Should Australia Drop the Idea of a Budget Surplus?

The Australian government on Monday lowered its expectations for a budget surplus as falling commodity prices coupled with slower growth begins to bite, giving rise to the question: Should the country drop the idea of a surplus?

Should Australia Drop the Idea of a Budget Surplus?
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"Economically, there's no doubt about that," said Michael McCarthy, chief market strategist with broker-dealer CMC Markets in Sydney. "We would prefer to see a deficit because of the risks that fiscal tightening will have on the economy."

In May the government announced it would deliver a A$1.5 billion ($1.55 billion) surplus for the year ending June 30, 2013, but that has now been trimmed to A$1.1 billion as a troubled euro zone and slowing Chinese economy weigh on the nation's growth prospects.

(Read more: Delivering on Surplus Promise Daunting Task for Australia)

Australia also revised down its growth estimates for the fiscal year to 3 percent from the earlier 3.25 percent. This makes the target surplus even more unlikely, experts said.

"I don't think they (surplus and growth estimates) will be similar to reality," Tony Farnham, economist & analyst with Patersons Securities in Sydney told CNBC. "You are making heroic assumptions in the medium term, and looking at the global economy, there's a growing skepticism of outlook numbers."

In his mid-year budget review, Australian Treasurer Wayne Swan said he expects to deliver a surplus over the next 4 years via new spending cuts and tax hikes, but experts said the austerity measures may not have the desired result.

According to Hans Goetti, chief investment officer of wealth manager Finaport, the enforced austerity will not help lift Australia's economy, and pursuing fiscal discipline for the sake of it is a futile effort.

"It (austerity) can only succeed if the economy is growing at the same time and that's what the sticking point is. Growth is lacking and austerity alone will not get us there," Goetti told CNBC Asia's "Squawk Box."

His views echo that of Business Council of Australia, which said on Monday in a statement that the government should not deliver a surplus at any cost and a small deficit in 2012-13 would be acceptable if there was a strategy to make it easier for the economy to stay strong as the mining boom eases.

Australian Finance Minister Penny Wong, however, told CNBC that a surplus policy is "essential" to Australia's economic health.

"I think a sensible fiscal policy is essential to ensure that all of those things do happen – that is, jobs are created, that you continue to grow, and that you continue to be an attractive destination for business and tourists. So the right fiscal policy for the times is a surplus strategy, which is what we have got in place," Wong told CNBC Asia's "Cash Flow."

Concerns over Australia's economy and finances come as global commodity prices like iron ore and coal continue to slide on falling Chinese demand — Australia's biggest export market — forcing the country's miners such as BHP Billiton and Rio Tinto to put major projects on hold.

RBA to Step In

While acknowledging the slowdown, some economists said Australia had plenty of scope to use monetary policy that is, cut interest rates, to help ease the pain. Benchmark interest rates, now at 3.25 percent, have in fact a "fair bit to go," said Paul Bloxham, chief economist for Australia and New Zealand with HSBC.

"We still think the tool they have, the cash rate, is still a fairly powerful instrument," Bloxham said. "The government is going to tell us that they think that monetary policy can do enough to provide support for the economy."

The Reserve Bank of Australia has cut official interest rates by 100 basis points in 2012, with the latest 25-point cut in October. Markets are betting on a further rate cut of another 25 points by the end of the year.

By CNBC's Jean Chua.