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Budget 2005 Home Page Half-Year Economic & Fiscal Update 2005

Why is there an operating surplus?

A surplus represents the difference between operating revenues (eg, taxes) and operating spending (eg benefit payments, health and education spending, etc.). It is a measure of the ongoing operations of a government.

A government also has a capital expenditure programme whereby it provides money for student loans, saves some money by making contributions to the New Zealand Superannuation Fund, invests in asset acquisitions (eg building more roads, prisons, new hospitals, schools and defence equipment) and other capital activity. None of this shows up as operating expenses as it is the purchase of an asset (with a useful life in excess of one year and will provide benefits through time rather than an operating expense such as a benefit payment). All of this type of activity is called investment expenditure.

The cash generated from the operating balance is not always sufficient to meet all investing decisions. There may still be a need to borrow in order to fund the shortfall between the forecast operating surplus and the capital programme (which is often larger than the surplus).

The following graph shows how the operating surplus (or OBERAC) is used in each year over the forecast horizon, and therefore why nominal debt can increase even when there is a “surplus”.


OBERAC surplus use.
Source: The Treasury


The following table explains how the operating surplus/OBERAC is calculated for the 2005/06 and the 2006/07 financial years and then how it is applied. Any extra spending or reduced tax revenue would add to the bottom-line cash shortfall (and add to the need to borrow).

$ million 2005/06 2006/07 Description of Items
  54,328 56,116 Core Crown revenues – these are the revenues the Government collects.  They are mainly taxes.
  50,665 51,888 Core Crown expenses – these represent most of the Government’s spending, BUT not all of it.  They are the day-to-day spending (salaries, benefit payments, etc) that do not create government assets.  They also include the amount for new initiatives in forecast years (refer page 111 of GAAP Series Tables).
  1,894 1,665 Net surplus of SOEs and Crown entities – this is the net surplus (after dividends) that SOEs and Crown entities make. 
Operating balance 5,557 5,893 Operating balance – the residual of revenues less expenses plus surpluses from SOEs and Crown entities.  It is the Government’s operating profit or loss. 
  367 - OBERAC adjustments – removal of revaluation movements.
OBERAC 5,924 5,893 OBERAC – the residual from revenues and expenses less removal of large valuation movements (the OBERAC and operating balance are the same in forecast years).
Less 931 (738) Retained items and non-cash items – items such as the net surplus of SOEs/Crown entities and the net investment returns of the NZS Fund are retained by these entities.  The surpluses generated (unless withdrawn from the entities) cannot be used for other purposes so do not aid in funding other government spending.  Depreciation expense is also removed as it is non-cash (it is captured in the actual purchase of assets below).  Additionally, the actual working capital movements, such as payment of creditors, impact on the level of net cash flows from operations.
Equals surplus cash flows 6,855 5,155 Cash from operations – these are the cash flows from core Crown operations (excluding the NZS Fund).  This is the cash equivalent of the operating surplus and is available to assist in funding capital spending.
Less capital spending (2,337) (2,351) Contributions to the NZS Fund – the Government’s annual contribution to the NZS Fund to build up assets to contribute to future NZS payments.
  (1,876) (1,501) Purchase of assets – departments buy assets including computer equipment, new buildings and defence equipment.
  (1,048) (1,045) Loans to others (advances) – these are mainly student loans (the Government is committed to help students access tertiary education by funding student loans).
  (537) (394) Net capital injections – investments in Crown entities to enable them to build hospitals and housing.
  (500) (500) Reserve Bank reserves – purchase of extra reserves to assist the Reserve Bank to maintain financial stability.
  (65) (705) Capital forecast – an amount set aside for further capital activity.  The Government has not yet decided on the specific initiatives.
What is left 492 (1,341) Cash available/(shortfall) – this amount needs to be funded if it is a shortfall.  Funding is provided by selling surplus financial assets (because of surplus cash from prior years) or borrowing more.

Risks to fiscal forecasts

The fiscal forecasts were finalised on 7 December 2005 in accordance with the forecast accounting policies. There are certain risks around the forecast results. To assist in evaluating such risks the following chapters should be read in conjunction with the fiscal forecasts:

  • Risks and Scenarios (Chapter 3) – The fiscal forecasts are based on the economic forecasts presented in Chapter 1 and any variation from the economic forecast will affect the fiscal forecasts, in particular tax revenue and benefit expenses. The Risks and Scenarios chapter discusses the effect on the forecasts under different circumstances.
  • Specific Fiscal Risks (Chapter 4) – The fiscal forecasts incorporate government decisions up to 7 December 2005. The Specific Fiscal Risks chapter covers specific policy decisions that are under active consideration by the Government at the time of the finalisation of the forecasts.

In addition to the specific fiscal risks and the link to the economic forecasts, there are a number of forecasting issues explained below that may arise in future.

Tax forecasting risks

The tax forecasts prepared for this Half Year Update are based on current tax policy and on the macroeconomic central forecast. Sensitivities of tax revenue to changes in economic conditions are presented in the Risks and Scenarios chapter on page 65.

SOEs and Crown entities’ forecasts

The forecasts for large SOEs and Crown entities were provided in October 2005 based on their best assessments at that time.

Revaluation of property, plant and equipment

Crown accounting policy is to revalue certain classes of property, plant and equipment on a regular basis. In certain circumstances the valuation will be affected by foreign exchange rates, so any appreciation in the New Zealand dollar (from 30 June 2005) will adversely affect the current physical asset values included in the fiscal forecasts.

Discount rates

The GSF and ACC liabilities included in these forecasts have been valued as at 31 October and 30 September respectively. The liabilities are to be next valued for the 2006 Budget Update. Any change in discount rates will affect the presented fiscal forecast. For example, if the discount rate rises, the value of the liabilities will decrease.

International financial reporting standards

The New Zealand Accounting Standards Review Board announced in December 2002 that International Financial Reporting Standards (IFRSs) will apply to financial reporting by both public and private sector entities from 1 January 2007, but with entities having the option to adopt from 1 January 2005.

The Crown plans to adopt the New Zealand IFRSs in the 2007 Budget.

Tertiary education institutes’ (TEIs’) accounting treatment

The forecast information presented in the 2005 Half Year Update combined TEIs on an equity accounting basis. As noted in previous publications the combination treatment of TEIs remains unresolved.

The combination method adopted in these forecasts is to equity account for the TEIs’ net surpluses and net investment (ie, TEI revenues, expenses, assets and liabilities are not included on a line-by-line basis). This is consistent with the treatment adopted in the 2005 Crown financial statements.

The key indicators are unchanged as a result of the combination approach for TEIs (refer page 60 of the 30 June 2005 Crown financial statements).


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