Part IV: Overall results (Continued)
Alternative scenarios
Significant uncertainty surrounds the assumptions underlying the report's projections and their impact on government finances. Accordingly, the results represent a plausible central case and should not be viewed as specific forecasts. Even so, exploring the impact of varying some key assumptions suggests the projected size of the budget pressures is reasonably robust to changes in the underlying assumptions.
The demographic assumptions probably are least uncertain, as they are based on relatively stable long-term trends. Greater uncertainty surrounds the assumptions about productivity and spending.
Plausible variations in the assumptions were developed to illustrate the impact on GDP and where effects were significant, on Commonwealth spending (Table 14). A detailed discussion is provided in Appendix B. The impact on revenue has not been examined, as generally revenue growth corresponds to GDP growth, and this can be expected to continue.
Table 14: Assumptions underlying sensitivity analysis
(a) Represents the number of children
a woman would bear during her lifetime if she experienced the current
age-specific fertility rates at each age of her reproductive life.
(b) The annual real rate of growth
per person age-adjusted. The health base case uses the component rather
than the aggregate model.
Scenarios that involve a higher proportion of people in older age groups, a lower proportion of people employed relative to the population, lower productivity growth, higher unemployment and higher growth in the cost of programmes increase future pressures on government spending (Table 15).
Table 15: Impact of alternative scenarios in 2041-42 (percentage points)
Note: In the productivity scenarios
health and aged care spending is assumed to increase to the same extent
as the productivity-based wage increase. The potential impact of productivity
growth on the cost of health care is difficult to quantify and has not
been included here.
Source: Treasury projections.
Factors that increase budget pressure
Lower mortality rate
In the lower mortality scenario more people live to older ages. However, it takes around 30 years to affect significantly the numbers of people in the older age groups.
Projected government spending increases gradually, by almost 0.5 per cent of GDP by 2041-42, due to higher spending on health and aged care, Age Pensions and other payments to individuals.
Spending on health and aged care is projected to increase, due to an increase in the number of people over 65 and an even greater increase in the number over 85. However, as population changes take time to develop, the impact develops slowly. The increase in health spending is due mainly to the growth in PBS subsidies as these are more sensitive to an increase in the older population than other health spending. This is because older people tend to use far more medicines than other age groups. The increase in aged care spending reflects the large increase in the numbers of the very old (aged over 85), the age range where nursing home usage and cost per head of population is highest.
Spending on Age and Service Pensions increases, as more people are receiving these pensions, but projections of the other social safety net payments to individuals do not change significantly.
Lower productivity growth rate
The low productivity growth scenario assumes an average productivity growth rate of 1.2 per cent per year, replicating the average growth rates of the 1980s, which were well below the long-term average.
Lower productivity growth would increase spending as a proportion of GDP, primarily because growth in GDP would slow. This is largely because payments to individuals which are indexed to the CPI would be a greater proportion of GDP. This occurs because with lower GDP growth the gap between CPI and nominal GDP growth is reduced. Payments to individuals which are linked to productivity through wage indexation (such as Age and Disability Support Pensions), and spending in areas strongly linked to productivity and wage growth (such as health, aged care and education) would increase in line with GDP. Consequently, spending in these areas as a percentage of GDP would change little as a result of changes in productivity levels.
Higher unemployment rate
The central scenario assumes the unemployment rate reaches 5 per cent by 2007-08. The alternative scenario considers the impact of higher unemployment, reaching 6 per cent by 2006-07 and remaining constant. In the short term, higher unemployment would lower GDP growth. Government spending would increase because more people would depend on government payments for income, particularly unemployment allowances; this would increase fiscal pressure.
Higher health cost growth
The projected level of health costs is very sensitive to the choice of growth rate in non-demographic health costs. The higher growth (3.0 per cent) case is in line with growth experienced over the last 12 years, if the impact of the Private Health Insurance Rebate is excluded. This increases health costs, in comparison to the central scenario, by 1.5 per cent of GDP by 2041-42. (For more detail see Part III Health and aged care.)
