Assessment of Past Fiscal Strategy

The fiscal position has deteriorated sharply in response to one-off shocks

When the National-led Government presented its first Budget in 2009, it did so against the backdrop of a sharp recession that had started in early 2008, and the impact of the worst global financial crisis since the 1930s.

The Government's challenge was to provide support to the economy when it was most needed, and cushion New Zealanders from the effects of the recession, but to do so within a clear framework which would deliver a prudent fiscal position in the medium term.

Figure 4 - Total Crown operating balance before gains and losses

Source:  The Treasury

The Government's plan was to support the economy in the near term by running operating deficits, then reduce these deficits by slowing growth in government expenditure as the economy recovered. The Government also signalled its intention to invest in the productive capacity of the economy and increase its focus on the Crown's balance sheet.

Since Budget 2009, New Zealand has also experienced the Canterbury earthquakes, a slower-than-expected global recovery and the impact of the RDGS. These events led to an even greater deterioration in the fiscal position than had previously been anticipated.

The Government could have responded by sharply reducing expenditure or increasing taxes. However, this would have risked damaging the economy at a time when the recovery was still fragile. The Government chose to run a larger deficit and absorb much of the impact on its own balance sheet to enable the economy to get back on track.

Figure 5 - Core Crown revenue and expenses[3]

Source:  The Treasury

The OBEGAL deficit deteriorated to $18.4 billion (9.2 per cent of GDP) in the year to June 2011 (Figure 4), and core Crown operating expenses increased to 35.2 per cent in the same fiscal year, the highest share of GDP since the early 1990s. At the same time, core Crown revenue declined to 28.7 per cent of GDP (Figure 5). The one-off effects of the Canterbury earthquakes and the RDGS added around $9.25 billion (4.6 per cent of GDP) to the OBEGAL deficit in 2010/11.

But the fiscal outlook has improved considerably

Projections of the future fiscal position have improved significantly over time. Budget 2009 projected core Crown net debt to be more than 30 per cent of GDP in the early 2020s (Figure 6), driven by annual budget deficits through to 2018/19.

Figure 6 - Core Crown net debt

Source:  The Treasury

Policy decisions have reduced core Crown expense growth and lowered projected debt levels. Early decisions to improve the fiscal position have a large impact in future years owing to the compounding effects of lower interest costs and lower debt levels.

The operating balance is now forecast to return to surplus by 2014/15, net debt is projected to decline as a proportion of GDP from 2014/15, and net worth is projected to have recovered to pre-crisis levels by the mid-2020s.

Over its four Budgets, the Government's spending in the final year of the forecast period on discretionary operating and revenue initiatives has totalled only around $750 million. This has been achieved by:

• reprioritising spending from lower-value to higher-value activities
• reining back on policies that had significant cost escalations built into them
• ensuring that major programmes of tax changes were broadly fiscally neutral
• driving more efficiency in the State sector
• better targeting government financial assistance, and
• broadening the tax base and clamping down on tax avoidance.

At the same time, the Government has continued to invest in major infrastructure projects. In Budget 2009 the Government announced its plan to spend $7.5 billion on new capital initiatives over the next five years.

In the past, New Zealand's public sector investment in infrastructure has tended to be lumpy and subject to significant swings, particularly in the face of recessions and other fiscal pressures. The Government has focused on prioritising new capital investment to areas that lead to productive infrastructure and better delivery of public services.