by estimates of financial net worth. This captures both side of the government balance sheet by measuring the total value of a government’s financial assets less its liabilities.19 In line with our relatively low level of government debt, Australia was one of only eight OECD economies to have a positive net financial worth in 2017.20
1 But note that this comparison does not account for the significant impact of dividend imputation.
2 Calculated for a single person on average earnings.
3 The OECD defines the general government sector as comprising central, state and local governments, plus all non-market non-profit institutions (NPIs) that are controlled by government units, plus social security funds. It does not include public corporations or quasi-corporations.
4 Government revenues across the OECD are dominated by tax revenues and social security contributions.
5 The following section is based on pp16 – 22 in OECD Corporate Tax Statistics 2019, available here.
6 Forward-looking ETRs are based on information about tax rates and tax allowances and are based on theoretical future payments. Backward-looking ETRs are calculated by dividing actual tax payments by profits earned for a given historical period.
7 Economic depreciation refers to the decrease in the value of a productive value of an asset over time. Tax codes typically provide capital allowances to reflect this fall in value in the calculation of taxable profits. Fiscal deprecation equals economic deprecation when those capital allowances match the decline in the asset’s value arising from its use in production. If capital allowances are more generous, fiscal depreciation is said to be accelerated. If they do not cover the full effects of economic depreciation, then fiscal depreciation is said to be decelerated. Assets covered in the OECD’s ETRs include buildings, machinery, inventories and intangibles (acquired patents or trademarks). An ACE provides an additional allowance equal to a return calculated on the equity invested in the business, which parallels the deduction allowed for interest paid on debt capital.
8 Note that unlike the statutory tax rates reported earlier, which reflect tax legislation as of 2018, the ETRs reflect tax rules as of 1 July 2017, and so do not include the impact of the US Tax Cuts and Job Act, which only entered force in 2018. The OECD notes that other studies applying similar methodologies find that the Act produced a significant reduction in US ETRs.
9 As well as drawing on information on corporate tax rates and bases, the OECD’s forward-looking ETRs also rely on assumptions about future interest rates and inflation. The OECD constructs three sets of ETRs based on three different scenarios: a low interest and inflation scenario based on a three per cent real interest rate and one per cent inflation; a high interest rate and inflation scenario and a third scenario based on country-specific parameters. The data reported in the charts below are based on the low interest rate and inflation scenario.
10 Economic profits are the difference between total revenue and total economic costs, where the latter include both explicit costs in the production of goods and services as well as opportunity costs such as foregone revenue.
11 Note that if investments are debt-financed, it is possible for the EMTR to be negative if the tax system through interest deductibility reduces the pre-tax breakeven return. This is the case for markets like Belgium and Italy, where debt finance is combined with relatively generous tax deprecation rules.
12 Dividend imputation is designed to eliminate the double taxation involved in company tax and personal dividend payments for Australian residents by providing a franking credit whereby tax paid by companies becomes a credit for personal income tax for Australian resident shareholders. In which case corporate tax payments are effectively just pre-payments of personal tax obligations and – for Australian residents and domestic profits – the corporation tax basically becomes a withholding tax.
13 The data shown here are based on the highest marginal tax rate. If the comparison used an ‘average investor’ tax rate, then the role of superannuation funds and charitable foundations might see Australia’s relative rate move further down the rankings. See here.
14 There is a literature looking at whether a ‘closed economy’ or an ‘open economy’ model is more appropriate when considering the importance of dividend imputation vs. the headline corporate tax rate on investment incentives. There is also a related debate over to what extent businesses ‘look through’ corporate tax rates to consider overall tax consequences for their shareholders when making decisions.
15 The following draws on the OECD publication Taxing Wages 2018.
16 A worker’s net disposable income is then made up of the remainder of their wages after deductions for tax and social security, plus any cash payments from the state.
17 Alternatively, the tax wedge is equivalent to the difference between the employer’s cost of hiring a worker and the worker’s net disposable income, expressed as a share of labour costs
18 The VRR measures the difference between the VAT revenue collected and the revenue that could theoretically be raised if VAT was applied at the standard rate to the entire potential tax base and all revenue was collected: it therefore combines the impact on revenues of exemptions and reduced rates, as well as fraud, evasion and tax planning. Formally, the VRR is equal to actual VAT revenues divided by Final Consumption Expenditure less VAT revenues, multiplied by the standard VAT rate. See the OECD’s Consumption Tax Trends 2018.
19 The IMF has recently done work looking at broader measures of net worth that also try to consider (1) unfunded pension liabilities and (2) non-financial assets. Australia ranks well on these indicators, too. See here.
20 Only seven of these are depicted in the chart. Norway, with a net financial worth of about 308 per cent of GDP in 2017, is not shown.
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