FEDERAL-STATE RELATIONS COMMITTEE

TRANSCRIPT OF EVIDENCE

CORRECTED VERSION

Minutes of evidence

Melbourne - 5 November 1997

Members

Chairman: Mr M. John

Deputy Chairman: Mr B. T. Pullen

Staff

Executive Officer: Ms L. Topic

Office Manager: Ms N. Papal

Research Officer: Mr P. Emerton

Open Forum

5/11 Public Hearing

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The CHAIRMAN -I propose to now throw open the forum for questions, firstly, from any member of my committee; and secondly, any members of the public. I have received a request from a Mr John Cohen, whom I have not met, who wants to make a 5-minute presentation on the issue. I am prepared to accept his request.

Mr JASPER - Can you give some indication how successful the changeover of franchise fees for the states has been in being able to secure finances from the federal government according to a revenue return?

Ms THOMAS - The safety net arrangements have been put in place as quickly as possible and with a great deal of cooperation between the commonwealth, the states and territories. The flow of revenue has not yet settled down. It is difficult to know whether we will be on track by the end of the financial year. At the moment there are some causes for concern, which we have raised with the commonwealth, about replacement taxes on tobacco; but the understanding between governments at the beginning of the arrangements was there would be a review within six months of implementation of the scheme to see if everything was working as planned. We had anticipated a review of the arrangements. There may need to be a finetuning at the time of the review.

Ms BURKE - Do you believe the role and functions of government can be separated from a tax reform process or tax distribution?

Mr ECONOMOU - I do not see how that can be the case for the states because so much of the demands on a state's revenue comes from the provision of services. As the commonwealth provides a huge amount of funding through section 96 for a whole range of functions, it is really the states which administer those things.

If I understand the question properly, the essential problem with state governments is, notwithstanding the real alteration that has occurred in the Australian constitution and the balance of power between commonwealth and states as a result of the taxation arrangements entered into during the Second World War, there has not been a concomitant reform or change in the balance between the provision of services. States are still providing those things and the issues for citizens as members of state politics as distinct from the broader thing called Australia is one of service provision.

When the Victorian government changed in 1992 I was interviewed by a journalist from South Australia - I think the election in that state was about to be held shortly afterwards. The journalist was interested, as most commentators were, in what the Kennett government would do when it came to power - would there be a burn-and-slash policy? I said that regardless of who would be in power after 1992, state governments would have to cut back on the provision of services because one could see from the way the commonwealth had been providing financial transfers to the states that there had been substantial declines in real terms in state revenues. The states' own ability to generate revenue was falling because of the effects of the stock market crash and the real estate crash, if you like. The idea that gambling could displace those forgone revenues from the states has not really taken off.

State governments everywhere would have to reduce services. The bottom line for communities in those states is the quality of government services provided. At a state level it is not possible to - -

Ms BURKE - I am speaking more of the fact that we are moving to a constitutional convention and we are speaking today very much about the way Australia has functioned in the past. I am interested in how the community thinks we should function in the future. While they see the taxing system in the past, it is relevant to ascertain who the community sees as each level of government and their roles in the future. That would have some impact on what taxes would be acceptable to be levied by each level of government.

Mr ECONOMOU - Voters do not like any taxes. That is the biggest problem with a goods and services tax: no matter how intellectuals try to rationalise the need for a shift in taxation from a tax on income to a tax on consumption, the public does not like it. Members of the public do not like the prospect of going to Safeway and having to pay 15 per cent more, or that rent will cost them 15 per cent more; they do not like the idea of an extra 15 per cent as a higher education change for your kids at university. Punters do not like that.

I cannot see the constitutional convention allowing too much scope for discussion of such complex matters of public policy simply because the constitutional debate at the moment seems to be dominated by two fairly minor or cosmetic issues - that is, whether we should have a Governor-General and a Queen, and whether the Union Jack should be on the corner of our flag. The more fundamental issues about relationships between the commonwealth and the states do not break into the constitutional debate as a result of the convention. I may be wrong, but that is my understanding of how the debate is going.

Ms SMITH - Professor Norman, in this forum today and in many of the committee's public hearings we have heard of the urgent need for taxation reform. It will not occur and it is difficult to initiate without the commonwealth government doing it. If there is no overall taxation reform, as has been said by speakers today, with just a fiddling around the edges rather than a general overhaul, what do you see as the scenario for the states?

Assoc. Prof. NORMAN - I do not anticipate major tax reform because it is politically extremely difficult. It simply is not the case that if we do not have tax reform we cannot have reform in commonwealth-state financial relations. Sufficient leadership would bring it about. Nevertheless, the way things are done at the moment I share the scepticism of Mr Economou that it will not be resolved.

