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1 Introduction

This Statement is about New Zealand's long-term fiscal outlook - the government's spending and revenue - and what drives it. It is also about the country's future and the big issues the public and government are going to have to think about if we want to maintain or improve our living standards and public services.

This document shows we simply can't keep doing what we have done without significantly increasing taxes or debt. We need to look at how to avoid unnecessary costs and what policies make sense for the long term - which means considering the impact of population ageing and what will work across generations.

New Zealand has a good record of governments providing information that allows the public to debate and judge the quality of fiscal policy and actions. Requiring the Treasury to publish this Statement is another of these mechanisms, and an attempt to make us focus on a much longer timeframe.

That long-term perspective is something all countries are considering as the developed world faces major demographic change. New Zealand's shift to an ageing population will accelerate soon, as the first baby boomers begin to retire from 2011 - and then live more than a further two decades on average. That is a great outlook for most individuals. However, it simply magnifies the major fiscal challenge facing government - spending that is a lot higher than revenue, and rising debt.

Our experience of the past 12 months shows that there is a lot we need to think about. The global financial crisis and the worldwide recession have reminded us that economic shocks do and will occur. Economic growth, increasing government revenue and operating surpluses cannot be taken for granted. When the first Statement on the Long-term Fiscal Position was produced in 2006, it reported that there was time to consider any policy response as the starting point was "the strong current fiscal position of the New Zealand Government." In 2006, the demographic and fiscal pressures meant that, 25 years from that date in around 2030, the government's accounts might move into deficit.

Three years and one recession later, we are facing that future now. The government's accounts are already in significant deficit and these are forecast to last for a few more years yet. A lot of the headroom we had, financially and just as importantly in time, has disappeared.

So looking at the big issues of government spending, public debt, the tax we need to pay for it - and of course our ageing population - is suddenly much more relevant.

This is the Treasury's document. It contains our projections, based on our knowledge of government finances, policy trends and core statistics on population and it reflects our assumptions. Governments make policy decisions and what is set out here is not government policy.

But having already produced one of these documents and set out the limitations of what economic modelling can do 40 years out, we want this Statement to help this and future governments and the New Zealand public to think about what the major fiscal challenges are and what some different ways of dealing with them might be.

It does this by looking at a range of indicators of overall fiscal management such as the operating balance, debt and tax levels, and the government's balance sheet - and also by looking at a representative "basket" of public services that are provided to taxpayers. These are different ways of looking at the same picture and trying to make the issue of government financial management over time more understandable and real to people. While the modelling is technically rigorous, our scenarios are illustrative and simply show the possible impact of different choices, actions or inaction.

We therefore don't want readers to focus too much on the details. This really is a case where the bigger picture is important. After all, we know that just as households cannot continually spend more than they earn, too much government spending inevitably means higher debt or higher taxes and that is the issue this Statement examines.

And behind all of the numbers we recognise that these are major issues about the way we live and work, the public services we want as a nation, the lifestyle we aspire to and how New Zealanders and their governments can provide and pay for these.

I know people will react to the information in this document; they will not like some of the scenarios and options described. I'm sure most of us would like a more positive outlook. But rather than wish the problems away, what the Statement does is bring together information about what is happening now, and then projects forward to describe what could happen from here. It also sets out what can be done so that projections of public debt rising to 223% of Gross Domestic Product (GDP) do not occur.

Three key points come through.

We need to make choices about what the government buys, total spending and taxes. Managing long-term fiscal challenges will require tough choices and trade-offs to be made about government spending and taxation. In the end, it is the aggregate cost of everything we are doing that matters. Some areas can have more funding and some less - but we have to control the growth in new spending each year if we do not want high debt or taxes. This is particularly important as demographic change is permanent and the ageing population will place increasing pressure on government spending.

Growth helps, but it will not completely solve the problem. Economic growth helps raise national wealth and individual incomes, and is an important goal in itself. Policy reforms that support higher productivity and faster economic growth will be an element of dealing with the long-term fiscal problem, and improving public sector productivity is particularly important. However, relying on growth alone will not be enough. Some government spending is linked to increased growth, through wages and pensions. And more economic growth will not provide all the tax needed to deal with the level of public spending.

Early, gradual changes can help. Planned and incremental change is far more likely to be positive and successful than a drastic reaction that is forced on New Zealand. All of the projections of exploding debt start with small fiscal problems that grow rapidly larger. But this same pattern - like compounding interest - also occurs in reverse with positive fiscal actions. And strong fiscal settings, like having debt under control, provide more flexibility when things do go wrong. As we've been reminded by recent history, negative shocks do happen.

The choices we make as a country about what the government provides, and how, are critical. What we spend now on education, roads, superannuation, prisons, health, benefits and long-term care is the result of decisions taken by policy makers. The choices about spending and revenue we make now will determine not only the services currently provided and how they are paid for, but will also shape New Zealand's future.

This Statement does not attempt to provide advice on which specific policies governments should adopt to address New Zealand's long-term fiscal situation. However, in the interests of stimulating debate, under various sector headings we do canvass some ideas that could be considered.

The impact of the economic shock means New Zealand, like most countries in the developed world, has had to make important decisions to deal with recession and rising unemployment, and deficits and rising debt. On top of those challenges, the government has the enduring task of doing what it can to raise living standards and improve social outcomes and of continually making choices about what public money should be spent on, how services should be provided and how much tax is raised and in what way.

That's a difficult task. I hope this document helps frame the issues, generates discussion and debate and perhaps begins to provide the shape of some answers.

John Whitehead
Secretary to the Treasury

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