Studies in Comparative Federalism: AUSTRALIA

AN INFORMATION REPORT

Studies In Comparative Federalism: AUSTRALIA

ADVISORY COMMISSION ON a INTERGOVERNMENTAL RElATlONS Washington, D.C. 20575 AUGUST 1 98 1 M-129

Preface

1 n the State and Local Fiscal Assistance eral Financial Relations. The selection of read- Amendments of 1976 (P.L. 488), Congress ings covers the institutions and practices asked the Advisory Commission on Intergov- which are unique to Australia, as well as those ernmental Relations to study and evaluate "the which it shares with other federal systems. allocation and coordination of taxing and These readings pay particular attention to the spending authority between levels of govern- ways in which Australia has coped with the ment, including a comparison of other federal fiscal imbalance between and, to a lesser ex- government systems." The objective of this re- tent, among governmental levels. While the search is to determine how federal systems in powers assigned to the national government other industrialized nations have dealt with are quite limited, its fiscal resources considera- some of the issues of fiscal federalism that are bly exceed those at the state-local level. As a of current concern in the United States. result, the Australian federal system makes ex- To carry out this assignment, four reports tensive use of equalizing grants from the feder- have been prepared: individual studies of Can- al to state governments. In addition, Australia ada and West Germany, this selection of read- relies upon an institution that is unique among ings on the federal system of Australia, and a the federal systems studied-the Australian comparative analysis of the United States and Loan Council-which controls the borrowing the other three countries. The Commission of the entire public sector except for national chose to describe the Australian system of fis- defense and temporary needs. cal federalism by a series of readings because of the availability of a rich array of studies prepared in Australia under the aegis of Russell Mathews, the Director of the Australian Na- Abraham D. Beame tional University's Centre for Research on Fed- Chairman

iii Acknowledgments

The Advisory commission on Intergovern- mental Relations (ACIR) wishes to thank the Centre for Research on Federal Financial Rela- tions of the Australian National University, Publius, The Journal of Federalism of Temple . University, and the Honorable Mr. Justice Else- Mitchell, C. M. G., for permission to reprint the articles which appear in this series of readings. Russell Mathews, Director of the Centre for Research on Federal Financial Relations, assisted in the selection of the articles and also adapted the articles which he had written for presentation in this volume. At ACIR, the studies were edited by Susannah E. Calkins and L. Richard Gabler. Secretarial tasks were shared by Ruth Phillips and Shari Quick.

Wayne F. Anderson Executive Director

John Shannon Assistant Director for Taxation and Finance CONTENTS

Chapter 1 Regional Disparities in Australia ...... by Russell Mathews. Centre for Research on Federal Fi- nancial Relations. The Australian National University Regional Disparities in Australia ......

Chapter 2 The Development of Australian Fiscal Federalism ...... by Russell Mathews. Centre for Research on Federal Fi- nancial Relations. The Australian National University Constitutional Background ...... Developments in Fiscal Federalism After Federation ...... Horizontal Fiscal Imbalance and Fiscal Equalisation Grants ...... Uniform Taxation and General Revenue Grants ...... Government Borrowing ...... Specific Purpose Payments ...... Statutory Commissions and Specific Purpose Payments ...... The New Federalism Policy ......

Chapter 3 Fiscal Equalisation in Australia ...... The Assessment of Relative Financial Needs: The Methodology of the Grants Commission ...... The Shift to Fiscal Capacity Equalisation and Direct Assessment . Evaluation of the Grants Commission's Methodology ...... Review of State Relativities Under Tax Sharing Arrangements ... Fiscal Performance Equalisation Through Specific Purpose Grants ...... Conclusion ...... Chapter 4 The Australian Federal Grants System and Its Impact on Fiscal Relations of the Federal Government With State and Local Governments ...... by The Hon . Mr . Justice Else.Mitchel1. C.M.G.,Chair- man. Commonwealth Grants Commission of Australia Early Resort to the Grants Power ...... Judicial Interpretation of This Grants Power ...... The Uniform Tax Scheme ...... The Grants Power and Commonwealth Policies ...... Labor Government's Policies from 1972 ...... Liberal-Country Party Government Policies from 1975 ...... Current Policy Trends ...... Interstate Relativities of Commonwealth Grants ......

Chapter 5 Local Government in Australia ...... by C.P. Harris. James Cook University of North Queens- land General Features of Local Authorities in Australia ...... Population and Area ...... Functions and Outlays ...... Receipts and Financing Items ...... A General Review of State-Local Relationships ...... State Legislation ...... Administrative Control ...... Fiscal Relationships ...... Administrative and Operative Agents ...... Organisational Structures ...... Responsibility to Electors ...... Summary ......

Chapter 6 The Australian Loan Council ...... by W.R.C. Jay. Visiting Fellow. Centre for Research on Federal Financial Relations. The Australian National University Origins of the Loan Council ...... The Financial Agreement ...... The Loan Council in the Great Depression ...... The Gentlemen's Agreement ...... Allocation of Loan Raisings ...... Post-War Domination of the Loan Council by the Commonwealth Changes in Relative Debt Positions During the 1970s ...... A Possible Threat to the Permanence of the Loan Council ...... Temporary Borrowing and the Loans Affair ...... Conclusion ......

Tables

Disparities Among the Australian States Affecting Fiscal Ca- pacity, 1976-77 Australian Government Payments to States, 1977-78 Commonwealth Revenue Payments to the States and State Taxation, 1977-78 Estimates of the States' Income Tax-Sharing Entitlements and Specific-Purpose Recurrent Grants in 1979-80 Classification of Australian Local Government Authorities by Population Size as of 30 June 1976 Range of Areas and Populations of Local Authorities, 30 June 1976 Local Authorities and Metropolitan Areas, 30 June 1976 Outlay by Local Authorities, Australia, 1975-76 Outlay of Local Authorities by State, 1975-76 Receipts and Financing Items, 1975-76

vii

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AUSTRALIA TASMANIA Chapter 1 Regional Disparities in Australia

Russell Mathews

Centre for Research on Federal Financial Relations The Australian National University

Theisland continent of Australia is about the same size as Europe (excluding Russia) and the U.S.A. (excluding Alaska and Hawaii), but it is inhabited by only 14 million people. It is a country of great climatic and physical diversity, ranging from the tropical and monsoonal north to temperate and Mediterranean climatic zones in the south; from great inland deserts to the small alpine region and the densely for- ested mountains of the southeast; and from the high rainfall areas of the northeast and the is- land State of Tasmania to the vast areas in which rain seldom falls. It is a land almost con- tinuously subject to natural disasters- droughts, cyclones, floods, bushfires and even earthquakes-but it also has great mineral, pastoral and agricultural wealth. Distance is a factor which has great social and economic significance for all Australians, not only because of the problems it creates for internal transport and communications but also because of its effect in isolating Australia from the rest of the world. Despite its small population, Australia is one of the most highly urbanised countries in the world with nearly six million people living in the two cities of Sydney and Melbourne and

Printed with permission of the Centre for Research on Federal Financial Relations of the Australian National University. This material originally appeared in The Pro- ceedings of the International Seminar in Public Econom- ics on Regional Aspects of Fiscal Policies, Toledo, Spain, September 6-8, 1978. some three million in seven other major urban export-oriented rural industries have naturally centres. been more susceptible to economic fluctuations Since World War I1 the predominantly than the heavily protected manufacturing in- Anglo-Saxon racial stock and the small Aborig- dustries and the service industries based in the inal population have been leavened by a great cities. Rough balance between rural and urban influx of immigrants from Europe, Asia and, to interests tends to be achieved by the nature of a lesser extent, South America. Of every five the Australian political grouping, which is re- residents, one was born overseas (including the flected in a division between the Australian La- United Kingdom) and another has at least one bor Party (a moderate socialist party which parent who was born overseas. relies heavily on the support of the trade union The change to a multiracial society has been movement) and two conservative parties-the achieved with relatively little social or eco- Liberal Party and the rural-based National nomic disturbance and has been accompanied Country Party-which usually govern in coali- by a major switch in Australia's economic relation. tionships. The United Kingdom and Europe The principal disparities among the states have been replaced by Japan, the U.S.A. and have been caused only partly by differences in other Pacific and Asian countries as Australia's the pattern of economic activity or in the de- main trading partners. gree of economic deve1opment.l By comparison with most other countries, living standards Regional Disparities in Australia are high in all states and there have been no persistent economically depressed areas in As a federal parliamentary democracy, Australia. Although income levels in the more Australia is governed by a federal government populous and industrialised states of New with its seat in the only inland city of any South Wales and Victoria are somewhat higher size-Canberra-and by six autonomous state than in the other four states, it will be seen governments. The sparsely populated Northern from Table 1 that differences in per capita in- Territory has also recently achieved self- comes and consumption expenditures among government, but the Australian Capital Territo- the states are small relative to regional differ- . ry continues to be administered by the federal ences in most other countries. government. The state governments all have Even differences in the pattern of economic highly centralised administrations based on activity should not be exaggerated. Not only the capital cities; for all practical purposes re- are New South Wales and Victoria important gions in Australia may be regarded as synony- primary producing states, but with the excep- mous with states or territories. tion of Western Australia (which has the Local government is weak and, although re- highest value of production per head in cereal gional movements exist in one or two of the grains, wool, sheep and fishing) the less popu- major river valleys, such regional bodies as do lous states all have at least one manufacturing exist are usually state agencies established to industry in which they record the highest pro- implement land-use planning legislation, production per head of population of any state. vide water, sewerage and electricity services Thus Queensland leads in food, beverages and on a coordinated basis and, in some cases, ad- tobacco; South Australia in transport equip- minister social services. A recent attempt by a ment (motor cars); and Tasmania in paper and Federal Labor government to develop a frame- paper products. work of regional administrative and communi- All states and the Northern Territory have ty services throughout Australia failed, largely very large mineral and energy resources: petro- because of opposition from the states. leum or natural gas in Victoria, South Australia Regional disparities in the Australian con- and Western Australia; coal in New South text are thus essentially disparities among the Wales, Queensland and Victoria; hydro power states. The great differences between the rural in Tasmania; and uranium in Queensland and and the urban economics have not usually been the Northern Territory; lead, zinc and copper reflected in great dispatities in incomes and in New South Wales and Queensland; iron ore wealth between these areas, although the in South Australia and Western Australia; Table 1 DISPARITIES AMONG THE AUSTRALIAN STATES AFFECTING FISCAL CAPACITY, 1976-77 Six States = 100

New South South Western Six Wales Victoria Queensland Australia Australia Tasmania States Population As of 30 June 1977

Average Annual Increasea Density Urbanization (major centres) Age 5-18 Age 65 and over

Labour Force As percentage of population State government employees as percentage of labour force

Value of Production Per capita Primary industries (excluding mining) Mining Manufacturing

Income and Expenditure Personal income per capita Average weekly earnings per employed male Cash social service benefits as percentage of personal income Consumption expenditure per capita

Social Services Government school enrollments as percentage of state population Public hospital beds per 1000 of population

Indexes of State Development Wage and salary earners in civilian employment Area used for crops Area used for pasture Value of mineral production Manufacturing employment Electricity generated Dwellings completed Railway freight traffic

Notes: (a) Five years ended June 30, 1976. (b) Average for three years ended June 30, 1977. (c) Three years ended 197C77, as percentage of three years ended 196566, relative to six-state average.

Source: Commonwealth Grants Commission, Forty-fifth Report 1978 on Special Assistance for States, Australian Government Publishing Sewice, Canberra, 1978, Appendix C. bauxite in Queensland, Western Australia and on their citizens. These include differences in the Northern Territory; and other metallic min- the capacity of states to raise taxation and natu- erals in all states. It is nevertheless true that ral resource revenues, differences in popula- the mineral and energy resources of tion size, age structure and the dispersion or Queensland and Western Australia are so large density of population, and differences in the by world standards as to raise the present rates physical and economic environment. of population and economic growth of those states above those of the other four states. While regional differences in the pattern and FOOTNOTE growth of economic activity have been relative- The annual reports of the Commonwealth Grants Com- ly small by the standard of other countries, nu- mission provide detailed information about demo- merous factors have contributed to significant graphic, social and economic differences among the differences among the states in their capacity states. See, for example, Commonwealth Grants Com- mission, Forty-fifth Report 1978 on Special Assis- to provide comparable government services tance for States, Australian Government Publishing without imposing differential taxes or charges Service, Canberra, 1978. Chapter 2 The Development of Australian Fiscal Federalism

Russell Mathews

Centre for Research on Federal Financial Relations The Australian National University

T he development of intergovernmental financial relations in Australia may be evaluated by reference to the concepts of vertical and horizontal fiscal balance. Vertical fiscal balance is defined as a situation in which each level of government commands the financial resources necessary for it to discharge its expenditure responsibilities and be held responsible for both spending and taxing decisions. Horizontal fiscal balance is defined as a situation in which each unit within a particular level of government (e.g., each state) has the capacity to provide services at a standard comparable to that of other units provided that it imposes taxes and charges at a comparable standard. Constitutional Background1

The Australian Constitution which came into effect on 1 January 1901, made provisions for three kinds of fiscal transfers from the Com- monwealth (federal) government to the states. The first of these involved a pure tax sharing arrangement, whereby the federal government

