Kiwiblog

Over at Stuff I blog on how the PREFU released today does show a path out of debt. An extract:

Today the Government opened the books. It is required to do this by law. The law was introduced in the early 1990s after the outgoing Labour government hid the true state of the crown accounts, and the fact that the then government-owned Bank of New Zealand needed a bailout. The incoming government received a shock when it realised the true state of the books.

This law showed its worth in 2008. The Budget in June 2008 painted a rosy picture of economic growth and ongoing surpluses.  However, by October it was a different picture. We learned in the 2008 Pre-Election Fiscal and Update (Prefu) that in fact the economy had been in recession all year, and that the ongoing surpluses had been replaced with a decade of deficits.

The news got even worse two months later when Treasury did its December Economic Forecast Update (Defu). The decade of deficits had become a structural deficit that would have seen New Zealand ending up in a similar situation to Greece if no changes were made. Gross crown debt as a percentage of the economy was forecast to hit 57 per cent in 2023, or if the global economy continued to worsen, possibly as high as 76 per cent. At that stage you are like Greece, and the interest on the debt is so high that massive cuts in spending on welfare, health and education are necessary to be able to make the interest payments. …

 If there is no change of fiscal policies, then the Government is still forecast to achieve a surplus again in the 2014-15 fiscal year, which should also be the year when net debt peaks at 29 per cent of GDP. It’s a much better outlook than three years ago.

There’s also some interesting stuff on how our trade with the US and China has changed over the last decade.

John Key has announced a ministerial inquiry into the previous Government’s underfunding of ACC. It seems that the non-earners account is going to run out of money by March, and overall is underfunded for the next three years by around a billion dollars.

Not quite as bad as the BNZ bailout, but you do wonder what other timebombs have Labour left behind?

What is especially bad is that even though a bailout is inevitable, Cabinet refused to make a decision, as by not making a decision, the shortfall would not show up in the pre-election accounts – PREFU.

News that the Reserve Bank of Australia has dropped their official cash rate by a huge 100 basis points gives some inidcation of how weak various economies are.

NZIER released their quarterly survey of business confidence yesterday. On the basis of it they predict the recession will last for at least another two quarters. A net 32% of firms have reported a decline in trading activity and a net 13% expect trading activity to fall further in the next three months.

It is in that context, and the decade of deficits announced by Michael Cullen on Monday, that National have modified their tax package which will be announced later today. This is both necessary and responsible. The public want a tax package that takes account of the last few weeks, let alone the last few months.

The scary thing with the PREFU numbers is they were finalised five weeks or so ago, so do not include the latest shocks from the US. As the Herald says:

Party leader John Key yesterday admitted that the pre-election opening of the books by the Treasury showed a picture that was much worse than he had expected.

“We’d always expected a slowdown, but I don’t think anyone saw deficits for 10 years and such a deterioration in the accounts.”

The economic and fiscal update showed cash deficits forecast to reach $7 billion and budget deficits for the next 10 years. …

No-one at all was expecting it to be that bad.

Also behind the decision is the fact that the forecasts revealed by the Treasury this week do not take into account the tumultuous events of the past month, in which banks have collapsed, the US Government has approved an enormous bail-out deal for Wall Street, and the flow of credit internationally has virtually seized up.

Who knows where it will end. Now this is no reason not to have tax cuts at all – they are important as one factor in lifting economic growth. But some caution around size and timing is essential.

Prime Minister Helen Clark yesterday cast doubts on National’s statement that it had scaled down its tax cut plan.

“I believe they over-promised on their tax package and they are now using the excuse of the books to try and talk down expectations,” she said.

I am tempted to call the PM a moron for that comment, but I know she is not a moron so all I’ll say is she is playing dumb. If she really thinks a decade of deficits is simply an “excuse” then she is in la la land.

But here is what is really interesting. We have seen National says “Yes we will modify our plans in wake of the financial crisis” while Labour says it is not going to change anything. Dr Cullen ruled out any change to tax or spending in the PREFU lockup. At most they might delay some of WInston’s new bureaucrats. Labour are happy to have ten years of deficits and debt rising from under 20% to 30% of GDP.

