The Treasury

Global Navigation

Personal tools

Government
Publication

Budget 2007 Home Page Budget Economic and Fiscal Update [2007]

Fiscal Scenarios

The fiscal position is strongly influenced by the economy. The major economic determinants, and how they impact on the fiscal position, are listed below. While each effect is expressed in terms of an increase in the determinant, the opposite impact applies for a decrease.

  • Nominal GDP – higher GDP levels are reflected in higher tax revenue, which increases the operating balance and lowers the Government’s net debt.
  • Interest rates – higher interest rates lead to increased debt-financing costs but also to higher interest-based revenue.
  • The level of unemployment – higher levels of unemployment translate to an increase in spending, because the number of unemployment beneficiaries rises. This decreases the operating balance and raises net debt levels.
  • CPI inflation – as most benefits are indexed to CPI movements, higher inflation results in increased benefit costs. This reduces the operating balance and increases net debt.
Table 3.4 – Alternative scenarios: impact on OBEGAL and debt
Year ending 30 June 2006 Actual 2007 Forecast 2008 Forecast 2009 Forecast 2010 Forecast 2011 Forecast
OBEGAL ($billion)[1]            
Central forecast 8.6 5.5 5.0 4.0 3.5 3.3
Higher terms of trade 8.6 5.6 5.6 5.0 4.4 4.1
Sharper fall in TWI 8.6 5.5 4.4 3.4 3.0 2.7
Gross sovereign-issued debt
($billion)[2]
           
Central forecast 33.5 32.0 34.5 34.3 34.0 36.8
Higher terms of trade 33.5 32.0 33.8 32.7 31.5 33.5
Sharper fall in TWI 33.5 32.0 35.0 35.4 35.5 39.0
OBEGAL (% GDP)[1]            
Central forecast 7.3 3.4 2.9 2.2 1.9 1.7
Higher terms of trade 7.3 3.4 3.2 2.7 2.3 2.1
Sharper fall in TWI 7.3 3.4 2.6 1.9 1.6 1.4
Gross sovereign-issued debt
(% GDP)[2]
           
Central forecast 21.4 19.4 19.9 19.2 18.2 18.8
Higher terms of trade 21.4 19.4 19.3 17.9 16.5 16.8
Sharper fall in TWI 21.4 19.4 20.4 19.9 19.2 20.2
Core Crown net debt (% GDP)            
Central forecast 5.0 3.1 2.7 3.1 3.3 3.5
Higher terms of trade 5.0 3.0 2.3 2.1 1.9 1.8
Sharper fall in TWI 5.0 3.0 3.0 3.7 4.2 4.7

Sources: Statistics New Zealand, The Treasury

NOTES:

  • [1] Operating balance before gains and losses. The figures for 2006 are the OBERAC.
  • [2] This chapter assumes that changes in the OBEGAL translate into changes in gross sovereign-issued debt. As discussed in the Fiscal Strategy Report, for the purpose of assessing progress towards the fiscal objectives in the forecast period the measure of gross sovereign-issued debt excludes the $5.9 billion increase in the level of Reserve Bank settlement cash. For 2006, $2.0 billion is excluded from gross sovereign-issued debt for consistency.

Higher terms of trade and stronger domestic demand

The first scenario sees higher terms of trade and continuing high levels of domestic consumption and investment. This leads to lower unemployment, higher wage growth and higher inflation. Initially, the higher terms of trade and stronger domestic demand lead to higher nominal GDP. However, by 2010 both nominal and real GDP growth are lower than in the central forecast, as private consumption and residential investment respond to higher interest rates. The higher level of nominal GDP leads to a cumulative increase in tax revenue of $3.9 billion by 2011 relative to the central forecast.

Figure 3.6 – OBEGAL (OBERAC for 2006)
Figure 3.6 – OBEGAL (OBERAC for 2006)
Source: The Treasury

A reduction in the number of unemployment beneficiaries is offset by higher inflation-indexed benefit costs. The combination of lower debt and higher interest rates results in an overall reduction in net finance costs. Overall, expenses are higher over the period, but by less than the increase in tax revenue. As a result, the OBEGAL as a percentage of GDP is 0.4% higher compared with the central forecast at the end of the period and gross sovereign-issued debt is $3.3 billion lower by 2011.

Sharper fall in the TWI and weaker domestic demand

The second scenario is characterised by a 13% fall in the TWI in the year to March 2008 compared with the central forecast, as well as weaker private consumption in 2008 and 2009. Lower inflation over the forecast period leads to lower interest rates and reduced debt financing costs. Weaker demand results in an increase in the unemployment rate relative to the central forecast and slightly lower nominal GDP reduces tax revenue by a cumulative $2.5 billion by 2011 compared to the central forecast.

Figure 3.7 – Gross sovereign-issued debt
Figure 3.7 – Gross sovereign-issued debt
Source: The Treasury

Expenses are lower overall as the increase in the number of unemployed is offset by the lower cost of inflation-indexed benefits. The OBEGAL is lower over the forecast period and is 0.3% of GDP lower in the final year of the forecast. As a result, gross sovereign-issued debt is 1.4% of GDP higher at the end of the forecast period.

Fiscal Sensitivities

The scenarios above indicate the sensitivity of fiscal aggregates to changes in economic conditions. Table 3.5 provides some “rules of thumb” on the sensitivities of the fiscal position to changes in specific variables.

Table 3.5 – Fiscal sensitivity analysis
($million) Year ending 30 June 2007 Forecast 2008 Forecast 2009 Forecast 2010 Forecast 2011 Forecast
1% lower nominal GDP growth per annum          
 Revenue (497) (1,033) (1,589) (2,208) (2,883)
 Addition to financing costs 15 62 141 255 407
Impact on the operating balance (512) (1,094) (1,730) (2,463) (3,290)
Revenue impact of a 1% decrease in the growth rates of:          
 Wages and salaries (230) (490) (775) (1,090) (1,435)
 Taxable business profits (135) (280) (410) (560) (735)
One percentage point lower interest rates          
 Interest income (117) (168) (187) (137) (77)
 Expenses (70) (160) (174) (179) (209)
Impact on the operating balance (47) (8) (13) 42 132

The forecasts of capital contributions to the New Zealand Superannuation (NZS) Fund are sensitive to the rate of return assumed on the Fund’s assets:

Table 3.6 – NZS Fund contributions sensitivity analysis
Variable Marginal Change (%age points) Effect on Net Return After Tax (%age points) Effect on Capital Contribution
($million)
2007/08 2008/09 2009/10 2010/11
Expected gross rate of return -1% -0.71% 203 216 231 249
Page top