You could have reform in commonwealth-state financial relations without tax reform. It is simply a driver and the one people expect. There is not enough urgency in this country. As a colony Victoria has fallen from no. 1 in world's gross colony product per capita - 75 per cent higher than in the United States at the time - to a position at no. 19; and one would be happier if we saw much fairer and more environmentally pure values to be satisfied that the material loss in relative terms has been compensated for by the other things. But because we are more comfortable than we were, we think that is enough. We are falling backwards in international standards. The tax system is a major barrier.

I share all the views of my colleagues, that tax reform is urgent and the diagnosis that the people who constitute the democracy on the whole do not understand it and do not vote for it. The answer is not only a broad-based consumption tax. It is very little of the answer to problems like unemployment where there are other issues. It is urgent in the sense of changing the long-term course of this country.

It need not be a trigger for reform. If your committee has the statesmanship to press and fight for the reforms it believes in, in terms of commonwealth-state financial relationships, it should not have to wait for tax reform; and if it does it will be imperilled.

You are looking for a secure revenue base but there is no secure revenue base, although some are more secure than others. The reasons they are not secure are, firstly, legal, and secondly, commercial or economic. Few people anticipated the High Court decision in re Ha, which has been commented on by my colleagues. There is perhaps a surprising unity of concern among those of different backgrounds. The finances of this and other states are less secure than they were without the judgment. The only hope is if they become absurdly insecure, it might provoke those who imbue the notion of contentment to support whatever initiatives you have. I raise the state income tax matter as a second-best because it is always a second-best. I raise it seriously because I have many doubts that taxation reform will take place.

In the context of this, the second form of insecurity is commercial. I was openly critical of the Cain government in 1986 in relying so much on financial values and property values as a base. At the time I wrote an article in the Melbourne Herald about it. It was one of the major difficulties in the late 1980s that the base fell so rapidly but the states, rather than being critical of any government because this government is equally reliant on gambling duties, are forced into narrow bases. The urgent necessity is to broaden the scope. It is slightly tragic if we are advised by constitutional lawyers that the power is already there for states to have piggyback taxes but that they are not doing it. It is not a gap in logic or law, but a gap in statesmanship.

Mr PULLEN - Mr Economou, to follow from earlier questioning: part of the problem with the vertical fiscal imbalance system is it makes it less clear for people to see where levied taxes are actually used. That is a problem with a lot of taxation, that people more and more distrust because they cannot relate it to expenditure for which they have support. Apart from the structural changes, do you see increasing roles for hypothecation of taxes or levies? It is my perception, for instance, that many people feel comfortable about health and Medicare levies because they have a general view that they get something back from those taxes which they do not feel so strongly about with other taxes. Would you like to comment?

Mr ECONOMOU - The more recent one was the guns buyback levy after the Port Arthur massacre, when an additional levy was removed from salaries. There is a possibility there of trying to clarify what is happening, but I can foresee great administrative problems with a wage-earner having a huge list of things removed from his or her salary when he or she receives a pay slip at the end of the pay period.

Mr PULLEN - I do not mean across the board, but specifically.

Mr ECONOMOU - The state taxation office tried to run a campaign to get around the public's not reluctance but view that taxation is problematic - the idea of, 'Why am I giving over this money?'. The taxation office tried to run a publicity campaign suggesting that the taxes paid are returned to members of the public by way of government services. That was a short-lived campaign. It probably would have been worth pursuing.

Some states are good at putting their imprimatur on things funded by the commonwealth. Everywhere in Tasmania there are beautiful highways - with nobody on them, I might add - and enormous signs with the Tasmanian imperial lion emblem saying 'The Tasmanian government at work'. But in fine print at the bottom - if you tried to read them as you drove by you would probably cause an accident - are the words 'A federally funded program'.

Some states are very good at trying to attach their imprimatur to things that are being done. The general issue is one of changing community attitudes towards taxation, economics and the role of government in society. What social commentators have picked up, especially in late industrialised societies - particularly Britain, the United States, Australia and New Zealand - is that the community is willing to accept some of the doctrines of economic rationalism and small government if it means taxation relief. One of the primary issues in successive election campaigns, both federal and state, has been politicians saying, 'We will give you tax relief if you vote for us', and the community being prepared to accept those sorts of arguments. It is one of the great conundrums in the Australian community. The community wants the government to do things for it but it is not prepared to put up the cash.

