Wonder about the “New Zealand paradox”, which is that New Zealand under-performs economically given its policies, institutions, natural resources, educated people, and compliance with trade and other multi-lateral agreements.
Our economic reforms from the mid-1980s and on were textbook economic theory and yet the real-world results disappointed.
However, New Zealand has different policy settings from the economic mainstream. Compared to other developed countries it has high tax rates on labour income and low rates on capital income. It has only limited capital gains taxes, and no gift, inheritance, or wealth taxes. Levies paid to the Accident Compensation Corporation are the closest we get to dedicated social security taxes. New Zealand lacks compulsory saving schemes to fund retirement.
The National Government’s cancellation in 1975 of the Kirk Labour Government’s compulsory superannuation scheme was likely the single worst economic decision ever made by a New Zealand government. However, rather than try to reverse this decision it is more effective to build from what we have.
The Kirk Government’s NZ Superannuation Scheme was initiated in 1974. It was compulsory for all employees between 17 and retirement age; that is, it was a “save-as-you-go” scheme. Money could only be taken out early when a contributor left the country permanently. Each contributor had their own individual and portable account. After a short phase-in period, contributions were to be eight per cent of gross income – four per cent from workers and four per cent from employers. A Superannuation Corporation was to receive contributions and manage their investment.
However, the opposition National Party opposed the Scheme. Following its 1975 election win, the new National Government replaced the Scheme with “pay as you go” New Zealand Superannuation (NZS), with universal eligibility at age 60, no requirements on individuals to contribute to it, and no means testing.
NZS remains the foundation of our retirement system. However, demographic and fiscal pressures have forced changes. The eligibility age was lifted from 60 to 65 over the period 1993 to 2001. Even with these changes an ageing population could make the NZS unsustainable in its current form. In 2022-23, NZS cost 4.8% of GDP. Projections suggest that it could cost around 6.7% of GDP by 2050.
Labour’s Finance Minister Michael Cullen initiated the NZ Superannuation Fund (NZSF) in 2001 to help cover future NZS costs. In the same year Kiwibank was established at Jim Anderton’s instigation. The NZSF acts as an inter-generational tax smoothing vehicle to assist future taxpayers in meeting NZS’s funding costs. For more details on the NZSF see Bell (2021.) Preston (2008) gives an overview of the wider context and history of New Zealand’s pensions system.
The NZSF has been a success and as of mid-2023 it had assets valued at NZ$66 – $70 Billion. It has retained multi-partisan political support, however when under fiscal pressure some planned government contributions to it have been deferred.
In 2007 Finance Minister Cullen launched KiwiSaver, a voluntary savings scheme with an employer as well as worker contribution, a kick-start payment, and an annual government subsidy. While the incentives were subsequently reduced, Kiwisaver has been a big success. As at 31 March 2023 there were 3,254,336 KiwiSaver accounts with a mean balance of $28,778, and KiwiSaver providers have around $93.7 Billion in funds under management. These figures suggest good KiwiSaver reach and great scope for increasing its depth.
The Retirement Commission in 2022 published its latest three yearly Review of Retirement Income Policies. It highlighted that NZS is a largely equitable system and is easy to administer. It has been a key factor in New Zealand having lower rates of elderly poverty than many developed countries. However, an argument can be made that NZS’s relatively good performance for elder citizens has been partly at the expense of younger generations.
The Commission recommended keeping the current eligibility age of 65 in place for NZS. Other NZS rules could be modified to reduce costs without major damage to the core Scheme. Examples include linking the pension rate to the CPI rather than to some percentage of the average wage.
Many factors beyond superannuation affect elderly well-being, for example housing and other accommodation costs, and health services. Elderly people can be seen as a burden. However, they are also big contributors to society. The value of unpaid and voluntary work done by older people has been estimated between $13.9 Billion to $15.5 Billion per year (Retirement Commission 2022).
