Monster of debt to come

The spirit of Fabius Maximus seems to have taken hold of Kevin Rudd, who thinks that the way to economic salvation is to have a bigger government in every nook and cranny of our lives.

The conventional way to measure the size of government is to look at the share of spending as a share of gross domestic product. In the lead-up to the previous federal election, commonwealth expenditure was 24 per cent of GDP. The spending share stayed that way until the middle of last year.

But take a look at the latest budget estimates and the Treasury's economic growth projections, and a different and worrying picture emerges.

The Rudd Government's policy decisions are projected to spur a jump in general government size to 28 per cent of GDP this financial year, rising to 29 per cent by 2011-12.

As disturbing as the spending momentum looks on paper, a shortcoming with this indicator is that it is susceptible to changes in national output over time. Another, and arguably more effective, measure is to look at the Government's projected spending growth.

During the Howard-Costello era, expenditure rose by an average of 5.8 per cent a year. This was a considerably lower rate of spending growth than the 8 per cent of its Hawke-Keating predecessor.

When the Rudd Government came on the scene in November 2007, the trend towards slowing spending growth was sharply reversed. Despite promising to take the meat-axe to the public sector, the Government increased spending in its first year by 6.8 per cent. This is projected to increase to 7.3 per cent by 2011-12.

When taking into account expected inflation and population growth, the Rudd spending growth forecasts are equally dramatic. Under the Howard-Costello government, real per capita spending grew by 1.9 per cent. In its efforts to break off Australia's supposed neo-liberal shackles, the Rudd Government will increase spending on a real per capita basis to 4.1 per cent in four years.

These estimates are conservative, as they do not take into account future asset acquisitions by the Government or the multibillion-dollar black holes of tax expenditures and other off-budget boondoggles. Since the previous budget, the Government has racked up almost $1 trillion, or close to 100 per cent of GDP, in contingent liabilities based on deposits, loans and state borrowing guarantees.

In other words, we have a bigger government monster on our hands than even the official figures reveal.

Simple spending measures also do not fully reflect the impact of prescriptive regulations on the economy.

With labour market re-regulation, new controls over the financial sector and a "turn off the lights" greenhouse gas emissions scheme, we know that the Government is looking to aggressively expand the scope of its activities.

The objections to the responses by the Rudd Government to the financial turmoil and economic slowdown are numerous. The temporary nature of the Rudd cash handouts has been shown to encourage savings and not the splurge in consumption originally anticipated. Adding licks of paint to school buildings and installing pink batts in homes is unlikely to spark Australia's economic recovery.

The descent into fiscal deficits and spiralling public debt means that present and future taxpayers will be forced to endure higher taxes. Deposit guarantees for the financial sector and bailouts for selected industries have distorted the economy, creating a slippery slope for even more ham-fisted government tinkering with markets.

What has been left out of the debate so far is the impact of these policies on the size of government and what that can do to long-term economic performance.

Decades of economic research shows that when government becomes too large, further increases in spending hinder economic growth and productivity. In 2005 American economist Dan Mitchell compiled a large survey of studies all pointing to that conclusion.

There are a number of ways in which more government harms the economy. More spending means more taxes, which distorts incentives for people to work, save and invest to keep the economy growing.

One more dollar of tax raised means one less dollar kept by the productive private sector, with the deadweight efficiency costs and administrative burdens of taxes on top of that.

When governments borrow, particularly when credit markets are tight, they put upward pressure on interest rates and crowd out pro-growth private activities.

Government spending choices in themselves often impede growth and productive activity. Funding bureaucracies that impose excessive regulations can harm investors and consumers alike.

Subsidies to the unemployed and pensioners, or for education, health and housing programs, can distort market choices and destroy private savings as well as, in some cases, incentives to work.

As the global experience of privatisation shows, continued government provision of goods and services is typically less efficient and more costly than private sector alternatives. This also acts as a drag on efficiency and growth in the economy.

The best evidence we have suggests that expanding the size and scope of the state will damage our economic performance in the long term.

Unfortunately, it is evidence that the Government seems determined to ignore.