Again I hark back to the Whitlam years and perhaps even prior. The idea that the wealthy should be paying more tax is no longer politically in vogue. The only political parties at the moment that advocate higher taxation are the minor parties like the Australian Democrats, who know that they are not going to get into government. As long as they are talking to their 10 or 12 per cent constituent support they know that is what those people want to hear. The majority of Australians want to hear political parties promising tax relief. That adds another complicating ingredient to the whole debate. Apart from again tinkering around at the edges, trying to put the state's imprimatur on projects and trying to explain that money paid over in tax comes back in services, at the moment it is very difficult for politicians try to run an agenda saying that perhaps they should take more money out of the community to pay for better services.

Assoc. Prof. NORMAN - Mr Deputy Chairman raises a very relevant point: hypothecation works if people feel more comfortable about forgoing part of their disposal income because of what they see back for it - and there are some surveys of this suggesting that is the case. The problem is that some areas that people think are hypothecated are actually not. With respect, the Medicare levy is not an example of hypothecation. There is no guarantee that the Medicare levy will necessarily be spent on pharmaceutical benefits and medical and hospital services; it mostly is, but it goes into consolidated revenue. Equally, those of us in the tertiary education sector do not get any flow of revenue from the HECS levies, as it were. That is another area where that has to be fought for politically.

Victoria has the best example of hypothecation I can think of. It is called the Victorian Health Promotion Foundation - a bipartisan initiative which has stood for 10 years and which in my view is a great success, and I have studied it independently. Another was the Fraser government's road program initiative. People felt comfortable paying more for their petrol when they saw better roads.

The Deputy Chairman makes a good suggestion: there are, no doubt, areas where hypothecation will be acceptable if it is accompanied by a political guarantee that the funds will be used only for a certain purpose for which the community agrees. I have one reservation that you ought to consider, which is that it also encourages a degree of selfishness among people because if the habit is to be formed that they will pay only for things where they see a benefit it may be difficult to raise generic taxes that go to the benefit of other people in what is far from a caring society.

The CHAIRMAN - Thank you. Are there any members of the public or the media who would like to ask questions at this stage?

Mr RYAN - My name is John Ryan; I am a student - a very old one - and I am here in a private capacity. I address my question to any one of the expert speakers: why is it that the states accept specific purpose grants? I know that section 96 of the constitution says the commonwealth can make the grant and attach conditions to it, but there is nothing that says the states have to accept the money and spend it in accordance with the grants? And I do not see anything that would enable the commonwealth to actually prosecute the states if they took the money and spent it for their own purposes. Wouldn't that be a nice trigger - to force the commonwealth to totally revise the tax system?

The CHAIRMAN - Thank you, Mr Ryan. Who would like to embark on that answer?

Assoc. Prof. NORMAN - Of course it is more desirable that a state government obtain unconditional transfers. The assumption that makes that right for the federation overall is that the state is able independently to spend the money more responsibly than the federation has done in picking the winners, as it were. Ironically many of the bureaucrats in the commonwealth who support the tied grants are the same ones who tell you what a bad idea in industry policy it is to pick winners while picking winners on how the states spend the money. State governments have not always spent the money properly, which lends further support to the view that if there is a proper audit process and proper cost-benefit studies are done on the allocation of state funds as many grants as possible should be untied and not allocated for specific purposes. I agree with the question that it could be a proper political trigger but that is not my business; and I defer to others on it.

The CHAIRMAN - Mr Rowse, would you like to comment on that because it is very much in your area, too?

Mr ROWSE - One of the difficulties is that we are relying on a great deal of money - it is over half the funding that comes to the states. You may be right that in signing up to the agreements there may be no legal enforcement that could be activated by the commonwealth, but certain penalties could flow through. Generally speaking it would be too hard for the commonwealth to withdraw all its funding because it is relying on the states to actually deliver the services. It would be a big stick for the commonwealth to wield to withdraw all its funding. However, there are other ways the commonwealth can withdraw parts of the funding and penalise the states in certain ways, which would make it extremely difficult. It gets back to the basic issue of the commonwealth raising all the revenue and the states being responsible for a lot of the expenditure, and the states are not really in a strong bargaining position in that context.

Mr ECONOMOU - I will probably be corrected by others who know this, but I have a funny feeling that during the Whitlam years there were instances of both the Bjelke-Peterson and the Hamer governments, I think, saying that they did not want certain payments on the grounds that they believed that the conditions imposed transgressed state responsibilities too much. I point out to the questioner: remember the context. The Whitlam period was one in which the commonwealth's response was, 'There's a problem, here's the money, have it'. As Brett has just said, today the problem is there just is not the money; the states are desperate for funding. I think many contemporary federal treasurers and prime ministers have cracked jokes about what happens when you get between a Premier and a bucket of money.

The CHAIRMAN - I recall when a recent Premier was the minister responsible for housing he had some problems with tied grants.

Ms BURKE - In 1972 Whitlam increased the budget for tied grants by 25 per cent, and the States challenged it.