Printed with permission of the Centre for Research on Federal Financial Relations of The Australian National University. This article originally appeared in the Pro- ceedings of the International Seminar in Public Econom- ics on Regional Aspects of Fiscal Policies, Toledo, Spain, September 6-8, 1978. was required to transfer to each state at least the so-called Financial Agreement made in the three-quarters of the net customs and excise previous year, whereby both the federal gov- revenues derived from consumption in that ernment and the states agreed to hand over re- state for a minimum period of ten years after sponsibility for all borrowing arrangements federatione2Secondly, after a transition period (other than federal borrowing for defence pur- the federal government was required to transfer poses) to the Australian Loan Council. This all its so-called surplus revenue to the states on was an intergovernmental body in which the such basis as its parliament deemed fair. Third- federal government was given two votes and a ly, the federal government was empowered to casting vote and each state one vote. grant financial assistance to any state on such Decisions relating to the.size of the loan pro- terms and conditions as its parliament thought gram, interest rates and other terms and condi- fit. tions of loans were made subject to majority Under the Constitution, the federal govern- decision, but a unanimous decision was re- ment was also empowered to impose all forms quired for any changes in the distribution of of taxation "but so as not to discriminate be- the total amount borrowed among the seven tween states or parts of states." The states were governments. The Loan Council's jurisdiction given concurrent powers with respect to taxa- was restricted to the raising of loans; the feder- tion, except for being excluded from customs al government and the states remained free to and excise duties. This exclusion was to have spend the proceeds in accordance with their great importance in later years, when the High own priorities and policies. Court ruled in a series of confused judgments The fiscal transfers authorised by the Consti- that virtually all forms of sales or other indirect tution were intended primarily to redress the taxes on goods were excise duties and were vertical fiscal imbalance which resulted from thereby not available to the states. the loss by the states of what until then had On the expenditure side, the Constitution been their principal sources of revenue- gave the federal government responsibility for customs and excise duties and, to a lesser ex- defence, external affairs, international and in- tent, postal and telecommunication revenues terstate trade and commerce, maritime activi- -while they continued to be responsible for ties, citizenship and matrimonial matters, post- the provision of most of the costly services of al and telecommunication services, and various government. other matters extending beyond the limits of At the Federal Conventions of the 1890s dur- individual states. At the time of the drafting of ing which the [Australian] Commonwealth the Constitution, the stabilisation and distribu- Constitution was drafted, differences in popu- tion functions of government were not highly lation size and density and economic developed, but provision was expressly made disparities among the [Australian] colonies for federal control over currency and banking gave rise to a number of other political and and for federal powers with respect to the pay- economic issues which had to be resolved be- ment of invalid and old-age pensions. (In one fore federation could become a reality. A fur- of the few important constitutional amend- ther problem was created by differences in ments in 1946, the latter power was extended tariff policy, since New South Wales was a free to cover virtually all forms of cash social wel- trade colony while the others were in varying fare payments to individuals or families.) degrees protectionist. The states retained responsibility for the pro- The Conventions sought a political solution vision of education, health and most other so- to these problems, the assumption being that cial services, the control of local government demographic, political and economic dis- and the provision of most forms of community parities could be dealt with by political means and economic services. The allocation func- through an appropriate parliamentary struction, that is to say, remained essentially a state ture. The result was an uneasy compromise be- responsibility. tween the Westminster system of responsible The federal and state governments were giv- government and the United States approach of en concurrent powers with respect to bor- a federal congress, whereby each [Australian] rowing and the public debt, but another major state regardless of size was to have the same constitutional amendment in 1928 validated representation in a Senate which, for all practical purposes, would have the same legislative Developments in Fiscal Federalism powers as the House of Representatives. After Federation3 The four less developed and financially weaker colonies were aware that their acces- The constitutional provision whereby the sion to the new common market would involve federal government was required to pay its sur- them in higher costs of manufactured goods plus revenue to the states was thwarted by that and transport, to their disadvantage and the ad- government in 1908, by the simple device of vantage of New South Wales and Victoria. But paying the surplus into a trust fund and there- except for special transitional tariff arrange- by ceasing technically to record a surplus. The ments for Western Australia, the only explicit sharing of customs and excise revenues like- constitutional provision dealing with econom- wise did not extend beyond the compulsory pe- ic disparities or horizontal fiscal imbalances riod of ten years, being replaced in 1910 by a among the states was the requirement that the system of equal per capita general revenue states' share of federal customs and excise du- grants ($2.50 per head of state population). The ties should be distributed on a derivation or per capita grants continued until 1927, when consumption basis. they were withdrawn by a federal government This was somewhat more favourable to the which objected to what it called the vicious four less developed states than distribution on principle of one government raising taxes for a collections basis, which would have reflected others to spend. In their place, the states re- the greater trading and manufacturing strength ceived debt charges assistance as part of the ar- of New South Wales and Victoria. There was rangements for debt management and the some discussion about the possibility of coordination of government borrowing which adopting a population (or equal per capita) ba- resulted from the Financial Agreement and the sis of distribution. No agreement could be action taken to give constitutional authority to reached on this, although it was believed that the Australian Loan Council. the federal government would eventually dis- Because the states had access to income taxes tribute its surplus revenues in accordance with and, except for commodity taxes, most other this principle. forms of taxation, vertical fiscal imbalance was Ironically, the general grants power, whereby not a major issue during most of the period the federal government was enabled to provide from federation to the beginning of World War financial assistance to any state on such terms 11. The fiscal system was strained by the de- and conditions as it thought fit, was not a part mands of war finance during World War I and of the original draft Constitution. It was added by the budgetary problems of the Great Depres- in order to meet New South Wales objections to sion, but the federal government shared the dif- the financial arrangements after the first Con- ficulties and did not achieve any general finan- stitutional Referendum in that state had failed cial superiority over the states. to obtain the necessary majority. It was this provision which was eventually to Horizontal Fiscal Imbalance and enable the federal government not only to Fiscal Equalisation Grants achieve a position of financial domination in relation to the states generally but also to dis- The major problem which emerged during tribute general revenue grants, equalisation this period was one of horizontal fiscal imbal- grants and specific purpose payments among ance. First Western Australia (from 1910-1 I), the states on a basis which was much more then Tasmania (from 1912-13) and later South favourable to the financially weaker states than Australia (from 1929-30) sought and obtained a population basis would have been. Although special grants from the federal government to the grants power was subsequently used to cor- assist them in overcoming budgetary difficul- rect horizontal fiscal imbalances among the six ties, which they said were accentuated by the states, it and the other financial provisions in operation of the Constitution and by federal the Constitution were included primarily in re- tariff, shipping and other economic policies. sponse to the problem of vertical fiscal imbal- But these special grants were made on an ance as between the federal government and unsystematic and ad hoc basis and on a scale the states generally. which failed to satisfy the aspirations of the governments and the people of the states con- collectively. During the early years of World cerned. War 11, the financing of the war effort through By the 1930s, discontent with economic and federal taxes was severely constrained by dif- fiscal disparities had become so widespread ferences in the income tax rate structures of the that secession movements developed in all states. The federal government had asked the three states. Following a referendum in 1933 states to hand over their income tax powers for when two-thirds of Western Australian electors the duration of the war in return for fixed declared themselves in favour of secession, the grants, but the states had refused. government of that state presented a petition to In 1942, therefore, the federal government in- the British Parliament seeking leave to with- troduced uniform tax legislation which effec- draw from the Australian federation. This was tively excluded all states from income taxes, unsuccessful, because the British Parliament while giving each state a fixed tax reimburse- decided that the consent of the Australian ment grant equal to its average collections in (Commonwealth) Parliament was necessary be- 1939-40 and 1940-41. The reimbursement fore the Commonwealth would be dissolved grants were subject to the condition that the constitutionally. states would refrain from levying their own in- Meanwhile, the Australian Parliament had come taxes. The states remained legally free to responded to these developments by estab- raise income taxes but, because such taxes lishing the Commonwealth Grants Commission would have been superimposed on the high as an independent statutory authority, which Commonwealth rates and would have disqual- was to be responsible for inquiring into and re- ified them from receiving the reimbursement porting on applications by any state for special grants, it was politically impossible for them to financial assistance. The principles and meth- do so. Any state could apply through the ods developed by the Commission, (which are Grants Commission for additional financial as- described in greater detail in Chapter 3) pro- sistance if its tax reimbursement grant was con- vided an innovative and acceptable solution to sidered to be insufficient, and some grants the problem of horizontal fiscal imbalance in were paid under this arrangement in 1945-46 Australia. The Commission's approach has and 1946-47. been refined over the years, but from the begin- The continuation of this system after the war, ning it has represented the most highly devel- despite constitutional challenges by the states, oped system of fiscal capacity equalisation in changed the whole balance of the Australian any federal country. federation and left the federal government in a The recommendations of the Commission position of financial superiority which it has have always been accepted by federal govern- retained to the present day. ments. Because the financially weaker states After 1945-46, the amounts of the tax reim- are also the less populous states, the level of bursement grants were arbitrarily increased for special (equalisation) grants recommended has two years and thereafter determined by means always been low relative to the financial re- of a formula, under which the base amount was sources of the federal government, New South increased in accordance with changes in popu- Wales and Victoria. No doubt this has contrib- lation and average wages. The formula was uted to the general acceptance of the equalisa- varied to the benefit of the states from tion arrangements by all Australian govern- 1948-49. =Fromthat year, also, the distribution ments. among the states, which as noted above had previously reflected the states' own collections Uniform Taxation and in 1939-40 and 1940-41, and was therefore un- General Revenue Grants fair to states which had deliberately adopted Although an acceptable solution was thus policies of relatively low taxes and low stan- found to the problem of horizontal fiscal dards pf services, was gradually adjusted over a imbalance, it was not long before the problem ten-year period. By 1957-58, the total tax reim- of vertical fiscal imbalance re-emerged in an bursement grants were distributed in propor- acute form, as disparities among the individual tion to the populations of the states adjusted states came to be overshadowed by disparities for relative population densities and numbers between the federal government and the states of school-age children. In principle, the stage had thus been reached where the vertical fiscal of the federal government's decisions and the transfers from the federal government were be- failure at both federal and state levels to inte- ing distributed on an adjusted population ba- grate responsibility for taxing and spending sis, while horizontal fiscal adjustments were decisions. made independently through the Grants Com- Political decisions favouring particular states mission's procedures to the extent that the also replaced systematic analysis as the basis Commission could be satisfied that individual for dealing with fiscal disparities among the states had additional financial needs. states, as the distribution of financial assis- Even by 1957-58, however, this theoretically tance grants shifted from an adjusted popula- adequate system was breaking down because of tion basis to one which contained implicit but the persistence of chronic vertical financial arbitrary equalisation elements. The four finan- imbalance. Commonwealth grants to the states cially weaker states left or joined the Grants (including specific purpose grants, a growing Commission arrangements depending on how proportion) maintained a level approximately well they fared under the distribution of finan- twice that of state taxes, despite efforts by the cial assistance grants, and by 1975, none of the states to exploit additional revenue sources. original claimant states was seeking special as- The inadequacy of the reimbursement grant sistance. Only Queensland, which had first be- growth formula was indicated by the fact that come a claimant state in 1971, continued to ap- supplementary grants were made on an arbitra- ply for a special grant through the Grants ry basis every year after 1948-49, without no- Commission. ticeably alleviating the inadequacies that were apparent in the provision of state services. In Government Borrowing 1959, five of the six states applied for special grants through the Grants Commission. As a consequent of the federal government's A new system of financial assistance grants control over all major tax sources after World and a new growth formula replaced the taK re- War 11, it was also able to achieve a dominating, imbursement grants in 1959. At the same time, position in the Australian Loan Council. From adjustments were made to the distribution for- the early 1950s, it began to underwrite the loan mula with the intention of reducing the num- programs of the states, by making special loans ber of so-called claimant states (states seeking from its revenue surpluses to the extent that it special assistance through the Grants Commis- was prepared to approve programs which sion) to two (Western Australia and Tasmania), could not be met from public subscriptions. As it being understood that South Australia a result, by the late 1960s, the public debt of the (which until then had been a claimant state) federal government was more than covered by and Queensland would seek special grants amounts owing to it by the states, so that over- only in exceptional circumstances. all it was a net creditor on loan account. This Despite these adjustments, intergovern- vertical imbalance on capital account was mental financial arrangements in Australia partly corrected during the 1970s, when the continued to be characterised by bitter disputes federal government assumed responsibility for and confrontations between the federal and $1,000 million of state debts and the associated state governments at annual Premiers' Confer- charges and agreed to malie general purpose ences. Frequent adjustments were made on an capital grants to the extent of one-third of the arbitrary and ad hoc basis to the financial as- total Loan Council programs it was prepared to sistance formula as well as to the financial ar- approve. rangements generally, which had the effect of The Commonwealth did little during this pe- increasing the total amount of financial assis- riod to influence the distribution of loan mon- tance grants, improving the relative debt posi- eys among the six states. This continued to re- tion of the states and, in 1971, giving the states flect past allocations rather than the relative access to a major form of taxation (payroll tax) needs of the states for public works expendi- which until then had been levied by the federal ture. Although the loan programs of state government. But the frequent adjustments semigovernment (.i.e., business undertaking) failed to affect the inherent instability of the and local authorities were also subject to Loan system, which arose from the arbitrary nature Council approval, some states were able to finance public works expenditure by indirect of relatively greater benefit to New South means. Wales and Victoria. Urban programs supported Thus mining companies in Queensland and by the federal government included: metropol- Western Australia were required to provide itan and regional growth centres designed to much of the capital needed to construct rail- relieve population pressure on Sydney and ways, port facilities and even townships for the Melbourne and, to a lesser extent, some of the purposes of some of the major mining develop- smaller state capital cities; land acquisition for ments in those states. In the case of Queens- residential and associated uses; the improve- land's special mineral railway lines, for exam- ment of community facilities in urban areas; a ple, the mining companies were required to national program to eliminate the backlog of lodge special deposits with the government to sewerage works in the principal cities; urban finance the cost of constructing the lines and water supply; and urban public transport. purchasing the rolling stock which the state In addition, however, there was an extension railway authority needed to operate the system. of Commonwealth specific purpose payments The government's debt was then redeemed into the fields of education, health and other from mineral freights when operations on the social and community services, not only lines commenced. through capital grants but also through grants Loan Council borrowing constraints could for recurrent purposes. also be circumvented by leasing equipment or Recurrent grants for universities had com- by arranging for profitable state business un- menced in 1951-52, and during the next 25 dertakings (such as electricity authorities and years were extended to cover capital expendi- insurance offices) to finance developmental tures, other forms of tertiary education, and other public works from retained profits. nongovernment schools, government schools, In 1978, also, the Loan Council agreed to per- preschools, technical education and research. mit individual states to borrow overseas to fi- Federal assistance for health services com- nance approved infrastructure development. menced with grants in the 1950s for special- ised purposes such as control of tuberculosis, Specific Purpose Payments mental hospitals and nursing homes, followed in the 1970s, by grants of up to 50% of the net None of these arrangements provided a sys- recurrent costs of state public hospitals, devel- tematic solution to the problem of disparities opment grants for public hospitals and commu- among the states in their need for administra- nity health facilities. Assistance for social se- tive, social and developmental capital. In any curity and welfare commenced on a significant event, the principal instruments used to re- scale in the 1970s, and covered such activities dress horizontal fiscal imbalance in relation to as home care services, senior citizens' centres, public works expenditure were specific pur- pensioners' dwellings, employment grants and pose capital grants and advances from the Aboriginal advancement. Commonwealth to the states. The federal gov- Special provisions for housing finance oper- ernment had long been making grants to the ated from 1945-46, with the states or their states for particular development or other housing authorities receiving interest conces- capital purposes-road and railway grants had sions or, from 1971-72, grants for welfare commenced in the 1920s, and after World War housing. Grants to the states for cultural and I1 the list was extended to include shipping recreational purposes and for legal aid com- and harbours, water resources and power proj- menced in 1973-74. In addition to providing ects, agricultural development and housing. grants on a $1 for'$l matching basis for natural Most of the early programs favoured the less disaster relief, the federal government in 1971, industrialised states in general and rural areas began to meet all approved state expenditures in particular. But the rapid growth in specific in respect of major disasters in excess of desig- purpose payments which occurred during the nated base amounts, which were determined 1960s and 1970s, was centred to a much greater roughly in proportion to state populations. extent on the needs of people living in the cit- As noted above, all local government bor- ies. Some programs were especially designed rowing in Australia is controlled by the Austra- to alleviate urban problems and were therefore lian Loan Council. After World War 11, the fed- era1 government began to make direct was a direct consequence of the vertical finan- payments to local governments for such pur- cial imbalance which resulted from uniform in- poses as domiciliary care, aged persons' come taxation and the other shifts in financial homes, employment for handicapped persons, powers which have been noted above. Denied and local aerodromes. These were supple- access to their own tax revenues and limited in mented during the 1970s by grants for nursing the amounts they could borrow through the homes, child care, Aboriginal advancement, Loan Council, the states were forced to accept community arts and regional employment. the specific purpose payments and with them During the 1970~,the federal government also the conditions which the federal government introduced a number of programs involving attached to the payments. These were mainly payments to local government through the spending conditions involving acceptance of states, the most important of which were: the federal government's priorities and poli- equalisation grants made on the recommenda- cies, which were often formulated without ade- tion of the Grants Commission in accordance quate planning or consultation with the states. with the principles and procedures it had de- To the extent that revenue conditions were veloped for assessing the financial needs of imposed, these generally took the form of a re- claimant states; and so-called area improve- quirement that the states maintain their ex- ment grants for the benefit of local govern- isting revenue effort and seldom involved bur- ments in the underprivileged western regions densome matching requirements. Even the of Sydney and Melbourne. grants for up to 50% of hospital operating costs In addition, various grants were made by the did not impose onerous revenue conditions on federal government to encourage the develop- the states, since they substantially relieved the ment of regional organisations of local govern- states of existing expenditure responsibilities ments, assist local governments in the new and enabled them to switch funds to other regional growth centres and facilitate the es- uses. Specific purpose payments for capital tablishment of regional councils for social de- purposes usually took the form of advances velopment under the Australian Assistance rather than grants where the payments were to Plan, which was then being implemented as be used to acquire revenue-producing assets. part of a comprehensive program of community Although the specific purpose programs development and social welfare. were primarily concerned with vertical shifts Although there had been a steady growth in in power from the states to the federal govern- the range and magnitude of specific purpose ment, during the 1960s and 1970s they increas- programs throughout the period after World ingly incorporated elements of horizontal fiscal War 11, there was a dramatic increase in the adjustment which were designed to alleviate or three years during which a Federal Labor Gov- remove disparities in the provision of govern- ernment held office from December 1972 to No- ment services among the states. The first spe- vember 1975. Total specific purpose payments cific purpose grants, those for roads, had been increased from $901 million (or 2.1% of Gross distributed on the basis of two-fifths according Domestic Product) in 1972-73 to $4,216 million to area and three-fifths according to popula- (or 5.8% of GDP) in 1975-76, reflecting the de- tion, and subsequent programs in this and clared intention of the Australian Labor Party to some other fields incorporated distribution for- use the federal government's grants power to mulas which were intended to distribute funds take over the direction of the major functions of in accordance with rough and arbitrary politi- government for which the states had formal con- cal judgments about relative needs. stitutional responsibility. It should be noted, However, compared with other federal coun- however, that general revenue grants also in- tries, the formula approach has not been wide- creased substantially during this period (from ly adopted in Australia as a method of $1,923 million to $3,112 million), despite an determining the distribution of specific pur- offsetting reduction when the federal govern- pose grants. Federal governments have either ment assumed full responsibility for financing made all kinds of ad hoc politically motivated tertiary education and for railway operations in decisions in response to state requests for as- some states. sistance or, in implementing new programs on The expansion of specific purpose programs their own initiative, have established statutory commissions to advise them on the level and nancial support needed to ensure that stan- pattern of expenditures and on the distribution dards of government services in functional of grants and other funding arrangements. fields were adequate and comparable not only between but also within states. They were therefore concerned with achieving equalisa- Statutory Commissions and tion in fiscal performance. Ideally, this presup- Specific Purpose Payments posed equality in the outputs of educational, health, welfare, transport, urban and other The significance of specific purpose pay- services, but because of the difficulties of ments in Australian federalism cannot be comparing outputs the commissions usually grasped without an understanding of the role sought merely to equalise expenditure inputs. of these statutory commissions which, al- Nevertheless, there were wide differences in though advisory and outside the formal struc- the approaches of the various bodies. The Com- ture of parliamentary and executive govern- monwealth Bureau of Roads based its recom- ment, have played a major role in the mendations on substantial empirical analysis development of government services. The pro- undertaken for the purpose of formulating, by totype for such bodies was the Commonwealth means of cost-benefit studies, road programs Grants Commission, which since its establish- which would yield a designated rate of return. ment in 1933 has acquired a semijudicial status The Schools Commission attempted to move and has always had its recommendations for towards equality in recurrent expenditures per special financial assistance accepted by gov- student in both government and nongovern- ernments. But the Grants Commission has been ment schools, while making special provision concerned only with general revenue grants for for migrant education, handicapped children, purposes of equalising fiscal capacity among disadvantaged schools, teacher and community states or local governments. development and special building needs. Other The establishment of advisory bodies in the commissions sought to fill functional, pro- functional fields represented by the federal gram, institutional or geographical gaps in the government's specific purpose programs repre- provision of services. sented a new development, which involved the Not only did these approaches seldom take direct assessment of the expenditure needs of into account differences in state capacity to each state for the purposes of those programs, provide services or their relative revenue- on the basis of what a former Prime Minister raising and expenditure efforts, but the com- called "systematic, impartial and objective in- missions frequently recommended grants quiry." The forerunner of these bodies was the which had the effect of compensating particu- Australian Universities Commission, which lar states for deficiencies arising from their was established in 1959 to advise on grants to own past priorities or policies. The more gen- the states for universities. Subsequently, the eral problem of reconciling fiscal capacity and federal government established a Common- fiscal performance equalisation in Australia is wealth Bureau of Roads, a Commission on Ad- examined in Chapter 3. vanced Education, a Technical and Further Ed- There were other weaknesses in the constitu- ucation Commission, a Schools Commission, a tion and method of operation of the statutory Children's Commission, a Hospitals and Health commissions, associated with the problem of Services Commission, a Social Welfare Com- defining their relationships to Parliament and mission, a Cities Commission and a National the executive government, a failure to fit their Heritage Commission. recommendations into the normal budgetary One aspect of the work of these commissions, processes of priority determination and finan- like that of the Commonwealth Grants Commis- cial appropriation, and their tendency to oper- sion, was concerned with the assessment of relate as federal rather than intergovernmental ative financial needs for equalisation purposes. agencies even though they were concerned However, instead of recommending grants for with making recommendations for financial as- general revenue or fiscal capacity equalisation, sistance in fields which were the constitutional the specific purpose commissions made judg- responsibility of the states. ments about the levels of expenditure and fi- Some of these weaknesses have been dealt with by abolishing commissions or by absorb- al tax indexation in the latter year. By contrast ing their functions in the public service depart- with the position before 1974, when the federal ments. The specific purpose commissions government was using substantial revenue sur- which continue in existence (apart from the pluses to make special loans to the states to fi- Grants Commission these are the Tertiary Edu- nance their works programs, it now began to cation Commission, the Schools Commission incur large budget deficits largely for the pur- and the National Heritage Commission) must pose of financing increased specific purpose operate within approved budgetary guidelines and other grants to the states. and are now primarily concerned with the distribution of funds among states and education- The New Federalism Policy al or other institutions. There has thus been a recognition that the specific purpose commis- The new Liberal-National Country Party Gov- sions, like the Grants Commission, are better ernment which came to power in December equipped to advise on relative than on absolute 1975, had adopted and began to implement a financial needs. new federalism policy which, after discussions The financial domination which the federal with the states at a series of Premiers' Confer- government achieved through uniform income ences, was based on the following major ele- taxation, control over Loan Council programs ments: and the use of specific purpose payments resulted in increasingly acrimonious conflicts a) A system of personal income tax sharing between federal and state governments, espe- was to replace the financial assistance cially after the Australian Labor Party came to grants arrangements, with the states being power in 1972, and began to adopt centralising given a designated share of federal govern- policies that were expressly designed to reduce ment personal income tax collections the power of the states. The states responded based on the relationship of financial as- by mobilising political opposition to such poli- sistance grants to such tax collections in cies, so successfully that they became a major 1975-76 (the ratio for a given year was issue in state and federal elections. The Federal eventually fixed at 39.87% of collections in Labor Government was defeated in a general the previous year). election in December 1975 (after it had been b) The distribution of tax sharing entitle- dismissed by the Governor-General in highly ments among the six states was originally controversial circumstances when the opposi- to be based on the distribution of financial tion-controlled Senate had refused to grant assistance grants in 1975-76, but was to be supply) reviewed by the Commonwealth Grants The massive growth in federal payments to Commission in accordance with its fiscal the states between 1972-73 and 1975-76, had capacity equalisation principles (after op- significantly improved their financial position, position from some states it was agreed despite their complaints about the restrictive that the three-member Commission would effects of specific purpose programs and their be augmented for this purpose by three attempts to replace the growth formula for fi- members nominated by the states). nancial assistance (general revenue) grants by a percentage share of federal income tax collec- c) Although a system of uniform tax assess- tions. ment and collection was to continue to op- Ironically, the large increase in specific pur- erate, each state was to be permitted to pose payments which had been so bitterly re- impose a percentage surcharge or allow a sented by the states was a major factor in shift- percentage rebate on personal income tax ing the financial balance of the Australian collections in that state, to its own benefit federal system in their favour, to the disadvan- or cost. tage of the federal government. Other factors d) Special equalisation arrangements to be contributing to the federal government's bud- administered by the Grants Commission getary difficulties were a large growth in cash were to apply to the state tax surcharges, social welfare payments to individuals between while the four less populous and financial- 1973 and 1976, and the introduction of person- ly weaker states were to continue to be eligible to apply through the Commission for to operate for most states. special (equalisation) grants. Except in the fields of education (where e) The federal government would be able to grants have been roughly maintained in real introduce personal income tax surcharges terms) and health and welfare (where there has or rebates without affecting state entitle- been an increase in hospital grants and it ments, but guarantee provisions were to seems likely that most other grants will be con- operate for a number of years to prevent solidated into block grants), most specific grant state entitlements from falling below the programs have been abolished or severely cur- amounts they would have received as fi- tailed rather than absorbed into general reve- nancial assistance grants (there was also to nue or block grants. This has been especially be a continuing guarantee that a state's the case with grants for urban and regional entitlement in one year would not fall be- purposes. The principal reason for this has low that of the previous year). been the federal government's difficulty in holding down the size of its budget deficit, a f) Specific purpose programs were to be re- problem which has also given rise to a signifi- stricted to areas of national need and cant reduction in the effective size of the capi- grants to encourage innovation or to meet tal works programs which the federal govern- special situations, and as far as possible ment is prepared to support through the Loan were to be reduced in size or absorbed into Council. general revenue or block grants. The states, which had previously been so g) Local governments were also to receive a critical of the federal government's use of the designated share of the previous year's per- financial assistance grants formula and of the sonal income tax collections (1.52%) in- restraints imposed by the conditions attached stead of the equalisation grants paid on the to specific purpose grants, now began to com- recommendation of the Commonwealth plain of the loss of revenue under the new ar- Grants Commission, whose future role was rangements, but so far no state has taken ad- to be restricted to advising on the inter- vantage of the opportunity to impose its own state distribution of the tax sharing funds. income tax surcharge. The federal government h) State Grants Commissions were to be es- must share responsibility for this, because its tablished to advise on the distribution of steps towards a restoration of vertical fiscal local government tax sharing entitlements balance did not include the making of tax room among individual local authorities, but at for the states by simultaneously reducing both least 30% of the total amount was to be dis- its own rates of personal income tax and the tributed on a population basis and only the level of the states' tax sharing entitlements. remainder in accordance with equalisation This would have forced a measure of fiscal re- principles. And, sponsibility on the states instead of permitting i) Measures were to be taken to improve them to continue to seek increased payments intergovernmental consultation and coop- from the federal government. eration, including the establishment of an The prospects for improved horizontal fiscal Advisory Council for Inter-government Re- balance under the new arrangements are some- lations modelled on the U.S. Advisory what brighter, as the enlarged Commonwealth Commission on Intergovernmental Rela- Grants Commission has now begun its review tions (ACIR). of the state relativities of the income tax sharing entitlements. The new system is now in operation, but so The amounts and the per capita distribution far there has been little noticeable improve- of the major forms of federal government payment in federal-state financial relations. Tax ments to the states in 1977-78, are recorded in sharing entitlements flowing to the states have Table 2. It should also be noted that payments fallen well below expectations, partly because of $53 million or $484.73 per head of popula- of the introduction of personal tax indexation tion were made in that year to the Northern and partly because of depressed economic ac- Territory, which became a self-governing terri- tivity and high unemployment, so that the fi- tory on 1 July 1978. The main functions of gov- nancial assistance formula guarantee has had ernment were transferred progressively to the Table 2

AUSTRALIAN GOVERNMENT PAYMENTS TO STATES, 1977-78 (in millions of Australian dollars)

Payments Per Head of Population New Total South Queens- South Western Six Form of Payment Payments Wales Victoria land Australia Australia Tasmania States

Personal Income Tax Sharing Entitlements $ 4,316.6 $264.89 $259.08 $357.87 $395.48 $429.38 $ 51 9.66 $313.63 Special Grants 24.8 - - 11.52 - - - - -___- -- Total General Revenue Funds 4,341.4 264.89 259.08 369.39 395.48 429.38 519.66 313.63 ------General Purpose Capital ~unds(') 1,433.8 93.03 94.78 88.30 145.54 109.57 243.84 103.58 --- -- Total General Purpose Funds 5,775.2 357.92 353.86 457.69 541.02 538.95 763.50 417.21

Specific Purpose Payments- Recurrent Purposes 2,873.6 203.28 206.12 186.17 227.13 243.94 217.63 207.60 Specific Purpose Payments- Capital Purposes 1,575.5 98.94 96.19 127.05 150.57 144.57 182.16 113.82

P ------Total Specific Purpose Payments 4,449.1 302.22 302.31 313.22 377.71 388.51 399.79 321.42 ------Total Payments and Loan Council Borrowing Programs 10,224.3 660.14 656.1 7 770.91 918.73 927.45 1,163.29 738.62 ------State Taxation 4,300.5 338.41 346.35 234.17 276.86 283.44 234.19 31 0.64

Note: (a) One-third capital grants, two-thirds Loan Council borrowings.

