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Budget 2011 Home Page Budget Policy Statement 2011

Fiscal Strategy

Our fiscal strategy is based on returning to operating surpluses, bringing debt down to prudent levels to rebuild our fiscal buffer and committing to a broad-base, low-rate taxation system that minimises economic distortions. As part of realising this strategy, we are continuing to reprioritise lower priority spending and are releasing an Investment Statement to improve the scrutiny and management of the Crown's balance sheet. Our fiscal strategy supports balanced and sustainable economic growth by reducing pressure on monetary policy and by allowing more resources to flow towards private sector activity - thereby helping to reduce our economic vulnerabilities.

Short-term intentions

Returning the Government's books to surplus is the immediate focus of our fiscal strategy. Achieving this will enable us to start restoring the Government's balance sheet, by reducing our level of debt, and will provide options in terms of future spending and taxation policies.

To underline our commitment to eliminating the operating deficit and returning to fiscal surpluses, we are clarifying our formal short-term intention for the operating balance. This Government is committed to returning the operating balance, before gains and losses, to surplus as soon as practical, and no later than 2015/16 - barring any significant shocks. This is in line with the fiscal forecast and also reflects the timeframe forecast in Budget 2010.

Figure 7 - Total Crown operating balance before gains and losses
Figure 7 - Total Crown operating balance before gains and losses.
Source: The Treasury

The operating deficit is expected to peak in 2010/11 with the total Crown operating deficit before gains and losses being $11.1 billion, or 5.5% of GDP, as Figure 7 shows. The deficit is larger than the 4.2% forecast at Budget 2010, partially owing to the recognition of one-off expenses associated with the recovery from the Canterbury earthquake and the re-phasing of expenses associated with the Weathertight Homes package. Lower tax revenue, owing to corporate tax losses and slightly weaker than expected economic activity in the near term, is also a factor. We are prepared to look through this deterioration given that it is driven by events that are one-off or largely temporary in nature, and given that tax revenue is expected to strengthen by the end of 2014/15.

Long-term objectives

Rebuilding a strong balance sheet, with low levels of debt, provides a buffer to help absorb any future shocks, and helps us to prepare for demographic changes - now upon us as the baby boomers begin to retire. Natural disasters and shocks can strike from time to time, as we have been reminded recently with the Canterbury earthquake, the collapse of South Canterbury Finance and the problems affecting our kiwifruit industry. Although the balance sheet has been strong enough to absorb the associated fiscal impact, events such as these only underline the need for a robust and prudently-managed balance sheet for the future.

We are committed to the long-term fiscal objectives outlined in Budget 2010. This Government will keep debt under control and ensure that it remains below 40% of GDP. We will ensure that net debt is brought back to a level no higher than 20% of GDP by the early 2020s. We will also build up our net worth to restore our fiscal buffer against future shocks. A strong Crown balance sheet, which New Zealand had prior to both the economic recession and the global financial crisis, enabled us to weather those events relatively well. Our commitment to maintaining a prudent fiscal position continues to separate us from countries facing severe fiscal adjustments with inevitable economic costs.

Net debt is our primary fiscal anchor for the long term. Currently, net debt is forecast to increase over the next few years and peak at 28.5% of GDP in 2014/15 - well below 40% of GDP, as Figure 8 shows. Net debt begins to decrease after we return to fiscal surplus in 2015/16. It is projected to be brought back beneath 20% of GDP in the early 2020s - in line with our long-term objective for debt.

Figure 8 - Net debt and net worth
Figure 8 - Net debt and net worth.
Source: The Treasury

Net worth is an important measure of long-term solvency and the fiscal sustainability of the Crown. Despite significant ongoing capital investment, the Crown's net worth is forecast to continue to decline in the short term as our debt grows faster than our assets. Over the five years from 2009/10, our total Crown net worth will decline by $11.9 billion, so that by 2014/15, our net worth is $83.1 billion, or 33.6% of GDP. Net worth begins to increase as a share of GDP from 2015/16, following the return to operating surpluses, and is projected to reach almost 50% of GDP by the early 2020s as we continue to strengthen the balance sheet.

Our long-term fiscal objectives and short-term fiscal intentions and are set out in Annex 1 to this Budget Policy Statement.

