The Productivity Commission’s (PC) latest report, entitled Shifting the Dial: 5 year productivity review, contains a section analysing the vertical fiscal imbalances (VFI) dogging the federation, while advocating giving the states greater power to raise revenue for the provision of government services instead of being so reliant on the federal government for funding:
The States and Territories’ reliance on the Commonwealth for revenue (45 per cent of income in 2015-16) and major areas of shared responsibility create serious points of tension between the levels of government (Supporting Paper 14 (SP 14))…
The scope for government inefficiency and blurred accountability for programs is significant given the heavy reliance by other levels of government on the Commonwealth for funding, with the latter raising 80 per cent of total tax revenue in Australia…
In 2015-16, the States and Territories collectively raised only 55 per cent of their total revenue — by jurisdiction this ranged from just over 30 per cent for the Northern Territory to close to 70 per cent for Western Australia. Of the funding provided to the States and Territories by the Commonwealth in 2015-16, 46 per cent was tied funding (specific purpose payments (SPPs) for health, education, housing and other expenditure) and the remainder was nearly all redistributed as untied payments funded by GST revenue collected by the Commonwealth on behalf of the States…
Health and education account for about two-thirds of all funding for SPPs. National Partnership Payments accounted for just over a quarter (26 per cent) of SPP funding. While the level of untied grants increased with the introduction of the GST, tied grants have increased as a proportion of the States and Territories’ funding, and for this portion of funded activity, outcomes are conditional on the actions of both tiers of government…
States and Territories’ heavy reliance on grants also creates uncertainty for budgeting and planning as grants can be unilaterally reduced to meet the changing priorities of the Commonwealth (natural disaster funding being one example)…
The PC’s report is backed-up by the 121-page discussion (green) paper on reforming Australia’s federation, released in 2015, which highlighted that the Commonwealth raises 82% of total tax revenue, the states and territories 15%, and local government just 3%.
The states and local governments, therefore, are left heavily reliant on Commonwealth funding, as illustrated in the next chart:
And the situation is most apparent in the key areas of health, housing and education, where the Commonwealth provides significant funding shares:
While commentators often get hung-up on whether to raise the GST or other miniature, in my view, the over-riding key to a successful federation rests on eliminating waste and duplication across the various levels of government, along with fixing the VFIs embedded in the current federal system.
When everyone is responsible, no one is responsible, and the shared responsibilities across education, health and other areas creates incentives for buck passing, cost shifting, and lack of accountability, not to mention the inefficient use of resources via excessive duplication between the various levels of government (e.g. state and federal health departments and agencies).
Therefore, ending such duplication is a worthy goal and could potentially deliver billions of dollars of benefits to taxpayers and the economy, by slashing costs as well as delivering more efficient and accountable outcomes.
In order to do so, however, VFIs – whereby the states’ responsibilities are well in excess of their revenue bases – must be reduced.
Ultimately, a better functioning federation is about having clearly delineated responsibilities, along with revenue sources that are commensurate with their level of responsibility.
Let’s hope this PC report can get reform of VFIs going.