Source: Commonwealth of Australia, Payments to or for the States, the Northern Territory and Local Government Au- thorities 1978-79, 1978-79 Budget Paper No. 7, Australian Government Publishing Service, Canberra, 1978, Tables 85, 88; Australian Bureau of Statistics, Taxation Revenue, Australia 1977-78, Canberra, 1979, Cata- logue No. 5506.0, Table 4.

Northern Territory Assembly between 1 Janu- applied for a special grant through the Com- ary 1977 and 30 June 1979. The financial ar- mission for 1979-80. rangements between the federal and the North- Table 2 also records per capita state taxation ern Territory were similar to those for the from own sources as a basis of comparison. Dif- states, so that from 1 July 1979, the territory ferences in the per capita amounts reflect dif- will receive a personal income tax sharing ferences in revenue-raising capacity as well as entitlement, relevant specific purpose pay- differences in tax effort. It will be seen that in ments, and general purpose capital funds on 1977-78, state taxes as a percentage of total the same basis as State Loan Council programs. federal government payments ranged from a The Territory will also have access to the Com- high of 52.8% in Victoria to a low of 20.1% in monwealth Grants Commission, and has in fact Tasmania, the six-state average being 42.1%. See also R.L. Mathews and W.R.C. Jay, Federal Fi- FOOTNOTES nance, op. cit., for the period to 1972; the annual reports of the Centre for Research on Federal Financial See R.L. Mathews and W.R.C. Jay, Federal Finance, Relations (e.g., Russell Mathews, Fiscal Federalism Nelson, Melbourne, 1972, for a fuller discussion of the 1977, Australian National University Press, Canberra, factors which shaped the Australian Constitution. 1978) for developments since that date; and the annual Pending the imposition of uniform customs and excise Commonwealth budget papers, especially Payments to duties and the development of a complicated book- or for the States and Local Government Authorities keeping system to enable revenues to be assigned to 1975-76, Australian Government Publishing Service states according to place of consumption rather than (AGPS), Canberra, 1975; and Payments to or for the place of importation or manufacture, each state was States, the Northern Territory and Local Government credited with the net revenues collected in that state. Authorities 1978-79, AGPS, Canberra, 1978. Chapter 3 Fiscal Equalisation in Australia

Russell Mathews

Centre for Research on Federal Financial Relations The Australian National University

The Australian fiscal response to regional disparities has not typically taken the form of development incentives but has rather been di- rected towards the equalisation of state government administrative, social and economic services. This has been achieved partly by a sophisticated system of general revenue equalisation grants from the federal government in support of the revenue budgets of the four financially weaker states, based on an assessment by a body established for the purpose-the Commonwealth Grants Commis- sion-of differences in revenue-raising capacity among the states on the one hand and differences in costs of providing government services on the other. Implicit fiscal capacity equalisation has also been undertaken through the distribution of general revenue grants or shared taxes among the states, but until now the distribution has reflected ad hoc political decisions rather than the systematic assessment of relative needs. However, in 1978 the Commonwealth Grants Commission was given the task of reviewing the distribution of tax sharing entitlements among the six states in accordance with its

Printed with permission of the Centre for Research on Federal Financial Relations of the Australian National University. This article has been adapted by the author from the Proceedings of the international Seminar in Public Economics on Regional Aspects of Fiscal Policies, Toledo, Spain, September 6-8, 1978. establised principles of fiscal capacity Special grants are justified when a equalisation. State through financial stress from any The federal government has also made cause is unable efficiently to discharge increasing use of specific purpose payments to its functions as a member of the feder- the states, some of which have had the effect of ation and should be determined by the equalising fiscal performance or of promoting amount of help found necessary to economic development. Many of the specific make it possible for that state by rea- purpose payments are distributed among the sonable effort to function at a standard states in accordance with assessments of rela- not appreciably below that of other tive needs by specially constituted commis- states3 sions or advisory bodies. The different kinds of fiscal equalisation ar- There were several elements in the Commis- rangements are examined in detail below. sion's approach at this time which need to be emphasised. First, special grants were consid- ered to be justified only to the extent that they were necessary to enable claimant states (at The Assessment of Relative Financial Needs: The Methodology of the Grants Commission1 that time, South Australia, Western Australia and Tasmania) to provide government services at an appropriate standard. Secondly, the des- Since its establishment in 1933, the Com- ignated standard was not one of equality with monwealth Grants Commission has developed nonclaimant states but was rather a minimum a comprehensive set of principles and methods standard which would enable a claimant state for dealing with applications by so-called to function with reasonable efficiency. In rec- claimant states for special financial assistance. ommending a special grant, the Commission at The Commission's early approach was based this time was thus concerned with assessing a on pioneering work on the concepts and mea- claimant state's minimum financial needs and surement of relative fiscal capacity and tax ef- not with bringing its fiscal capacity up to the fort by one of the first members of the Commis- level of the most prosperous states. Thirdly, a sion, Professor L.F. Giblin2 reasonable revenue-raising effort was required In its first three reports, the Commission re- of the claimant states. Fourthly, the financial jected arguments that special grants should needs of claimant states were assessed indi- compensate for economic disabilities resulting rectly rather than directly, by means of com- from the operation of the Commonwealth Con- parisons of the budget results of the claimant stitution, the tariff and other policies of the states with the results of other states being federal government, or the poverty of a state's used as the standard. Finally, the comparisons resources. It decided that it would be impossi- were restricted to items in the so-called consol- ble to measure the economic disabilities asso- idated revenue fund budgets of the states. ciated with federation, that grants should not Capital expenditures and financing transac- be provided in such a way as to encourage tions which were traditionally recorded in sep- uneconomic development, and that it was not arate loan funds were excluded from the com- the Commission's responsibility to equalise the parisons, as were the transactions of statutory incomes and living standards of individual cit- corporations not subject to detailed parliamen- izens in the several states. tary scrutiny, trust funds and other earmarked However, to the extent that a state and its cit- funds such as those used for road finance and izens suffered from economic disabilities of expenditures. any kind, these would be reflected in the state's In applying its principle of financial need relative financial position. The Commission and assessing a claimant state's special grant, therefore decided to base its recommendation the Commission adopted the following proce- for a special grant on a comparison of the dures: budgetary position of the claimant state with that of other states. In the Commission's Third a) So-called corrections or modifications Report (1936)' the criterion adopted as a basis were made to the published budget results for special financial assistance for a claimant of the claimant state and of the three state was expressed as follows: nonclaimant states which were used as the standard of comparison (at that time New unfavourable adjustment was made which, South Wales, Victoria and Queensland), so as part of a second component of the rec- as to eliminate the effects of differences in ommended grant, had the effect of dimin- accounting practices and financial poli- ishing the grant. In effect, the adjustment cies. offset the higher deficit which resulted b) The modified budget results of the from the lower than standard tax effort. It claimant state and the standard states were should be noted that the tax effort adjust- then converted to per capita amounts, and ment did not itself operate as a constraint the difference between the per capita defi- on the claimant state's tax policies, but was cit of the claimant state and the simple av- merely intended to ensure that the budget erage of the per capita budget results of the result comparison reflected differences in standard states was multiplied by the taxable capacity rather than differences in claimant state's population to calculate the tax effort. However, the Commission at first component of the recommended grant. first adopted certain other procedures This calculation was subject to an impor- which had the effect of limiting the pro- tant constraint, which emphasised the fact cess of fiscal equalisation and influencing that the Commission's principle was one of state policies. It thus initially required a meeting minimum financial needs and not claimant state's tax effort to be higher than one of equalising fiscal capacity. If the av- that of the standard states (and its per capi- erage per capita budget result of the ta expenditures to be lower); these addi- standard states was a surplus, then the tional effort requirements were described grant recommended for the claimant state as penalties for claimancy. For many years, was merely sufficient for its budget result also, the Commission did not allow a to be brought into balance. claimant state the benefit of a net favourable adjustment if the combined effect of c) The comparison of modified budget re- its revenue effort and expenditure levels sults for the purpose of calculating the per was favourable relative to standard. capita difference only provided an indication of financial need to the extent that the e) Adjustments were also made for depar- revenue-raising efforts and the range and tures by the claimant state from standard quality of services were comparable as be- levels of expenditure. For each expendi- tween the claimant and the standard states. ture item, the difference between the The Commission recognised that if the rec- claimant state's actual per capita expendi- ommended grant was based solely on the ture (as modified) and the simple average differential budget results, it would be pos- of the standard states' modified per capita sible for the claimant state to influence the expenditure was multiplied by the claim- size of the grant merely by increasing its ant state's population. The resulting deficit, for example by reducing its own unfavourable or favourable adjustment tax efforts or by adopting extravagant ex- formed part of a third component of the penditure policies. To preclude such a pos- recommended grant. In addition to the sibility, the Commission made adjustments penalties for claimancy and the limitations for differences in the claimant state's reve- it imposed on the use of net favourable ad- nue and expenditure policies relative to justments (noted in d above), the Commis- those of the standard states. sion adopted certain other procedures d) There was thus an adjustment for each which made it possible for the recom- tax (or other revenue) source, calculated by mended grant to reflect policy differences referenee to the difference between the among the states as well as relative finan- claimant state's actual collections and the cial needs. During the first few years, no amount it would have raised if it had ap- allowance was made for the fact that a plied each of the standard state's tax claimant state might need to incur higher schedules to its own tax base. If its own costs in providing services comparable to collections fell short of the simple average those of the standard states, because of a of the standard collections, a so-called relatively larger number of units to be served (e.g., for demographic reasons) or soned argument. Although data limitations higher unit costs (e.g., because of often made it necessary for the Commis- diseconomies of small scale or difficulties sion to resort to broad judgment in its de- in providing services for a dispersed popu- liberations, wherever possible its decisions lation). This limitation was reversed when were based on verifiable data. During re- the Commission began to make what it cent years, detailed work-sheets running called allowances for special difficulties. A into several volumes have been made avail- more intractable problem arose in relation able to the interested parties. to items of expenditure (or revenue) for which it was difficult to separate the ef- To conclude this summary of the original fects of differences in policy or efficiency Australian response to fiscal disparities, the from the effects of disabilities on the following further points may be noted. First, claimant state's financial position. Initially the recommended grant was paid by the federal the Commission made no adjustment for government to the claimant state and, except to the extent that they cooperated in providing most items of general administration ex- budgetary data, the nonclaimant states played penditure and debt charges, so that a no part in the proceedings which led to the as- claimant state's implied need in relation to sessment of the grant. The Australian arrange- these items was simply the difference in per capita expenditures as between the ments were undoubtedly helped by the fact that special grants were relatively small by claimant and the standard states. comparison with equalisation grants in other f) To overcome the two-year time lag be- countries, not only because fiscal disparities tween the most recent year for which bud- were not as great but also because the finan- get data were available and the year in cially weaker states were the less populous which the special grant was paid, the Com- states. mission initially adopted a complicated Secondly, the special grant paid to claimant system of advances and deferments in an state was unconditional in the sense that, sub- attempt to make grants reflect current ject to the qualifications which have been not- needs. After 1949, however, it introduced a ed, it left the recipient state free to determine two-part system, whereby the grant recom- its own revenue and expenditure policies. Al- mended for payment in a particular year though the Commission's original procedures was composed of two elements, an advance fell short of full fiscal capacity equalisation grant for that year (the year of payment) and incorporated a revenue effort adjustment, and a completion grant for the second last the latter merely offset the effect of differences year, for which published and audited in revenue effort on the differential budget re- budget results had by then become avail- sult. As noted above, the net effect was to elim- able (the year of review). The completion inate the effect of differences in revenue effort grant represented an adjustment to the ad- from the assessment of the claimant state's fi- vance grant in the year of review and could nancial needs by using the standard states' rev- be negative or positive. enue effort as the basis of comparison. g) In developing a framework for its inquir- Thirdly, and again subject to the qualifica- ies, the Commission adopted the procedure tions which have been noted, the Grants Com- not only of analysing relevant budgetary mission's procedures resulted in an assessment and statistical data but also of conducting of a claimant state's relative expenditure needs inspections and public hearings. At the as well as its relative revenue needs, and thus hearings, witnesses representing the claim- extended beyond the scope of fiscal capacity ant state and the Commonwealth Treasury equalisation arrangements in most other coun- were required to give sworn evidence and tries. However, the comparison was restricted transcripts were taken of the proceedings. to recurrent expenditures and to the results of The Commission's reports gave detailed certain government business undertakings. consideration to the submissions of the in- Finally, the Commission's recommendations terested parties and from the beginning its in relation to special grants have always been recommendations were supported by rea- accepted by federal governments. The Shift to Fiscal Capacity quality of services as the standard states and Equaliration and Direct Assessment (ii) the expenditure it would have incurred if its per capita expenditure had been the same as Over the years, the Grants Commission's the average of the standard states. Total as- original approach to the assessment of a claim- sessed needs were then simply the sum of as- ant state's financial needs has been modified in sessed revenue and expenditure needs, repre- two principal ways. The first has involved a senting the claimant state's shortfall in shift from the criterion of minimum financial revenue-raising capacity relative to the stan- need to one of full fiscal capacity equalisation, dard states and its additional costs of providing defined as the financial assistance necessary to services comparable to those of the standard give a claimant state the capacity to provide states. services comparable to those of the standard The new approach is essentially a new form states without having to impose higher taxes of presentation and does not of itself solve the and charges. The second change has involved a data problems which have been noted, but the shift from indirect assessment based on budget Commission has progressively extended its result comparisons to the direct assessment of analysis so as to limit the extent to which it revenue and expenditure needs. Thus the Com- must exercise broad judgment' in distinguish- mission ceased to impose additional effort re- ing between policy or efficiency differences quirements or penalties for claimancy during and a claimant state's needs. World War 11; progressively relaxed its limita- Under the new approach of the Commission, tion on the inclusion of net favourable adjust- a claimant state's differential revenue-raising ments in the calculation of special grants; and capacity or revenue need is measured by ap- eventually, in 1975, abandoned altogether its plying the average standard state revenue effort rule that the grant recommended should be to the difference between the average standard limited to the amount necessary to achieve state per capita revenue base and the per capita budget balance. revenue base of the claimant state. A claimant After a change in federal-state financial ar- state's differential revenue-raising capacity rangements in 1959, which resulted among may be expressed in an alternative formulation other things in South Australia ceasing to be a as a variation from the standard per capita rev- claimant state, the Commission adopted a two- enue collections. This variation depends on the state standard based on the average fiscal ca- ratio of the claimant state's per capita revenue pacity of the two states with highest capacity, base to the standard per capita revenue base. New South Wales and Victoria. The measurement of a claimant state's differ- In 1974, also, the Commission adopted a new ential revenue-raising capacity is a relatively analytical framework and form of presentation. easy calculation for specific or ad valorem This involved, instead of the comparison of taxes. However, where the standard states have modified budget results adjusted for differ- progressive or other complicated rate struc- ences in revenue effort and service provision, tures, the task is more difficult because the rate the direct calculation of a claimant state's reve- schedules of the standard states need to be ap- nue and expenditure needs for purposes of fis- plied to appropriate dissections of the claimant cal equalisation. state's revenue base. Revenue needs were now assessed as the dif- In some cases, the Grants Commission uses ference between (i) the revenue the claimant indirect means to determine the standard reve- state would have raised if it had applied the av- nue effort or the respective revenue bases of the erage revenue effort of the standard states to its claimant and the standard states. If, for exam- revenue base, and (ii) the revenue it would have ple, a claimant state obtains royalties from a raised, on the basis of the standard revenue ef- mineral which is not available to either of the fort, if its per capita revenue base had been the standard states, a national standard revenue ef- same as the average revenue base of the stan- fort needs to be determined. In the cases of dard states. Expenditure needs were assessed as taxes related to turnover, such as gambling the difference between (i) the expenditure taxes, the level of turnover in a state may re- which the claimant state would have incurred flect tax effort as well as taxable capacity. The if it had provided the same average range and Commission has responded to this problem by using proxies to compare the revenue base, claimant state's expenditure need directly. In such as personal incomes per head of popula- the case of education and most other social tion in the relevant age groups, or by making services, it thus attempts to measure the per adjustments to turnovers to allow for differ- capita cost which the claimant state would in- ences in the revenue efforts of the claimant and cur if it applied each of the standard state's ed- the standard states. ucation policies to the claimant state's school- Finally, the Commission still uses differ- age population, and compares this with the ences in per capita revenue collections as a standard state's per capita cost. The two differ- measure of a claimant state's need for some rel- ences are then averaged and multiplied by the evant items, when it is satisfied that the reve- claimant state's population in order to calcu- nue effort is comparable as between the claim- late the expenditure need. ant and the standard states or that adjustments With the advent of other kinds of federal can be made to allow for differences in policy. government general revenue grants to all In all cases, a claimant state's revenue need states, in particular the income tax reimburse- will be assessed as a negative amount if it has ment grants which commenced in 1942 and the above-standard, revenue-raising capacity. financial assistance grants and tax sharing However, the use of standard state policies for entitlements which replaced them in turn, it the purpose of determining the standard was necessary for the Commission to allow for revenue-raising capacity means that a claimant the fact that part of a claimant state's financial state may have a need assessed for a tax or needs might be met by differential grants from charge imposed by the standard states which it these sources. The Commission has dealt with does not levy itself. Conversely, if the claimant this problem by deducting, from the amount of state taxes a revenue base which exists in the a claimant state's assessed financial need cal- standard states but is not taxed by them, the re- culated in accordance with the foregoing pro- sulting revenues are assumed to result from a cedures, an amount equal to the additional per policy difference and are not subject to capita assistance received by the claimant state equalisation. relative to the average of the standard states, A claimant state's expenditure need is repre- multiplied by the claimant state's population. sented by its differential cost of providing a That is to say, the assessed special grant is standard range and quality of government ser- equal to the total assessed revenue and expendi- vices. This differential cost is measured by ref- ture needs of the claimant state less an amount erence to (i) the differential number of units to representing the extent to which those needs be served relative to total population as be- have been met through other federal govern- tween the claimant and the standard states, and ment general revenue grants. (ii) the differential cost per unit. A related problem has concerned the treat- The differential number of units to be served ment of the growing number of specific pur- will reflect differences in the proportion of the pose recurrent grants, many of which relate to population which is eligible for the govern- fields of expenditure covered by the Grants ment services, for example the number of Commission's comparisons. The Commission school children relative to total population or has adopted one of three approaches to the as- the number of farm units relative to total popu- sessment needs in such cases: lation. The differential unit cost of providing services may be attributable to economies or a) What is called the exclusion approach, diseconomies resulting from differences in whereby it excludes from its comparisons scale, dispersion of population or environmen- all expenditures on the program which is tal factors such as climate, terrain, and the pat- the subject of the grant as well as all reve- tern of economic activity. nues identified with the financing of the The differential cost in relation to a particu- program, including both the specific pur- lar expenditure item may be positive or nega- pose grant and taxes or revenues from the tive, depending on whether the ratio of claim- states' own sources. This is the procedure ant state cost to standard state cost exceeds or which has been adopted in relation to road falls short of unity. grants, which along with road taxes have In some cases, the Commission assesses a traditionally been paid by Australian governments into funds earmarked for the fi- tion as the Grants Commission's own assess- nance of road expenditures. ment, but so far it has not been possible to b) What is described as the deduction ap- reconcile the two approaches. proach, whereby the specific purpose grant The Commission has continued to use the is deducted from total expenditure in re- two-part approach to the assessment of grants spect of the program and the expenditure which was described above, so that the special need is assessed by reference only to the grant recommended for payment to a claimant net expenditure which is financed from the state in a particular year is calculated as fol- state's own revenue sources. lows: c) What is described as the inclusion ap- Assessed revenue needs for year of review proach, whereby the Commission assesses plus the claimant state's expenditure need in Assessed expenditure needs the usual way by reference to the total ex- equals penditure, and treats the specific purpose Total assessed needs grant in the same way as a general revenue minus grant. That is to say, it deducts the addi- Assessed needs met from other federal gov- tional per capita grant multiplied by the ernment grants claimant state's population from the state's equals assessed need (or makes an addition to the Assessed special grant for year of review assessed need if the claimant state receives minus a smaller per capita grant). Advance grant paid in year of review equals The problem arises because the need criteri- Assessed completion grant for year of re- on adopted in assessing specific purpose view grants, which is usually concerned with plus equalising the performance of the different Advance grant for year of payment governments in the assisted field, is at variance equals with the criterion of fiscal capacity equalisa- Special grant recommended for payment. tion which is adopted by the Grants Commis- sion. If the exclusion or the deduction approach is adopted, the Commisson in effect abdicates from the equalisation task to that extent; if the inclusion approach is adopted, the Evaluation of the Grants Commission's Commission overrides the process of fiscal per- Methodology formance equalisation. All three approaches have been adopted by the Commission in re- The Australian fiscal capacity equalisation spect of different specific purpose grants. arrangements, while subject to some exclu- As a general principle, the inclusion ap- sions, are more comprehensive than those in proach has been used where it has seemed to other federal countries. In Canada, for example, the Commission that this is necessary if it is to the equalisation is restricted to revenue-raising fulfill its general obligation to enable a claim- capacity. Differential costs of providing ser- ant state to provide services comparable to vices among the provinces are implicitly as- those of the standard states without having to sumed to be zero, that is per capita expendi- impose higher taxes and charges. Schools tures are assumed to be equal for all provinces. grants and the grants for hospital operating In the Federal Republic of Germany, likewise, costs have thus been subject to the inclusion attention is concentrated on the equalisation of approach, even though relative needs under revenue-raising capacity, although some provi- the former have been assessed by an indepen- sion is made for differential costs of services dent Schools Commission. The Grants Commis- associated with differences in the degree of sion has indicated that it is prepared to accept urbanisation among the states. the Schools Commission's assessment of school In Australia and Canada, the equalisation expenditure needs if it can be made as compre- grants are paid by the federal governments and hensive in relation to fiscal capacity equalisa- are open-ended up to the limits set by the equalisation standards. This has been a matter trast, equalisation procedures in other coun- of some concern to the government of Canada tries are usually based on statistical or other following the rapid growth of oil and gas reve- disability indicators which may be more objec- nues accruing to some provinces during recent tive but which often involve the use of arbitra- years. In West Germany, on the other hand, the ry criteria and weights. Australia has the ad- equalisation process is closed-ended because vantage of having a relatively small number of the states with above-standard fiscal capacity states for which calculations need to be made, are, in effect, required to make transfers to but it may be noted that the Commonwealth states with below-standard fiscal capacity. Grants Commission applied its usual principles The equalisation standards in Australia are and methods to the assessment of equalisation also different from those in the other two coun- grants for nearly 900 local authorities until this tries, since a claimant state in Australia is responsibility was transferred to state grants equalised to the average level of the two states commissions. with the highest fiscal capacity, whereas the The Australian fiscal capacity equalisation average fiscal capacity of all provinces or states arrangements, like those in Canada and West is adopted as the standard in the other two Germany, make no provision for revenue effort countries. Similarly, in Australia the weights adjustments. This contrasts with the approach attached to the different revenue and expendi- which is usually advocated in the U.S.A. ture items, for the purpose of calculating where, to the extent that fiscal capacity standard per capita revenues and expenditures, equalisation is attempted at all (as in the crude depend on the budgetary performance of the Congressional formulas for the distribution of two states with the highest fiscal capacity and general revenue sharing payments), it usually are not based on an average or representative incorporates a tax effort factor of some kind. budget as in Canada and West Germany. The Australian position reflects a philosoph- At first sight, it may appear that the Austra- ical attachment to federalism which regards lian use of a nonclaimant state standard is pref- any fiscal effort requirement as incompatible erable to the use of an average equalisation with fiscal capacity equalisation and as an standard, because an Australian state receiving unwarranted restriction on the ability of state the equalisation grant is not able to influence governments to determine their own levels and the size of the grant through its own policies. pattern of revenue raising and expenditure. It However, despite the Grants Commission's at- would be a relatively simple matter to expand tempts to exclude the effects of policy differ- the Australian general fiscal capacity equalisa- ences from its assessment of a claimant state's tion model so that it includes a fiscal effort ad- financial need, it is possible for the Australian justment (although such a procedure is not procedures to impart an inherent bias into the likely to be adopted in Australia in the equalisation process in favour of the claimant foreseeable future). The effect of the revenue state. This is because the standard states' taxa- effort adjustment would be to reduce (or in- tion and other revenue policies which are used crease) the equalisation grant received by a as the standard are likely to reflect areas of rev- state by the amount of that state's below- enue raising in which those states have a com- standard (or above-s tandard) revenue effort .4 parative advantage. The claimant state will be assessed as having relatively high revenue needs for these items of revenue, without any Review of State Relativities Under offset for forms of taxation in which the claim- Tax Sharing Arrangements ant state has a comparative advantage. It will be apparent from the foregoing that Although the Australian equalisation grants the Australian procedures for the assessment of arrangements are more comprehensive than revenue and expenditure needs depend to a those of other countries in their treatment of considerable extent on detailed analysis of revenue and expenditure needs for an individ- budgetary data by the Commission and on sub- ual state, until now they have not been applied jective assessments of relative need, following universally to all states. Political decisions written and oral arguments about principles rather than systematic analysis of relative and methods in adversary proceedings. By con- revenue-raising capacity and costs of providing services have determined whether or not the ical decisions, crude distribution formulas or four financially weaker states have applied for detailed assessments of relative needs by statu- special (equalisation) grants through the Grants tory commissions established for the purpose. Commission. This is because the very large ver- However, a performance equalisation model tical fiscal transfers which the federal govern- incorporating revenue capacity equalisation ment makes to the statesthe tax reimburse- may be developed when recipient governments ment grants, financial assistance grants or tax are required to contribute to the programs from sharing entitlements-have incorporated large their own revenue sources according to their per capita differences which have not been de- relative revenue-raising capacities. termined in accordance with equalisation prin- To apply this model, the total expenditure ciples. program for all governments must be deter- The four financially weaker states are there- mined and its distribution among the individu- fore not likely to apply for equalisation grants al governments decided in accordance with rel- unless they believe that their differential per ative needs as assessed. The next step requires capita shares of the tax sharing entitlements a decision about what proportion of the total are below the amounts which the Grants Com- program is to be financed by specific purpose mission is likely to assess as financial needs; at payments and what proportion from the gov- present only Queensland is a claimant state. ernments' own sources. The latter amount will Furthermore, although New South Wales and then be allocated among the recipient govern- Victoria have been used as standard states they ments in accordance with their relative have never been able to play an active role in revenue-raising capacity, in order to establish the equalisation grants arrangements. their required revenue contributions. The grant This situation has now changed. An enlarged to each recipient government will be calculated Grants Commission has been given the task of as the difference between its expenditure allo- reviewing the tax sharing relativities among all cation and its required revenue contribution. states and reporting by 30 June 1981. The Com- The effect of this approach is to allocate ex- mission is required to base its recommenda- penditures among the recipient governments in tions on fiscal equalisation principles. In accordance with their relative assessed needs effect, it will recommend a population adjust- while requiring financing contributions (to ment factor for each state which will be ap- match the specific purpose payments) in ac- plied to the state's population for the purpose cordance with their relative revenue capacities. of determining its share of the states' total tax This is essentially the approach which has re- sharing entitlements. The adjustment factors cently been used by the Commonwealth Bureau will reflect the differential per capita revenue- of Roads in Australia in making recommenda- raising capacity of the states and their differen- tions to the federal government on road grants tial cost of providing standard services. An av- to the six statese5 erage six-state standard will be used as the basis of the relativities, so that the fiscal capacity adjustments to the standard entitlement Conclusion will be positive for some states and negative for others. The proposed distribution formula will The elaborate system of fiscal equalisation thus be similar in effect to that used in the Fed- which has been developed in Australia has eral Republic of Germany and would integrate been partly the product of political necessity, the processes of vertical fiscal adjustment and resulting from a need to reconcile the political horizontal fiscal equalisation. strength of individual states with the financial domination of the federal government. The ac- ceptability of the equalisation arrangements Fiscal Performance Equalisation Through owes much to the fact that economic and finan- Specific Purpose Grants cia1 disparities among the states are relatively small and that the richest states, whose citizens Distribution arrangements in respect of most in the last resort finance the equalisation trans- specific purpose (conditional) grants programs fers, are also the most populous states. in Australia have been based on arbitrary polit- However, there is also a general commitment in Australia to the view that a system of fiscal rable taxes and charges, but leaves them free to capacity equalisation is an essential element of develop their own taxing arrangements and ex- federalism, in that it makes it possible for indi- penditure programs. Fiscal capacity equalisa- vidual states to provide services on a compara- tion is thus a means of reconciling the two ob- ble basis if they are prepared to impose compa- jectives of equality and diversity.

