6 Policy Priorities: A Smaller, More Effective and Responsive State Sector (continued)

Strengthening intended welfare change with wider reforms will improve labour force outcomes and reduce benefit expenditure

The Government has recently agreed to a fundamental shift in the welfare system, away from managing short-term costs towards an investment approach that focuses on improving long-term outcomes. The Treasury supports the general direction of the reforms. The proposed timeframes for further detailed policy decisions, legislative processes and implementation are very ambitious. It may be necessary for Ministers to prioritise certain areas of the reform agenda, and to push out some of the implementation dates. A fundamental part of the reforms is a new accountability regime, which is based on regular, external valuation and reporting of the long-term costs of the system, to create clear incentives on Work and Income.

Initial estimates suggest that the reforms agreed to date could lead to a reduction in working-age benefit recipient numbers by up to 45,000 in 2016, a corresponding increase in the workforce, and savings to the Crown of around $1 billion between 2013 and 2016. How the reforms are implemented will be critical to their success. We recommend that certain proposals should go further, especially given income support remains poorly targeted to those families most in need of financial help (figure 19), and creates weak work incentives for many recipients. Areas requiring particular focus are:

• Ensuring sufficient capability within Work and Income to deliver a new service delivery model, including more extensive contracting-out to external providers where appropriate.
• Making the payments simpler and more aligned with work expectations, so they can better target those in need.
• Reducing the age of the youngest child to 2-3 years at which work testing for sole parents begins and tightening the eligibility criteria for the Supported Living Payment.

Figure 19: Average cost of income support payments by decile; 2010

Source: The Treasury

In addition, it is important that wider labour market settings support welfare reform.For example, large increases in the minimum wage would limit employment opportunities for people transitioning from welfare to the labour market and for youth.

Changes across the education system will improve educational attainment and free up funding

The formal education system plays an important role in developing human capital, which is strongly related to both economic performance and a wide range of other dimensions of living standards. Overall, the evidence suggests that the highest returns to public education expenditure relate to investments in the earlier years, especially for lower socioeconomic groups. Despite large increases in government expenditure, early childhood education (ECE) participation rates for children in the lowest income brackets have not increased (figure 20), with the expenditure instead supporting a greater volume of hours and higher proportions of registered teachers. Given the gains that can be made, we recommend further targeting of existing ECE funding to children from lower socioeconomic backgrounds.

Figure 20: Government ECE expenditure & ECE take-up rates*; 2005-2010

Source: The Treasury, Ministry of Education

*Data source may overstate actual ECE participation rates

New Zealand's compulsory education system produces good outcomes for most students, as evidenced by our strong performance in international tests. However, despite large funding increases, achievement levels remain unacceptably low for some groups. Student achievement can be raised by improving the quality of teaching, which the evidence shows is the largest in-school influence on student outcomes. Increasing student/teacher ratios, and consolidation of the school network, can free up funding that could be used to support initiatives to enhance the quality of teaching, such as more systemic use of value-add data and a more professionalised workforce.

Recent policy changes in tertiary education have moved towards better targeting of funding. However, the level of public funding remains high relative to other advanced economies, and to public expenditure on ECE. There is scope to achieve fiscal savings, primarily through reintroducing interest on the student loan scheme. In the medium term, we would also recommend greater targeting towards younger tertiary students and higher-level qualifications.