The Treasury

Global Navigation

Personal tools

Treasury
Publication

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

8.2  Effect of NZS changes on costs and tradeoffs

This section examines the effects of four illustrative parameter changes to the existing settings for NZS:

1. raising the NZS eligibility age, roughly in line with increases in longevity

2. indexing NZS payments to a lower growth rate

3. targeting NZS payments, according to the income of the recipient, and

4. lowering the ratio of NZS payments to the average net wage.

Each change is modelled from 2017 onwards. When the NZS policy settings change and, for example, reduce the cost of NZS, then contributions to the NZSF will be less, and vice versa. The effects of these NZS changes are measured by:

  • total NZS payments as a ratio to nominal GDP (macro cost effects)
  • the effect of these changes on net Crown debt as a proportion of GDP under the historic trends scenario (macro debt effects with no other programme spending and tax changes)
  • a measure of the replacement rate: the ratio of the “couple” NZS payment (before tax) to the average ordinary time wage (again, before tax), and
  • changes to growth in the basket of public services per capita. This assumes under the sustainable debt scenario that savings made by changing NZS parameters would be used to bolster spending on services other than interest costs and benefits (spending trade-off effects).

What is not modelled is the effect of NZS changes on individuals' behaviour and hence on GDP. The size and perhaps even the direction of these are uncertain, but could affect output, national saving, and hence interest and exchange rates. A qualitative discussion along these lines follows a description of each of the changes.

Raising the eligibility age

To illustrate the size of the effects of raising the age at which someone is eligible to receive NZS, this subsection models an increase to 65.5 years in 2017, and thereafter by a further six months every two years and until it reaches 67 in 2023. Thereafter, it follows the projected six-monthly rises in the life expectancy of a person aged 65, and reaches 69 years in 2050. There are many ways this adjustment could be done. We have modelled a simple approach. The year 2017 was chosen as picked the starting point of the increase because we viewed it as sufficiently far in the future to allow people time to plan for the signalled changes (an important principle in pension reform). It is also the year that Australia has announced as the start of its pension-age changes.

A policy to lift the age of eligibility for NZS would need to be backed by an extension of unemployment, sickness and disability benefits to the age groups affected by this change. Therefore, the fiscal savings from adjusting the eligibility age would be partially offset by the cost of additional payments of benefits to some older workers or of a transitional benefit, as occurred with the changes to the age of eligibility between 1992 and 2001. Yet, even if all affected older workers were to receive these benefits, the increase in the eligibility age would still represent a fiscal gain, since these benefits are paid at a lower rate than NZS.

The modelled rise in pension age to 69 by 2050 produces a ratio of NZS to GDP that is 1.5 percentage points lower than would otherwise be the case. These scenarios reduce the potential numbers of NZS recipients but not the payment amounts. Hence, NZS payments to people do not change, but the affordability of the programme is improved.

With the historic trends scenario assumptions unchanged, except for the eligibility age moving up with rising longevity, the ratio of net debt to GDP moves down from 223% of GDP in 2050 to 201%.

Under the sustainable debt scenario, if we assume that savings from changing the age of eligibility from 2017 are shifted into other spending areas, then in real per capita terms the basket of public services eventually grows by 11% between 2013 and 2050 rather than by 2%. This change would not ameliorate the projected reduction in the size of the basket out to 2023, required to moderate the rise in debt seen in the historic trends scenario.

Table 8.1 - Effects of potential NZS changes from 2017 in 2050
Changes NZS (% of GDP)1 Net debt (% of  GDP)2 Replacement rate3 Growth of basket4 How make affordable?
Current NZS policy 8.0% 223% 33% 2% (Current policy)

Eligibility age rises

6.5% 201% 33% 11% Reduces recipients and keeps replacement rate 

Change from current

-1.5% -22% 0% 9% Reduces recipients and keeps replacement rate 
Indexation (CPI + 1) 6.9% 211% 28% 20% Keeps recipients and reduces replacement rate

Change from current

-1.1% -12% -5% 18% Keeps recipients and reduces replacement rate
Indexation (CPI) 5.0% 166% 20% 8% Keeps recipients and reduces replacement rate
Change from current -3.1% -57% -13% 6% Keeps recipients and reduces replacement rate
Targeting (½ NZS, top ¼) 7.0% 185% 33% or 17% 8% Keeps recipients and reduces replacement rate
Change from current -1.0% -38% 0% or -17% 6% Keeps recipients and reduces replacement rate
Targeting (0 NZS, top ¼) 6.0% 147% 33% or 0% 15% Reduces recipients and reduces replacement rate
Change from current -2.0% -76% 0% or -33% 13% Reduces recipients and reduces replacement rate
Lower wage floor to 60% 7.4% 201% 30%   Keeps recipients and reduces replacement rate
Change from current -0.6% -22% -3%   Keeps recipients and reduces replacement rate