See L.F. Giblin, "Federation and Finance," in W. Prest Footnotes and R.L. Mathews (eds), The Development of Austra- lian Fiscal Federalism, Australian National University Press, Canberra (forthcoming), Chapter 4. Commonwealth Grants Commission, Third Report The definitive study of the development of the Grants (19361, Canberra, Government Printer, 1936, p. 75. Commission's approach to fiscal equalisation during its See Russell Mathews, "Mechanisms for Fiscal Equalisa- early years is that of J.G. Head, "Financial Equality in a tion in an Integrating European Community," Report of Federation: A Study of the Commonwealth Grants Com- the Study Group on the Role of Public Finance in Euro- mission in Australia," Finanzarchiv, Tuebinger, W. pean Integration, Vol. 11, Commission of the European Germany, J.C.B. Mohr, Vol. 26, 1967. For a longer time Communities, Brussels, 1977, Chapter 13, for an elabo- span see Russell Mathews, "Fiscal Equalisation in ration of the role of revenue effort adjustments in fiscal Australia: The Methodology of the Grants Commis- capacity equalisation. sion," Finanzarchiv, op. cit., Vol. 34, 1975, the annual 5 This approach is developed in R.L. Mathews and Reports of the Commonwealth Grants Commission, Aus- W.R.C. Jay, Measures of Fiscal Effort and Fiscal Capac- tralian Government Publishing Service, Canberra, and ity in Relation to Australian State Road Finance, Cen- the annual reviews of Australian federalism by the Cen- tre for Research on Federal Financial Relations, Distrib- tre for Research on Federal Financial Relations, distributed by Australian National University Press, Canberra, uted by Australian National University Press, Canberra. 1974. Chapter 4 The Australian Federal Grants System and Its Impact on Fiscal Relations Of The Federal Government With State and Local Governments

The Hon. Mr. Justice Else-Mitchell, C.M.G. Chairman, Commonwealth Grants Commission of Australia

Thefederal Constitution of the Common- wealth of Australia was largely modelled on the United States Constitution, not only in the basic structure, which assigned specific powers to the central government and left the resi- due of powers to the states, but also in the text of a number of major provisions. The Commonwealth (or federal) Parliament consists of a House of Representatives, elected on a universal franchise by all adult citizens of Australia on a basis of individual electoral areas of approximately equal populations, and a Senate, consisting principally of an equal number of senators from each state. Under the Con- stitution, which became effective in 1901, the Commonwealth Parliament was given basic financial powers similar to those of Congress: its power to levy taxes, but so as not to discriminate between states or parts of states, was similar to the power of Congress in Article 1, Section 8, "to lay and collect taxes, duties, imposts and excises. . ."; the limitation on discrimination was reinforced by a declaration, also similar to that of the United States Consti- tution, that "the Commonwealth shall not by any law or regulation of trade, commerce or revenue, give preference to one state or any

