Budget Economic and Fiscal Update 2017

An introduction to the Budget Economic and Fiscal Update#

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The Treasury is New Zealand's economics and finance ministry. We advise on the direction of New Zealand's economic policy with the aim of achieving a strong and sustainable economy, and raising New Zealand living standards. This includes reporting on the expenditure of government (fiscal) revenue, and assisting to ensure spending is fit for purpose and can improve outcomes for New Zealanders.

Sharing what we do#

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As the government's lead economic and financial adviser we are responsible for the Financial Statements of Government. This Budget Economic and Fiscal Update (BEFU) is part of a suite of documents we release regularly as required by the Public Finance Act 1989.

This update forms part of Budget 2017 and provides economic context for Budget decisions. It primarily outlines what the Treasury observes in our current economic and fiscal climate, what we might see in the future, and what risks we may face over the next four years - our forecast period. This gives an indication of what the economy is most-likely to do to inform decision-making.

Making it New Zealander-centric#

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Our advice is not just based on facts and figures. Improving outcomes means we need to understand which outcomes to improve, and what is important to New Zealanders. We use the Treasury's Living Standards Framework to recognise the different aspects of New Zealanders' living standards and well-being. Our framework is based on four areas:

• financial and physical capital eg, housing, machinery, buildings, money
• human capital eg, health, skills
• social capital eg, institutions, trust
• and natural capital eg, water, biodiversity.

We took this approach further and last year presented a living standards perspective that stretches over the next 40 years. He Tirohanga Mokopuna: 2016 Statement on the Long-term Fiscal Position, shares our take on long-term fiscal issues facing New Zealand. We know that sustainable government finances are a requirement to improving long-term living standards, and vice versa.

Understanding our path#

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The Treasury is in a unique position to focus on improving the way our economy can raise New Zealand living standards. Along with delivering first-rate economic and financial advice, we are committed to providing it in a way so New Zealanders understand how we work to achieve our goals. If you would like to know more about who we are and what we do, or want a simpler overview of the BEFU please go to our website at www.treasury.govt.nz

Statement of Responsibility#

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On the basis of the economic and fiscal information available to it, the Treasury has used its best professional judgement in supplying the Minister of Finance with this Economic and Fiscal Update. The Update incorporates the fiscal and economic implications of both government decisions and other circumstances as at 3 May 2017 that were communicated to me by the Minister of Finance in accordance with the requirements of the Public Finance Act 1989 and of other economic and fiscal information available to the Treasury as at 3 May 2017. This Update does not incorporate any decisions, circumstances or statements that the Minister of Finance has determined, in accordance with section 26V of the Public Finance Act 1989, should not be incorporated in this Update.

Gabriel Makhlouf
Secretary to the Treasury

17 May 2017

To enable the Treasury to prepare this Economic and Fiscal Update I have ensured the Secretary to the Treasury has been advised, in accordance with the requirements of the Public Finance Act 1989, of all government decisions and other circumstances as at 3 May 2017 of which I was aware and that had material economic or fiscal implications.

In accordance with section 26W of the Public Finance Act 1989, I accept responsibility for the integrity of the disclosures contained in the Update, responsibility for the consistency and completeness of the Update information with the requirements of Part 2 (Fiscal responsibility) of the Public Finance Act 1989 and responsibility for any decisions, circumstances or statements not incorporated in this Update in accordance with section 26V of the Public Finance Act 1989.

Hon Steven Joyce
Minister of Finance

17 May 2017

Executive Summary#

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Summary of the Treasury's economic and fiscal forecasts

Sources: Statistics New Zealand, the Treasury

Real GDP growth in the New Zealand economy is forecast to pick up slightly in 2017, supported by migration inflows, investment and a recovery in exports. Growth is then forecast to accelerate to a peak of 3.8% in 2019 as investment growth gains momentum and private consumption is supported by income gains associated with the Family Incomes Package. Slower population growth as net migration inflows subside, easing construction growth and rising interest rates contribute to a moderation in real GDP growth to 2.4% by 2021.

Unemployment is expected to remain around 5% over the year ahead, as robust employment growth is balanced by high labour force growth, before steadily declining to the long run unemployment rate of around 4 1/4. Underlying inflationary pressures are expected to rise as spare capacity in the economy is used up, stabilising CPI inflation around 2% from mid-2019. The terms of trade have recovered a little faster than expected in the Half Year Update and are expected to remain broadly flat at a relatively high level across the forecast period. The current account deficit widens but remains under 4% of GDP.

Nominal GDP growth averages 5.1% per year over the forecast, with the level of nominal GDP a cumulative $23.9 billion higher than in the Half Year Update in the five years to June 2021, in part reflecting a higher starting point.

The Crown's fiscal position has improved over the past five years with an operating balance before gains and losses (OBEGAL) surplus being recorded in both the previous two fiscal years. These steadily improving fiscal results are expected to continue, as a growing nominal economy is forecast to drive growth in tax revenue.

Budget 2017 sees the introduction of a Family Incomes Package that both reduces tax revenue and increases social assistance expenditure such as Working for Families, with the 2019 June year being the first full year of these changes. New operating spending averages $1.8 billion per year over the forecast period (compared to $1.5 billion previously forecast). Future operating allowances have also been increased with new operating spending set at $1.7 billion for Budget 2018, increasing by 2% for subsequent Budgets.