In a pay-as-you-go system, a government collects taxes and funds pensions with them, and no assets are accumulated. In one type of save-as-you-go system, taxes are accumulated in a sovereign wealth fund and invested and then pensions are paid out later. This is the NZSF model. Another type of save-as-you-go scheme sees compulsory contributions of individual workers being placed in private saving accounts rather than in a single large public account. This is what KiwiSaver would look like if it was compulsory – a lot bigger in size and with individual account holders more active in their own financial planning.
Save-as-you-go and pay-as-you-go pension schemes impose different costs and benefits on different generations. Top economists such as Paul Samuelson, Peter Diamond and Edmund Phelps have grappled with the problems of intergenerational equity. See Barrell & Weale (2010) for a more recent discussion of relevant issues.
In economics, dynamic efficiency occurs when resources are optimally allocated in ways that maximise the economic potential of the future, ensuring sustained growth. It involves a balance between current consumption and investment for future benefits. Key aspects of dynamic efficiency include technological progress and innovation, capital accumulation and sustainability.
Dynamic inefficiency occurs when resources are allocated in ways that don’t optimise long-term growth. This might involve overinvestment at the expense of present consumption, or under-investment in technology, infrastructure or human capital. Dynamic inefficiency is closely related to capital accumulation problems in the Overlapping Generation (OLG) and the Solow-Swan models.
A save-as-you-go system works best when the return to capital investment exceeds an economy’s growth rate, or “r > g” where “r” connotes the return to capital and “g” is the economy’s growth rate. This is the same relation that Thomas Piketty used in Capital in the Twenty-First century.
A pay-as-you-go system may be appropriate when the returns to capital investments are less than the growth rate of the economy, or “r < g.” This type of economy is dynamically inefficient. If you have a pay-as-you-go system in a dynamically efficient economy, young and future generations face big opportunity costs. They would have been better off if previous generations had chosen a save-as-you-go system.
This suggests that if New Zealand had retained the compulsory saving scheme started in 1975 and not replaced it with the pay-as-you-go that formed the basis for today’s NZS, New Zealanders would be much better off. In 2007 Brian Gaynor published his analysis of what the New Zealand economy would look like if the 1975 save-as-you-go scheme had not been abolished.
Gaynor concluded that the compulsory contribution fund would have been worth about $240 Billion if still in place in 2007. New Zealand would rank as one of the top five OECD economies. It would have by 2007 deep and entrepreneurial capital markets, with ownership of major companies that are now foreign owned, as well as substantial investments in other countries. It would have a healthy current account surplus. New Zealand workers would hold more superannuation assets than their Australian counterparts.
Pay-as-you-go is like a pipe that funnels water directly to consumers without creating additional value through the process of doing so. Save-as-you go is like using flowing water to generate hydro-electricity before, in a later time period, the water reaches the consumer, having done a lot of work before doing so. That is, the money put aside to support future retirement does not sleep but is put to work investing in factories, farms and infrastructure, new technology, and generative entrepreneurship that creates new businesses and industries.
At the heart of New Zealand’s economic problems are low domestic savings rates and the misallocation of savings.
New Zealand’s national savings rates include household, government, and business savings. High household debt levels are mainly driven by borrowing from Australian banks for housing. This sees billions of dollars a year in banking industry profits generated in New Zealand being remitted to Australia.
House prices are inflated by regulatory barriers to new housing developments. Property values may grow by billions without a single square metre of new housing being built. With a large portion of household income going towards debt servicing, less is available for savings, reducing the funds that can be channelled into wealth-creating investment.
Low domestic savings rates impact on a country’s real exchange rate and export competitiveness. When domestic savings are low a country typically will rely more on foreign capital to finance its investments. This can lead to higher capital inflows. These inflows increase the demand for the domestic currency, causing it to appreciate. An appreciated currency makes the country’s exports less competitive and imports become cheaper, leading to trade deficits.
Compulsory savings schemes have macroeconomic effects, for example by lifting national savings rates. Compulsion is needed because evolutionary psychology has created a bias to the short-term in our investment decision-making.