Printed with permission of the author. This article was originally prepared as an address before the Sydney Sessions of the Law Council of Australia, Au- gust 13, 1980. part thereof over another state or any part founders and early commentators of the Consti- thereof.'' tution held differing views upon major aspects The Australian Constitution, like that of the of these powers and the relevance to them of United States, gave the central government the the constitutional requirements that taxes power of "borrowing money on the public should not discriminate between states and credit of the Commonwealth" and provided a that laws of trade, commerce, or revenue corresponding control over revenues and other should not give preference to any one state federal funds by the following provisions: over another. 81. All revenues or moneys raised or It was accepted, however, that the power to received by the Executive Government appropriate funds for "the purposes of the of the Commonwealth shall form one Commonwealth" extended to the making of Consolidated Revenue Fund, to be ap- grants to the states because the Constitution ex- propriated for the purposes of the pressly provided for the distribution of surplus Commonwealth in the manner and revenue to the states under section 94, which subject to the charges and liabilities provided that "after five years from the imposi- imposed by this Constitution. tion of uniform duties or customs the Parlia- ment may provide, on such basis as it deems 83. No money shall be drawn from the fair, for the monthly payment to the several Treasury of the Commonwealth except states of all surplus revenue of the Common- under appropriation made by law. wealth." Nevertheless there was-and, in spite of two major decisions of the High Court, still There were, however, some important differ- is-doubt as to whether the phrase "the pur- ences. First, the Australian Parliament's power poses of the Commonwealth" is limited to to levy customs and excise duties was made ex- those matters in respect of which the Common- clusive, so that the states were deprived of the wealth Parliament has legislative or executive power to impose any such taxes or duties.3 power under the Constitution, or whether the This resulted in a substantial diminution of the phrase has a wider connotation.5 capacity of the states to raise revenue from A majority of the High Court in 1946 decided taxes on the production or sale of goods. Sec- that the power given by section 81 to appropri- ond, because it was thought that the Common- ate Commonwealth moneys did not authorise wealth would not be required to spend all of their expenditure for the provision of pharma- the customs and excise revenues it collected, ceutical benefits for members of the public oth- the Constitution provided that, for the first ten erwise than through the state^.^ When a similar years and thereafter until provision was made question arose in 1975 in relation to funds to the contrary, only one-fourth of the net reve- voted by Parliament to regional councils for so- nue from those sources should be applied an- cial development not created under state law, nually by the Commonwealth toward its own the High Court was divided: three justices expenditure, and the balance should be paid to upheld the legislation authorising the expendi- or applied for the benefit of the statese4Third, ture and associated regulatory measures; two while there is no power in the commonwealth- justices thought that both the expenditure and Parliament similar to that of Congress to "pro- associated regulatory measures were invalid; vide for the common defence and general wel- one justice took the view that the expenditure fare of the United States," section 96 of the was authorised but that the regulatory mea- Australian Constitution endowed the Parlia- sures were ultra vires; the remaining justice said ment with express power to "grant financial as- that the action was not justiciable because the sistance to any state on such terms and condi- plaintiff had no legal standing. In the result the tions as the Parliament thinks fit." challenge to the legislation failed, but the deci- The development of a Commonwealth (or sion can hardly be taken as finally determining federal) grants policy in Australia was not pos- the scope of the power.' sible until the High Court had clarified some The limitations on the scope of the appropri- aspects of the appropriation power (section 81) ation power illustrated or implied by these de- and the nature and extent of the power to grant cisions have not in practice represented a ma- financial assistance to a state (section 96). The jor obstacle to the expansion of the Commonwealth Parliament's grants and ex- sures authorising grants to the states upon con- penditure policies, mainly because of the am- ditions which had to be complied with by plitude of the grants power contained in sec- them. The first was the Main Roads Develop- tion 96. But those limitations have entailed ment Act, which provided for moneys being most grants being made through state govern- paid to the states for the purpose of building ments rather than directly to the bodies, or for and maintaining main roads in accordance the purposes, envisaged by Commonwealth with a program approved by the relevant Com- policies. In particular, grants of financial as- monwealth minister. The second was the Ad- sistance to local government bodies were ef- vances to Settlers Act, which appropriated fected by payments being made to each state on funds to the states to enable them to purchase condition that the moneys so paid were distrib- wire netting in bulk and to supply it to settlers uted in a prescribed manner to the numerous in rural areas of the states at cost. local authorities in that state! The latter measure was subjected to criticism in the House of Representatives by Mr. J. G. Early Resort to the Grants Power Latham (later to become attorney-general and chief justice of the High Court) on the ground It was generally agreed by the founders of that it intruded into fields of state legislative the Constitution and early commentators that power and was unconstitutional. Latham took the power to grant financial assistance to a the view, which he developed in a later debate, state was in the nature of a safety valve; it that, while there was power in the Common- would enable financial assistance to be given wealth Parliament to grant financial assistance to a state to preserve it from "financial ship- to a state, such a grant could be made, in effect, wreck" or other circumstances of emergency. only if the state required assistance. There was Its potential use as a means of furthering na- a prophetic element in his speech on the Ad- tional policies devised by the Commonwealth vances to Settlers Bill when, in order to rein- Parliament was beyond the contemplation of force his claim that the legislation was ultra all but an-isolated minority of the founders of vires, he said: "If the mere voting of money is the Constitution. to bring a matter within the jurisdiction of the It was upon this generally accepted basis Commonwealth, any matter may be dealt with from 1910 onward grants were made to one or in this Parliament . . . . It is obvious . . . that by more of the less populous and financially a liberal grant of money the Commonwealth weaker states-Western Australia, Tasmania, Government could obtain control of the whole and South Australia. Before federation these education system of Australia."lo states had derived the major part of their revenue from the levy of customs and excise duties Judicial Interpretation of This Grants Power which subsequently came within the exclusive power of the Commonwealth Parliament. Those When legislation under the title of the Feder- states also complained that the industrial and al Aid Roads Act was passed by the Common- tariff policies of the Commonwealth govern- wealth Parliament in 1926 to make more per- ment had affected their economies and made it manent provision on a ten-year basis for grants difficult for them to maintain public services to the states for road construction and mainte- without financial assistance from the Common- nance, its validity was at once challenged by wealth. These grants were made regularly on three states in the High Court. The grounds of an ad hoc basis, but in 1933, largely as a result the challenge were: of state discontent, the Commonwealth Grants Commission was established to provide ma- a) that the act related to road making, a chinery for the consideration of applications matter which fell within the powers of the for financial assistance from states in need and states, and was not, in substance, a grant of for the making of recommendations to the gov- financial assistance; ernment. b) that the Commonwealth could only In 1923 the Commonwealth government took impose conditions on a grant of financial the first major step toward exploiting the assistance which were of a financial nature grants power by passing two legislative mea- or were within its legislative power; and c) that, if any one state did not take advan- raised in that state should be returned to the tage of the grant, the legislation would rep- millers from whom it had been collected. The resent a preference to one state over anoth- practical consequence was that the tax oper- er in a matter of revenue in contravention ated differentially in the state of Tasmania of section 99 of the Constitution. from the other states. The attack on this scheme, based on its The High Court, consisting of all seven jus- involving discrimination between states in the tices, dismissed the action without taking time levy of taxes contrary to section ~(ii)of the to consider its reasons, and pronounced the fol- Constitution, failed.13 The major contention in lowing judgment: "The Court is of the opinion support of invalidity was that the acts impos- that the Federal Aid Roads Act No. 46 of 1926 ing the tax and making the grant to the state of is a valid enactment. It is plainly warranted by Tasmania should be read together as a single the provisions of sec. 96 of the Constitution, legislative scheme so as to produce the result and not affected by those of sec. 99 or any other of a differential taxing scheme in breach of the provisions of the Constitution, so that exposi- requirements of the Constitution. In dismissing tion is unnecessary."ll this claim, Chief Justice Latham expounded a Few important decisions of a constitutional view of the Commonwealth grants power nature have ever been given in such brief which later gained general acceptance. He said: terms. This prompted Professor Sawer, a leading Australian constitutional lawyer, to ob- Section 96 is a means provided by the serve: "In view of the extensive debates which Constitution which enables the Com- had taken place both within and without Par- monwealth Parliament, when it thinks liament, and the number of opinions given by proper, to adjust inequalities between senior constitutional counsel that the legisla- states which may arise from the appli- tion was at least of doubtful validity, this was cation of uniform nondiscriminating very cavalier treatment of the problem, and left federal laws to states which vary in many problems concerning the application of development and wealth . . . . A uni- sec. 96 unsolved, as to which a little more judi- form law may confer benefits upon cial reasoning could have been helpful."12 some states, but it may so operate as to More than a decade was to elapse before any amount to what is called "a federal attempt was made to develop the potentialities disability" in other states . . . . A wise of the grants power which this decision had re- differentiation based upon relevant vealed. During that period, which included the circumstances is a necessary element in economic recession of the 1930s, grants were national policy. The remedy for any made to the states for assistance of primary in- abuse of the power conferred by sec. dustry and for the relief of unemployment as 96 is political and not legal in charac- well as for the construction and maintenance of ter.14 roads. However, in 1938, in order to cope with some of the consequences of the depression in The Uniform Tax Scheme the wheat industry, a legislative scheme was devised based on the grants power. The scheme When the Second World War was at its proposed to ensure a stable return to wheat height, the Commonwealth took advantage of growers through the imposition by the Corn- the decision in the Flour Tax Case to devise a monwealth of a series of taxes on flour millers uniform tax plan which would enable it to and merchants, the proceeds of which were to levy an income tax at a uniform rate through- be paid to wheat growers through a Wheat out Australia and to reimburse the states by Stabilisation Fund as a supplement to the mar- grants under section 96 of the Constitution of ket price which the growers received from the sums they would have collected from their millers. A substantial obstacle to the scheme own state income taxes but on condition that lay in the fact that there was practically no they levied no such taxes themselves. wheat grown in the state of Tasmania. To meet This legislation, which was plainly designed this situation it was proposed that the flour tax to give the Commonwealth a monopoly of income tax, was upheld by the High Court in its of what could be done in virtue of spite of the opposition of four of the six the power the section conferred were states.15 One of the main contentions of the to be drawn, the Court has said that states was that the legislation, if valid, would none were drawn; that any enactment not only erode their financial independence is valid if it can be brought within the but would allow the Commonwealth to formu- literal meaning of the words of the sec- late a system of grants under which all state tion and as to the words "financial as- legislation and functions might ultimately be sistance" even that is unnecessary.17 controlled and supervised. To this argument Chief Justice Latham said that: The Grants Power and . . . if the Commonwealth Parliament Commonwealth Policies were prepared to pass such legislation, all state powers would be controlled At a practical level this decision showed un- by the Commonwealth-a result which limited potential for the use of grants of finan- would mean the end of the political in- cial assistance as a means of controlling state dependence of the states. Such a result policies and functions, for it would be within cannot be prevented by any legal deci- the Commonwealth's power to create a situa- sion. The determination of the proprie- tion of need and use that situation as the basis ty of any such policy must rest with for making a grant of financial assistance upon the Commonwealth Parliament and ul- conditions which the Commonwealth would timately with the people. The remedy have no direct legislative or executive power to for alleged abuse of power or for the implement. use of power to promote what are In the ensuing years down to 1972, during thought to be improper objects is to be which the Liberal-Country Party Coalition was found in the political arena and not in in power, the Commonwealth employed the de- the Courts. l6 vice of specific-purpose conditional grants in a number of new fields, some being within its The monopoly of income tax which the Com- constitutional powers only by their extension monwealth gained in this way was continued in 1946 to include social services. These grants after the end of the Second World War but in conjunction with a more generous system of were additional to the grants of general financial assistance made unconditionally to the tax reimbursement grants to the states. These grants were made on the express condition that states on a formula basis in substitution for the each state should refrain from levying its own tax reimbursement grants. The general infla- tionary trends of the time were taken into ac- income tax during any year in which it received a grant and, if it failed to comply with count in the formula ascertaining the general this condition, the grant would become repaya- financial assistance payments, but the states ble. This form of conditional grant was the sub- claimed that the growth factors were inade- ject of a further constitutional challenge in the quate to enable them to maintain existing ser- High Court by two states in 1956, but the ac- vices. Generally therefore, specific-purpose con- tions were dismissed. The judgments conditional grants were acceptable to the states. firmed earlier decisions on the grants power After 1957 the number and range of specific- and even extended its scope, as the following purpose payments was extended by successive statement of Chief Justice Dixon shows: Commonwealth governments to a variety of additional topics, including educational research, Before the meaning of s. 96 and the assistance to child migrants, nursing homes, scope of the power it gives had been drug education, welfare and home care services the subject of judicial decision no one for the aged, paramedical services, the con- seems to have been prepared to speak struction of pensioners' dwellings, unemploy- with any confidence as to its place in ment assistance, Aboriginal advancement, rail- the constitutional plan and its intend- way and power house construction, assistance ed operation. It may be said perhaps to various industries, and so on. At the same that while others asked where the lim- time most existing programs entailing assistance for health, tertiary education, housing conformably with the policy stated by the construction, war service land settlement, and Prime Minister. What is possibly of most sig- road construction were continued. nificance is that during these years the initiative for the grant programs generally originated from the Commonwealth's desire to achieve a Labor Government's Policies from 1972 measure of reform and uniformity throughout the states, rather than arising from one or more When the Labor Party gained power at the of the states' seeking financial assistance to federal elections in 1972, it saw that resort to cope with a specific or general problem. The conditional grants under section 96 of the Con- grants made for distribution to local govern- stitution could be used to implement its poli- ment authorities and community bodies were cies in areas which were beyond the legislative peculiarly of this nature. powers conferred by the Constitution and The states reacted to these new grants pro- which were traditionally within the province grams in different ways. Some states protested of the states. Notable among these were all and sought changes in the conditions which areas of education, urban development, the entailed a measure of protracted negotiation planning of growth centres, community health, and bargaining. In a few instances, accusations legal aid, and urban public transport. In of "blackmail" were even made against the announcing to the premiers of the states his Commonwealth, but only in a few cases were government's intention to take this course, the the offers of grants rejected. However, at least Prime Minister, the Hon. E. G. Whitlam, Q.C., one major program for direct grants to commu- said: nity bodies, made under what was called the Where the national government un- Australian Assistance Plan, provoked a chal- dertakes new or additional commit- lenge in the High Court by the states as travel- ments which relieve the states or their ling beyond the Commonwealth's legislative authorities of the need to allocate power. l9 funds for expenditures at present be- In the Budget Papers for 1975-76, tabled in ing carried by them, there should be August 1975, the lists of specific-purpose pay- adjustments in the financial arrangements to the states and local government au- ments between us to take account of thorities were formidable enough, numbering the shift of new financial responsibili- 39 of a revenue character and 60 of a capital ties. These adjustments will normally character. However, more were in prospect- take the form of appropriate reductions grants for public libraries, museums, cultural in the general purpose funds allocated collections, the preservation of historic build- to states. We have proposed such re- ings, and other purposes had been proposed or ductions, for example, as part of the were under consideration when the Labor gov- programme by which the Australian ernment was dismissed at the end of 1975. Had Government will assume financial re- this not occurred, it is probable that the stage sponsibility for tertiary education. might have been reached where, as Chief Jus- tice Latham said in the First Uniform Tax Case, From now on, we will expect to be the states would have lost, if not their political involved in the planning of the func- independence, a large measure of their capaci- tion in which we are financially in- ty to initiate their own policies. volved. We believe that it would be irresponsible for the national government to content itself with simply pro- Liberal-Country Party Government viding funds without being involved Policies from 1975 in the process by which priorities are met, and by which expenditures are The change of government following the planned and by which standards are elections in December 1975 marked a change in met. l8 direction. The Liberal-Country Party policy for- In the years 1973-75, the number and type of mulated earlier that year made express refer- special-purpose grants increased considerably, ence to the matter of specific-purpose grants under section 96, after observing that such At the basis of the proposals to phase out grants had been used to a point where they specific-purpose grants was a scheme for reve- dominated state revenues. The policy stated: nue sharing of personal income tax collections with the states and with local government au- Many of the existing Section 96 thorities according to fixed percentages to be grants are now part of well-established incorporated in legislation, the percentage of and universally accepted programmes income tax collections available for the states within the states. The moneys for such being 33.6 and that for local government, programmes could be transferred to 1.52.22 general purpose revenue reimburse- While there was some pruning of the range ment and ultimately absorbed in the and number of specific-purpose grants to the states' income tax revenue.20 states in the years immediately following the A review of individual grants programs was election of the present government in 1975, the promised, and the adoption of the principle of importance to state governments of Common- "block grants" was proposed in suitable cir- wealth grants and their relative magnitude di- cumstances to achieve proper national concern. minished only slightly. In the financial year The concluding sentence in this part of the pol- 1977-78, the total of all Commonwealth icy read as follows: general-purpose financial assistance under the Indeed, Section 96 will be used as it income tax sharing scheme represented nearly was originally intended it should be one-half of all state revenues; and, when used, namely to make grants to the specific-purpose payments were taken into ac- States for special purposes and not to count, the total proportion exceeded 60%. This make inroads into the constitutional is illustrated by Table 3, which also shows that responsibilities of the states. all four less populous states were dependent on Commonwealth payments for as much as two- At the first Premiers' Conference, held early thirds, and in one case three-fourths, of their in 1976 after the elections, the prime minister, revenues. The position is substantially the the Rt. Hon. J. M. Fraser, said: same for later years, but complete figures for Specific purpose assistance has been those years are not presently available. Pay- an area of very rapid growth in recent ments to the states for distribution to local gov- years. It would accordingly be surpris- ernment bodies as a supplement to the general ing if, given the overriding need for revenues of those bodies increased between expenditure restraint, it was not found 1975-76 and 1979-80, by 175% in money that there are some programs which terms, and a further substantial increase has are not a justifiable charge on the tax- been promised in 1980-81. payer.. . . Secondly, there are some pro- Current Policy Trends grams-or parts of programs-which represent areas of expenditure which These trends, and especially the mainte- clearly deserve continuing Common- nance of a high Ievel of specific-purpose pay- wealth support but in which there is ments, have been the subject of criticism in no obvious need that my government some quarters as a negation of the policies on can see for the Commonwealth to be which the present government was elected. Re- involved in a specific way. There are cently a Western Australian Liberal member of matters in respect of which priorities Parliament attacked what he described as the should appropriately be left to the Commonwealth's policy of centralism and its states and their authorities to deter- neglect of the policies on which it was elected. mine. He also claimed that "some federal Ministers In such cases, some form of absorp- are either unable or unwilling to shake free and tion of specific purpose funds into recognize that some matters are simply none of general purpose funds would be ap- their business" but are exclusively matters of pr~priate.~~ state concern which should not be controlled Table 3 COMMONWEALTH REVENUE PAYMENTS TO THE STATES AND STATE TAXATION, 1977-78 (in thousands of Australian dollars)

New South Queens- South Western Wales Victoria land Australia Australia Tasmania Total

1. States' Share of Tax Entitlements@) $1,319,609 $984,690 $770,539

2. State Taxation (including mining royalties and land taxrb) 1,729,126 1,353,488 565,686

3. Commonwealth Specific-Purpose Payments of a Recurrent (noncapital) Nature@) 1,012,715 783,402 400,846

4. Totals:

5. State Taxation-Commonwealth Revenue Percentages:

1 expressed as a percentage 0f1+ 2 43.2838% 42.11 36% 57.6654% 1 + 3 expressed as a percentage of 1 + 2 + 3 57.4249 56.6409 67.4345

a. Source: Payments to or for the States, the Northern Territory and Local Government Authorities 1978-79, Budget Paper No. 7.

b. Sources: Commonwealth Grants Commission Forty-sixth Report 7979 on Special Assistance for States, p. 133; Commonwealth Grants Commission Working Papers, 1977-78, Volume A, p. 194; State Public Account.

c. Source: As for (a)above. Any discrepancies between totals and sums of totals are due to rounding. by the imposition of conditions on grants to the health, and hospital services, which are the states.23 subjects of the largest grants to the states. In spite of such criticism, it must be con- Moreover, if the major specific-purpose pay- ceded that there are considerable difficulties, ments were phased out and the amounts saved political and otherwise, in terminating added to the general tax entitlements of the specific-purpose grants programs or reducing states, there would be no assurance that the the amounts voted annually under those pro- policy objectives of the Commonwealth gov- grams. Quite apart from the prospect of elec- ernment would be respected by those states toral backlash, continued Commonwealth in- which have differing political objectives or volvement is regarded as essential to ensure philosophies. reasonable uniformity from state to state in the In the result, it is not to be expected that standards of the services provided by the states there will be any dramatic change in Common- with the assistance of Commonwealth grants. wealth grants policies in the foreseeable future. This is especially the case with education, With the political diversity of the two most populous states, New South Wales and Victo- the states for educational purposes, for exam- ria, the Commonwealth government must tread ple, derive from recommendations of inde- warily in introducing any fundamental change. pendent statutory commissions-the Tertiary Debates at conferences of Premiers about ques- Education Commission and the Schools Com- tions of the allocation of funds support the im- mission. On the other hand, the largest single probability of the states' gaining any greater specific-purpose payment made to the states is proportion of the total income tax revenues col- to meet part of the running costs of public hos- lected by the Commonwealth than they pres- pitals and is made under a series of individual ently have. On this and allied questions, two agreements, substantially identical in form, en- leading political scientists commented: tered into by the Commonwealth with each of the states. The 1977 Premiers' Conference was Grants to the states for road construction unable to agree on the future funding were originally made under agreements in of the specific purpose grant content of common form entered into with each state, but, the intergovernmental fund transfers. since 1975, they have been based on proposals It has become clear to the State Pre- made by the Commonwealth Bureau of Roads miers that Mr. Fraser's much-vaunted (now merged in the Bureau of Transport Econ- "New Federalism" will return no omies), an expert body appointed to make re- greater share of tax revenues to the ports to the minister upon specified matters states than they would have received relating to roads. For a number of the other under the old formula assistance grants the arrangements have been of an ad hoc grants, nor does the federal govern- nature and have often related to the particular ment propose to vacate tax fields to al- needs of a single state or a group of states. low the states to impose their own Even when all of the states have participated taxes and augment their revenue in a specific-purpose grants program, there has sources in that way. been no uniformity or consistency in the pro- It seems much more likely therefore, portionate sums allocated to each state on a per that federal resource-allocation priori- capita or any other basis. There are, indeed, ties and perspectives in areas of state considerable differences, not only between the constitutional responsibilities will pre- proportionate shares of each of the six states in vail still, even if section 96 is used less most of the specific-purpose grants, but also 0bviously.2~ between the individual state's share of those Specific-purpose payments to the states un- grants and the general-purpose grant now der section 96 of the Constitution have been made under the income tax sharing arrange- made in many areas for so long that they are ments which have been effective since 1976. taken for granted and the source of power and This is illustrated by Table 4 which sets out in method of verification of expenditure are not relation to state populations the distribution questioned. This makes the use of the condi- among states of the total tax entitlements and tional grant mechanisms less obvious. Other specific-purpose payments of a recurrent na- devices add to the illusion, especially (a) the ture. resort to statutory authorities or commissions Interstate Relativities of as the medium for assessing needs and priori- Commonwealth Grants ties and recommending the amounts of grants, and (b) the negotiation of agreements between While there is no clear present proposal to the Commonwealth and each of the states to modify the aberrations in states shares of regulate the amounts of the grants, the policy specific-purpose grants, there is a firm pros- to be applied in their expenditure, and the pect of some rationalisation in the manner of method of certification that the conditions distribution between the states of the share of have been fulfilled. general revenue assistance now represented by There are no uniform constitutional or the income tax collections earmarked under the administrative procedures governing these government's revenue sharing policies for allo- matters. Most forms of financial assistance to cation to the states. Legislation passed to implement these policies provides for a review of ment services at standards not appreci- the respective shares of each of the six states to ably different from the standards . . . be made before June 1981, on a basis which provided bv the other states.25 should ensure a fair and equitable distribution; This process of fiscal equalisation is to take ac- further reviews will be made as required after count of differences in the capabilities of the 1981. The major principle to be applied in the states to raise revenues, and differences in the review is that: amounts required to be spent by them in pro- . . . the respective payments to which viding comparable government services. - the states are entitled . . . should ena- The implementation of this chapter and a di- ble each state to provide, without im- rect comparison of services provided by each posing taxes and charges at levels ap- state may well have the effect of reducing the preciably different from the levels . . . significance of specific-purpose grants simply imposed by the other States, govern- because any differences in the standard or cost

Table 4 ESTIMATES OF THE STATES' INCOME TAX-SHARING ENTITLEMENTSa) AND SPECIFIC-PURPOSE RECURRENT GRANTS IN 1979-80 (dollar figures in Australian dollars)

New South South Western Wales Victoria Queensland Australia Australia Tasmania Total

- Population as of 31 December 1979: Thousands of Persons $5,113.6 $3,879.6 $2,198.4 $1,296.8 $1,256.1 $419.1 $14,163.6 Percent 36.10% 27.39% 15.52% 9.16% 8.87% 2.96% 1OO.OO0/o

I. Tax-Sharing Entitlements: A. Per capita re~ativities'~) 1.02740 1 .OOOOO 1.39085 1.52676 1.6651 6 2.001 88 - B. Percentage distribution between states (%) 30 .72% 22.69% 17.88% 1 1.58% 12.23% 4.90% 1 OO.OOO/o C. Share of 39.87% of $12,670.8 million ($ million) (') $1,552.0 $1,146.1 $903.2 $584.9 $61 7.9 $247.8 5,051.9 D. Per capita entitlements ($) $303.5 $295.4 $41 0.8 $451 .O $491.9 $591.3 $356.7

II. Specif ic-Purpose Grants: A. Payments for recurrent purposes ($ million) $1,204.1 $923.9 $481.1 $331 .O $343.5 $1 05.3 $3,388.8 B. Percentage distribution between states (O/O) 35.53% 27.26% 14.19% 9.77% 10.14% 3.11% 100.00% C. Per capita distribution ($) $235.4 $238.1 $21 8.8 $255.2 $273.5 $251.2 $239.3

a. SOURCE: Payments to or for the States, the Northern Territory and Local Government Authorities, 1979-80, Budget Paper No. 7, Tables 6 and 83. Excluding special grant to Queensland and disregarding guarantee of states' shares based on 1975-76 formula.

b. Relativities specified in section 4(1) of States (Personal lncome Tax Sharing) Act 1976.

