7.7  Balance sheet issues and changes to financial reporting

The preparation of a balance sheet and use of GAAP present a number of issues for both the reporting of fiscal information and the setting of fiscal policy.

7.7.1  The Crown balance sheet and net worth

The Crown’s balance sheet includes a range of assets and liabilities. For example, for the year ending June 2000, the unfunded liability of the defined benefit pension scheme for government employees was $8.3 billion (compared to gross Crown debt at $36 billion).

With lower levels of debt there is increasing focus on the management of the Crown’s balance sheet, including the Crown’s attitude to risk. The emphasis on the balance sheet is likely to increase under the proposed NZS Fund, which will involve a build-up of financial assets that are currently excluded from the long-term net debt objective (net debt is the value of selected financial liabilities less selected financial assets).

A number of issues point to an increased focus on gross debt as opposed to net debt. These include the proposed build-up of NZS Fund assets plus the role of gross debt as an indicator of the amount of funding the government requires from capital markets.

In order to capture changes in the composition of the balance sheet, there may need to be clearer specification of the long-term objective for net worth (e.g., whether an increase in net worth reflects more financial assets or less debt).

Greater use of the net worth indicator will be assisted by the resolution of establishment issues that arose when the Crown’s balance sheet was first prepared in 1992. Examples of establishment issues include liability recognition for the accident compensation scheme (1999), Public Trust reserves asset recognition (1999) and urban state highways asset recognition (the only remaining issue, to be resolved in 2001). Establishment issues have led to significant changes in the level of net worth and their resolution should facilitate an easier analysis of trends.^[31]

7.7.2  Changes to financial reporting

Ongoing GAAP developments are likely to see the introduction of greater potential for fluctuations resulting from fair value assessments of assets and liabilities altering through time.

In accordance with GAAP, full line-by-line consolidation is due to be introduced in the 2002 Budget. Under full line-by-line consolidation, “Crown” will include state-owned enterprises and Crown entities. This will not affect reported net worth and the operating balance, but individual assets and liabilities will be recorded in the balance sheet (with individual revenues and expenses in the operating statement). This has implications for reporting and the specification of some of the long-term fiscal objectives (debt and expenses). A technical discussion document on the issues was released earlier this year.

7.8  Time horizons and demographic changes

Falling debt ratios across the OECD are ushering in a series of new challenges around fiscal management in a surplus environment. The New Zealand experience highlights the search for appropriate fiscal anchors and the challenges created by projected demographic change.

The Fiscal Responsibility Act does not define the time horizon for the long-term fiscal objectives. However, the Progress Outlooks covering a minimum of ten years require projections of the variables specified as long-term objectives.

Longer-term projections of the fiscal position are subject to considerable uncertainty. There is uncertainty regarding demographic trends, technological change, behavioural responses and the role of future governments. Nonetheless, population ageing is projected to generate a change in the growth of government expenses (see Polackova, 1997). Although not required by the FRA, longer-term fiscal scenarios over time periods long enough to capture demographic changes (e.g., 50-years) have been a feature of fiscal strategy documents.

In terms of long-term fiscal indicators, generational accounting estimates for New Zealand suggest the burden on future generations is projected to fall slightly below that on current newborns (Baker, 1999).^[32] However, the lack of focus on existing generations and the complexity of the methodology means the estimates have had limited impact on policy decisions. The FSR 2000 signalled ongoing investigation into long-term fiscal indicators, including the “fiscal gap” calculated by Auerbach (1994) and the Congressional Budget Office (1999).

The approach taken to funding a “given” future spending path will influence the setting over time of long-term fiscal objectives. For instance, a decision to tax-smooth may imply running substantial operating surpluses, followed by an extended period of operating deficits. This would require changes to the long-term operating balance, debt and expense objectives. A balanced budget approach, which entails changes to taxes and/or spending, would require modifications to the long-term objective for expenses.

These considerations may require Government’s to signal specific time periods over which their long-term fiscal objectives are to hold, or that objectives may need to be adjusted as future expense pressures become clearer.

8.  Conclusions

Fiscal policy in New Zealand has seen a consolidation of the Government’s position and significant changes to the institutional framework, in particular, the introduction of the Fiscal Responsibility Act 1994.

New Zealand’s fiscal policy framework is a function of both historical experience and wider public sector reforms. The framework differs from that used elsewhere, especially in its use of legislated “principles of responsible fiscal management” as opposed to mandatory targets. However, the Fiscal Responsibility Act does require Governments to set short-term fiscal intentions and long-term fiscal objectives for a range of fiscal aggregates.

The 1990s saw a shift to structural surplus and declining debt-to-GDP ratios. Progress toward the stated long-term expense objective, however, was more problematic. The experience of the 1990s highlights three key themes; the tensions created by timeless long-term objectives with no clear binding constraint; the uncertainties and tensions in adjusting short-term fiscal policy settings; and the emergence of longer-term fiscal issues associated with future demographic changes. With regard to the last of these, the FRA framework has increasingly been used to illustrate a range of fiscal issues that are broader than those that influenced its original formulation (e.g., fiscal consolidation and stabilisation).

The direct contribution of institutional change such as the FRA to the fiscal outcomes of the 1990s is unclear. The Act codified a number of earlier developments that may have improved fiscal policy regardless (e.g., through increased transparency). Nonetheless, by requiring Governments to be explicit about their short-term intentions and long-term objectives the FRA establishes a framework for annual Budget decisions.

More recently, the experience of the 1990s has seen the evolution of specific operational targets (the fiscal provisions). The fiscal provisions provide a short-term anchor that avoids fluctuations caused by the economic cycle and valuation changes. Cyclical and valuation changes complicated the interpretation of outcomes against short-term fiscal intentions.

New Zealand’s fiscal policy framework faces a number of challenges and is subject to ongoing developments. For example, the provisions may benefit from a more explicit institutional framework. Although the framework has “opened up” longer term fiscal issues, these will present ongoing challenges to the formulation of fiscal policy.