Higher savings increase the pool of available capital for investment, boosting economic growth. Compulsory savings stimulate the growth of capital markets as pension funds invest in diverse financial instruments. This leads to deeper, more differentiated, and more liquid financial markets. It also makes it easier to access long-term, patient capital.
Compulsory savings schemes can risk exacerbating income and wealth inequalities. However, this can be mitigated by government providing top-up progressive contributions for lower-income workers.
Existing retirement-related provisions that work well can be built upon; some of these provisions have their origins in the Kirk Government’s 1974 scheme. Making KiwiSaver compulsory and lifting the contribution rates for the worker and employer would be akin to provisions in the Kirk Government’s save-as-you-go scheme. The simplicity of eligibility and other rules for New Zealand Superannuation should be retained.
Assuming KiwiSaver became compulsory and had higher contribution rates the NZSF would likely still need to continue for some decades to fulfil its intergenerational tax smoothing mission.
The Commerce Commission (2024) examined New Zealand’s personal banking system from a competition policy perspective. This is a limited lens that excludes domestic savings and how the economy utilises them through, for example, capital raising and investment institutions. New Zealand has a thin share market with some of our biggest companies being cooperatives or tightly held private or unlisted public companies. There are few IPOs each year.
There are strong interrelationships between our retirement funding arrangements, lifting our domestic saving rates, and the development of our banking and investment system. We need a business environment that translates higher capital accumulation into innovation and productivity growth.
The Commerce Commission (2024) concluded that the major banks do not face strong competition, there was a lack of innovation, and there was “a stable oligopoly with no maverick provider”. This has triggered debate about Kiwibank’s role as a potential disruptor of an overly comfortable quartet of big banks besot by Liebensteinian X-inefficiency.
Kiwibank is government-owned and lacks external capital to grow. It has only about 6% of the New Zealand banking market by assets and market share. It cannot challenge the dominant Australian-owned banks if it can only use retained earnings to deliver enhanced services.
The Commerce Commission report provides strong support for providing more capital to Kiwibank to enhance competition in the sector. It also promotes open banking to ensure fit for purpose information is available to customers so that information asymmetry favouring the dominant banks is eroded.
Finance Minister Willis is advocating for more capital for Kiwibank to support its growth, while remaining in New Zealand hands. The best option might see government retaining 51% ownership of Kiwibank and listing it on Australasian share markets with 49% of its equity being sold at market valuation. Kiwibank changed its constitution in December 2022 to enable it to list on the NZX.
The conceptual challenge for Ministers, officials and business leaders is to understand the relationships between retirement funding, lifting domestic savings rates, and having a banking system that is innovative, competitive and has a high degree of New Zealand ownership. If Kiwibank is floated with a 51% government stake we cannot assume that it will grow New Zealand’s total share of the Australasian banking sector market. However, such a float would inject more dynamism in the market and it could exploit progress in open banking. It might create an opportunity for a New Zealand bank to take over the provision of financial services to the New Zealand government.
The spirits of Norman Kirk, Jim Anderton, Michael Cullen, and Roger Douglas incarnate would then feel comfortable in Nicola Willis’s office. May they settle there long enough to make it feel like home!
References
Bell, M. 2021. Golden Years – Understanding the New Zealand Superannuation Fund (WP 21/01). NZ Treasury.
Barrell, R. Weale, M. 2010. Fiscal policy, fairness between generations, and national saving . Oxford Review of Economic Policy, Volume 26, Issue 1, Spring 2010, Pages 87–116,
Coleman, A. 2024: Andrew Coleman looks at the ‘TTE’ versus ‘EET’ methods of taxing retirement savings, suggesting change for the KiwiSaver accounts of younger New Zealanders. interest.co.nz
Commerce Commission New Zealand 2024: Personal banking services. Final Competition Report.
Preston, D. 2008: Retirement Income in New Zealand: The Historical Context.
Retirement Commission 2022: Review of Retirement Income Policies.
Dr Peter Winsley has worked in policy and economics-related fields in New Zealand for many years. With qualifications and publications in economics, management and literature. Peter blogs at Peter Winsley - where this article was sourced.
