Sunday, February 6, 2011

Mike Butler: The savings group that promotes government spending

Has anyone else spotted the self-defeating recommendations in this week’s Savings Working Group report, “Saving New Zealand: Reducing Vulnerabilities & Barriers to Growth & Prosperity”?

With full drama, the report asserts that in a financial sense “it’s as if we are standing on top of a cliff that may collapse dramatically, or crumble slowly.” The financial crumbling cliff that the savings working group describes is the level of national indebtedness. With net foreign liabilities at 85 per cent of gross domestic product, New Zealand has borrowed too much overseas. The working group says that our debt level is similar to the troubled countries of Europe, and notes that Australia has net foreign liabilities of 58 per cent.

Before we go any further, a word on definitions. Gross domestic product, GDP for short, is the market value of all final goods and services produced within a country in a given period of time. The Savings Working Group defines “saving” as “the difference between what we earn and what we spend”. This is a better definition than the Concise Oxford Dictionary which defines saving either as “making economical use of” or “money saved”.

The working group would pull us back from the brink by very undramatic steps such as increasing GST to 17.5 percent, by extending automatic enrolment in KiwiSaver to all employees, and lowering the starting age of full membership to 16. These steps are intended to boost savings to “stabilise net foreign liabilities at below 90 percent of GDP and then reduce the level to 70 percent and then towards 60 percent. Each step will progressively reduce New Zealand’s vulnerability”.

Saving is a habit I acquired many years ago, possibly when I mowed lawns at weekends when at high school to pay for band gear, and definitely, when I worked my way through univerity. Having that habit meant that when I needed to acquire money for some objective, I knew I could save for it.

For instance, some time in 1995 I started saving for our children’s tertiary education by saving $25 a week. The Bolger government at that time was touting a tax cut of that weekly amount, so that’s how I settled on $25. With extra amounts added, plus the miracle of compound interest, plus an increase to $65 a week when I saw more clearly the amount required, I had accumulated $61,492 by this week. The elements successfully saving for a project is having a goal (the amount of money required), a time period, and the required amount to set aside on each payday.

Everybody has a regular income of some sort. It is possible to set up your personal income and expenditure into a savings machine. A good savings habit is to set aside 10 percent of all earned and received money for long-term savings and investment – it could only be spent on an income-earning asset. It was a relatively easy habit to get into, but it did involve setting a budget and manually setting aside 10 percent of all wages and profits on payday or once a month. That simple step meant I could borrow from these funds for any capital improvements rather than going to the bank and paying interest. I could charge and earn interest from myself if I wanted.

I am astonished at how so many people live from payday to payday, spending everything that comes in. But I don’t think New Zealand is a nation of non-savers. The quick uptake of KiwiSaver is evidence of a pre-existing army of savers switching to a government-subsidised scheme. Besides, look at the thousands who lost their life savings in failed finance companies. The thousands who saved and lost in itself is evidence of a thriving culture of saving. The failure was a combination of cowboy finance company owners and poor control of those companies. There was not a failure in saving.

There are two “great” Kiwi institutions that destroy the life-and-death need for saving. On one hand is the welfare culture. For those socialised into welfare, when the money runs out they simply make an appointment with a case manager at Work and Income and ask for a notice of credit to help with rent, food, clothing, a bike, tyres for the car, and so on. On the other is universal, non means-tested superannuation. Those in a job know they just have to hang on until age 65 and the government will take care of them. Therefore, why save?

I remember a recent TV current affairs piece interviewing three migrant families on home ownership and finance -- a Chinese family from Malaysia, an Indian family from India, and an Pacific island mum. The Chinese family was buying a modest apartment and were totally self-reliant mainly because they came from a culture where if you were not self-reliant you did not surviv, since there was no welfare. The Indian family were self-reliant renters, whereas the island mum could not see herself ever being able to buy a house because WINZ did not give her enough money.

What if the Savings Working Group had applied my simple approach of saving 10 percent of all earnings and profits in its prescription to boost savings in the the government and household sectors.