Mr HRISTODOULIDIS - I represent the Victorian Employers Chamber of Commerce and Industry. I was interested to hear on the broad-based consumption tax reforms you have been talking about - which I think may not happen after hearing views from around the table - that there is a need for other drivers on the reform of federal-state financial relations. What role do the speakers see the COAG having in that process as a driver, along the lines of the national competition framework?

Assoc. Prof. NORMAN - I do not want to comment on the politics of it, and you would need to look at that to see what provokes what. Generally reform only takes place after a crisis, and that is why I am still hopeful that the crisis in state finances will lead to something more sensible, but there are aspects of a broad-based consumption tax substitution that I think would be very positive in redressing the balance in which the goods-producing sector is paying a disproportionately high fraction of the tax.

A broad-based consumption tax not perfectly but to a large extent would attack tax avoidance and tax evasion, and that is unfair to many members who are poor, yet with a proper compensation package it will not necessarily be unfair to the poor - and that is not to say that the past ones have been unfair, but a political problem is that as soon as you announce this there are cries that it is inherently unfair to the poor, which patently disregards the compensation packages.

I have had private discussions with people who have promoted these measures - and I will not name them because this is a public gathering - but some of the most fervent political and business advocates of broad-based consumption taxes are pessimistic about the prospects of having one because they think that the Australian people and some leaders, including some leaders of welfare groups, either do not understand or will not understand the compensation packages.

Perhaps it is a question of communication but people have - and I will name one person who actually went out of his way to put in the compensation package, the then Treasurer, Mr Keating. He was very upset that people in his own party did not understand the compensation package that was in option C of the 1985 tax reform package. That is the deal that you face, whether it will be a driver, and I will leave that to those who are looking at this as a political exercise.

Mr ECONOMOU - I make a few comments about COAG and the political dynamics of federal-state relations in matters other than financial matters. There are many writers on the topic of Australian political science who point out that even though we are all conditioned to think of federal-state relations as being incredibly adversarial a lot actually goes on behind the scenes in ministerial councils that has the resonance of cooperative federalism about it, and COAG tries to build on that. I think, though, that when it comes to matters to do with financial issues there are a couple of political arrangements, power relationships, that are really problematic and militate against any genuine cooperative approach to these issues.

The first major power problem is that the commonwealth has the power of the purse strings, and even though there have been prime ministers who have said, 'I will release the purse strings; I'll give the states some power back', it has never actually happened - they have never done it. There is no agreement between the states over these things. We are all very familiar with recurring Premiers conferences where the Premiers of the big states - New South Wales and Victoria - immediately launch at a strike against the so-called small states on the question of the capital rate of the distribution of federal funds to the states.

That reminds us that the so-called smaller - I am not trying to be patronising here - and more economically vulnerable states like Tasmania and South Australia are advantaged in many ways by current financial federal-state financial relations. The Tasmanian community, and perhaps this applies in South Australia, too, would be absolutely horrified about any prospect of having to levy their own income tax to try

to compensate for loss of revenue from management reform, so I do not think COAG has much capacity to solve some of these problems in a cooperative way.

The CHAIRMAN - I propose to have a break now.

Hearing suspended.

The CHAIRMAN - I thank Professor Martin Painter, Mr Dick Rye and Bronwyn Pike for their presentations. They were greatly appreciated.

Ms SMITH - I was encouraged to hear that Professor Painter has an optimistic view of where we are going, even though he spelt out the fact that COAG has not achieved financial reform nor defined the roles and responsibilities between the commonwealth and the states. With that scenario, Mr Rye, if we do not have financial reform and if vertical and horizontal financing stays the same, what do you see as Australia's economic future?

Mr RYE - Like most of the other speakers, as a private citizen I certainly hope to see reform. I hope Professor Painter is right in his optimistic assessment that this might be brought about. It is certainly true that there are great obstacles. One can think of other obstacles not mentioned today - for example, the fact that we live in an increasingly integrated world and are therefore thoroughly familiar with the fact that the states are constrained to some extent by each other's policies. In a similar way, we are constrained by the policies of other countries. There are limits to what we can do on the taxation side without discouraging business. For example, people can up stakes and move their businesses and operations elsewhere. We also have to be aware of that process in considering this whole question of taxation reform.

For the remainder, what do the states need to do to have a guaranteed share of taxes? That is a possibility that perhaps might also be examined here. We have tried it in the past in Australia, but it has not worked well partly because the guarantees could be readily undone. They were imposed at the federal level and could be undone at that level - that happened. It might be worth considering that aspect as one of the future methods of giving the states a better deal on the taxation front.

