Australian federal government debt is on course to top $1 trillion - possibly by June next year - due to the coronavirus and related shutdowns. After decades of political scare campaigns about debt and deficit, Australians are now being told that an unprecedented national borrowing binge is both manageable and desirable.

For those feeling some intellectual whiplash on the subject, economist Saul Eslake says it is important to remember that government debt is not like household debt. Never has been, never will be. "Most people, you and me included, want to pay off our mortgage debt before we die because we don't want to leave our children debts to pay off," he says. "But governments don't die, generally, and there has never been a requirement that governments pay off their debt." So, who was telling the truth? Will higher debt place an unfair burden on future generations? Where will the money come from? And how will we pay it back?

Government debt is when the government borrows money to pay for the business of government, such as providing welfare, funding schools and roads and keeping the army freshly stocked with guns and ammunition. Over the long term, the government tries to fund these expenses by collecting taxes, levied mostly on personal incomes, profits and shopping (via the GST). If, in any given year, the government raises more money than it spends, the budget is said to be "in surplus". If revenue falls short of requirement, the budget is said to be "in deficit". Each year the budget is in deficit, the government must borrow the difference, adding to the total stock of outstanding debt. In one year we went from a government budget nearly in balance to one with an $85bn deficit and then added another $161bn in the following year. Massive budget deficits can lead to financial crowding out and may negatively affect the economy.

At the beginning of April, government debt stood just shy of $600 billion. Six months on, the total stock of government debt has topped $800 billion - about 40 per cent of Australia's total annual economic output, or GDP (gross domestic). It is rising every week. According to economist Saul Eslake, Australia's federal government gross debt is on course to top $1 trillion, possibly as soon as mid next year. "We know that the feds are going to run a deficit of around $200 billion this year, so debt could be a trillion by June next year". Lockdowns and other COVID disruptions hurt the government's budget on both the spending and income side. On the expenditure side, payments have soared, including JobKeeper and the boost to, and increased take up of, JobSeeker and other welfare payments. In total and allowing for state fiscal stimulus this is resulting in a 10.6% of GDP fiscal stimulus for this calendar year, which swamps the stimulus seen in the GFC (and rightly so because the GFC posed a much smaller threat to the economy). Meanwhile, on the income side, tax receipts from incomes, profits and consumption have all plummeted, thanks to job losses, shrinking profits and lower household spending. Whenever revenue falls short of spending, the government must borrow the difference.

At any given time, there is always money being invested around the world, particularly through regular contributions to super funds or pension funds. All that money needs somewhere safe to sit. Large funds are happy to lend to governments, who promise to give it back, plus interest, and can largely be trusted to repay. You might have heard that our Reserve Bank is also lending money to the government, and it's true. Instead of turning up to auctions and crowding out private investors, the central bank is operating indirectly, buying bonds in the secondary market. At the end of August, it had bought around $64 billion of government bonds this way, making it a significant lender to government.

We might not, says economist Chris Richardson, and that's OK. "We have always had debt," notes Richardson, who says Australia never paid back all the debt incurred during World War II. We just grew our economy so fast, that it eventually dwarfed the size of the debt and interest payments became quite manageable. Saul Eslake agrees. "There has never been a year since federation when the federal government hasn't had some gross debt on issue. There have only been eight years since 1971 when the Commonwealth hasn't had some net debt [gross debt minus assets] outstanding." These years occurred under the Howard, McMahon and Gorton governments.

One reason to worry about rising government debt is if politicians spend the money on things which do not add value to society, meaning taxes have to remain higher than otherwise, thereby reducing living standards. At the worst extreme, an incredibly profligate government might lose the confidence of its lenders to lend, or find it can only do so at higher interest rates. But during times of crisis, economists say we should worry less about that and more about the alternative, of suffering a very deep economic downturn. "It should be well down the list of things to worry about," says Eslake. "The point is that people are falling over themselves to lend money to the government at very low interest rates."

One main reason not to worry is because the rise in debt is, at least in part, unavoidable - the direct result of the budget's "automatic stabilisers". That means the tendency of the budget to move into deficit during downturns, because welfare payments naturally rise and tax receipts naturally fall. Economists advise letting this happen, because if you try to lean against this tendency, by cutting spending or raising taxes, and you only deepen the resulting economic downturn, blowing out the budget deficit even more. Another reason not to worry is that part of the debt we're accumulating is a choice endorsed by economists, who advise the use of "counter-cyclical fiscal policy". That is, to spend evenmoremoney and cut taxes during a downturn, to help get the economy back on track. Once growth is restored, debt will shrink again, over time, as a per cent of the economy and become quite manageable.

30a)

According to the article, explain the meaning of budget surplus and budget deficit?(0.5 marks)

How will budget deficits and surpluses affect the level of government debt?(0.5 marks)

30b)

According to the article, explain how automatic stabilizers work?

30c)

"Lockdowns and other COVID disruptions hurt the government's budget on both the spending and income side." Explain one impact each on the government's budget spending and income side due to COVID and lockdowns(0.5 marks each)

30d)

"In one year we went from a government budget nearly in balance to one with an $85bn deficit and then added another $161bn in the following year. Massive budget deficits can lead to financial crowding out and may negatively affect the economy."

Explain what is meant by the financial crowding out from the above statement?

30e)

"Another reason not to worry is that part of the debt we're accumulating is a choice endorsed by economists, who advise the use of "counter-cyclical fiscal policy". That is, to spend even more money and cut taxes during a downturn, to help get the economy back on track".

What is meant by an economic downturn?(0.25 marks)Use the dynamic aggregate demand and supply model to explain the economic situation and the effects of the fiscal policy stance mentioned in the statement above.(4.75 marks)