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2 Executive Summary

The global economic environment remains highly unstable

The repercussions of the Global Financial Crisis continue to dominate the outlook for the world economy. Although the Euro area sovereign debt crisis is the greatest source of financial market and economic volatility at present, the challenges facing the global economy are deep-rooted and widespread. Global economic recovery will be protracted and uneven. Uncertainty will remain elevated for some time to come.

Building greater resilience and lifting trend economic growth is critical for improving New Zealanders' living standards

So far New Zealand has managed to avoid the financial market instability and disruption to economic activity that has afflicted a number of other developed countries, and a gradual recovery in growth is taking place. To date the economy has evolved broadly in line with the forecasts published in the Pre-election Economic and Fiscal Update 2011. However, our underlying economic performance has been poor for some time, pre-dating the onset of financial turmoil in 2008, with labour productivity and trend growth slowing over the past decade. High average real interest rates compared with other countries' and a persistently high real exchange rate have been two contributing factors. New Zealand's longstanding large net external liabilities, high levels of private sector debt and currently large fiscal deficit expose the economy to financial risks, especially if the global economy deteriorates further. Building greater economic resilience and lifting trend economic growth is critical for increasing incomes and improving the wider living standards of New Zealanders.

Returning to fiscal surplus and other policies to increase national saving are required to increase resilience

Returning to surplus and rebuilding fiscal buffers by reducing Crown debt is the most direct and immediate contribution that the Government can make to increasing resilience and trend growth. We recommend that the Government adopts a firm commitment to returning to fiscal surplus in 2014/15 in its short-term fiscal intentions, and to reducing net debt (excluding the New Zealand Superannuation Fund) to no higher than 20 per cent of GDP by 2020. Additional policy changes will be required to generate a lift in overall national saving relative to investment sufficient to arrest and then reverse further deterioration in New Zealand's net external liability position. These changes may involve reforming retirement income and tax settings.

Reforms are needed to manage fiscal pressures and improve outcomes

Returning to fiscal surplus in 2014/15 and reducing net debt to below 20 per cent of GDP by 2020 will require annual allowances for new spending or tax initiatives set much lower than they were during the past decade. Living within these allowances, while protecting priority public services, will require further efficiency gains and innovation in state sector service delivery, together with better targeting of government expenditure. We see considerable scope for using government expenditure more effectively to improve outcomes for the most disadvantaged New Zealanders. Improving the way the core public service works will be critical to assisting the Government to manage within the allowances, while improving overall economic and social outcomes.

Increasing trend economic growth requires a wide and ambitious reform agenda

Lifting national saving will reduce pressure on interest rates and the exchange rate, and support growth in the more productive tradable sector. However, materially raising trend economic growth will also require a wider programme of policy reform. In an increasingly globalised world, improving our international competitiveness is vital. Policy changes are needed to increase incentives to invest and conduct business in New Zealand, raise the productivity performance of firms operating here, minimise the cost pressures they face, and maintain their ability to adjust to changing circumstances. This would entail a wide and ambitious programme of reform across government policies relating to education, welfare, tax, regulation, science and innovation, infrastructure, and the management of natural resources.

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