Ms KOSKY - Mr Rye, some states are building up decent surpluses in their budgets. Is that an issue that the Grants Commission has taken into account given that it is revenue which is raised currently but which is not being spent for general purposes in the community? Is that an issue that could be taken into account in the future?

Mr RYE - Within the present system, no, we cannot take that into account. Such developments, to the extent that they are occurring, may be due to a number of different things. They may reflect the fact that some states are providing lower levels of services than other states. I see that as I go around, without naming names. It is clear that is the case with education and, perhaps also, with health.

Those states that are making the same sorts of tax efforts as other states may find their budget processes are easier; in fact, they may have constrained their expenditure more than other states. Some states have buoyant revenues at present. One of the problems the states will have to consider with the present system is the extensive lags that are built in. We are required by our terms of reference to make a calculation on the basis of the most recent five-year period. Those calculations then apply to the year to come. There may be a lag as long as seven years between the development of state finances and the way they are reflected in the bottom-line calculations. This is a real question that the states will have to consider - is that too long a period?

We were last asked to consider this matter in 1989, soon after I became chairman. We said then it would be better to have a three-year period rather than a five-year period. The states, in their wisdom, decided otherwise at the time, and that five-year system has been maintained ever since. The system has within it the capacity for the states to diverge markedly over shorter periods in their financial capacities without that being reflected very much in our calculations.

Mr JASPER - Professor Painter, I was interested in your acknowledgment of the problems the states have, but you seem to be saying that the changes they agreed to over the years, going back to 1942, were in their own hands. The committee's concern is getting the balance back into the situation. Generally, commentators believe the federal government has now gained too much power and is putting constraints on the states in terms of how they operate and spend their funds by putting restrictions on the finances supplied to them. Would you like to expand further, because I may have the wrong impression? Do you put the blame back on the states? You mentioned death taxes as an instance: they were removed in Queensland and that flowed through to the remainder of Australia. I am interested in your views, perhaps because they do not agree with those of some of the major commentators.

Prof. PAINTER - I emphasised that aspect of the problem because as Professor Norman said earlier, the states -perhaps in conjunction with the commonwealth - can initiate a great deal of reform themselves, not just on taxation but on the expenditure side by seeking cooperation among themselves and by bringing the commonwealth along with them in some of that cooperation.

It is certainly the case that the commonwealth is the problem when it comes to fiscal reform, the vertical fiscal imbalance and the way things have gone in the past 20 years. The commonwealth is the principal problem from the states' points of view. However, if the states had a longer-term view of the nature of their own situations and what they could do by cooperating among themselves, they would be in a better bargaining position and would have a better chance of saying to the commonwealth that, by agreement, there would be a positive outcome for the commonwealth and the states.

The biggest problem with the states' financial relationships has been that the commonwealth has been able to divide and rule. Earlier, someone mentioned the extent to which some states benefit under the shelter of commonwealth grants and so on and are hence less likely to cooperate because they fear a loss of their revenue share to other states. The smaller states are more vulnerable than the larger states. But the larger states should say to the smaller states, 'Perhaps we can agree to a process of interstate compensation for your deficiencies', as well as having the commonwealth involved. There is the possibility for interstate strategies and agreements for reform, regardless of the commonwealth. The states could say, 'Let's put something to the commonwealth that we could agree on' - perhaps on more fundamental matters - rather than going to the commonwealth and saying'You fix it'.

Mr RYE - Various things have been said this afternoon which suggest that the competitive framework that exists within the federation is not good. In some respects it has its deficiencies, but in principle at least it also has many benefits to offer by which the states can learn from each other. The fact that we have a federation enables the states, within the limits of their resources, to experiment on different ways of providing services. We have seen progress in recent years, where some states have led the way and others have been left to pick up and do things more efficiently and, it is hoped, in a better way. That is generally referred to as one of the benefits of federation - that you have a degree of competition as well as, sometimes, its adverse points.

On the matter of the states helping each other, there may be something in that, but so far as I know the only system that works that way is the German one. There is no other system where states hand over money to each other in the interests of a more equitable situation. It is a hard thing to achieve.

Mr PULLEN - Ms Pike, you said that a lot of the focus fell on the commonwealth in its relationships with the states. You also mentioned local government. We are seeing a lot of reforms affecting the size, structure and financial efficiencies of local government; but there is not much movement on discussing the functions, responsibilities and roles of that sector. Is there a way of opening up this debate a little and looking at what local government can do, what kind of taxation base local government should have, and whether people might in some cases accept an expansion of revenue raising if they saw the money being spent by local councils in their regions or areas? Do you see any benefit in exploring the role local government can play in the taxation system?