The National Government’s cancellation in 1975 of the Kirk Labour Government’s compulsory superannuation scheme was likely the single worst economic decision ever made by a New Zealand government. However, rather than try to reverse this decision it is more effective to build from what we have.
The Kirk Government’s NZ Superannuation Scheme was initiated in 1974. It was compulsory for all employees between 17 and retirement age; that is, it was a “save-as-you-go” scheme. Money could only be taken out early when a contributor left the country permanently. Each contributor had their own individual and portable account. After a short phase-in period, contributions were to be eight per cent of gross income – four per cent from workers and four per cent from employers. A Superannuation Corporation was to receive contributions and manage their investment.
However, the opposition National Party opposed the Scheme. Following its 1975 election win, the new National Government replaced the Scheme with “pay as you go” New Zealand Superannuation (NZS), with universal eligibility at age 60, no requirements on individuals to contribute to it, and no means testing.
NZS remains the foundation of our retirement system. However, demographic and fiscal pressures have forced changes. The eligibility age was lifted from 60 to 65 over the period 1993 to 2001. Even with these changes an ageing population could make the NZS unsustainable in its current form. In 2022-23, NZS cost 4.8% of GDP. Projections suggest that it could cost around 6.7% of GDP by 2050.
Labour’s Finance Minister Michael Cullen initiated the NZ Superannuation Fund (NZSF) in 2001 to help cover future NZS costs. In the same year Kiwibank was established at Jim Anderton’s instigation. The NZSF acts as an inter-generational tax smoothing vehicle to assist future taxpayers in meeting NZS’s funding costs. For more details on the NZSF see Bell (2021.) Preston (2008) gives an overview of the wider context and history of New Zealand’s pensions system.
The NZSF has been a success and as of mid-2023 it had assets valued at NZ$66 – $70 Billion. It has retained multi-partisan political support, however when under fiscal pressure some planned government contributions to it have been deferred.
In 2007 Finance Minister Cullen launched KiwiSaver, a voluntary savings scheme with an employer as well as worker contribution, a kick-start payment, and an annual government subsidy. While the incentives were subsequently reduced, Kiwisaver has been a big success. As at 31 March 2023 there were 3,254,336 KiwiSaver accounts with a mean balance of $28,778, and KiwiSaver providers have around $93.7 Billion in funds under management. These figures suggest good KiwiSaver reach and great scope for increasing its depth.
The Retirement Commission in 2022 published its latest three yearly Review of Retirement Income Policies. It highlighted that NZS is a largely equitable system and is easy to administer. It has been a key factor in New Zealand having lower rates of elderly poverty than many developed countries. However, an argument can be made that NZS’s relatively good performance for elder citizens has been partly at the expense of younger generations.
The Commission recommended keeping the current eligibility age of 65 in place for NZS. Other NZS rules could be modified to reduce costs without major damage to the core Scheme. Examples include linking the pension rate to the CPI rather than to some percentage of the average wage.
Many factors beyond superannuation affect elderly well-being, for example housing and other accommodation costs, and health services. Elderly people can be seen as a burden. However, they are also big contributors to society. The value of unpaid and voluntary work done by older people has been estimated between $13.9 Billion to $15.5 Billion per year (Retirement Commission 2022).
In a pay-as-you-go system, a government collects taxes and funds pensions with them, and no assets are accumulated. In one type of save-as-you-go system, taxes are accumulated in a sovereign wealth fund and invested and then pensions are paid out later. This is the NZSF model. Another type of save-as-you-go scheme sees compulsory contributions of individual workers being placed in private saving accounts rather than in a single large public account. This is what KiwiSaver would look like if it was compulsory – a lot bigger in size and with individual account holders more active in their own financial planning.
Save-as-you-go and pay-as-you-go pension schemes impose different costs and benefits on different generations. Top economists such as Paul Samuelson, Peter Diamond and Edmund Phelps have grappled with the problems of intergenerational equity. See Barrell & Weale (2010) for a more recent discussion of relevant issues.