Labour have had it easy for the last nine years. They have never had to make tough decisions, and now the economy is in reecession they have no idea and no plan as to what to do to prevent a decade of deficits. Their biggest problem for the last decade has been what new schemes to dream up to spend our money on – hey lets put a billion more into Working for Families, no no lets buy some trains for a billion, no no let’s give pensioners free bus trips, no no let’s give public servants a pay rise but only if they join the PSA etc etc.

Because the economy, helped by strong commodity prices, has been so strong they have been able to say no to measures that would boost labour productivity and economic growth. Many of these measures (such as RMA reform) will be unpopular with some lobby groups, so why bother to take the heat, when hey we have enough money without such reforms.

But now Labour has run out of money. They are content to run ten years of deficits. They are not willing to take any hard decisions about lifting our economic growth, let alone paring back any of their spending schemes.

We’ll hear later today what National’s plan is. I think it will be measured, significant and popular. It will of course be attacked by Labour and the unions. National could announce the second coming, and Labour and the unions will attack it. Hopefully at some stage, somone may ask Labour what their plan is? Their plan is to not change tax rates and not change spending significantly. Their plan is a decade of deficits.

John Armstrong does a nice summary:

It was only a few short weeks ago that Bill English was saying he wasn’t going to be spooked by a little bit of red ink in the Government’s accounts.

The Treasury’s pre-election fiscal update bleeds so much of the red stuff that the document looks like the aftermath of Dracula running amok in the blood bank.

The numbers in this horror story are truly awful. It is goodbye to operating surpluses for close to a decade. The forecasts for the separate cash deficit figure nearly double to $6-7 billion for the foreseeable future. Growth slumps. Unemployment jumps. These numbers will almost certainly get worse. The Treasury’s forecasts were done before last week’s maelstrom on Wall Street.

What a legacy to leave behind.

The update is a brutal reality check for parties making big election promises. In the short term, Labour has already gobbled up the allocation for new spending in next year’s Budget. There can be no pre-election bidding wars to buy votes. Post-election negotiations are now going to be hellishly difficult.

Yes – universal student allowances just died yesterday.

If a Labour-Green-NZ First Government was elected, I think they would find it almost impossible to govern without increasing taxes. There is less than $500 million available next year for new initiatives. Even a centre-right Government will find it hard to cope with that. I think it is inevitable there would be a range of new taxes introduced – they will carry through with the legislated tax cuts, but seek to increases taxes elsewhere – maybe even do another envy tax on people earning over $100,000.

In such an atmosphere of restraint, National’s unveiling of its tax cuts tomorrow seem about as tactful as someone cracking open the champagne at a funeral just as the coffin is being lowered into the grave.

The tax cuts needs to countered by savings elsewhere. A significant increase in the operating deficit is not a good idea. However tax cuts are still important as part of a package to life economic growth – higher economic growth is the way to avoid a decade of deficits.

Having slammed National for setting a debt-to-GDP target of 22 per cent, Cullen’s position has been undercut by the current debt ratio being forecast to balloon from 17 per cent to 24 per cent of GDP over the next four years.

And to keep increasing after that to over 30% of GDP.

If National’s tax cuts are reckless, so, by Cullen’s previous definitions, are Labour’s.

Cullen admitted as much by saying that had he known in advance what was going to happen he would have been more cautious about cutting taxes. However, he is refusing to withdraw the second and third phases of Labour’s tax package.

That was actually my question to Dr Cullen – would he have made the tax cuts he did, if he had these forecasts six months ago. He replied that he he would have been more prudent as he leaves recklessness to bloggers

Cullen is right that he can not directly reverse the tax cuts he has just passed into law. But I just can’t see how a Labour-led Government could live within these fiscal parameters. I suspect there would be a range of new taxes introduced.

That gives National carte blanche to go with its more generous package, which it says will be no more expensive than Labour’s because the extra cost will be funded by transparent savings in government spending.