1 Current policy: a couple 65 and older receives after-tax payments at least equal to 66% of the after-tax average wage.

2 This has the historic trends fiscal scenario with only NZS changing.

3 This is the ratio of the before-tax (couple) NZS payment to the before-tax average wage.

4 Real growth of the basket of services (other than benefits and NZS) delivered to the average New Zealander 2013-50, under the sustainable debt scenario.

Indexing NZS payments to a lower growth rate

This section looks at two alternatives to the indexation of payments to net wage growth. Current policy indexes NZS payments to CPI, but with the additional requirement that the payments, net of tax, made to a couple must be between 66% and 72.5% of the average net weekly wage. This means that in a growing economy and with no tax-rate changes, NZS payments grow with wage growth, assuming that the payments follow the 66% floor. The LTFM assumes that wages grow by 3.5% annually, comprising price inflation of 2% per year, and 1.5% real growth.

If NZS payments are indexed to with price inflation alone, from 2017, then superannuitants would still be able to buy the same bundle of goods from year to year, but not a growing one. CPI indexation lowers the cost of NZS from around 8% to around 5% of GDP in 2050.

The modelling also considers a more generous indexation of CPI plus one percentage point (ie, 3% per year). This regime would lower the cost of NZS by 1 percentage point of GDP in 2050.

In each case, the ratio of a couple's single NZS payment to the average wage (both before tax) would be lower in 2050 than the present 33.2% - falling to around 20% for CPI indexation and to 28% for CPI + 1 indexation.

Under the historic trends scenario assumptions, with the only changes being the alternative NZS indexation regimes, the ratio of net debt to GDP drops by 12 percentage points for the CPI + 1 regime and by nearly 60 percentage points for the CPI indexation.

Under the sustainable debt scenario, if we assume that savings from changing indexation from 2017 are allocated to other spending areas, then in real per capita terms the basket of public services eventually grows by 20% between 2013 and 2050 for CPI indexation or by 8% for CPI + 1, rather than 2% in the wage-indexed case.

Targeting NZS payments

Targeting NZS towards those most in need is another way of reducing the cost of the programme, and potentially freeing up resources for public services. Universality is a strong feature of NZS, but it is costly. Targeting income support for the elderly is common around the world, and the challenge is designing a system that makes it difficult for people to prevent income from being included in the pension calculation and in doing it in a way that is administratively efficient. This section illustrates a simple targeting regime (which is assumed to be 100% effective in preventing the sheltering of income). The Statistics New Zealand Household Economic Survey 2006/07 indicates that for about 75% of people 65 and older, NZS makes up more than 80% of their income. For the rest, NZS makes up only about 20% of their income.

We model two scenarios of the effects of targeting where people 65 and older in the top income quartile have half (or all) the NZS removed by an income test. This is phased in over five years starting in 2017.

Under the historic trends scenario assumptions, with the only changes being the targeting regimes, the ratio of net debt to GDP drops by 38 percentage points for the halving NZS for the wealthiest quarter and by nearly 76 percentage points for cutting it completely for the wealthiest quarter.

Under the sustainable debt scenario, if we assume that savings from reducing NZS to the wealthiest quarter of people aged 65 and older are used for other spending, then in real per capita terms the basket of public services eventually grows by 15% between 2013 and 2050 for no NZS or by 8% for halving NZS, rather than 2% in the universal case.

Lowering the ratio of NZS payments to the average net wage

At present, the NZS payment (after tax) to each member of a couple has to be at least 66% of the average net wage. If this payment floor was to be reduced to 60% of the average net wage in 2017, then NZS payments would grow by inflation from 2017 to 2024 when they reach the new 60% floor (based on our assumptions about the relative growth of wages and prices). At that point, the NZS payments would be indexed to wage growth again. This produces a reduction in total NZS costs of 0.6% of national income by 2050 (although most of the gain is secured by the mid-2020s).

Lowering the wage floor from 2017 has the effect of lowering the projected net debt to GDP ratio in 2050 by 22 percentage points.

Page top