c. Net personal income tax collections in 1978-79 determined by the commissioner of taxation in accordance with section 6 of States (Personal lncome Tax Sharing) Act 1976. of comparable services from state to state will recommendations have invariably been accept- be reflected in the amounts to which each state ed by the Commonwealth government regard- is entitled under the tax-sharing arrangements. less of its political colour, and legislation to This may pave the way for the states to achieve implement those recommendations has been greater autonomy in the expenditure of their passed by both Houses of Parliament, usually revenues, whether those revenues consist of without any major dissent. The commission state taxes or Commonwealth grants. has been described by one state treasurer as The review of relative state shares of income "the final court of appeal which the states tax collections is to be conducted by a special have" against an adverse financial situation, division of the Commonwealth Grants Commis- and since 1933 its work has represented "a ma- sion, consisting of the chairman and two mem- jor contribution to the fiscal theory of federal- bers of the commission together with three as- ism."27 sociate members, one nominated by the states Although the continued existence of the of New South Wales and Victoria and two by Commonwealth Grants Commission is not as- the other four states.26The states have agreed sured by any provision in the Australian Con- to the review and are cooperating in its expedi- stitution, it is now accepted as an essential ele- tious conduct. ment in the fair adjustment of the financial The Commonwealth Grants Commission, position of those states which suffer financial which was established in 1933, is a quasi- disabilities relative to the more prosperous judicial body whose principal normal function states. It may be that the expanded role of the is to investigate and report on applications by commission will not only rationalise the basis the states for grants of special financial assis- of distribution between the states of a substan- tance. It conducts public hearings and takes evi- tial part of all Commonwealth grants, but also dence on oath but has its own expert secretariat act as a medium to defuse some of the more to assist in the investigation of state finances sensitive features of intergovernmental finan- and the preparation of its reports. In the 47 cial arrangements in the Australian federal sys- years since the commission was created, its

FOOTNOTES (1939) 61 Commonwealth Law Reports 735; (1940) 62 Commonwealth Law Reports 338. l4 61 Commonwealth Law Reports 764. '5 '5 South Australia v. Commonwealth -First Uniform Tax Case (1942) 65 Commonwealth Law Reports 373. 1 R. Else-Mitchell, American Influences on Australian l6 Ibid. 429. Nationhood, Royal Australian Historical Society Jour- l7 Victoria v. Commonwealth-Second Uniform Tax nal (1976) Vol. 63, p. 1. Case (1957) 99 Commonwealth Law Reports 575, 611. 2 Sections 51(ii), 99, Federal Constitution of the Com- l8 Payment to or for the States and Local Government monwealth of Australia. Authorities, 1976-77, Budget Paper No. 7, p. 31. 3 Section 90, ibid. '9 Victoria v. Commonwealth, supra n. 7. 4 Section 87, ibid. 20Federalism Policy, September 1975, p. 10. =C. A. Saunders, The Development of the Common- 21 Payments to or for the States and Local Government wealth Spending Power, Melbourne University Law Authorities, 1976-77, Budget Paper No. 7, p. 31. Review (1978) Vol. 11, p. 369. These percentages were subsequently adjusted and in- 6A ttorney-General (Vic.) v. Commonwealth 1945 7 1 creased to 39.87 and 1.75, respectively. Commonwealth Law Reports 237. 23 W. R. B. Hassell, M.L.A., Canberra Times, 30 Decem- Victoria v. Commonwealth 1975) 134 Commonwealth ber 1979. Law Reports 338. 24 J. Homes and C. Sharman, The Australian Federal Sys- Grants Commission, First Report 1974 on Financial tem, Winchester, MA, Allen and Unwin, Inc., 1977, Assistance to Local Government, pp. 3-6. p. 164. R. J. May, Financing the Small States in Australian 25 States (Personal Income Tax Sharing) Act 1976-1978, Federalism (1971) 33-56; R. L. Mathews and W. R. C. section 13(3). Jay, Federal Finance cfl(1972) pp. 92-98, 118-30, 26 Commonwealth Grants Commission Act 1973-1978, 153-56. section 19A. lo Parliamentary Debates, House of Representatives, 27 J. A. Maxwell, Commonwealth-State Financial Rela- Vol. 105, 2690. tions in Australia, Melbourne, Melbourne University l1 Victoria v. Commonwealth (1926) 38 Commonwealth Press, 1967, p. 22. Law Reports 399. 28 R. L. Mathews, Australian Federalism 1978, Centre for l2 G. Sawer, Australian Federal Politics and Law 1901- Research on Federal Financial Relations, distributed 1929 (1956) 299. by the Australian National University Press, Canberra, l3 Commissioner of Taxation v. Moran-Flour Tax Case 1979, p. 170.

Chapter 5 Local Government in Australia

C. P. Harris

James Cook University of North Queensland

This paper is concerned with two aspects of local government in Australia: first, general features of local authority areas with respect to such elements as population, outlay and revenue; and, second, relations between state governments and local authorities. Any survey of local government in Australia must by its very nature be broad, since local government has developed differently not only between the states but also within individual states. Thus when statements are made about local government, these statements must be interpreted generally within a complex situation where significant disparities exist among individual local authorities within and between states, and where there is no such body as an average or representative local authority in Australia. GENERAL FEATURES OF LOCAL AUTHORITIES IN AUSTRALIA

Population and Area

Perhaps the most striking feature of local authorities in Australia is the divergence in size

Printed with permission of the Centre for Research on Federal Financial Relations. This article originally appeared in Federalism in Australia and the Federal Re- public of Germany, A Comparative Study, edited by R. L. Mathews, Canberra, The Australian National University Press and Centre for Research on Federal Financial Rela- tions, 1980. Table 5 CLASSIFICATION OF AUSTRALIAN LOCAL GOVERNMENT AUTHORITIES BY POPULATION SIZE AS OF 30 JUNE 1976

Range of New South South Western Population Wales Victoria Queensland Australia Australia Tasmania All States

1. Number of local authority areas - 999 1 1 11 20 27 1,000- 4,999 85 88 60 69 66 5,000- 9,999 49 43 26 17 19 10,000- 24,999 27 3 1 19 13 13 25,000- 49,999 24 25 8 8 10 50,000- 99,999 15 20 6 6 2 100,000- 249,999 13 3 - - 1 250,000- - - 1 - - Total 21 4 21 1 131 133 138 2. Population in local authority areas ('000s) - 999 1 1 6 13 17 1,000- 4,999 282 263 164 165 134 5,000- 9,999 364 305 178 121 135 10,000- 24,999 437 503 296 205 203 25,000- 49,999 85 1 882 266 315 349 50,000- 99,999 1,059 1,361 427 41 0 143 100,000- 249,999 1,777 329 - - 162 250,000- - - 697 - - Total 4,769 3,644 2,034 1,229 1,143 3. Proportion of number of local authority areas (percent) - 999 0.5% 0.5% 8.4% 15.0% 19.6% 1,000- 4,999 39.7 41.7 45.8 51.9 47.8 5,000- 9,999 22.9 20.4 19.8 12.8 13.8 10,000- 24,999 12.6 14.7 14.5 9.8 9.4 25,000- 49,999 11.2 11.8 6.1 6.0 7.2 50,000- 99,999 7.0 9.5 4.6 4.5 1.4 100,000- 249,999 6.1 1.4 - - - 250,000- - - 0.8 - - Total 1oo.oO/o 1oo.oO/o 1oo.oO/o 1Oo.oO/o 1oo.oO/o 4. Proportion of total population in local authority areas (percent)

- 999 0.3% 1.1 O/o 1.sO/O 1,000- 4,999 5.9% 7.2% 8.1 13.4 11.7 5,000- 9,999 7.6 8.4 8.7 9.8 11.9 10,000- 24,999 9.2 13.8 14.6 16.7 17.7 25,000- 49,999 17.8 24.2 13.1 25.7 30.6 50,000- 99,999 22.2 37.4 21 .O 33.3 12.5 100,000- 249,999 37.3 9.0 - - 14.2 250,000- - - 34.3 - - Total 100.O0/o 100.O0/o 100.0% 100.0% 100.0%

NOTES: 1. Population of states excludes persons living in unincorporated areas (total for all states 20,000) or classified as migratory (total for all states 15,000). Most of the persons living in unincorporated areas are in South Australia (16,000). 2. Population figures are census count, not official estimates after adjustment for under-enumeration as revealed by post-census survey. 3. The symbol (..) indicates a proportion smaller than 0.05%. SOURCE: Population and Dwellings in Local Government Areas and Urban Centres (Preliminary): 1976 Census of Population and Housing, Australian Bureau of Statistics, Canberra, 1977 or 1978 (Bulletin for each of six states). of population in and area of the constituted lo- seen from Table 6, which shows the minimum calities. Table 5 outlines the situation with re- and maximum values for each state. For all gard to population at the last census date 30 states the area range is from one square kilome- June 1976, when there were 876 local authority ter to nearly 368,000 square kilometers, while areas in the six states. Parts 1 and 3 of this table for populations the range is from 67 to 697,000. refer to the number of local authorities in each These wide variations are common to all states, of eight population ranges, and Parts 2 and 4 except that the upper population level in are concerned with the total population living Queensland (City of Brisbane Area) is much in the local authority areas in these population higher than in the other states. ranges. This table indicates that in absolute The same kind of variation in population terms a majority of local authorities in size occurs in the metropolitan areas of the six Australia have small populations; 458, or 53%, states. These metropolitan areas contain 64% of of the 876 constituted areas have populations the combined populations of the states, ranging smaller than 5,000 persons, and 68 of these from 40% in Tasmania to 72% in South Aus- have populations of less than 1,000. These very tralia. At 30 June 1976, 8.5 million people liv- small authorities are concentrated in the four ing in the six metropolitan areas were gov- less populous states of Queensland, South Aus- erned by 174 local authorities which, as Table tralia, Western Australia and Tasmania. In to- 7 indicates, had a wide range of population in tal, these 53% of all local authorities contained each state. only 8.4% of the population of the six states. By contrast, only 68 or 8% of all local authorities had populations of 50,000 and over, al- Functions end Outlay though the percentage was much larger than this in the more populous states of New South The functions that local authorities are em- Wales and Victoria. These local authorities powered to undertake are specified in the indi- with populations of 50,000 and over contained vidual Local Government Acts of the six states. 49% of the population of the six states, al- These powers are fairly common among the though in the individual states the proportion states, particular emphasis being given to the ranged from a low of 13% in the least populous following functions: l state, Tasmania, to a high of nearly 60% in the 1) physical infrastructure, including roads, most populous state, New South Wales. streets and drainage, and business un- The uneven distribution of population dertakings such as electricity, water and among local authorities is also associated with quarries; an uneven distribution of spatial areas. Thus the 68 largest local authorities, with popula- 2) protection of the environment, including tions of 50,000 and over, encompassed 11,800 sewerage, sanitary, and garbage collec- square kilometers, so that their 49% of the pop- tion and disposal services; ulation lived in 0.2% of the incorporated areas 3) recreation and community facilities, of Australia. At the other extreme the 68 including parks, gardens, community smallest local authorities, with populations swimming pools, caravan parks, librar- less than 1,000 and containing 0.3% of the total ies, halls and other community build- population, covered 1.2 million square kilome- ings; ters, or 22.1% of the total incorporated areas of 4) social welfare and health services, the six states. Local authorities with large areas including cemeteries, immunisation, and small populations tend to be predominant post and antenatal clinics, creches and in Queensland and Western Australia, whereas kindergartens, home help, meals on in South Australia the small populations tend wheels, social workers, senior citizens to live in relatively small areas, because in this centres, and housing and emergency ac- state only about 15% of its total area has been commodation; included in incorporated localities. 5) supervisory and control functions, Some idea of the wide range of areas and including town planning and controls populations among local authorities can be over land uses and buildings, food in- Table 6 RANGE OF AREAS AND POPULATIONS OF LOCAL AUTHORITIES 30 JUNE 1976

New South Queens- South Western Item Wales Victoria land Australia Australia Tasmania All

Area (sq. km.) minimum 4 4 16 4 1 28 1 maximum 51,395 10,795 122,849 6,355 377,647 6,187 377,647 Population minimum 595 472 222 227 67 312 67 maximum 169,939 117,144 696,740 77,477 162,313 50,384 696,740

SOURCE: As for Table 5.

Table 7 LOCAL AUTHORITIES AND METROPOLITAN AREAS 30 JUNE 1976

Number of Local Population in Range of Populations Authorities Metropolitan Area in Local Authorities Wholly in Area Metropolltan Area Percent of '000s (Capital City Wholly Partly State Statistical Division) in Area in Area '000s Population Minimum Maximum

Sydney 45 - 3,022 63.3% 7 170 Melbourne 53 3 2,604 71.4 9 117 Brisbane 4 5 958 47.0 28 697 Adelaide 28 3 900 72.3 5 60 Perth 26 - 806 70.4 2 162 Hobart 3 4 162 40.2 42 50 - - All 159 15 8,452 63.8 2 697

NOTE: 1. The metropolitan area is taken as the Statistical Division for the capital city of each state.

2. In four states the boundaries of the Capital City Statistical Divisions divide a number of local authorities, so that the populations of these local authorities fall in two divisions.

SOURCE: As for Table 5. spection, regulation of restaurants and Receipts and Financing Items other eating places, and noxious weeds, private swimming pools, and the keep- The major items of receipts for local authori- ing of animals; and ties are from rates (taxes levied on land), net other business undertakings, such as income from business undertakings, other abattoirs, ferries, public transport, and property income, grants from the Common- saleyards. wealth and state governments, and net borrowing. The relative importance of these items for the year 1975-76, is shown in Table 10 and There is, however, a difference between the again the variation among the states is indi- functions which local authorities are empow- cated by the differences in the relative impor- ered to undertake and those which they per- tance of the sources of funds.3 form in practice. Some indication of functions Rates levied on land provided nearly one- undertaken is given by statistics of local gov- half of the total funds of local authorities, al- ernment outlay. Table 8 gives data on outlay though this proportion ranged from about one- for the year 1975-76, by all Australian local third in Queensland to three-fifths in South authorities, the outlay being classified by the Australia. In the total Australian situation, lo- purpose of expenditure, using the national ac- cal. government taxes are not relatively large counting approach. The items are divided into and comprised only 4.3% of total taxes raised three broad categories, final consumption ex- in 1975-76, state taxes constituting 16.3% and penditure (C), outlay on new fixed assets and Commonwealth taxes 79.4%. Rates are levied other gross capital formation (I), and transfers on the valuation of land, the method of valu- and advances other than intergovernmental ation varying among the states, the methods transactions (T). The statistics can be compared being unimproved capital value, net or as- to two ways. The second last column shows the sessed annual value, and site value. Grants distribution of expenditure among functions from state and Commonwealth governments for all local authorities and identifies functions amounted to over 22% of total local govern- which are important for their budgets. The ment funds, and net borrowing advances to largest expenditure items are roads, general ad- 16%. ministration, recreation and related cultural The fact that only 16% of the total funds of services, interest, electricity, sewerage and local authorities was obtained from net loans drainage, sanitation and protection of the envi- highlights a particularly important feature of ronment, and water supply. The last column local government finance in Australia, namely relates the local authority sector to the whole that local authorities finance a considerable public authority sector, by indicating the pro- proportion of capital expenditure from current portion of outlay by all public authorities revenue. Thus in 1975-76, while borrowed which was made by local government. Overall, funds constituted only 16% of total funds, cap- local government was responsible for 6.7% of ital outlay represented 63% of total ~utlay.~ all public expenditure in 1975-76, but the proportion was 16.9% for capital expenditure. Functions for which local authorities provided a significant proportion of total public outlay were community amenities, sanitation and pro- A GENERAL REVIEW OF tection of the environment, roads, water sup- STATE-LOCAL RELATIONSHIPS ply, electricity, and services to mining, manufacturing and construction industries. The The second feature of local government in proportion of interest on public debt paid by Australia which is examined in this paper con- local authorities was also relatively high, indi- cerns relationships between local authorities cating the importance of loan funds for financ- and state governments. These relationships are ing capital outlay by local authorities. Howev- reviewed under the headings of state legisla- er, as Table 9 shows, there were significant tion, administrative control, fiscal relation- differences among the six states in these ex- ships, administrative and operative agents, and penditure pattern^.^ organisational structures. Table 8 OUTLAY BY LOCAL AUTHORITIES, AUSTRALIA, 1975-76

Amount of Outlay (in millions of Percent of Australian dollars) Total Outlay

of all Purpose C I, T Total of LAs PAS

General administration Law, order and public safety Other education Hospitals and clinical services Other health Social welfare Housing Community and regional development Sewerage and drainage Sanitation and protection of the environment (not elsewhere included (n.e.i)) Community amenities Recreation and related cultural services Soil and water resources management Other services to agriculture and pastoral industries Services to mining, manufacturing and construction Electricity and gas Water supply Road systems and regulation Air transport Sea transport Uhan transport Other economic services and purposes (not elsewhere included) Other gross capital formation Interest Advances Other transfers

Total

Percent of total local authority outlay

Local authority outlay as percent of outlay by all public authorities

NOTES: 1. Column headings: C = expenditure on final consumption; lg= expenditure on new fixed assets and other gross capital formation; T = transfers and advances; LAs = all local authorities; PAS= federal, state and local authorities.

2. "Other education" includes education services and facilities other than those connected with prtmary, secondary, university and advanced education.

3. "Other economic services and purposes n.e.i." includes general research, external affairs, defence, primary and secondary education, university and advanced education, forestry resources management, rail transport, pipelines, communications, other economic services n.e.i., and all other purposes.

4. Final consumption expenditure is shown net of income received from economic services.

5. For capital outlay all amounts other than that for "other gross capital formation" are expenditure on new fixed assets

6 Transfers and advances exclude intergovernment transactions

7. The symbol (..) indicates a proportion smaller than 0.05%.

SOURCE: Public Authority Finance: State and Local Authorities 1975-76, Australian Bureau of Statistics, Canberra, 1977. Table 9 OUTLAY OF LOCAL AUTHORITIES BY STATE, 1975-76 Percentage of Total Current and Capital Outlay by All Local Authorities in:

New South South Western Function Wales Victoria Queensland Australia Australia Tasmania All States

Roads 35.7% General administration 10 7 Recreation and related cultural services 11 7 Interest 9 2 Electricity and gas 12.2 Sewerage and 3.3 drainage Sanitation and protection of the environment 3.2 Water supply 2.1 All other purposes 12.0 Total Outlay 100.O0/~ 100.OO/o 100.0% 100.0% 100.OO/~ 100.0% 100.0% of which: Current outlay 32.8 42.5 36.8 40.5 41.3 41.5 37.2 Capital outlay 67.2 57.5 63.2 59.5 58.7 58.5 62.8

SOURCE: As for Table 8

Table 10 RECEIPTS AND FINANCING ITEMS, 1975-76

Percentage of Total Funds of All Local Authorities in:

New South South Western Source of Funds Wales Victoria Queensland Australia Australia Tasmania All States

Receipts Rates 45.9% 54.3% 34.9% 60.1% 51.8% 47.2% 47.4% Licences, fees and fines, and other taxes 1 .O 2.8 2.0 2.0 1.9 1.4 1.8 Income from business undertakings 9.0 1.2 13.0 - 0.2 0.4 5.5 6.5 Property income 3.3 1.3 2.7 1.7 2.4 - 0.2 2.4 Grants from state authorities 12.1 18.1 22.5 23.2 22.5 10.7 16.7 Grants from Commonwealth authorities 5.9 4.0 6.3 7.6 7.8 12.2 5.9

Subtotal receipts 77.2 81.7 81.4 94.4 86.9 76.9 80.7

Financing Items Net borrowing-local government securities 15.6 9.3 25.2 5.7 14.9 21 .I 15.1 Advances from state authorities 0.8 0.1 5.1 - 0.4 - 0.2 0.2 1.2 All other items 6.4 9.0 - 11.7 0.2 - 1.6 1.8 3.0

Subtotal financing items 22.8 18.3 18.6 5.5 13.1 23.1 19.3

Total 100.0% 100.0% 100.0% 100.0% 100.OO/o 100.OO/o 100.0%

NOTE: "All other ,terns' lncludes changes In cash and bank balances, changes in hoMmgs of securities, and depreciation allowances.