Yes the key is having the whole package fiscally neutral or very close to it.

The bickering over tax has long made up for the lack of argument over wider economic policy. Yesterday changed everything. The election is no longer about tax. It is about which party can best convince the voters its policies will shorten the length and depth of that recession.

This is absolutely where the debate needs to go. There has to be an real focus on increasing economic growth.

The PREFU is far worse than anyone could imagine. Thank God St Ruth and National changed the law in 1994 to force the Government to open the books up before an election – otherwise it would be a repeat of the last time a Labour Government left office – a fiscal mess for the incoming Government.

The Secretary of the Treasury, John Whitehead, did a presentation before we got the books. The room was silent as he wound out the bad news. The problem isn’t our financial markets – they are much better structured than in the US. It is the flow on effects of lower GDP growth and increased spending. So we don’t have a crisis, but we do have a very bleak fiscal situation.

The Crown accounts are going into deficit, and will remain in deficit until 2018 – yes – a decade of deficits on the medium term projections. The deficit is forecast to be $31 million this year and up to $3.2 billion in 2012/13 – returning to surplus only in 2017/18. This is the OBEGAL excluding Super Fund Revenue.

Dr Cullen and Helen Clark are going to be very red faced over debt. Do you recall how they attacked National’s plan to borrow 2% more of GDP for infrastructure as an economic calamity and reckless as it would push debt up to 22% of GDP – 2% in excess of Dr Cullen’s ceiling of 20%

Debt is forecast to peak at 30.1%!!! It will be 24.3% by 2012/13 and 30.1% by 2018/19. After wailing about how the world would end if debt went to 22% of GDP, Dr Cullen is leaving NZ with a forecast rise to 30%.

The cash deficit next year is now forecast to be $6 billion and over five years a cash deficit of 31.7 billion.

Incidentally PREFU was done around five weeks ago so doesn’t take account of the very latest in the US such as the bailout. They do not expect this to change PREFU significantly but it does increase the risk of a sharp slowdown.

Treasury are forecasting close to 0% annual GDP growth until June 2009.

Some changes to the annual predictions are

• KiwiSaver costs up $280m by 2012
• Tax take down 900m
• Benefit costs 500m up
• Early Childhood Education Costs up 200m
• Debt servicing up 500m

The annual contingency for extra spending is $1.75 b per annum plus 2% inflation. But most of this is already allocated and for the next four years only $500 to $600 million a year is available for genuine new spending.

So what to do? Well the Treasury Secretary says if one can manage an average real GDP growth of 3%, then the long-term debt (2022/23) will reduce by 10%.

This for me is what the election must now be about. The status quo in terms of economic growth is not acceptable – a decade of deficits must not happen. So voters should ask which party will have the best policies and best people to boost economic growth.

I have previously given Dr Cullen pretty high marks for his fiscal management. Those marks were seriously downgraded today as he leaves us with ten years of deficits forecast and a 50% forecast increase in debt as a percentage of GDP.

There will be some focus on National’s response and their tax plans and infrastructure plans. The tax plans will be credible if they are largely fiscally neutral with reductions elsewhere in expenditure. And a lower tax economy will lead to higher economic growth – which is what it is all about.

The infrastructure plans will add 2% of GDP to gross debt – a small amount now compared to the 10% extra on these projections. The rationale is unchanged for them though – if they will add to economic growth by increasing productivity, then that is a good return on investment. Not all infrastructure investments will lead to higher economic growth, so the focus should be on the quality of the investment.

Bill English is about to inherit what may be the toughest job in New Zealand – turning around a projected ten years of deficits and 50% increase in gross debt as a percentage of GDP.

I’m heading into the PREFU lockup soon, so should have a bblog on that around 3 pm.

Michael Cullen has admitted that the opening of the books the week after next will reveal he has broken his own gross debt target of 20% of GDP. And this is after all the hysteria about the end of civilisation if this happened under National.

Dr Cullen said there was room for only “very modest” new spending commitments from Labour during the campaign.

I suspect Dr Cullen’s idea of very modest may not be what anyone else calls modest!