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Challenges and Choices: New Zealand's Long-Term Fiscal Statement

Appendix 1 - key assumptions

This appendix contains a list of the key demographic, economic and fiscal assumptions used in the Statement.

There are distinct periods of time in the projections, with different underlying assumptions. The forecast period covers 2009 to 2013. The figures in this period are based on the forecasts published at the Budget 2009 Economic and Fiscal Update. The figures for the 2009 year have been updated for the 2009 actuals, published by the Treasury in October 2009. The projection period runs from 2014 to 2050. The assumptions listed below apply for the projection period.

Demographic assumptions

The projections use Statistics New Zealand's mid-range Series 5 demographic projection, produced for the Treasury (March 2009), which contains the long-run assumptions of:

  • total fertility rate of 1.9 children per woman
  • life expectancy at birth rising, at a slowing rate, to 88 years for females and 84.5 years for males in 2050, and
  • annual net migration of 10,000 people.

Years gained from longer life expectancy are assumed to result in additional healthy years of life; the incidence of disability is assumed to reduce.

Labour force participation rates are based on these population projections and Statistics New Zealand's long-run labour force projections.

Economic assumptions

The economic assumptions below are applied over the projection period. There is some degree of recovery to these long-term assumptions in the early years of the projections, where the long-term rates or levels have not been reached at the end of the forecast period.

Unless otherwise stated, the long-run values for key economic variables apply to both of the two main modelling approaches - historic trends and sustainable debt.

Variable Annual value (long-run)
Economy-wide labour productivity growth 1.5%
Inflation 2.0%
5-year nominal government bond rate 6.0%
Unemployment rate 4.5%
Average hours worked per week 38 hours
Public sector input price growth (inflation-adjusted) 1.2%
Public sector productivity growth 0.3%
Non-demographic demand growth, under historic trends (inflation-adjusted) 0.8%

Other long-run economic assumptions include:

  • inflation-adjusted wage growth in the private sector matches labour productivity growth, and
  • public sector wage growth matches wage growth in the private sector.

Fiscal assumptions

Many of the fiscal assumptions vary between the two main modelling approaches - the historic trends and the sustainable debt scenarios.

Variable Treatment
Debt

Under the historic trends scenario, net debt is a residual of long-run spending and revenue projections.

Under the sustainable debt scenario, the level of net debt is imposed as a fiscal constraint. The level of net debt follows the 2009 Fiscal Strategy Report projections, peaking at 36% of GDP in 2017 and falling to 31% of GDP in 2023. Net debt continues to trend lower thereafter, reaching the long-run target of 20% of GDP by 2050.

Tax revenue Tax revenue is linked to growth in nominal GDP. Under both scenarios, fiscal drag on PAYE tax causes the tax-to-GDP ratio to rise to 31% by 2023. This ratio is then returned to a long-run average of 30% and held at this level for the rest of the projection period.
New Zealand Superannuation Demographically adjusted and linked to net wage growth, via the "66% wage floor". The latter refers to the net (after-tax) weekly NZS rate for a couple being constrained to lie between 66% and 72.5% of net average weekly earnings.
Benefits Demographically adjusted and linked to inflation.
Other expenditure

Under the historic trends scenario, other expenditure grows by:

  • demographic growth (growth of the relevant population)
  • inflation
  • inflation-adjusted public sector price growth
  • inflation-adjusted non-demographic demand growth (an estimate of non-demographic volume growth based on historic trends), and
  • partially offset by public sector productivity growth.

Under the sustainable debt scenario, new spending (via the operating allowance) is set at $1.1 billion, growing with inflation until 2023 - as outlined in the 2009 Fiscal Strategy Report. Thereafter, new spending is set at a level consistent with meeting the long-run debt objective of 20% of GDP, given the revenue assumptions (see above).

Finance costs A function of debt levels and interest rates.
Capital allowance $1.65 billion in 2014 to 2016. It then drops to $955 million in 2017, and increases with the rate of inflation over the rest of the projection period.
New Zealand Superannuation Fund Consistent with the Fiscal Strategy Report in Budget 2009, contributions to the Fund suspended until 2020. Contributions begin again in 2021, and are consistent with the New Zealand Superannuation and Retirement Income Act (2001).
Emissions Trading Scheme A fiscally-neutral impact is modelled in the projections. The fiscal impact of the ETS depends on several highly uncertain factors, most notably future carbon prices and New Zealand's emissions targets from future international climate change agreements.

A more detailed outline of the assumptions used in the modelling will be available in an accompanying technical paper.

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