Ms PIKE - I have not given it a huge amount of thought, but I have been talking with Ms Sykes, an economist in local government. We were discussing the fact that the everyday person does not discern which level of government is actually paying for the particular services he or she is receiving. If it is to be a kind of populist effort, there would have to be a better articulation of where the varying responsibilities lie. It is building on the notion of hypothecation in taxation. It has a lot of merit as part of the discussions about community development, because people have a sense of ownership of local things in which they can participate. That is the strength of local government.

The potential exists for enhancing local government's capacity to raise revenue and then expend it in meaningful ways. We might find ourselves in some difficulties with our equity criteria because different regions have inherent and generational disadvantages. That would have to be somehow examined.

Mr PULLEN - Perhaps there is a case for adjustments within states as well as between states?

Ms PIKE - Yes.

Mr ECONOMOU - That is an interesting issue. If you look to Britain as a model, after Margaret Thatcher attempted to introduce a poll tax, a slightly watered down version was then introduced. It was a local government levy, called a council charge. The good thing about that arrangement for Westminster is that it deflects the burden of raising revenue for welfare and education from it to the local areas. The councils are actively recouping substantial amounts of money to pay for the services. Whether that would apply to the Australian situation is questionable because local government here, to quote a famous author, is really concerned with the three Rs - that is, roads, rates and rubbish. Some councils have tried to develop out of that realm and pick up welfare services. If one wanted to reform to that process, one would get local government to take up things like welfare, health and education and get the councils to raise their own moneys.

In Britain the council charge is incredibly regressive. Local municipalities and poor cities - like Liverpool, a poor city with huge unemployment rates - charge the highest council taxes per head of population -something like 2000 pounds a year for everyone. The question of owning property does not arise there. If you have shelter, you are liable for council taxes. It is a regressive move. There is a capacity for tax reform to keep passing the buck downwards. If you had a situation where the commonwealth said to the states, 'You do the tax levying', the temptation for the states would be to say to local government, 'You do it'. Regressive tax outcomes would be the product.

Ms BURKE - Mr Rye, we do not often get the chance to talk to Grants Commission representatives. My question is about the state distribution of commonwealth funds. What percentage of that would come from the grants commission?

Mr RYE - At the moment, as I said in my notes, about $19 billion out of $33.5 billion, but a good part of that $33.5 billion - I think about $5 billion - is through the states rather than to the states for things like local government, private schools and universities, so it is more like $19 billion out of $29 billion - something over 60 per cent.

Ms BURKE - Looking into the next century and the way we will do business and the commonwealth having much more of a global context than previously, is that distribution still appropriate considering accountability and efficiency?

Mr RYE - I am not sure that I understand the question. The proportion of general grants as opposed to specific-purpose grants has changed markedly over time. If you go back to the 1960s, for example, it was probably two-thirds, maybe even 70 per cent of general grants. Then there were two periods when specific-purpose payments increased sharply - the first of course under the Whitlam government, and that has been referred to several times today. There was a very activist centralist government which was concerned to exert its influence over almost every facet of life in Australia.

The second period was under the Hawke government when the change came not so much from the further expansion of specific-purpose payments as from a contraction of the general revenue grants where the burden of fiscal restraint was passed on to the states in very large measure. There are different views: obviously the states would like to move away still more - much more - from the specific-purpose payments into the general grants. From the point of the view of the states, there is much to be said for them having the freedom of choice that the distribution in terms of general grants rather than specific purpose grants offers them.

Ms BURKE - I am more interested in your point of view and perspective. Is it still appropriate to be sending funds from one level of government through another?

Mr RYE - I believe we need to, to a certain extent. My interest is in the horizontal fiscal equalisation. You do need to have some sort of general-purpose grants from the national level to the states, or some proportion of state finances has to be provided from the centre to enable that to be achieved unless we get to the German-type system where the states start compensating each other; but that aside, for horizontal equalisation to work you have to have a certain degree of vertical fiscal equalisation. Obviously at present we have a whole lot more than that, and it has sometimes been asserted - in fact, the Treasurer of the time a few years ago did assert vigorously -that it was necessary in the interests of economic policy formulation; that the commonwealth had control of the financial levers to that extent. Subsequently, one of the secretaries to the Treasury said he did not think it needed to be as big as it was for that particular purpose, but commonwealth governments have always been reluctant to give up that sort of control of the fiscal levers. It depends from what point of view you are talking about, whether you believe what we have now is appropriate.

Ms BURKE - Do you use the same benchmarking for the requests from the states for funds?

Mr RYE - All states are assessed on exactly the same basis, yes.

Ms BURKE - What level of accountability do you have for funds spent?

