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Australia's AAA Rating Is Back Under the Microscope

  • Government seeks to differentiate between good and bad debt
  • Australia is only AAA nation to increase debt in past 3 years

Australia’s AAA rating is again under the microscope as the government prepares to deliver a budget Tuesday that appears long on spending pledges and short on savings.

Of the 10 holders of the top score from the three main rating companies, Australia is the only one that’s increased its debt pile in the past three years. S&P Global Ratings put Australia on negative outlook in July following a knife-edge election that saw the government scrape together a lower house majority. The ratings company said pushing through savings would likely prove difficult and despite some successes, that’s largely been the case.

“We do look more vulnerable compared to the other countries with a AAA,” said
David Goodman, executive director of strategy at Westpac Banking Corp. “The
balance of risks are definitely tilted to the downside.”

Australia’s struggle to balance its books has been complicated by recession-level wage increases and weaker growth as the economy adjusts to the end of a mining investment boom. On the plus side, a spike in commodity prices this fiscal year should boost the corporate tax take. Moreover, a synchronized upswing in global growth is likely to favor Australia, particularly if key trading partner China’s economy keeps powering along.

Economists predict a A$28 billion ($20.7 billion) budget deficit in the year through June 2018, about A$700 million less than the government forecast in its December update. The government is set to project a return to surplus in the 2020-21 fiscal year, Sky News reported.

Treasurer Scott Morrison has sought to alter the budget dynamics this year by distinguishing between good debt -- used to fund spending on infrastructure that generates income or increases productivity -- and bad debt -- used to plug revenue shortfalls to pay for items like welfare and health. What remains to be seen is whether rating companies dismiss the differentiation and simply look at the increased overall liabilities.

Still, not everyone is convinced a AAA downgrade is imminent.

“The critical point is that the government’s increased spending, both ‘on budget’ and ‘off budget,’ will not be so large to threaten a projected return to surplus,” said Cherelle Murphy, a senior economist at Australia & New Zealand Banking Group Ltd. “Debt will remain serviceable. Critically, the improvement in Australia’s external position acts as an offset to a modest deterioration in the fiscal position.”

While the government has set out a range of spending measures -- from efforts to boost housing affordability to a variety of infrastructure projects -- the main savings measure is a cut in funding arrangements for universities.

“S&P are looking for savings measures,” said Westpac’s Goodman. “We still think a downgrade is more likely than not.”

— With assistance by Benjamin Purvis

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