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Challenges and Choices: Modelling New Zealand’s Long-term Fiscal Position

6 Expenditure on public services (continued)

6.3  What the public receives from the government

The 2009 Statement includes a projection of the volume of public services delivered to the average New Zealander - in real per capita terms. This is compared with the purchasing power of transfer payments for NZS and other benefits. The rationale for introducing this approach is to look at the long-term fiscal challenges from the perspective of the public, as distinct from the fiscal challenges faced by the government. It is hoped that the projections presented in this way are useful in informing the public debate about the choices and priorities for policy.

For NZS payments and working-age welfare benefits, the growth rate in (nominal) payments to recipients is deflated by CPI growth. The result is a real 66% cumulative increase for NZS payments between 2013 and 2050, while working-age benefit payments stay constant (since these transfers are indexed to inflation, not wages).

The basket of publicly-funded services is calculated by deflating nominal expenditure by price factors (a function of inflation, wages, and public sector productivity) and removing the volume changes reflecting demographic change. This puts the basket on a quantity per capita basis. Thus the growth of the basket of public services is exactly determined by the non-demographically driven volume growth parameter (pt).

Figure 6.4 shows the basket of publicly-funded services, comparing the projections for the historic trends and sustainable debt scenarios. The key point is that if the fiscal adjustment falls on public services, as modelled in the sustainable debt scenario, the basket of public services is much reduced relative to the historic trends scenario. Indeed it declines in absolute terms through to 2023, before rising somewhat thereafter so that by 2050 the basket is just 2% above its level in 2013.

The projection for the basket of publicly-funded services crucially depends on assumptions for the price deflator since it is a volume measure. In Figure 6.5 we plot the growth in real expenditure (ie, using CPI as a price deflator instead of CPI + 0.9%).

The result is that the expenditure measure (Figure 6.4) is around 40 percentage points higher than for the volume measure (Figure 6.5) by the end of the projection period in 2050. The difference is explained by expenditure increases being absorbed by wage growth – an illustration of Baumol’s cost disease.

Figure 6.4 - Volume of public services per capita
Figure 6.4 - Volume of public services per capita.
Source: The Treasury
Note: “Per capita” refers to the relevant population of recipients for the public goods or services. Health and education recipient populations are adjusted for specific demographic shifts (ie, ageing). For other public services the modelled recipient population is the entire national population.
Figure 6.5 - Public services expenditure per capita (inflation adjusted)
Figure 6.5 - Public services expenditure per capita (inflation adjusted).
Source: The Treasury

6.4  Spending areas as a proportion of GDP

Figure 6.6 shows how spending across the sectors changes under the two scenarios. Our assumptions about NZS and benefits mean that these components are the same in both scenarios. This means that growth in the other components under the sustainable debt scenario is more constrained than in the historic trends scenario. For illustrative purposes, we continue to let the different demographics affect the various components, but scale back the services per person in each spending area by the same proportion relative to the historic trends scenario. Our assumption is that future governments would apply constraints across spending areas relatively equally, apart from demographic pressures. Future governments may choose to allocate available funds differently due to changes in societal preferences or as-yet unknown factors affecting the cost of services.

Under the sustainable debt scenario, education and other spending decline as shares of GDP, relative to 2009. Health increases as a share of GDP, due to the relatively larger impact of demographic changes on health care, but the growth is much lower than under the historic trends scenario. Debt servicing costs remain stable, reflecting the constraint on debt over the long term. The conclusion is that, given current policy settings, NZS continues to grow at the expense of other public services, such as health and education.

Figure 6.6 - Spending shares - sustainable debt and historic trends
Figure 6.6 - Spending shares - sustainable debt and historic trends.
Source: The Treasury
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