The crucial implication of this analysis is that non-demographic growth arising from new technology and increased use and costs of services impacts the projections much more than plausible changes in the demographic and economic assumptions, such as decreased mortality and increased labour force participation of older workers.
Factors that decrease budget pressure
Higher labour force participation rate
An increase in the labour force participation of older workers (or any group of workers) would decrease future fiscal pressures because it reduces the need for income support and increases GDP. Higher labour force participation also allows people to accumulate greater superannuation enhancing their health and lifestyle in retirement.
Overall, higher full-time labour force participation of older men, under this scenario, would reduce projected government spending by 0.25 per cent of GDP by 2041-42, principally by increasing GDP. This reduced spending is mainly in health and Age Pensions.
However, this only captures first order effects, and does not capture any potential second order effects, such as changes in health or health service use of the additional older workers who remained in the workforce for longer.
Higher productivity growth rate
The high productivity growth scenario assumes that the average growth rates in the 1990s will continue, with annual growth of 2.0 per cent. Higher productivity growth would tend to reduce future budget pressures, by increasing GDP and by lowering CPI-indexed programmes as a proportion of GDP. It also increases private incomes to a greater extent, which may increase demand for services, in areas such as health and aged care.
Lower unemployment rate
This scenario assumes that unemployment reaches 4 per cent by 2009-10 and remains constant after that. This would lead to higher GDP growth in the shorter term. Government spending, particularly on unemployment allowances, would be lower, decreasing fiscal pressure.
Lower health cost growth
As indicated, the projected level of health costs is very sensitive to growth in non-demographic health costs. The impact of changing the assumed growth rate is tested by decreasing the average annual non-demographic growth rate for all health spending to 2.5 per cent. This can be interpreted as a drop of 0.1 percentage points from the central scenario which broadly corresponds to a non-demographic growth rate of 2.6 per cent. The lower growth rate decreases projected health costs by 0.5 per cent of GDP by 2041-42.
Higher migration rate
The higher migration scenario assumes a net migration rate of 135,000 people per year. The effects of increased net migration depend on which components of the migration intake change (skilled, family reunion or humanitarian) and the age-gender profile of migrants. Skilled migrants, for example, would generally find employment more quickly and be less reliant on government services than other migrants. For this scenario migrants are assumed to experience the same fertility, mortality, employment and productivity rates as Australian residents of the same age. Higher migration would tend to increase growth in the labour force and thus in GDP. The composition of the migrant intake also influences spending.
As immigrants are younger on average than the resident population, the increased migration scenario results in a decline in the aged to working-age ratio over the next four decades and a 10 per cent increase in GDP by 2041-42 (Chart 32). This increase in GDP results in government spending on health, aged care and Age Pensions falling as a percentage of GDP. The effect is reduced over the longer term as the immigrants themselves begin to age.
Chart 32: Impact of increasing migration by 50 per cent
Source: Treasury projections.
Factors that have an uncertain impact
Lower fertility rate
In the central scenario the fertility rate falls to 1.6 per cent by 2042. The lower fertility scenario assumes the fertility rate will fall to 1.5 per cent by 2042.
Lower fertility leads to slower growth in the labour force in around 20 years. This leads to lower GDP growth and a lower ratio of those of labour force age to those not of labour force age. This may increase the pressures on government spending relative to GDP growth, although spending in some areas would decrease. Family payments would be around 0.03 per cent of GDP lower by 2041-42. Changes in education spending would be small, as any change in fertility is projected to develop slowly. The effects on spending on unemployment payments, Disability Support Pensions and health are less certain. A reduction in the population of labour force age may decrease the unemployment rate. Health spending may decrease due to a reduced need for maternity and neonatal services.
Lower migration rate
The lower migration scenario assumes a net migration rate of 80,000 people per year. The effects of lower net migration would depend on which components of the migration intake changed. Lower migration would tend to lead to lower growth in the labour force and GDP. The size and composition of the migrant intake would also influence spending.