In economics, dynamic efficiency occurs when resources are optimally allocated in ways that maximise the economic potential of the future, ensuring sustained growth. It involves a balance between current consumption and investment for future benefits. Key aspects of dynamic efficiency include technological progress and innovation, capital accumulation and sustainability.
Dynamic inefficiency occurs when resources are allocated in ways that don’t optimise long-term growth. This might involve overinvestment at the expense of present consumption, or under-investment in technology, infrastructure or human capital. Dynamic inefficiency is closely related to capital accumulation problems in the Overlapping Generation (OLG) and the Solow-Swan models.
A save-as-you-go system works best when the return to capital investment exceeds an economy’s growth rate, or “r > g” where “r” connotes the return to capital and “g” is the economy’s growth rate. This is the same relation that Thomas Piketty used in Capital in the Twenty-First century.
A pay-as-you-go system may be appropriate when the returns to capital investments are less than the growth rate of the economy, or “r < g.” This type of economy is dynamically inefficient. If you have a pay-as-you-go system in a dynamically efficient economy, young and future generations face big opportunity costs. They would have been better off if previous generations had chosen a save-as-you-go system.
This suggests that if New Zealand had retained the compulsory saving scheme started in 1975 and not replaced it with the pay-as-you-go that formed the basis for today’s NZS, New Zealanders would be much better off. In 2007 Brian Gaynor published his analysis of what the New Zealand economy would look like if the 1975 save-as-you-go scheme had not been abolished.
Gaynor concluded that the compulsory contribution fund would have been worth about $240 Billion if still in place in 2007. New Zealand would rank as one of the top five OECD economies. It would have by 2007 deep and entrepreneurial capital markets, with ownership of major companies that are now foreign owned, as well as substantial investments in other countries. It would have a healthy current account surplus. New Zealand workers would hold more superannuation assets than their Australian counterparts.
Pay-as-you-go is like a pipe that funnels water directly to consumers without creating additional value through the process of doing so. Save-as-you go is like using flowing water to generate hydro-electricity before, in a later time period, the water reaches the consumer, having done a lot of work before doing so. That is, the money put aside to support future retirement does not sleep but is put to work investing in factories, farms and infrastructure, new technology, and generative entrepreneurship that creates new businesses and industries.
At the heart of New Zealand’s economic problems are low domestic savings rates and the misallocation of savings.
New Zealand’s national savings rates include household, government, and business savings. High household debt levels are mainly driven by borrowing from Australian banks for housing. This sees billions of dollars a year in banking industry profits generated in New Zealand being remitted to Australia.
House prices are inflated by regulatory barriers to new housing developments. Property values may grow by billions without a single square metre of new housing being built. With a large portion of household income going towards debt servicing, less is available for savings, reducing the funds that can be channelled into wealth-creating investment.
Low domestic savings rates impact on a country’s real exchange rate and export competitiveness. When domestic savings are low a country typically will rely more on foreign capital to finance its investments. This can lead to higher capital inflows. These inflows increase the demand for the domestic currency, causing it to appreciate. An appreciated currency makes the country’s exports less competitive and imports become cheaper, leading to trade deficits.
Compulsory savings schemes have macroeconomic effects, for example by lifting national savings rates. Compulsion is needed because evolutionary psychology has created a bias to the short-term in our investment decision-making.
Higher savings increase the pool of available capital for investment, boosting economic growth. Compulsory savings stimulate the growth of capital markets as pension funds invest in diverse financial instruments. This leads to deeper, more differentiated, and more liquid financial markets. It also makes it easier to access long-term, patient capital.
Compulsory savings schemes can risk exacerbating income and wealth inequalities. However, this can be mitigated by government providing top-up progressive contributions for lower-income workers.
Existing retirement-related provisions that work well can be built upon; some of these provisions have their origins in the Kirk Government’s 1974 scheme. Making KiwiSaver compulsory and lifting the contribution rates for the worker and employer would be akin to provisions in the Kirk Government’s save-as-you-go scheme. The simplicity of eligibility and other rules for New Zealand Superannuation should be retained.
