2. Background
A series of reforms between 1984 and 1994 saw significant changes to the institutional arrangements governing fiscal policy in New Zealand.[2] At a “macro” level, the Fiscal Responsibility Act (FRA) 1994 reflected a change in the focus of overall fiscal policy. The FRA needs to be set in the context of earlier “micro” reforms that altered the arrangements for management and decision-making in public sector organisations. Analysis of New Zealand’s fiscal history helps identify some of the key influences behind the institutional changes.
2.1 Fiscal history
New Zealand’s fiscal history is documented elsewhere, especially as a sub-set of the broader economic reform process (see for example Wells, 1987; 1996). Some of the key themes include:
- Government expenditure on final goods and services, benefit transfers and debt servicing was below 30% of GDP in the 1960s and early 1970s. By the early 1990s the ratio had increased to around 40% of GDP.[3] Average tax rates increased, but tax receipts lagged spending growth during the 1970s and 1980s. The rise in spending largely reflected rising benefit expenditures and higher debt servicing caused by persistent fiscal deficits (see Figure 1).
- Gross public debt increased from around 40% of GDP in 1974 to a peak of 78% in 1987. Net public debt was just below 5% of GDP in 1974, increasing to 52% of GDP in 1992. The net public debt ratio declined in some years as privatisation proceeds were largely used to repay debt (see Section 5.1 below). This reduction in the debt ratio from asset sales did not reflect a matching improvement in net worth.
- New Zealand’s sovereign credit rating was downgraded through the 1980s and early 1990s. The Standard and Poor’s rating of triple A was removed in 1983 and was AA- by 1991.
- In the 1970s and early 1980s New Zealand was a relatively active user of discretionary fiscal policy. Over the period 1973 to 1984 New Zealand’s structural deficit increased by an average of 0.5% of GDP per year. The standard deviation of New Zealand’s structural deficit was the fourth highest in a sample of 19 OECD countries (Wheeler, 1991).
- Figure 1-Fiscal balance (% GDP)
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- Extensive use of fiscal policy in a demand management role did not produce sustainable growth.
- Expansionary fiscal policy led to a rapid deterioration in the net debt position.[4]
- [2]See “Putting it Together – An Explanatory Guide to the New Zealand Public Sector Financial Management System” (August, 1996) available at www.treasury.govt.nz.
- [3]See the discussion of historical expenditure trends in the 1997 Budget Policy Statement. Information for this period is cash based. This information, together with all other data on fiscal outcomes reported in the text, is effectively for “central government” only.
- [4]For a further discussion on the role of discretionary fiscal policy in New Zealand see Deane and Smith (1980) and Scott (1994).
- [5]Clark and Sinclair (1986), Treasury (1987) and Holland and Boston (1990) provide further discussion of these ideas.
Source: Buckle, Kim and Tam (2001).
Note: The fiscal variable used in this ratio is (central) government net cash flow from operations. It is on a March year basis up until 1989, June years from 1990 to 1999. It differs from other long-run measures of the cash balance (e.g., “Table 2”) in that it excludes non-operating flows due to investing and financing activities. See Appendix Two in Buckle, Kim and Tam (2001) for details. From 1992 onward the series is the net cash flow from operations series in the Crown Financial Statements.
In his assessment of New Zealand fiscal policy during the 1970s and 1980s, Wheeler (1991) concluded that:
By the early 1990s, policy advice was oriented toward fiscal consolidation and a medium-term focus (see Treasury, 1990; Wheeler, 1991).
2.2 Public sector management reform
Public sector management reform provided Ministers with new tools for the examination of spending priorities amongst departments and for reviewing departmental efficiency (Treasury, 1990). Two distinctive but overlapping sets of ideas influenced this reform. One derived from management theory, the other from institutional economics (the principal-agent issue).[5]
Management reform was grounded on the principle that for public sector managers to be held responsible for results, they needed the freedom to allocate resources within a given budget and run their organisations without external ex ante control (subject to delivering the required quantity and quality of goods and services).
Institutional economics suggested that the manager’s (or agent’s) interest might diverge from the owner’s (or principal’s) interest resulting in poor and inefficient outcomes. To facilitate appropriate behaviour, ex-ante performance criteria for managers were specified with performance evaluation contingent on delivery.
Three Acts cover the legislative framework underpinning the public sector management reforms.
2.2.1 The State-owned Enterprises (SOE) Act 1986
Where government services could be managed along commercial lines, the SOE Act allowed the Government to provide these services through organisational forms similar to private sector enterprises. The SOE Act embodies principles of management autonomy, clarity of objectives and transparency of process. Previously, SOEs had multiple and often conflicting objectives.
2.2.2 The State Sector Act 1988 (SSA)
The SSA established the accountability relationship between departmental chief executives and their Ministers. Departmental chief executives were placed on renewable contracts. These contracts made provision for annual performance agreements and made chief executives responsible for employing staff and determining their remuneration.
2.2.3 The Public Finance Act 1989 (PFA)
The PFA set out the way Parliament appropriates funds and gave chief executives powers and responsibilities in relation to financial management. The Act imposed budgeting and reporting requirements for departments and the government as a whole. It also changed the basis of appropriation from inputs to outputs or services, and from a cash basis to an accrual basis.
