Treasurer Joe Hockey’s welcome call for a debate on healthcare and the aged pension last week raises the possibility of some real reform in our biggest areas of government expenditure, if this government has the stomach for genuinely controversial expenditure cuts.

The only problem is, the story Hockey offers of Australia “running out of money” to pay for runaway health, welfare and education costs is more complicated than he suggested:

“If our health and welfare and education systems stay exactly the same, Australia is going to run out of money to pay for them, and we’re either going to have a massive increase in taxes — and that means fewer jobs at the end of the day — or we’re going to have to look at ways we can restructure the system to make it sustainable.”

Let’s look first at Medicare, which Hockey told Sunrise is going to increase from $65 billion a year to $75 billion a year. At least, that’s what he said, but when the transcript of that interview was issued by his office, staffers had added the explanatory phrase “[and other Federal Government health expenditure]”, because Medicare in fact is only $19 billion this year (it seems the only one to pick up Hockey’s clarification was the Parliamentary Library). However, the Treasurer’s broader point is correct — overall health expenditure, including both that in the Health portfolio and elsewhere in the budget, will grow from $65 billion to $75 billion over the current forward estimates period.

But to put that in some context, during that period, Commonwealth tax revenues, even under the politically downgraded Mid Year Economic and Fiscal Outlook estimates that I suspect will be reversed in the budget to make Hockey look better, tax revenue will grow from around $343 billion to $410 billion.

And if you dig into the numbers a bit, the picture becomes more complicated. Medicare by itself, for example, has indeed grown strongly in recent years. It’s now around two-and-a-half times as big in nominal terms than it was in 2001-02, and has grown from just over 4% of all Commonwealth taxation revenue taxation revenue to around 5.6% of tax revenue. But — contrary to Labor’s insistence that Tony Abbott gutted health funding while minister — it grew most strongly in the period under the Howard government, not Labor; it grew by an average of more than 9% a year in nominal terms under Howard, and only around 5.5% a year under Rudd and Gillard. But here’s where Hockey is right to be concerned: Labor’s final budget forecast Medicare to grow by around 8% over the next four years — that is, it would accelerate back to around the same growth level as under Howard.

The next big healthcare item (other than hospital payments to the states) is the Pharmaceutical Benefits Scheme, which will cost around $10 billion this year. That shows a similar growth pattern to Medicare: it surged under Howard, growing nearly 8% a year on average in nominal terms, then growth fell back to under 5% a year under Labor as that government assiduously applied itself to screwing down drug prices. And unlike Medicare, PBS payments are forecast to remain at their current level of growth for the next four years.

Then there’s private health insurance, which, following Labor’s changes to means testing, will cost $4.9 billion this year. For anyone who wants to cut health spending, the private health insurance rebate is one of the successes of Labor’s time in office; it is forecast to grow just 2% pa in nominal terms over the next four years, below inflation. That’s in contrast to the staggering 11% pa it grew at in the Howard years and the 4% pa under Labor. But alas it is Coalition policy to remove Labor’s means testing, meaning instead of reducing health spending, in this area Hockey will be aiming to return to the days of rapid growth, when spending doubled between 2001 and 2008.

“So the initial policy challenge for Hockey is to derail Coalition policies that will make Commonwealth expenditure rise faster.”

Part of the challenge of healthcare spending isn’t just the impact on the budget, it’s the wider economic impact. Health and social care is already the single biggest employer of Australians and the sector will continue to need more workers in decades to come — already the Commonwealth spends over $1 billion a year simply to get people to train to become doctors and nurses in an effort to ensure we have the workforce skills needed for an ageing population.

On welfare spending, the aged pension is the king of government programs, far ahead of anything else. The pension will cost $39 billion this year; the only comparable expenditure is the amount of revenue we lose from superannuation tax concessions, estimated by Treasury at over $27 billion.  The pension isn’t much affected by who’s in government — it has grown about 7% pa in nominal terms for over a decade and will grow at that rate over coming years; it is now over 11% of all tax revenue. Even Kevin Rudd’s decision to increase pensions — strongly supported by the Coalition, which began campaigning on the issue under Brendan Nelson — didn’t have much impact.

Yesterday in Crikey, Leith van Onselen covered off the kind of changes that would be needed to make a serious dent on the cost of the aged pension in a time of increasing life expectancy. Again, however, Coalition policy will undermine that long-term goal: its efforts to reverse Future of Financial Advice legislation will cost consumers $130 billion in lost retirement savings (transferred to the big banks and financial planners), at least part of which will need to be made up via the aged pension by future budgets.

However, there’s another major expense related to an ageing population: aged care, and particularly residential aged care, which will cost over $8 billion this year and which has been growing rapidly — averaging around 8% a year in nominal terms — for over a decade, no matter who is in government. That growth will taper slightly over the next four years but will still reach $10 billion in 2016. There does appear to be a relatively bipartisan position on trying to reduce aged care costs while improving the quality of care and incentives for the private sector to invest in it. The effort to reduce costs is focused on recommendations from the Productivity Commission aimed at keeping the aged in the community longer and encouraging greater flexibility in allowing people to tap into the value of the homes to fund aged care costs without having to sell.

In education, Commonwealth funding to non-government schools will cost nearly $9 billion this year, compared to $4.8 billion for government schools. Under the Howard government, non-government school funding grew at over 10% per year in nominal terms, while government school funding grew by an average of 7.6% pa (funding under Labor is confused by the schools stimulus program). Under the Gonski funding reforms established by Labor, private school funding will grow by 7% over the next four years while government school funding will grow by 11%, but the Coalition has signalled it wants to abandon the Gonski formula and return to the socio-economic status formula that drove strong growth of non-government school funding.

So the initial policy challenge for Hockey is to derail Coalition policies that will make Commonwealth expenditure rise faster. After that, he can get on with the job of further slowing health and welfare spending. If he can manage that, he’ll have a proud place in our rather small pantheon of reformist treasurers.

Peter Fray

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