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Stage 3 changes won’t impact cash rate path, says big 4 bank

5 minute read

Labor’s tax changes do not materially affect the macroeconomic outlook, Westpac said.

While the changes to stage three tax cuts, which make them more accommodating to middle Australians, could be viewed as more stimulatory than the original version, Westpac’s chief economist is confident that they won’t “materially affect the macroeconomic outlook”.

In a note issued shortly after Prime Minister Anthony Albanese’s speech on Thursday, Luci Ellis said changes at the margin of the tax relief from July do not change the overall story.

Ms Ellis highlighted that relative to the originally legislated stage three package, the changes redistribute the benefits to lower-income and middle-income taxpayers who, according to past research, tend to spend more out of every dollar of extra income than higher-income households do.

So, while this can be construed to imply that the adjusted package is a bit more stimulatory, Ms Ellis argued that since lower-income households have seen stronger income growth on average than their higher-income peers, “those marginal propensities to consume might not be a good guide to current behaviour”.

Moreover, Ms Ellis explained that by retaining the 37 per cent bracket, “the system is not flattened out as much as originally planned”, meaning that more households will still face some fiscal drag, and fiscal policy will retain more of its automatic stabilising properties.

“The RBA would therefore not need to do as much in the face of strong income growth, should that emerge.”

Ms Ellis stressed that the original package was already factored into Westpac’s forecasts, and everyone else’s, and added that the bank does not expect that the changes will affect the Reserve Bank’s view of the inflation outlook or the future path of the cash rate.

She also highlighted that the tax cuts do not kick in until 1 July, by which date “inflation is likely to be within striking distance of the RBA’s 2–3 per cent target”.

“Actual (monthly) inflation has surprised a little on the downside since the RBA’s last forecast round. Much of the data on real spending has also been softer in recent weeks. For the announced changes to the tax package to push the RBA in the direction of raising the cash rate again, the changes would have to offset these downside risks and signals.

“It would be hard to make a case that a second-order distributional change to a known large tax package more than offsets these other factors.”

In a separate analysis, Ms Ellis’ colleague Pat Bustamante, senior economist, reiterated that notwithstanding the substantial boost to income these tax cuts will deliver – estimated at around $20 billion for 2024–25 – Westpac expects the disinflationary process to continue in 2024–25.

The bank sees inflation falling from 3.5 per cent in 2023–24 to 3.1 per cent in 2024–25.

“That’s because they [tax cuts] will help loosen the constraints on household budgets but will not eliminate them – easing inflation and a related decline in interest rates will also be required," Mr Bustamante said.

He added that the bank actually believes the tax cuts will help the economy stabilise before it stages a recovery in the second half 2024.

The Westpac economist did, however, warn that if these tax cuts are followed by a “significant” minimum and award wage increase in September, they could slow the expected moderation in inflation.

Doing the media rounds on Thursday morning, Treasurer Jim Chalmers stressed that the changes to stage three won’t add additional pressure to inflation.

“I’m going to release in full the Treasury advice that we were provided in coming to this decision. I’ve got it in front of me and it says very clearly the redesign of the stage three tax cuts will not add to inflationary pressures,” Mr Chalmers said.

He also shared that prior to announcing the changes, the government was assured by the Reserve Bank governor that the tweaks won’t impact the bank’s forecast.

Describing the package as “broadly revenue neutral”, Mr Chalmers said: “Neither the Treasury nor the Reserve Bank expect it to put upward pressure on inflation. It has positive implications for labour supply, for example, which people often don’t factor into their thinking about this question, but broadly revenue neutral. We’ve got the Treasury advice, we’ve spoken to the Reserve Bank governor, and that’s important.”

Maja Garaca Djurdjevic

Maja Garaca Djurdjevic

Maja's career in journalism spans well over a decade across finance, business and politics. Now an experienced editor and reporter across all elements of the financial services sector, prior to joining Momentum Media, Maja reported for several established news outlets in Southeast Europe, scrutinising key processes in post-conflict societies.