1.3 Recent fiscal performance

9. The fiscal responsibility provisions have supported an improvement in fiscal sustainability. Since 1994, successive governments have stated their objective for prudent debt, discussed the implications of current policy, and made progress towards realising that objective. As a result, New Zealand benefited from having relatively low public debt at the time of the global financial crisis and domestic recession in 2008 - 2009, as shown below in Figure 1.
10. The provisions have helped to embed public expectations of regular reporting on the government's fiscal strategy and actions being taken towards realising it. Furthermore, the provisions have provided for the Treasury to release independent economic and fiscal updates twice per year, as well as pre-election updates before every election since that held in 1996.

Figure 1: Gross debt and net debt as a share of Gross Domestic Product

11. A case can be made that the provisions were insufficient, during the last cycle, to prevent revenues that were temporarily higher due to strong economic growth being locked into inappropriately permanently higher structural spending commitments. While there is no way of clearly identifying cyclical and structural elements in the midst of a cycle, the evidence since the Global Financial Crisis does suggest that revenue windfalls during the early-mid-2000s were cyclical (temporary) in nature and not structural (permanent). Revenue forecasts increased by $5 billion per year in Budgets 2006-2008, relative to Budget 2005 forecasts (see Figure 2). These increases were, in part, used to fund larger operating initiatives - simply by revising up the previously announced plans for the operating allowance (see Figure 3).

Figure 2: Core Crown revenue - forecast and actual, Budgets 2005-2008

Figure 3: Operating allowance (expense component) announced at the Budget Policy Statement relative to the subsequent actual allowance, Budgets 2003-2010

12. The consequence of the higher structural spending was a structural deficit when the cyclical revenues eased during the downturn. So even though debt was judged to be at prudent levels at the time, the structural deficit and other consequences of recent economic shocks have stretched fiscal sustainability.
13. In addition, there are concerns about the stability impacts of the increases in government spending given the stage of the economic cycle.[2] Given that the structural operating balance fell while the output gap was positive in the mid-to-late 2000s (Figure 4), fiscal policy put pressure on monetary policy which contributed to higher real interest and exchange rates than would otherwise have been the case.

Figure 4: Cyclically-adjusted operating balance (CAB) (excluding gains, losses and earthquake expenses)

14. The ease with which spending plans can be revised upwards contributed to a focus on adding resources at the margin rather than looking for opportunities to reprioritise or improve efficiency within operating baselines or balance sheets. There were weak incentives to focus on the effectiveness of spending and a lack of a culture of continuous improvement in the absence of fiscal pressures.
15. As a result, core Crown expenses increased from around 29% of GDP in 2003/04 and 2004/05 to just over 34% of GDP in 2010/11 (excluding the earthquake impact in 2011), as shown in Figure 5. That increase of 4.8 percentage points over five years was largely structural in nature and only partly due to the economic downturn in the latter part of the cycle.[3]

Figure 5: Core Crown expenses as a share of GDP, 1995-2011