Australia has constructed the world’s most elaborate and comprehensive federal system of fiscal equalization grants.
The country has a wealth of economic advantages, but its federal system has evolved into a nationalized system of state dependency that is both inefficient and expensive.
The Australian Constitution embedded a mixed system of government combining American style federalism with British style centralism. It featured strong state powers but reserved the most lucrative tax sources to the central government.
This imbalance grew with the introduction of national income and sales taxes.
Compensation programs from the central government took the form of equalization grants which were eventually formalized into a complex formula containing perverse incentives for poorer states.
States and territories on the receiving end could expand their federal endowments with policies that penalize economic growth, but could not expand them with policies that encourage it.
Although some once dependent states eventually overcame the problem, the state of Tasmania has typified its worst effects.
Tasmania has become increasingly dependent on Commonwealth hand-outs, less responsible for its own policy failures and future, and more focused on working the grants system than fixing its economy. Its dependence on Commonwealth revenue has increased to 67 per cent of total revenue.
These outside transfers have allowed Tasmanian governments to install regulatory and tax regimes hostile to commerce, and both local and federal labour policies have hobbled its potential.
The state’s economic performance is consequently far below the Australian average.
Since the rest of the country is starting to demand change, Tasmania must adopt reforms or the subsidy train will be derailed.