Achieving the fiscal strategy

Budget 2011 will progress the Government's fiscal strategy by meeting our commitment to contain new discretionary initiatives within a net operating allowance of $1.12 billion per annum and a capital allowance of $1.39 billion. As previously signalled in Budgets 2009 and 2010, the operating allowance has been reduced to $1.10 billion per annum from 2010/11, growing by only 2% per annum thereafter. The capital allowance remains fixed at no more than $1.39 billion for each Budget up until, and including, Budget 2014.

Living within these allowances is vital to controlling growth in spending and securing a return to fiscal surpluses. To support this restraint we are taking the following steps:

  • continuing to reprioritise existing lower priority spending
  • managing expense volatility, and
  • improving the management of the Crown's balance sheet.

Ongoing reprioritisation of lower priority spending

We want to see a fiscally-affordable public sector that delivers on our priorities and provides more services at a better quality, while being sufficiently flexible to meet our future expectations. Achieving this requires us to make a series of ongoing, and potentially significant, choices about which services we fund and how those services are provided.

As signalled in Budget 2010, the challenge of living within fixed operating and capital allowances means that most departments will receive no new funding for several years. This will be the case in Budget 2011. All departments, including those that do receive a portion of the fixed allowances, will need to make efficiency gains and reprioritise existing expenditure to manage underlying pressures and realise Government priorities.

In our first two budgets we freed up $4 billion over four years for allocation to higher priority initiatives in areas such as health, education and law and order. Budget 2011 will continue to deliver targeted savings – with the emphasis being on long-term sustainable savings, rather than one-off savings, with respect to both operating and capital expenditure.

Managing expense volatility

We will increase our control over higher-than-expected increases in expenses that can occur outside the annual allowance for new operating initiatives. These increases tend to occur in areas with fluctuating demand and/or cost pressures that have historically been updated, and adjusted for, at each six-monthly economic and fiscal update - for example, fluctuations in KiwiSaver expenses. When these types of expenses turn out to be higher than forecast, the operating deficit worsens. This can result in higher borrowing to pay for the unexpected increase.

Therefore, from Budget 2011 we will set aside a portion of the operating allowance for managing the net impact of this risk. If these expense revisions turn out to be lower than the portion set aside, the remainder of that portion can be used for other priorities, including deficit reduction. This prudent approach to fiscal management will assist us to reduce the deficit and achieve our planned return to fiscal surplus by 2015/16.

Demand and cost pressures associated with the education sector will also be brought inside the operating allowance. These pressures will be managed within the share of the allowance allocated for funding education services - mirroring the existing approach for the funding of health care services. This change will help to reduce risk to the forecast operating balance.

We will also establish an annual review of these sorts of expense changes that occur through the year. This will provide Cabinet with the opportunity to scrutinise major changes in expenses and commission remedial work in areas where expense trends may be of concern.

Improved management of the balance sheet

The Government's balance sheet is large - with our net worth being $95 billion, or 50.2% of GDP in the year ended June 2010. Although our net worth declines in the short term, as debt increases until we return to operating surplus, we are investing significantly in assets. Our assets are forecast to increase by $34.4 billion over the next five years to $257.8 billion, as we invest in roads, schools and hospitals and financial assets. Given this increase, and as the Crown's balance sheet comprises a significant portion of New Zealand's capital stock, it is vital that we manage it well.

The release of the first Investment Statement of the Governmentof New Zealand,in conjunction with Budget Policy Statement 2011 and Half Year Economic and Fiscal Update 2010, provides a comprehensive overview of the Government's assets and liabilities. It is an important step in improving the management of our balance sheet as a whole. Our intentions for how the balance sheet will be shaped and how the performance of the individual components will be improved focus on:

  • rebuilding the Crown's balance sheet buffer against future adverse events
  • systematically working to reduce the Crown's risk exposures, including through strengthening the economy
  • sharpening incentives on State agencies to use existing Crown capital well
  • continuing to look at introducing private sector capital and disciplines where appropriate to help drive up the performance of State assets, and
  • more actively reprioritising Crown capital to its highest value use.

The Investment Statement also signals that for the foreseeable future most agencies will not receive any new capital injections.

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