Mr RYE - You do not need accountability for general revenue grants. The whole purpose of the grants is that the states can do with them as they see fit. It is sometimes asserted that the system is all wrong. What some people would like to see is not a system of capacity equalisation, which is what we have now, but a system of performance equalisation. You can set benchmarks and require the states to conform to guidelines presumably laid down at the centre.

It seems to me that the appropriate vehicle for that kind of national seeking of goals is specific-purpose payments rather than the general revenue grants, and if you take the federation seriously and you take the fact that the states have their own roles under the constitution seriously, you should be content to say that general revenue grants are exactly that and the states ought to have the say in how those are spent, which is exactly the system we have.

Ms SYKES - I represent the Municipal Association of Victoria and welcome the comments about local government being involved in these discussions. One of the key issues facing my organisation and all state, territory and even commonwealth local government associations at the moment is to ensure that local government is involved in any discussions, be they intergovernmental relations, including tax, but also including roles and responsibilities. I also offer my support to any actions extending from Mr Ashman's comments about reviewing those roles and responsibilities in local government.

I address my question on reciprocal taxation to the whole panel, including the two remaining members of the audience. It is an issue that we have not addressed today. We have talked about tax mix, tax levels and ways of addressing financial relations, but we have not talked about this issue, which has raised its head through the national competition policy that Professor Painter mentioned earlier. We need to ensure that these activities are undertaken on a competitively neutral basis. Any moves towards revenue raising such as what has happened in Tasmania to create fiscal taxation is an issue that needs to be addressed alongside the tax mix because in previous years there seems to have been a commitment to the Westminster-based system of one level of government not taxing another. I believe there has been some movement and some review of that. I throw that question up to the panel: does it believe it is appropriate that that issue is addressed?

The CHAIRMAN - Professor, do you want to tackle that?

Prof. PAINTER - No, I will pass on that.

The CHAIRMAN - Do I have a volunteer from the panel?

Ms BURKE - Under the constitution we cannot tax the commonwealth. Unless the commonwealth agrees, the state cannot tax it without agreement from the commonwealth.

The CHAIRMAN - I think that is right.

Mr RYE - There has been some agreement in terms of commonwealth authorities, so that is a small step forward in that regard.

The CHAIRMAN - Thank you, Kylie; we take those points on board.

Mr HRISTODOULIDIS - My question is again to the whole panel. The tone of the discussion today has been about interest and tax shares between the states and access to a more adequate tax base. What role does the panel envisage for more prudent expenditure controls? To this end I take it a step further: I understand the Victorian and federal governments have made strong cuts in their expenditure. But given what has been happening with regulations and having regard to the fact that every government expenditure is subject to a sunsetting clause at the end of each three or five years, and at the end of that period every expenditure goes through a detailed cost-benefit analysis involving alternatives such as outsourcing, have you decided whether you will continue with the expenditure and what role do you think that has in levelling some of the vertical imbalances in the system?

Prof. PAINTER - I believe independently of the whole question of distribution of taxing powers or roles and responsibilities is the extent to which the government will engage in that kind of activity on its own account depends on the accountability mechanisms to which it is subject. One of the most important ones is that it is in charge of its own taxing capacities, and of course the states are not. The main drive for the states at the moment to undertake on its own account expenditure review and constraint is the fact that the commonwealth keeps cutting its funds; it does so in a way which is often haphazard and irrational in that much of the cuts come in special-purpose payments, they come in shifts from one area of grants payment to another; they come as a result of developments in demand for services which commonwealth grants are not coping with. They come as a result of a whole range of irrationalities which arise within the grant system itself, through cost shifting and so on.

So a whole set of factors that create huge pressures on the states to be economical do not impact in a way that is necessarily the most effective and rational in the sense that they are reviewing things they ought to be reviewing, they are expanding things that ought to be expanded and are putting more money into where it ought to be put given service demand and need. Those things are related, and I would hope if one had a system of such constant review that would result in cases of service provision being expanded where it was needed as well as being cut.

The CHAIRMAN - Thank you, Professor. As I mentioned earlier Mr John Cohen asked for 5 minutes to make a few points to the seminar. Mr Cohen, I invite you to do that now. Thank you for being patient and waiting.

Mr COHEN - Thank you, Mr Chairman. Although I speak in a private capacity I thank you for the opportunity to contribute to the seminar at this late time. My statement does not refer specifically to taxation matters, I understand from you that it is well within the brief of your committee. I refer to the financial difficulties of community-based organisations that are jointly funded by commonwealth and state instrumentalities. Professor Painter earlier referred to duplication and overlap and perhaps my statement might commend itself specifically to you. I can best illustrate the difficulty of community-based organisations by referring to a situation four years ago when I chaired an organisation that was responsible for some 45 group homes which administered homes for people who have been, if I can use the term, deinstitutionalised from mental institutions. The organisation was successful in obtaining a substantial commonwealth grant of some $6 million to $7 million to purchase another 17 homes.

