Section 4 - What Does This Mean in Terms of Fiscal Strategy
Given the importance of fiscal decisions, and the long-term implications of those decisions for firms and individuals, the government needs to have a clear fiscal strategy. This would also help provide the certainty and transparency that rating agencies and international investors look for. Ideally this fiscal strategy needs to set out both the ultimate long-term objectives, and the short and medium term path for achieving them.
Our ‘medium-term economic challenges' document discusses the long-term challenges associated with the ageing population. Under current policies government debt will eventually grow to unsustainable levels with sharply increased debt servicing costs. It is important to note that higher productivity alone does not dramatically change projected fiscal pressures because major government spending programmes move with rising productivity and rising incomes (either by legislation as in the case of NZS or because public services will also face rising personnel costs, even without increased service levels). Relying solely on higher ratios of tax-to-GDP to fund the changes may see future generations face higher tax burdens with detrimental consequences for efficiency, labour supply and human capital formation, innovation and entrepreneurship, and net migration depending on the specific tax rates and bases used.
Decisions in the short term can have quite large longer term implications. For example, while increasing the ratio of NZS to the average wage is of course a valid policy change, it would add to future spending pressures and means that more of the inevitable adjustment will have to take place in other areas of spending such as health, education or general government spending to maintain current tax-to-GDP ratios.
There are a couple of broad approaches to respond to longer-term pressures:
1. Prefund - transfer cash from the current generation to offset some of the future cost increases. In practice this does not prevent long term fiscal problems but rather helps smooth the transition by providing more time to make the necessary changes, and
2. Change some of the underlying policies and practices. Small changes started early would reduce the sharpness of adjustment necessary if they were made later.
If you were to take decisions to make future spending more sustainable, this could be accompanied by a lower level of saving into the New Zealand Superannuation Fund, which would give the government more options to fund other initiatives.
Policy to date has focussed on the first of these options.