Michael Reddell: Fiscal starting points

Not that long ago, New Zealand’s fiscal balances looked pretty good by advanced country standards. Sure, the fiscal pressures from longer life expectancies were beginning to build – as they were in most of the advanced world – but in absolute and relative terms New Zealand still looked in pretty good shape.

Just a few months before Covid, in October 2019, the IMF published its half-yearly Fiscal Monitor, with the helpful cross-country comparative tables (whatever the merits of New Zealand’s own approach to measuring and reporting fiscal balances it doesn’t facilitate international comparisons).

This was how we’d compared with the median advanced country that year and the previous few.


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Notes for this and several later charts:

• “general government” (not central), the only meaningful basis for international comparisons 
• “primary” = ex interest (so reflecting current spending choices not legacy debt) 
• “cyclically-adjusted”, so looking through the state of the economic cycle. For Norway the data are not cyclically-adjusted (IMF only publishes cyclically-adjusted numbers for ex-oil Norway) 
• “advanced countries” = IMF classification for sovereign states (so ex Hong Kong), with Poland and Hungary added.

So under both National and Labour-led governments we were mostly running structural primary surpluses, and surpluses a bit larger than the median advanced country. Since our starting level of net public debt was lower than that of the median OECD country, using cyclically-adjusted overall balances our relative position was a bit stronger still.

Covid, of course, intervened, and in 2020 and 2021 most countries (including New Zealand) had really big fiscal outlays associated with supporting the Covid disruption to economic activity.

So fast forward to 2023. The Covid spending itself was by then a thing of the past.

The IMF released another Fiscal Monitor set of forecasts/estimates in October 2023 just a few days before our election (I wrote about the numbers here at the time). I’ve averaged the numbers for 2023 and 2024, but choosing either year individually wouldn’t make much difference. We now had among the larger structural primary deficits of any advanced country (again, the picture wasn’t a little less bad using the cyclically-adjusted

 total balance).

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So that, as estimated by the IMF (who use national numbers for each country but do their own cyclical adjustment), was pretty much the situation the incoming government inherited at the end of 2023. They knew that New Zealand was estimated to have among the largest primary structural deficits advanced world – a choice (and it was pure choice) made by the outgoing government.

So what stance was taken by the incoming government in its first Budget this time last year? This chart is from the Budget Economic and Fiscal Update. Treasury’s own estimate of the structural deficit was that policy choices would widen the structural deficit for 24/25 slightly relative to the estimate for 23/24.

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That wasn’t particularly surprising. There were expenditure cuts (and a tax increase) but there were also a number of tax cuts (much as had been promised by National in the election campaign).

Treasury estimates of the adjustments required to get to structural and cyclically-adjusted balance estimates can change with incoming data, but this chart was from last December’s HYEFU


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There was still no sign of any improvement in the structural position, based on decisions already made (ie last year’s actual Budget as distinct from lines on a graph about possible future Budgets).

Which brings us to the most recent IMF Fiscal Monitor released a few weeks ago. This is how our cyclically-adjusted primary deficit now compares (for NZ, the IMF uses HYEFU/BPS information – they don’t impose their own guesses about fiscal policy itself): largest structural primary deficit among the advanced countries (and a far cry from the modest structural primary surpluses New Zealand governments ran – chose to run – last decade)

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and here is the chart for the structural overall balance (ie including finance costs)

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Not quite as bad, but still 4th largest deficits among advanced countries.

As I’ve shown previously, the net debt position is not yet particularly bad. Government debt as a share of GDP is still below that of the median advanced country, but that gap has been closing rapidly.

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And one could add to the mix the repeated extension – by both governments – of the horizon for getting back to operating balance (currently, on the standard OBEGAL definition, both National and Labour seem agreed that 2029 is fine, at least until some other shock or pressure comes along).

It isn’t as if the financial markets are going to compel adjustment. If the net debt rises materially further a credit rating downgrade can’t be ruled out, but on its own that wouldn’t matter very much. It is more a question of our own choices and our own sense of fiscal responsibility and accountability.

Of course, there will be plenty of people – perhaps currently mostly on the political left – inclined to the view that if anything our governments should take on more debt. I’d largely agree with them that a somewhat higher level of debt is not likely to either raised interest rates very much or dampen potential GDP growth very much. My aversion to higher public debt is more about the demonstrated weakness of the political process in too many countries – not so much in New Zealand for a couple of decades, but again apparently now. It is easy to promise nice-to-haves (and both main parties have been guilty of this in recent years) when you don’t have to go to the voters and ask them for higher taxes now to pay for this handouts. Much more honest that if you want to increase (structural) spending – new or more expensive programmes – to raise taxes to pay for it. Failing to do that risks taking our country the way of places like France, the UK or the US – even before the demographic pressures really up the ante.

What will we see in the Budget? We’ll see I guess, but the Minister of Finance has announced a cut in the operating allowance for 24/25. That is no doubt fine and good, but relative to the scale of the structural imbalances – see charts above – it is pretty small beer, enough only to improve our ranking in those IMF charts by one place. Perhaps the Treasury’s estimation of cyclically-adjustment will have changed – for better or for worse – but we seem a long way from where we should be. And having chosen not to adjust last year, and with the three-party coalition chasing re-election next year, this year’s Budget was perhaps the only real hope left this term for getting back on fiscal track. To be sure, economic activity at present appears pretty weak, but a well-signalled tougher fiscal adjustment would normally be expected to be met by a looser-than-otherwise monetary policy (rather than further weakening economic activity). That, it seems, is not to be.

(The Opposition, of course, seems to differ only on the mix, not the extent of the fiscal imbalance they created and bequeathed, or the speed – sluggish at very best – with which it should be dealt with.)

But no doubt we will all be looking forward to the “bold” steps to lift economic growth etc

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Michael Reddell spent most of his career at the Reserve Bank of New Zealand, where he was heavily involved with monetary policy formulation, and in financial markets and financial regulatory policy, serving for a time as Head of Financial Markets. Michael blogs at Croaking Cassandra - where this article was sourced.