Legacy of debt for our children
the victorian government is on a debt binge, leaving an unwanted legacy for future generations. by david orford.
The growth in the Victorian Government’s debt is not helping families.
It is an ongoing truth that we want to leave a positive legacy for our children.
However, for Victorians, the Government’s debt is our debt. To the extent that we don’t pay off debt that the Victorian Government borrows on our behalf, our children will pay the interest and repayments on that debt. So will their children and their children.
Debt is not a legacy that most of us want to leave to our children.
Rishi Sunak, the current UK Prime Minister, was swift to recognise that the likely legacy for future generations of UK citizens will not be assets, but mountains of debt: "The government I lead will not leave the next generation, your children and grandchildren, with a debt to settle that we were too weak to pay ourselves."
The Labor debt binge continues
The Victorian Labor Government is on a debt binge, with net debt forecast by Labor to increase nearly nine times since it came to office in December 2014 ($21.8B), to reach $187.8B in FY28 (Ref 1). Labor’s net debt increase greatly exceeds the growth in economic activity, measured by Victoria’s Gross State Product (or GSP), with the ratio net debt/ GSP increasing by over four times from 5.8% in FY14 to 25.1% in FY28 (Ref 2).
Whilst the benefits of the debt supported stimulus during COVID were arguable, Victoria paid the price with the state’s S&P credit rating being downgraded in December 2020 to AA, from the coveted AAA (Ref 3). Of note is that Labor’s debt binge is continuing post COVID, in a time of increased interest rates. Net debt is forecast to increase 2.6 times from July 2021, just after the credit downgrade, to June 2028. So, this higher debt is putting further pressure on our credit rating.
Is it possible for Victoria to be debt free? As shown on the graph below, Victoria had close to zero debt from 2001 to 2008, following the debt repayments of the Kennett era.
Note: Blue columns indicate when the Liberals were in power and Red columns when Labor were in power.
Surging interest expense due to increased debt and increased rates
Of course, increased debt means increasing interest expense. This is compounded by increasing borrowing rates with average borrowing rate paid increasing from 3.4% in the current budget year to 4.1% in FY28E (Ref 1). The interest burden is forecast to increase 3.6 times, to $9.4B in FY28, from $2.6B in FY21. Clearly there are risks of further increases in interest expense as loans mature in a higher interest rate environment. Also, any future credit rating downgrade will impact the borrowing costs of the whole debt portfolio.
Families will feel the pain of increasing government interest expense
Families understand the impact of a mortgage in two ways 1) the squeeze mortgage payments make on their spending and 2) the debt hanging over them, based on the size of the mortgage compared to their income.
The increasing interest expense is squeezing the Labor Budget, more than doubling its impact from 9.4% in FY22 to 20.8% of taxation revenue in FY28.
Government net debt is forecast to increase from 3.8 times (in FY22) to 4.2 times taxation revenue in FY28.
When the Victorian Government pays interest on debt and eventually pays down borrowings, it must divert revenue to this – which will reduce the benefits we otherwise would receive.
Everyone with a mortgage knows the strain of increasing interest payments on the family budget, which are causing a cut in spending on our families. (See Appendix – “What is debt? For individuals” and “For governments” – below.)
Net debt is forecast to reach $66,000 per household (Ref 5 and 6) in FY28.
It is un-Australian and unfair to leave this increasing debt burden to our children, our grandchildren and their children.
About the author
David Orford is one of Australia’s most successful actuaries and was the founder and chairman of Australia’s leading provider of superannuation administration software, Financial Synergy. He has since founded Optimum Pensions to comprehensively address Australia’s longevity risk.
References
Aggregate financial statements | Department of Treasury and Finance Victoria (dtf.vic.gov.au) –
1.1_2024-25-Budget-Consolidated-GG-Comprehensive-Operating-Statement
1.2_2024-25-Budget-Consolidated-GG-Balance-Sheet
2024-25 Statement of Finances | Department of Treasury and Finance Victoria (dtf.vic.gov.au)
Credit Ratings | Treasury Corporation of Victoria (tcv.vic.gov.au)
National, state and territory population, September 2023 | Australian Bureau of Statistics (abs.gov.au)
2021 Victoria, Census All persons QuickStats | Australian Bureau of Statistics (abs.gov.au)
appendix - What is debt?
This appendix explains how what is happening in government is analogous to what is happening as individuals.
What is debt? For individuals
When you borrow to buy a home (or car or any asset), you need to have the future income/cash flow to be able to repay that debt and the interest on it. The bank will not lend you the money unless you have the income and the deposit you are required to invest is (say) 20% of the market value of the home - as homes can decrease in value by 20% - in which case the bank does not lose its asset in the form of a loan to you.
The bank will check your credit rating to see whether you are "a good risk" i.e. likely to repay your obligations. If you are not, then they won't lend or will lend but at higher interest rates.
Interest rates can also rise, so you need to allow for this in the amount borrowed - not too much borrowed and installments to repay - as if interest rates increase, you need to have the income to make those increased interest and loan repayments.
Your income will hopefully increase over time making repayments of the loan easier, BUT if interest rates increase significantly, one might not be able to have enough cash to repay the loan installments.
Personally, if you find it financially difficult to repay your home loan then your lifestyle reduces as more of your income is diverted to paying interest - and maybe not even capital repayments. Getting another job to generate more income might help - but your lifestyle is still reduced.
Banks also want their loans (which they class as their "assets”) to be repaid within as short a period of time as possible BUT they understand that the shorter the period, the higher the repayments will be and it may be difficult for you to repay the loan - so 25 years might be a normal repayment period - acceptably long for you and not too long for the bank.
What is debt? For governments
It is far easier for governments to borrow on international or local markets, subject to its Credit Rating. If the government is regarded as financially incompetent e.g. spending more than they earn or paying too much to purchase assets that are actually less in value, then the government's credit rating will reduce and the interest rate on its borrowings will increase.
Governments can become so indebted that they have no hope of repayment BUT there is often some entity to bail them out - subject to that indebted government becoming financially more responsible e.g. increasing taxes and reducing services, selling assets to the lender - so that the rescuer lender will get their loan money back. The rescuer entity is also not likely to make further loans and might have a large control over the defaulting borrower.
There are several countries in the world where these rescuers – usually governments such as China, USA or UK - will NOT get all their money back - so they will lose part of their investment. However, they might start to own some of that country’s income producing assets. That seems unfair as the citizens of the lending country will lose money, while the country spending money unwisely, will gain.
Most governments pay a lower interest rate on their loans as they have great powers to tax the population as the Andrews Government did to Victoria at the previous 2023 Budget.
As government debt is effectively “our debt” we should take a great interest in what the government is doing with the amount that it borrows on our behalf e.g. the government might invest in a bridge or freeway that makes travelling faster – saving money for businesses – allowing them to restrain price increases. Alternatively, it may waste it on paying some of its employees more than the private sector might pay them or replacing an asset that didn’t need replacement.