5.8 Probability assessment
Calculating the probability of a crisis when New Zealand's level of indebtedness is at a historically unprecedented level is difficult. Based on the past 16 years (since New Zealand started publishing five-year forecasts), the 95% confidence interval for a change in revenue compared to one year forecasts is plus or minus $1.6 billion. Over a four-year period, this adds up to a 95% confidence interval of plus or minus $7.6 billion (Parkyn, 2010).
Figure 12 illustrates the likelihood of each scenario based on this confidence interval. The average OECD scenario falls within a 95% confidence interval and could be expected to occur within the next 20 years. In contrast, the Irish and Spanish scenarios fall outside the 95% confidence interval. The distance from the 95% confidence interval highlights how severe the Irish shock is compared to any New Zealand shock over the past 16 years.
- Figure 12: Scenarios in the context of tax forecast uncertainty over the last 16 years
- Source: The Treasury
Prudence dictates that, at the very least, the government make arrangements to deal with historically observed volatility. Responding proactively to larger events is more difficult. It could have seemed reasonable in 2007 for Irish authorities to conclude that the current crisis was improbable. However, historical estimates may understate a conditional probability if the underlying factors driving it are fundamentally changing. For Ireland, the risk of a crisis was primarily driven by historically unprecedented large capital inflows, an increase in house prices, and a growing reliance on continued inflows of capital.