SOURCE: As for Table 8. and PubCc Authority Finance: Taxation 1976-77. Australian Bureau of Statistics. Canberra. 1978. State Legislation of administrative control by state government departments. This control ranges from a gener- Local government in Australia operates in al supervision and examination of projects, to a each state under individual state legislation fine detail of control over the forms of financial which prescribes, with considerable interstate statements and the qualifications required for variation, such matters as the functions that lo- senior staff appointments. cal government should or may perform, its An illustration of a grant of specific power powers to levy taxes on land (rates) and other which is subject to substantial state govern- kinds of charges, electoral procedures, and the ment control is that related to environmental or types of local government areas that may be town planning. All local authority acts in the constituted.5 Moreover, state governments re- six states permit local government to regulate tain the power to constitute new local govern- the growth of urban areas by introducing ap- ment areas (by amalgamating all or portions of proved planning schemes. However, in prac- existing areas), to incorporate as local govern- tice the local authority is empowered merely to ment areas those parts of the state not already develop a proposed planning scheme which, incorporated, and to allow a local authority after the consideration of objections, is evalu- area to be governed by a state-appointed ad- ated by a state local government department or ministrator instead of an elected council. The statutory planning board or commission. provisions of the six constituent local govern- Final acceptance of the plan depends on the ment acts vary considerably among the states, approval of the relevant minister, who in some and this makes it difficult to generalise other instances may amend a proposed scheme even than in broad terms about the features of local without consultation with the local council. In government in Australia. general, involved administrative procedures Apart from the powers given to local authori- have been laid down for planning schemes. ties by the constituent acts, the authorities are These procedures have in practice led to long also given powers and responsibilities by a delays in approval being given, delays which number of general acts, each relating to a spe- have been said to have extended even up to ten cific subject (e.g., land valuation, planning, years. In the interim period, the local authority public health, foods and drugs, ambulances), has had to plan on the basis of interim develop- so that a complete understanding of the legisla- ment orders or specific bylaws.' tive background of local government in Aus- The political and administrative relation- tralia involves the consideration of a very large ships between local authorities and state gov- number of individual statutes in each state.6 In ernments are therefore not ones of partnership general, however, the system of local govern- between coordinate authorities, with local au- ment established in Australia is one where lo- thorities being independent bodies capable of cal authorities have been constituted by a grant exercising specified powers in their own right. of specific powers, the constituent and general However, such a relationship is implicit in the legislation giving local councils permission to frequently stated form of federalism in Austra- undertake all or any of a number of enumerated lia, the federation being described as consisting functions and activities, with or without the of a three-tier structure of government. In fact approval of the state administration. As a re- the Australian Constitution refers only to the sult, local government cannot extend its func- Commonwealth and state governments. Local tions other than as a result of amending state government in reality remains an administra- legislative enactments. tive arm of state government, the local authorities carrying out their delegated activities un- Administrative Control der varying degrees of administrative and legislative control exercised by state adminis- Not having been given a grant of general trations. power to undertake those activities which in their judgment will tend to promote the satis- Fiscal Relationships factory administration and general welfare of the areas under their control, Australian local Relationships between state and local gov- authorities operate under a considerable degree ernments also extend into the fiscal area, where in a financial sense the local authorities oper- sharing has not been an explicit component of ate within the sphere of influence of state trea- the unemployment programs. Specific purpose suries and must balance their budgets. As well, grants of these kinds have been made by the local authority borrowing programs are deter- Commonwealth for child care facilities, Abo- mined by state governments within the broad riginal advancement, various kinds of commu- framework of the public loan-raising program nity amenities and recreation facilities, urban approved by the Australian Loan Council. public transport, home care services, aero- While intergovernmental financial transfers are dromes, senior citizens centres, development not as significant for local authorities as they of tourist facilities, preservation of the national are for state governments in Australia, local au- estate, and sewerage. These have been in addi- thorities have generally received specific and tion to the grants made by the states mentioned general purpose grants from state governments previously. for a variety of reasons, including street light- The major function for which local authori- ing, flood control and drainage, riverbanks and ties have a combination of independent, shared beaches, soil erosion, public halls, parks and and agency-type functions is road construction gardens, swimming pools, libraries, senior citi- and maintenance. Most roads in local authority zens and youth centres, home help, child areas are constructed and maintained by local minding, and subsidies for loan expenditure on authorities, but certain of the important major electricity supply, water and sewerage. roads are under the control of state roads de- In recent years grants to local authorities by partments, although in some instances the state governments have amounted to about funds for these major roads are supplied jointly one-third of the taxes raised by local councils. by the state and local governments. Prior to 1974-75, the Commonwealth Govern- Local authorities receive a substantial pro- ment provided .only negligible grants to local portion of funds for road works through the authorities (omitting road grants that the states specific purpose grants made to the states by passed on to local authorities), but from that the Commonwealth government for roads.9 In year the Commonwealth began to make general many cases, especially for rural local authori- purpose grants of a fiscal equalisation kind, ties in country regions, the major activity of the grants which have now been linked to the per- local authority is to act as the road construc- sonal income tax-sharing arrangements in tion and maintenance authority for the state which state governments also participate. The roads administration, and the accounts of these combined grants from state and Common- local authorities show substantial outlay on wealth governments are now about one-half the roads offset by reimbursement from the state size of local government taxes. government. Administrative and Operative Agents Organisational Structures

State governments, and to some extent the Given their overall power to control the oper- Commonwealth government, also utilise local ations of local authorities, individual state gov- authorities as administrative and operative ernments have at times used that overall power agents for carrying out their own policies and either to establish organisational structures to programs, either through the provision of spe- enable local government to carry out particular cific purpose grants or through more direct functions or to create new regional authorities contractual arrangementsn8For example, in re- or semigovernment instrumentalities to take cent years both state and Commonwealth gov- over the particular function from local govern- ernments have used local authorities as a vehi- ment. In some instances, state governments cle for unemployment programs by making have thus allowed regional bodies of local au- specific purpose grants to local authorities for thorities to be formed to administer specific employment-creating projects. projects concerned with electricity, water sup- In many cases, however, the grants provided ply and aerodromes. The major example of this have not covered the full costs of these proj- kind is the system of County Councils in New ects, so that this relationship has also involved South Wales. outlay-sharing features, although this outlay However, in other cases state governments have established statutory bodies, some with not meant to imply that the establishment of lo- local government representation, to administer cal government in Australia has been merely a activities concerned with water storage and means by which state governments have spa- supply, sewerage and drainage, electricity gen- tially decentralised and deconcentrated their eration and distribution, ambulance services, activities, establishing local bodies which look control over ports and harbours, and slaughter to state governments for their guidance and di- houses and abattoirs. In these latter cases the rection in local affairs. The local authorities states have formed specific purpose local and have been established within a system which regional authorities as a substitute for wid- confers on those authorities powers of decision ening the powers of the general purpose local making in prescribed areas at the local level, government authorities. powers of choice which are sufficient to desig- nate the Australian system as one of local government. RESPONSIBILITY TO ELECTORS

It has been stated above that state governments exert a considerable degree of control In summary, therefore, the relationships be- over the activities of local authorities through tween state and local governments in Australia state legislation, administrative controls and are characterised by local authorities being fiscal arrangements. In this respect, however, it subject to the requirements of the specific acts is necessary to realise that state control over constituting local government in each state, the activities of local authorities does not mean and so being responsible to the state minister that local authorities are merely bodies which for local government. In addition, local author- carry out the wishes and policies of state gov- ities are responsible to other ministers where ernments. The situation is, rather, one where they have been given powers under other acts the local authorities are subject to administra- to undertake specific activities and functions, tive controls but, provided the local councils or where they act on behalf of the state govern- do not infringe the acts under which they are ment. The local authorities are subject to the constituted or which confer powers on them, general fiscal control of state treasuries, and as- they are in the last resort responsible to the sume other responsibilities because of the re- electors of their respective localities, electors quirements of various intergovernmental finan- which as a body are in most states of Australia cial transfers. Despite these limitations on their the ratepayers, but which in Queensland are powers to act, local authorities retain autono- those persons within the provisions of the my in the decisionmaking area for general adult franchise requirements (i.e., aged 18 functions which they are permitted to under- years and over). lo take, and in this sense local authorities are re- Thus in saying that local government is an sponsible to their electorates, not to state gov- administrative arm of state government, it is ernments.

FOOTNOTES In this regard, it should be noted that all expenditure on roads is classified as capital outlay and, as Table 8 For a detailed list by states see Margaret Bowman, Lo- shows, expenditure on roads constituted from 28% to cal Government in the Australian States, Australian 36% of total outlay in the individual states. Government Publishing Service, Canberra, 1976, Local authorities are variously constituted as cities, pp. 5-8. towns, boroughs, municipalities, shires and district A similar analysis for any given state would reveal councils. However, the population, area, functions wide differences between the expenditure and revenue performed, and financial structure differ among local patterns of individual local authorities or between the authorities of the same type both between and within outlay and revenue patterns of local authorities of states. similar type. See C.P. Harris, Local Government and 6For example, Margaret Bowman lists 257 acts in the Regionalism in Queensland 1859 to 1977, Centre for six states applicable to the operations and activities of Research on Federal Financial Relations, Distributed local government, the number ranging from 25 in Vic- by Australian National University Press, Canberra, toria to 65 in Tasmania, op.cit., pp. 68-74. 1978, Chapters VI-VII. See C.P. Harris and K.E. Dixon, Regional Planning in 3 Ibid. New South Wales and Victoria since 1944, Centre for Research on Federal Financial Relations, distributed the Commonwealth. These grants represented about by Australian National University Press, Canberra, 13% of the funds expended by local authorities on 1978, Chapter V. roads. 8 The agency relationship implied is not a legal one be- lo New South Wales and South Australia have a combina- tween principal and agent. The term is used somewhat tion of adult franchise and property franchise, while in loosely to mean that the Commonwealth or state gov- Victoria, Western Australia and Tasmania the elector- ernment carries out its own purposes, or achieves its ate has a property franchise and plural voting is possi- qwn aims, by influencing or determining the activities ble. Elections are held every year in Victoria, Western and functions of local authorities. Australia and Tasmania (excluding Hobart); every two 9 For example, in the four-year period 1974-75 to years in South Australia and Tasmania (Hobart); and 1977-78, the states passed on to local authorities road every three years in Queensland and New South grants totalling $347 million, which represented 20% Wales. The number of elected members varies from of the total grants for roads the states received from four to 24.

Chapter 6 The Australian Loan Council

W.R. C. Jay

Visiting Fellow, Centre for Research on Federal Financial Relations The Australian National University

TheAustralian Loan Council is a unique institution among federations in that it controls the borrowing of the entire public sector in Australia, other than borrowing for temporary purposes and for defense. The amount which may be borrowed each year for public investment by the federal government, state governments, state semigovernment authorities (that is public corporations) and local authorities is determined by the Loan Council and not by their own parliaments and executive bodies. The Loan Council consists of the Prime Min- ister of the Commonwealth of Australia (the federal government) and the Premiers of the six states. The member representing the Common- wealth is chairman of the Loan Council. Any member may nominate one of his cabinet ministers or, in special circumstances, some other person to represent him. In practice, the Trea- surer of the Commonwealth is usually nominated as his representative by the Prime Minis- ter and acts as chairman of the Loan Council even though the Prime Minister takes part in the meetings. State Premiers represent their states except in special circumstances. If the Premier is not also Treasurer of his state, the