It was a wonderful occasion for the organisation to get such a huge grant from the commonwealth. Consequently, we applied to the state community services department to finance the organisation with extra staff - social workers and so on - to make it possible for us to purchase those homes because without adequate support staff they could not eventuate. That was unsuccessful because there was no money available in the state kitty to provide us with extra support staff. We therefore were in danger of losing the commonwealth grant because our committee of management was determined not to buy new homes unless it could supply the necessary support staff for people who needed support under those circumstances.

I will not go into the ins and outs of what finally happened, but that kind of situation is duplicated many times over with many other community organisations. The program needed a great deal of behind-the-scenes lobbying to make it possible for us not to lose that $6 million or $7 million commonwealth grant largely because the state could not find the necessary amount of money.

My purpose in coming to this committee meeting is to highlight the kind of financial difficulty when the right hand does not know what the left hand is doing. It must be obvious to you, Mr Chairman, and committee members how difficult it is. I raised this matter with the then Minister for Housing, Mr Rob Knowles, in a private meeting. I asked whether he could do something about it, and his response was very honest - not flippant - 'John, if you can tell me how to break the nexus between the commonwealth and state financial relations, please let me know'. I should like this committee to take on board that kind of difficulty, which often happens with community-based organisations that are funded jointly by the commonwealth and the state. Perhaps this committee may find an answer.

The CHAIRMAN - Thank you, Mr Cohen. Your comments will certainly be considered by the committee. You make some very valid points. I believe some members have experienced some of the things you have outlined.

Mr RYAN - I raise a matter by way of example and ask for some comment on it. I note Mr Rye talked about university funding. As I understand the current situation, all state governments have effectively abrogated their responsibilities in that area by telling the commonwealth government to deal directly with the universities in the allocation of university funding. Using that as an example, and especially picking up Professor Painter's comments on cooperative arrangements, is there a danger that cooperative arrangements between the states and the commonwealth government may actually increase fiscal imbalance by leading to situations like that, where the commonwealth government becomes the vehicle for and the provider of the funding, whereas it should go through a state post office box; or, alternatively, where the cooperative arrangements become so institutionalised that the commonwealth government's control over the actual outcomes becomes so permanent that the states are frozen out?

Prof. PAINTER - The first point to make is that if the commonwealth and the states agree on service provision and funding, it is more often in areas where the states have a stake and wish to retain it than in an area like higher education, which they were quite happy to vacate. In fact, it is probably true to say that they voluntarily vacated higher education. In most cases the states do not really wish to vacate an area but wish to have it more rationally and effectively funded where the commonwealth wishes to have a say and put some money into it. It is the method of funding they are concerned about, whether it should be by way of a block grant and the sorts of conditions that should be attached to it, or whether there should be some other form of funding such as on a user-pays basis, through a voucher system. They are the sorts of things that have been subject to agreement. I do not believe necessarily that when these agreements are struck the states are in a weak position to get some more or have their role established and maintained in that process - so long as they are not seeking to vacate the field, which is what happened in higher education.

Mr RYE - The states retain administrative support for universities, as they do also for local government. But what has happened in both fields is that the commonwealth's virtual takeover of responsibility for finance has led to the states dropping out. There is hardly any direct state financial support for local government anymore, just as there is very little financial support for higher education anymore. That may be one consequence of commonwealth interest in a particular area: state funding for that area may tend to diminish or even dry up altogether.

Perhaps it is also worth putting on the record that there is an equalisation system for commonwealth grants to local government. A body called the Local Government Grants Commission is set up in each state to decide on the distribution of commonwealth funds for local government along lines that are fairly similar to the way the Grants Commission goes about its business. The big issue there is the fact that grants between the states are on a per capita basis - that is, the total commonwealth grant for local government to Queensland or the Northern Territory is exactly the same per capita as it is to Victoria or New South Wales. That causes a certain amount of angst in those larger states (in area), and it is certainly not without some justification. The cost of providing services even at the local government level is not the same between the states, nor is the capacity of local government as a whole to raise revenue the same between the states.

The CHAIRMAN - I reiterate my thanks to Associate Professor Neville Norman, Mr Brett Rowse, Ms Claire Thomas, Mr Nick Economou, Professor Martin Painter, Mr Dick Rye and Ms Bronwyn Pike. I thank my staff for organising this seminar and members of the media for attending, as well as members of the public, including representative bodies such as local government and VECCI. Thank you for your interest in this topic.

I also thank the Hansard reporters for their diligent efforts during the day. I am heartened by the large number of people who attended.

Committee adjourned.

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