New Zealand has a GDP of $138-billion according to the International Monetary Fund, and is ranked at the 51st spot on the list. A savings rate of 10 percent would require national savings of $13.8-billion. Banks, finance companies, fund managers, and the New Zealand Stock Exchange would be in financial heaven at the prospect of so much money floating around looking for a good rate of return. The Savings Working Group talks of a measly 2 percent to 3 per cent of GDP increase in national saving, amounting to some $3-billion to $5-billion annually

For the New Zealand government to become a saving government, it would not only have to live within it’s means, but it would also have to set aside a further two percent, according to the savings working group, or 10 percent according to me.

Core Crown revenue was $56.4-billion in the 2009-10 year, expenditure was $64.8-billion, and the deficit was $8.4-billion. Finance Minister Bill English would need to cut $8.4-billion of core expenditure to balance the books, and a further $5.64-billion to achieve a 10 percent savings rate. These figures give a clear picture of how far away a succession of finance ministers over the past 15 or so years were from being prudent financial managers.

The group continues the tax working group’s bias against housing investment, by estimating that the tax system bias in favour of housing caused about half of the increase in house prices, with serious implications for affordability. It repeats the myth that investment in housing prevents investment in more productive assets that would have lifted productivity. This view seems to exclude from GDP builders, plumbers, electricians, painters, insurers, banks, in fact every business involved in the housing sector. They all contribute to GDP. Perhaps one big mistake of the current government was its moves against housing, and this is one factor in the stalled economy.

In a bid to level the playing field between housing and other forms of invetment, the working group chooses to make returns from housing investment just as pathetic as investment in shares, managed funds, and finance companies. The working group could have tried to level the playing field by recommending that the latter become more attractive and less problematic.

The working group puts a lot of faith in KiwiSaver. Take away the $1000 kick start, the employer contribution, the tax credit, and returns on the scheme are less than in a bank savings account.

For instance, some phoning around revealed that one scheme quoted a 6.07 per cent annual return minus an administration fee of 2.75 percent per month with a management fee of 0.4 percent per year. Two percent set aside from an average wage of $50,000 would save $1000 a year, which in turn would earn $60.70. Take the fees of $20.27 off that and the before-tax return is $40.43. If $1000 was invested in a one-year term deposit account that currently returns 5.1 percent, the before-tax return would be $51.

My figures may be wrong, since I’m not an accountant and don’t work in financial services. I’ll leave it up to anyone, maybe a Savings Working Group member, to correct me. And no, I’m not in any KiwiSaver scheme, and I voted against Winston Peters’ compulsorary superannuation proposal because I knew my personal investment planning would do better than a government scheme -- simply because it had to and I had control.

The $1000 kick start, the employer contribution, and the tax credit, make KiwiSaver attractive, and who pays for the kick start and tax credit? The government pays with money taxed from hapless KiwiSaver members.

Here’s my point. The Savings Working Group says we are standing on the crumbling cliff created in part by excesive government spending, yet promotes a savings scheme that relies on heavy government spending.

Saving New Zealand: Reducing Vulnerabilities & Barriers to Growth & Prosperity,

1 comment:

Jens Meder said...

Everything quite sensible in this article, except for the lack of a realistic, politically achievable practical proposal to raising the national savings rate, such as AMENDING THE NZSF INTO A PERMANENT INSTITUTION OF PERSONAL ACCOUNTS, WITH CONTRIBUTIONS INTO THEM BUILT INTO OUR TAXATION SYSTEM.
This would achieve 100% of citizen participation with unsubsidised contributions, with the poorest contributing through GST.
For economic purposes, saving is the opposite to hand-to-mouth consumption, and includes spending for investment and debt reduction.
With an investment priority for the NZSF in NZ (say, infrastructure) in times of excessive unemployment and budget deficits, there would be a quick start in economic growth acceleration.
The widespread demand for a comfortable NZ Super entitlement from the age of 65 ON A SUSTAINABLE BASIS (through substantial pre-funding)could thus become the motive power
for a higher and more widespread NZ savings, investment and wealth ownership culture.