Printed with permission of @ PUBLIUS, The Journal of Federalism, The Center for The Study of Federalism. This article appeared in the issue of PUBLIUS entitled "Feder- alism in Australia: Current Trends," Volume 7, Number 3, Philadelphia, Center for the Study of Federalism, Tem- ple University, Summer 1977. Treasurer will attend also. Officials of the gov- much greater effect on rates of interest than on ernments represented are always present as ad- liquidity. If, in the interests of monetary poli- visers. cy, the Reserve Bank acts to force up interest A meeting of the Loan Council may be con- rates, tension can arise within the states which vened at any time by the Commonwealth and dislike increases in interest rates for budgetary must be convened if at least three states request reasons and also deplore the adverse effects on a meeting. A meeting is always held near the loan raising of the consequential drop in the end of the financial year (30 June) to determine market value of existing bonds. loan programs for the ensuing 12 months. Fre- quently another meeting is held about the fol- Origins of the Loan Council lowing February to review the program in the light of developments in the economy. Meet- The Loan Council began as a voluntary body ings at other times of the year are not common. which met for the first time in February 1924 The Commonwealth has two votes and a cast- as a result of suggestions made by the Com- ing vote, while each state has one vote. The monwealth Treasurer, Dr. Earle Page, at the Commonwealth can therefore muster a majority Premiers' Conference in 1923. The Common- of votes (5 to 4) if two of the six states vote wealth had incurred a very substantial war with it. It takes at least five states to outvote the debt during World War I and the conversion Commonwealth. Some decisions require a and redemption of maturing war loans was a unanimous vote, the most significant of these sizeable program in itself. In addition, the being the allocation of loan funds among the states had embarked on a major program of states. postwar development, involving the borrowing Loan Council meetings are always held in of large amounts of money in Australia and parallel with Premiers' Conferences, at which overseas. the Prime Minister and the State Premiers deal Despite setbacks, including the withdrawal with intergovernmental financial arrangements of the most populous state, New South Wales, (including, more recently, Commonwealth from July 1925 to December 1927, the volun- grants to local authorities) together with any tary Loan Council was reasonably successful in other matters of mutual concern. Loan Council promoting an orderly approach to loan mar- meetings are always held in camera which fa- kets, including agreement on uniform rates of cilitates serious discussion, statements intend- interest, the amounts to be raised, a timetable ed for the ears and eyes of the media being for loan issues by each state and the issue of launched outside the meetings. uniform Commonwealth securities for both The Commonwealth Treasury provides the Commonwealth and state loans in Australia secretariat for the Loan Council and the Re- and New York (though not in London). serve Bank (Australia's central bank) acts as the In June 1927, Page submitted to the volun- agent of the Council in issuing, converting and tary Loan Council the draft of a proposed Fi- redeeming securities. All securities issued for nancial Agreement. The agreement provided the Commonwealth and the states are Com- for the setting up of the Australian Loan Coun- monwealth securities, guaranteed by the Com- cil on a compulsory basis to regulate borrowing monwealth. by the Commonwealth and the six states; for These procedural arrangements strengthen contributions by the states to the National Debt the position of the Commonwealth to some ex- Sinking Fund to provide for the gradual re- tent, but a much more significant advantage demption of state as well as Commonwealth arises from the fact that the Loan Council's ad- debt; and for grants by the Commonwealth to vice on the terms and conditions on which the states to meet part of their obligations for loans should be issued in Australia, and on the interest and sinking fund. The present article is amount which might be raised, necessarily concerned only with the first of these propos- comes from the Reserve Bank. The Reserve als. Bank is in a position to influence the bond market through its open market operations. The Financial Agreement However, the bond market is very thin in Australia and open market operations have a All seven parliaments enacted the legislation necessary to implement the Financial Agree- thereto" no one party can escape from the obli- ment during 1928, displaying unusual speed gations imposed by the Financial Agreement and unanimity. The preamble to the agreement unless the consent of all other parties can be indicated that it could not be given permanent obtained (nor may any new state be admitted to effect until the Commonwealth Constitution participate in the agreement without the had been amended, but affirmed that, pending consent of all existing parties). Enforcement of a referendum, the parties would observe the the Financial Agreement was entrusted to the agreement during the two years from 1 July Commonwealth government, not the states, un- 1927 to 30 June 1929. der section 105A. G. Sawer has commented that: the part of the agreement providing for The Loan Council in the Great Depression the Loan Council might not have been constitutionally valid, or at least might The Loan Council became involved in all the have been subject to withdrawal at will stresses and tensions of the Great Depression by the parties if it had rested merely on soon after its inauguration, even more so be- Commonwealth and state legislation, cause overseas loans were cut off abruptly in and there were doubts about the con- 1930, and the interest payments due. These stitutional validity of other parts of the debts, mainly to overseas lenders, became an abnormally high proportion of government ex- agreement . . . .l penditure and of overseas payments. Those A referendum was held in November 1928, in who wished to maintain public investment as a conjunction with federal elections. The elec- means of ameliorating the appalling unem- tors were asked to approve the insertion of sec- ployment that was characteristic of the early tion 105A into the Commonwealth of Australia 1930s, debated the issue with the exponents of Constitution, authorizing the Commonwealth balanced budgets in the forum provided by the to make agreements with the states with re- Loan Council. spect to the public debts of the states along the In the event, the Commonwealth Bank of lines set out in the new section. The referen- Australia, which was carrying out some of the dum was supported by all political parties and functions of a central bank,2 exercised a deci- it was approved in all states, 74% of the voters sive role as a supporter of "sound finance," endorsing the proposal in Australia as a whole. though it had to compromise to some extent by It is abnormal in Australia for proposals making very substantial "temporary" loans to amending the Constitution to be successful at the states in 1931 and 1932, to cover budget referenda, and the overwhelming support giv- deficits. These loans, which took the form of en on this occasion has always puzzled com- Treasury Bills with a currency of three months, mentators. There was a positive phobia in were renewed and renewed until finally con- Australia at the time about the burden of public verted into long term debentures in 1936. debt. Enthusiastic assurances were given to voters that the amendment would result in the The Gentlemen's Agreement restriction of future borrowing by governments and that the National Debt Sinking Fund would In order to escape the restrictions imposed ensure that the existing public debt would be on borrowing by the Loan Council, New South paid off. Wales from 1932 to 1936 increased borrowing Section 105A of the Constitution included a by autonomous public corporations. Neither provision that the Commonwealth Parliament these bodies, which came to be known as may make laws for the validating of any agree- "semigovernment bodies," nor local authori- ment made in accordance with its terms before ties were subject to the control of the Loan it became part of the Constitution. This was Council under the original Financial Agree- done by the Commonwealth Parliament early ment and could borrow independently. in 1929, so giving the Financial Agreement By 1936, there was general agreement among permanent effect. Thereafter, although section members of the Loan Council that autonomous 105A provides that an agreement made under it government bodies which could borrow inde- "may be varied or rescinded by the parties pendently were a threat to the system of orderly borrowing by the public sector. In May 1936, nance of local roads. The states have carried therefore, the Loan Council agreed, under what out all the major functions associated with lo- came to be known as the Gentlemen's Agree- cal authorities in the United States and the ment, that the loan programs of semigovern- United Kingdom, such as the provision of ment and local government authorities were schools, hospitals and police services. State henceforth to be subject to approval by the statutory authorities, which usually operate as Loan Council. public enterprises, provide a good deal of the In practice, each state government submits a electricity, water supply, transport services, list of those semigovernment and local govern- provision of houses and so on, either for the ment authorities seeking more than a pre- state as a whole or for areas within the state scribed amount of loan money, showing the corresponding to a group of local authorities. amount sought by each. A statement of the to- As noted above, these intermediate authorities tal amount sought by those semigovernment have traditionally been described as "semigov- and local authorities, which wish to borrow but ernment authorities." They are now coming to need only the ceiling amount or less, is also be known as public corporations. furnished by each state. The prescribed amount has been increased Allocation of Loan Raisings from time to time under the impact of inflation and was set at $800,000 for the year 1976-77. One of the major decisions confrorlting the Since 1962-63, semigovernment and local au- Loan Council has always been the distribution thorities seeking less than the prescribed of loan proceeds among its members. The Fi- amount have been given automatic approval to nancial Agreement requires a unanimous vote do so but must conform to the terms and condi- for this decision and, failing unanimity, an al- tions applying under the Gentlemen's Agree- location of 20% to the Commonwealth, if it so ment. It was accepted that the total amount desires, with the states sharing the balance in raised by the smaller authorities was never a proportions equal to the ratios of their net loan threat to the loan program as a whole. expenditures during the preceding five years to The Loan Council determines the amount the "net loan expenditures" of all states during which may be raised by each authority seeking that period. more than the ceiling amount and also the rate Doubts have been expressed as to how the of interest payable (0.25 to 0.4% higher than term "net loan expenditure" would be inter- the rate for Commonwealth securities). A num- preted by the High Court and, because of this, ber of the larger authorities are permitted to is- the allocation has always been the result of a sue their own debentures. The Loan Council unanimous vote. Very often, however, the allo- secretariat arranges a timetable for each public cation accepted unanimously conformed to the loan which is binding on the authorities con- proportions indicated in tables showing the net cerned. A large proportion of the money bor- loan expenditure of each state as interpreted by rowed is raised in the form of private loans the secretariat. In recent years, the allocation from savings banks and life insurance offices. has usually been based simply on the previous State semigovernment and local authorities year' : allocation. are represented on the Loan Council by their The tendency for each state to defend its parent governments, federal or state, and local "entitlement" in the allocation of loan raisings authorities in particular resent their exclusion. has imparted an undesirable element of rigidity The Labor government which held office be- to the process. In cases where there were sig- tween 1972 and 1975, attempted to amend the nificant demographic movements or marked Financial Agreement to permit the representa- upsurges in development in particular states, tion of local authorities on the Loan Council, such as what resulted from the great mineral but the states unanimously rejected the propos- discoveries in Western Australia and Queens- al. land, historical shares of loan funds were un- Local authorities have traditionally played a likely to be a reasonable guide to rational allo- very minor role in Australia; until recently cations. New South Wales and Queensland also most of their activities being related to sanita- suffered from low entitlements in the late tion services and the construction and mainte- 1950s and early 1960s, due to the fact that in the early post-war years they had drawn on 40%. However, it volunteered to underwrite surpluses earned from the transport of men and the lower amount by making up any shortfall munitions on their railway systems during the in public loan raisings from its own resources. war, in preference to incurring debt. Four states, in the full flush of restoring the Marginal adjustments were sometimes made community's infrastructure, rejected this pro- to entitlements by agreement among the states, posal but the votes of Western Australia and those whose entitlement was favorable yielding Tasmania, with the Commonwealth's normal a little of their allocation to states which were two votes and its casting vote, gave a majority hard pressed. Sometimes a state's entitlement of 5 to 4 for the state loan program proposed by to loan funds for its local and semigovernment the Commonwealth. authorities was favorable where its state In the event the amount raised was less than entitlement was not, and some transfer of funds half what had been raised in the previous year could be arranged. Occasionally, to solve a se- from public loans, and was equivalent to only vere shortage of loan funds for a particular one-third of the approved loan program. The state a sum of money would be added to its al- Commonwealth actually provided 67% of the location and to the total program on the under- approved program from its own resources, standing that this would not increase its some from the proceeds of loans raised over- entitlement in subsequent years. This required seas but most from its own surplus taxation the agreement of the Commonwealth and the revenue. The money was issued to the states in other states. the form of a so-called "special loan" at market In 1974-75, New South Wales received a rates of interest. In total, the loan program of permanent addition of $10 million to its loan the states, state semigovernment and local au- program and a further $10 million for the loan thorities amounted to 8.2% of the gross domes- program of its local and semigovernment au- tic product, the peak proportiori during the thorities. This adjustment increased the state's whole of the post-war period. proportionate entitlement for future years but In 1952-53, the states sought a much more was accepted by the Commonwealth and all the moderate 10% increase in their loan programs, states in recognition of the fact that New South to $495 million. However, the Commonwealth Wales's entitlement had been inadequate for insisted on a 20% reduction to $360 million, many years and was not likely to be improved again offering to provide any shorffall between sufficiently without special measures. this amount and loan raisings as a special loan to the states. The states rejected this proposal Post-War Domination of the Loan Council out of hand and unanimously voted for a loan By the Commonwealth program of $495 million. This became the state loan program approved by the Loan Council. During World War 11, normal public invest- Loan raisings in the market totalled $117 ment fell away to minimal levels and bor- million and the Commonwealth subscribed rowing was concentrated on defense needs. $263 million or 69% of the total program of The Loan Council returned to importance after $380 million, the Commonwealth finally hav- the war, when governments faced the task of ing agreed to $20 million more than it had eliminating the backlog of public investment originally stipulated. It was now demonstrated projects and providing for economic growth. that it was a fruitless exercise for the states to Initially, shortages of equipment and materials use their voting power to approve a larger loan restricted the need for finance but the amount program than the Commonwealth was prepared borrowed rose rapidly each year until, by to approve, unless the market could yield the 1950-5 1, loan raisings by state governments, amount they desired. state semigovernment and local authorities The Commonwealth had no wish to make the reached 6.8% of gross domestic product. underwriting of state loan programs a perma- For the following year, 1951-52, the states nent feature of Loan Council operations. The sought an increase of 85% in their loan pro- Prime Minister R. G. (later Sir Robert) Menzies grams. The Commonwealth could see no pros- told Parliament that the Commonwealth had no pect of raising the amount proposed at reason- intention of accepting permanently "the bur- able rates of interest and proposed an increase of den and obloquy of imposing extra taxation in order to provide funds for state works pro- do this, however, because of its access to the grams in excess of the savings of the peo- Reserve Bank for temporary finance. ple . . . . 9 9 The Commonwealth attaches conditions to Nevertheless, during the 25 years from its underwriting of the state loan programs, 1951-52 to 1975-76, the Commonwealth has namely acceptance of the Commonwealth's made good through special loans any shortfall proposals for the amount of the aggregate pro- between the state loan programs and loan rais- grams, an undertaking to ensure the compli- ing~from the public. A shortfall has occurred ance of the larger state and local authorities in 22 of those years and it has been substantial with the approvals given by the Loan Council, in nearly all of them. In addition to underwrit- and public support by the states for Common- ing state loan programs, the Commonwealth wealth loan raisings. The Commonwealth has underwrites the redemption of maturing secu- never specified how the funds provided for rities originally issued on behalf of the states state loan programs are to be expended. The and not converted to new securities at maturi- whole of these programs, whether from public ty. loan raisings, Commonwealth underwriting or Since 1966, all borrowing overseas has been Commonwealth grants, have always been left to the Commonwealth which, indeed, has a treated as general purpose funds to be ex- charter from the Loan Council to borrow pended in accordance with state priorities. abroad when the opportunity arises on accept- The system has resulted in public investment able terms. This charter is colloquially known becoming an area of stability in the economy. as a hunting license, but cannot be used to Since the early 1950s, public investment has raise funds for defense purposes or for normal not been used as an instrument of compensato- public investment requiring Loan Council ap- ry fiscal policy-the underwriting mechanism proval. It is used to provide funds for the spe- has been used to prevent violent changes in cial loans or to meet redemptions of Common- public investment. Borrowing by state semi- wealth or state debt maturing overseas which government and local authorities, though not cannot be met from the National Debt Sinking underwritten by the Commonwealth, has also Fund. enjoyed a considerable measure of stability be- The retirement of the states from overseas cause private loans from savings banks and life borrowing has not prejudiced the availability insurance offices have insulated them from of loan funds for their works programs, because fluctuations in the proceeds of public loans. they are assured of the amount underwritten by The Commonwealth did not need to obtain the Commonwealth. The negotiation of terms the approval of the Loan Council for its own for cash or conversion loans overseas is much capital works program during the post-war pe- more simplified when the agreement of the riod until 1975-76, let alone invoke its entitle- states does not have to be secured step by step. ment to 20% of loan proceeds. Normally, Com- When the proceeds of overseas loans are used monwealth revenue exceeded expenditure to finance special loans or to meet redemptions (including capital expenditure) by a very sub- of state debt, the states incur a debt to the Com- stantial amount. The surplus in the Consoli- monwealth on which interest is charged at the dated Revenue Fund was transferred to subsid- current long-term bond rate in Australia, not iary accounts which provided most of the the rate actually paid on the overseas loans. funds for the special loans each year in support As well as having the finance for their loan of the state loan programs. programs and redemption of maturing debt In years when the Commonwealth's cash guaranteed by the Commonwealth, the states commitments exceeded revenue, which hap- are provided with their loan funds in regular pened when the amounts needed for special monthly installments. Like the Common- loans were high, part of the expenditure on de- wealth, the states are empowered under the Fi- fense was charged to Loan Fund instead of to nancial Agreement to borrow money for tempo- the Consolidated Revenue Fund, enlarging arti- rary purposes without seeking the approval of ficially the "surplus" available for transfer to the Loan Council; they could therefore smooth subsidiary funds. The amount charged to Loan out seasonal fluctuations in funds in this way. Fund was financed by temporary borrowing. It The Commonwealth is much better placed to will be remembered that neither defense expenditure nor temporary borrowing is subject nance nonrevenue-reducing expenditure as the to the control of the Loan Council. Commonwealth had been obliged to do during the war. Changes in Relative Debt Positions The position with respect to debt slowly im- During the 1970s proved from the point of view of subnational authorities during the 1950s and 1960s. During Although the operations of the Loan Council the five years ending 30 June 1970, they in- in the 1950s and 1960s, led to a secure provi- creased their net indebtedness by an amount sion of loan funds for state governments, state equivalent to 3.4% of gross domestic product semigovernment and local authorities, they and needed 2.60J0 for investment in public en- also led to a steady increase in indebtedness for terprises. However, the Commonwealth was those authorities. The Commonwealth govern- still reducing its net indebtedness (by an ment, on the other hand, with a monopoly of amount equivalent to 1.4% of gross domestic income tax, customs and excise duties, sales product during the same five-year period) tax and payroll tax, was reducing its net in- while financing investment in public enter- debtedness year by year from 1948-49 on- prises from surplus revenue by an amount wards, and by the late 1960s, had become a net equivalent to 1.1% of gross domestic product. creditor in relation to all other sectors of the At the Premiers' Conference held in 1970, economy combined. It was a particular griev- the state governments presented a demand for ance of the states that most of the special loans a share of income tax to improve their relative from the Commonwealth to supplement public financial position. The Prime Minister, J. G. loan raisings came from the Commonwealth's Gorton, rejected this proposal but made a num- surplus taxation revenue. ber of changes designed to improve the posi- The equity or otherwise of this arrangement tion of the states, including an increase in reve- was not a simple matter to determine. The nue grants as a proportion of gross domestic Commonwealth was gradually paying off a product, the transfer of $1 billion of state debt very substantial war debt and state govern- and the charges thereon to the Commonwealth ments, state semigovernment and local authori- over a period of five years, and the substitution ties were investing a good deal more money in of capital grants for loans for nearly one- revenue-earning public enterprises than was quarter of the state works and housing pro- the Commonwealth. In the five years from grams. In 1971, the Commonwealth also agreed 1948-49 to 1952-53, however, the Common- to transfer payroll tax to the states; this has be- wealth was able to spend an amount equivalent come the biggest tax under their control. to 1.3% of the gross domestic product on fixed Subsequently, in 1974 and 1975, the Labor capital investment for public enterprises from government greatly increased grants to the its surplus of revenue over current expenditure states for schools and hospitals and signifi- and still lend more money to the states and cantly expanded cash social service benefits other sectors than it borrowed. In fact it re- which in Australia are provided to citizens by duced its net indebtedness by an amount the Commonwealth. By 1975-76, the relative equivalent to 3.0% of the gross domestic prod- position of the Commonwealth and the uct. subnational governments had turned around. During the same period, borrowing by state In that year, the net indebtedness of state gov- governments, state semigovernment and local ernments, state semigovernment and local au- authorities exceeded their lending by an thorities increased by the equivalent of 2.0% of amount equivalent to 5.7% of gross domestic gross domestic product and they needed 2.2% product. Of this, an amount equivalent to 4.9% for capital investment in public enterprises. of gross domestic product was needed for the The Commonwealth, on the other hand, in- acquisition of fixed capital assets for public en- creased its net indebtedness by 2.8% of the terprises and the balance was used for other gross domestic product and needed only 0.9% types of expenditure, including fixed capital for financing the capital expenditure of public expenditure of a nonrevenue-producing nature enterprises. These data demonstrate that there (such as for school buildings). Clearly, the has been a marked change in the relative finan- subnational authorities were borrowing to fi- cial position of the Commonwealth and subnational governments during the 1970s, to the ad- Council is the use of leasing arrangements. vantage of the latter. The states and their Queensland has thus leased office buildings subsidiary authorities are now borrowing less from state enterprises and the New South than they need to provide capital investment Wales Transport Commission recently leased for their public enterprises, while the Com- some 200 buses. If state authorities made a monwealth is borrowing a great deal more than practice of obtaining capital assets by means of it needs for the same purpose, basically to fi- leasing arrangements, with an obligation or op- nance grants to the states. In 1975-76, the tion to purchase, they could escape Loan Coun- Commonwealth sought Loan Council approval cil supervision even though they would be, in for loan raising for some of its expenditure and fact, borrowing money and paying interest on did so again in 1976-77, for the Australian the loans. The fact that the amounts of the Telecommunications Commission, one of its loans and the interest are not clearly distin- public corporations. guished puts the transactions in a grey area as If the Commonwealth is becoming more be- far as the Loan Council is concerned. There is holden to the Loan Council, two states may be no evidence, however, that any state intends to coming less so. These are Queensland and take advantage of this loophole in order to es- Western Australia, in which enormous mineral cape control by the Loan Council. resources have been discovered in recent years A similar transaction was engaged in many leading to massive developmental expenditure years ago by the Brisbane City Council, the lo- and a great increase in exports. These states cal authority governing the capital city of the have not been crippled by the increase in capi- State of Queensland. Unable to obtain a loan al- tal expenditure needed or by the inability to location to complete the sewerage of Brisbane, obtain additional funds from the Loan Council an enterprising Lord Mayor entered into what as might be expected. was virtually an installment purchase arrange- The companies which have developed the ment with a contractor. The contractor fi- mineral resources have been required to pro- nanced the work and the Brisbane City Council vide most of the capital for the necessary undertook to repay him over a period of years infrastructure (including port facilities, rail- at a rate of interest which seemed high at the ways and even townships) and to guarantee time. sufficient use of transport facilities to cover In this case the local authority was seeking to operating expenses. In Queensland, the state escape from the indifference, if not jealousy of has repaid debt on mineral railway lines fi- the state government rather than the control of nanced in this way from revenues from freight the Loan Council. The Queensland government charges which include a royalty element. In ad- had for many years been more interested in dition, the companies have been paying explic- securing increased loan funds for its own proj- it royalties to the states concerned, initially at ects than in making a case for the Brisbane City rather low rates but recently at higher rates. Council. Its disposition was rather to switch These developments have strengthened the loan raising entitlements from subsidiary au- financial position of the two outlying states thorities to state loan funds. and promoted a disposition to question Com- monwealth supremacy in the Loan Council. A Possible Threat to the Permanence of the Western Australia, in particular, has proposed Loan Council that it be permitted to set up a state development authority which would seek loan funds The powers of the Loan Council are set out in overseas independently of the Loan Council. Part I of the Financial Agreement and most of Whether the states finance their developmental them are subject to a curious proviso which infrastructure through direct borrowing over- reads "while Part 111 of the Agreement is in seas or by compelling the companies who are force." It has been suggested that Part 111 of the granted mining leases to provide the funds, Financial Agreement may no longer be in their dependence on the Loan Council is less- force, in a legal sense, when commitments set ened. out in some of,its clauses cease to have effe~t.~ Another development which has some poten- In this case, most of the powers of the Loan tial for weakening the authority of the Loan Council would lapse. It would seem that the phrase, "while Part I11 visions of this Agreement other than this of the Agreement is in force," was meant to de- sub-clause shall not apply to such moneys. lay the assumption by the Loan Council of the powers given to it in Part I of the Financial The clause has proved exceedingly useful in Agreement, until the provisions requiring the dealing with seasonal variations in cash flows. Commonwealth to meet part of the obligations Typically, the Commonwealth draws on the Re- for interest and sinking fund contributions on serve Bank for cash in times of seasonal short- state debt came into force. Whether or not this age, issuing Treasury Bills to the Bank with a interpretation would be acceptable to the High maturity of three months and an interest rate of Court, it seems unlikely that the termination of 1%. When there is a seasonal surplus of cash, some of the obligations imposed on the Com- Treasury Bills are redeemed. As grants to the monwealth by Part I11 of the Financial Agree- states and funds for the loan program are paid ment would result in a ruling by the High over to the states in regular monthly install- Court, if the matter were brought before it, that ments, the Commonwealth also irons out sea- Part I11 was no longer in force. sonal fluctuations in the receipts of the states. A number of amendments to the Financial During the early 19709, the Commonwealth ac- Agreement were agreed to by the Common- cumulated substantial cash balances and made wealth and the states in 1976. One of them was no use of Treasury Bills. to replace a provision relating to sinking fund The term "temporary purposes" was not de- contributions in Part I11 by new sinking fund fined in the Financial Agreement. From 1930 arrangements which are interminable. The only onwards it came to be identified with the issue commitment under Part I11 which will now of Treasury Bills to the Reserve Bank in place cease (in June 1985) is the annual grant made of an overdraft and to Commonwealth Govern- to each state by the Commonwealth of amounts ment subsidiary funds which had unused bal- aggregating $15,169,824 by way of an interest ances to invest. More recently, the Common- offset on state debt. wealth has issued Treasury Notes carrying If there is substance in the argument that the market rates of interest with a currency of three termination of any part of Part I11 could put an months or six months which are used by large end to the powers of the Loan Council set out organizations in the private sector, especially in Part I, an amendment to the Financial Agree- financial institutions, as an outlet for surplus ment, agreed by all parties, would be necessary cash to be redeemed when cash is short. As if the powers of the Loan Council were to be Treasury Notes affect the call on Treasury Bills preserved. by the Commonwealth, they have been accepted by the Loan Council as a form of temporary Temporary Borrowing and the Loans Affair borrowing. Borrowing for temporary purposes has come to be identified with the issue of Reference has been made earlier to the power Treasury Bills and Treasury Notes, even of the Commonwealth and of each of the states though a pool of such securities may be 'on is- to borrow for temporary purposes without sue at all times. seeking the approval of the Loan Council. If the term "temporary purposes" lacked any Clause 6(7) of Part I of the Financial Agreement clear legal definition, there was no question reads: that borrowing for temporary purposes was not Notwithstanding anything contained in this subject to approval by the Loan Council or to Agreement, the Commonwealth may use any limitation as to the amount borrowed, pro- for temporary purposes any public moneys vided the interest rate and other borrowing of the Commonwealth which are available costs conformed to current Loan Council deci- under the laws of the Commonwealth or sions. This situation led to a bizarre incident may, subject to maximum limits (if any) during the Whitlam government's period of of- decided upon by the Loan Council from fice. time to time for interest, brokerage, dis- At some time during 1974, a number of min- count and other charges, borrow money for isters were informed that a foreign financier temporary purposes by way of overdraft or could arrange a loan of $4 billion from Arab oil fixed, special or other deposit, and the pro- sources, repayable at the end of 20 years. The amount was enormous by Australian standards source of embarrassment for the Prime Minis- for foreign borrowing. In December 1974 the ter, and played a significant part in the govern- Prime Minister, Treasurer, Attorney-General ment's defeat at the election in December 1975. and Minister for Minerals and Energy signed an Executive Council Minute authorizing the Conclusion raising of $4 billion for temporary purposes. The Commonwealth was thereby enabled to The Australian Loan Council was set up 50 avoid reporting the proposed loan to the Loan years ago when the financial structure of the Council or seeking its approval. country was much simpler and the responsibil- Prolonged and totally fruitless negotiations ities of government much less. Then as now, followed with the go-between. Meanwhile, the all the major functions of government were story leaked out and was orchestrated by the concentrated in the hands of the Common- opposition and the media for much of 1975. No wealth and six states. It would probably be firm statement was ever made by the govern- much more difficult to set up a Loan Council ment of the uses to which the loan proceeds now than it was then. It is hardly conceivable would have been put, although it was sug- that a similar body could be set up in a federa- gested that they were to have been used for the tion like the United States, with its vast popu- development of energy resources. It has also lation, its multitude of local authorities been suggested that the loan could have been exercising major functions of government, its used to provide some of the funds denied to the 50 states and its complex economy. government by the Senate when it deferred The Loan Council has served Australia ex- consideration of the Budget for 1975-76. But tremely well and is likely to continue to do so. this would not have solved the government's The coordination of borrowing and the problem as Senate approval of the appro- achievement of uniformity in interest rates are priation bills would have been necessary to sufficient benefits in themselves. But, in addi- provide authorization of the proposed expendi- tion, the Commonwealth has been able to con- ture. trol the amount of loan raising of the whole of The secrecy surrounding the signing of the the public sector since 1952, and has done so Executive Council Minute and the obvious at- to prevent either excessive or inadequate pub- tempt to make use of a legal technicality to lic investment. Coupled with the fact that, keep the matter from the scrutiny of the Loan since 1942, the Commonwealth has had a mo- Council told heavily against the government. nopoly of income taxes and commodity taxes, Apart from that, it is inconceivable that Trea- and provides the states with more than half sury officials, if they had ever been consulted, their revenue in the form of grants, the federal would have given any credence to the proposi- government of Australia has been in a position tion that a loan of such magnitude could have to implement fiscal policy in a manner that been obtained through an unauthenticated simply is not open to the federal government of unofficial source. The affair was a continuing the United States.

FOOTNOTES they were separated from the Bank's trading and savings bank functions and handed over to a new central banking institution, the Reserve Bank of Australia. G.Sawer,AustralianFederalPoliticsandLaw 3R.S.Gilbertdetailstherelevantarguments(whichhe 1901-1929, Melbourne, Melbourne University Press, himself disputes) in The Future of the.Australian Loan 1956, p. 266. Council, Chapter 2, Research Monograph No. 6, "The Commonwealth Bank's central banking functions Canberra, Centre for Research on Federal Financial Re- were not complete until 1945. It was not until 1960 that lations, The Australian National University.

60 Q U.S. GOVERNMENT PRINTING OFFICE: 1981- 341-857:1006