Assuming KiwiSaver became compulsory and had higher contribution rates the NZSF would likely still need to continue for some decades to fulfil its intergenerational tax smoothing mission.
The Commerce Commission (2024) examined New Zealand’s personal banking system from a competition policy perspective. This is a limited lens that excludes domestic savings and how the economy utilises them through, for example, capital raising and investment institutions. New Zealand has a thin share market with some of our biggest companies being cooperatives or tightly held private or unlisted public companies. There are few IPOs each year.
There are strong interrelationships between our retirement funding arrangements, lifting our domestic saving rates, and the development of our banking and investment system. We need a business environment that translates higher capital accumulation into innovation and productivity growth.
The Commerce Commission (2024) concluded that the major banks do not face strong competition, there was a lack of innovation, and there was “a stable oligopoly with no maverick provider”. This has triggered debate about Kiwibank’s role as a potential disruptor of an overly comfortable quartet of big banks besot by Liebensteinian X-inefficiency.
Kiwibank is government-owned and lacks external capital to grow. It has only about 6% of the New Zealand banking market by assets and market share. It cannot challenge the dominant Australian-owned banks if it can only use retained earnings to deliver enhanced services.
The Commerce Commission report provides strong support for providing more capital to Kiwibank to enhance competition in the sector. It also promotes open banking to ensure fit for purpose information is available to customers so that information asymmetry favouring the dominant banks is eroded.
Finance Minister Willis is advocating for more capital for Kiwibank to support its growth, while remaining in New Zealand hands. The best option might see government retaining 51% ownership of Kiwibank and listing it on Australasian share markets with 49% of its equity being sold at market valuation. Kiwibank changed its constitution in December 2022 to enable it to list on the NZX.
The conceptual challenge for Ministers, officials and business leaders is to understand the relationships between retirement funding, lifting domestic savings rates, and having a banking system that is innovative, competitive and has a high degree of New Zealand ownership. If Kiwibank is floated with a 51% government stake we cannot assume that it will grow New Zealand’s total share of the Australasian banking sector market. However, such a float would inject more dynamism in the market and it could exploit progress in open banking. It might create an opportunity for a New Zealand bank to take over the provision of financial services to the New Zealand government.
The spirits of Norman Kirk, Jim Anderton, Michael Cullen, and Roger Douglas incarnate would then feel comfortable in Nicola Willis’s office. May they settle there long enough to make it feel like home!
References
Bell, M. 2021. Golden Years – Understanding the New Zealand Superannuation Fund (WP 21/01). NZ Treasury.
Barrell, R. Weale, M. 2010. Fiscal policy, fairness between generations, and national saving . Oxford Review of Economic Policy, Volume 26, Issue 1, Spring 2010, Pages 87–116,
Coleman, A. 2024: Andrew Coleman looks at the ‘TTE’ versus ‘EET’ methods of taxing retirement savings, suggesting change for the KiwiSaver accounts of younger New Zealanders. interest.co.nz
Commerce Commission New Zealand 2024: Personal banking services. Final Competition Report.
Preston, D. 2008: Retirement Income in New Zealand: The Historical Context.
Retirement Commission 2022: Review of Retirement Income Policies.
Dr Peter Winsley has worked in policy and economics-related fields in New Zealand for many years. With qualifications and publications in economics, management and literature. Peter blogs at Peter Winsley - where this article was sourced.
1 comment:
Winsley's article is a good summary of the current superannuation landscape and once again reinforces that Muldoon was a danger to our national well-being. Seems to me the case for making KiwiSaver compulsory is now unassailable. One small quibble. On the matter of KiwiBank, its connection with superannuation is peripheral at best. Seems to me the taxpayers would be better served by the Government selling it completely and investing the proceeds in the New Zealand Superannuation Fund (always assuming a buyer could be found of course).
Post a Comment