New capital spending was increased to $4.0 billion (compared to $3.0 billion previously forecast). The capital allowance for Budget 2018 has been set at $2.0 billion and $2.5 billion for Budgets 2019-21.

Net core Crown debt is expected to decline as a percentage of nominal GDP over the forecast period, to stand at 19.3% by 2020/21. Core Crown residual cash is broadly neutral over the forecast period, with cash deficits in the next two years mostly offset by cash surpluses at the end of the forecast period. Net core Crown debt, in nominal terms, increases in the first three years of the forecast before beginning to decline to $62.8 billion by 2020/21.

The economic outlook is subject to a range of risks and uncertainties, with global risks skewed to the downside while domestic risks are more balanced. The fiscal outlook will be affected if risks were to eventuate and have a material impact on the economy.

Economic Outlook#

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Overview#

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• Over 2016 the New Zealand economy grew 3.1% in real terms and 5.5% in nominal terms, underpinned by investment, private consumption (supported by strong migration inflows) and low interest rates. Gross Domestic Product (GDP) per capita grew 0.9% and the current account deficit narrowed to 2.7% of GDP.
• Relative to the Half Year Update, growth was moderately weaker than expected as exports, residential investment and business investment grew at a slower pace than anticipated. Price developments worked in the opposite direction. Nominal GDP growth was stronger than forecast in the Half Year Update, supported by the higher-than-expected terms of trade.
• Real GDP growth in the New Zealand economy is forecast to pick up slightly in 2017, supported by migration inflows, investment and a recovery in exports. Growth is then forecast to accelerate to a peak of 3.8% in 2019 as investment growth gains momentum and private consumption is supported by fiscal stimulus associated with the Family Incomes Package (see the Economic and fiscal impacts of the Family Incomes Package box on page 22).
• Growth in the labour supply slows later in the forecast period as net migration inflows subside. Slower population growth, easing construction growth and rising interest rates contribute to a moderation in real GDP growth to 2.4% by 2021 with inflation near 2%.
• Trading partner growth was steady in the second half of 2016, in part because faster growth in the US was offset by slower growth in Australia. The outlook for trading partner growth is broadly similar to the Half Year Update, although downside risks to inflation have decreased.
• Nominal GDP growth averages 5.1% per year over the forecast, with the level of nominal GDP a cumulative $23.9 billion higher than in the Half Year Update in the five years to June 2021, in part reflecting a higher starting point.
• The outlook is subject to a range of risks and uncertainties. As outlined in the Risks and Scenarios chapter, global risks are skewed to the downside while domestic risks are more balanced.

Economic forecasts are presented on a June year basis for consistency with the fiscal forecasts. Longer time series for these variables are provided on page 135.

Notes:

1. Business investment is the total of all investment types excluding residential building. Previous separations of market and non-market investment are no longer produced by Statistics New Zealand.
2. Contribution to GDP growth.
3. Estimated as the percentage difference between actual real GDP and potential real GDP.
4. Percent of the labour force, June quarter, seasonally adjusted.
5. Percent of the working-age population, June quarter, seasonally adjusted.
6. Quarterly Employment Survey, average ordinary-time hourly earnings, annual percentage change.
7. Annual percentage change.
8. System of National Accounts (SNA) and merchandise basis.
9. Quotable Value New Zealand (QVNZ) House Price Index, annual percentage change.
10. Percent of household disposable income (HHDI), March years.
11. Average for the June quarter.

Recent Developments#

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Economic expansion has continued at a solid pace

Economic growth accelerated over the course of 2016, underpinned by migration inflows, construction activity, business investment and low interest rates. Real production GDP growth increased from 2.5% in 2015 to 3.1% over 2016, while on a per capita basis, GDP growth increased from 0.6% to 0.9%. Recent revisions from Statistics New Zealand have altered the level of GDP. See the GDP revisions and their implications box on page 9for more detail.

Migration is a key driver of growth, with fewer New Zealanders than usual leaving and more non-New Zealanders arriving. Rapid population growth supported an acceleration in private consumption growth to 4.2% at the end of 2016 - its highest rate since the global financial crisis (GFC). Both real residential investment and business investment growth rose over 2016.

Growth in real goods exports eased in late 2016, continuing a slowdown that has been underway since 2015. Real services exports growth also slowed over this period and, as a result, growth in total exports eased. The current account deficit remained around 3% of GDP over most of 2016 but narrowed to 2.7% in the December quarter as a recovery in export returns lifted the terms of trade.

Spare capacity remains in the labour market with an unemployment rate around 5% and low wage growth. Our estimate of the output gap averaged -0.6% in 2016. Food and oil price movements drove headline inflation above 2% in the March quarter 2017 for the first time since 2011. Inflation excluding food and fuel prices remains subdued, indicating underlying inflationary pressures remain soft. Monetary policy continues to remain accommodative.

Relative to the Half Year Update, near-term momentum in the economy has been a little weaker than anticipated, with real GDP growth weaker than forecast in the second half of 2016. Residential investment and house price growth slowed towards the end of the year (discussed further in the Recent developments in residential investmentbox, page 13). However, nominal GDP growth was higher than forecast, in line with an uplift in the terms of trade owing to rising dairy prices.

March quarter CPI inflation and labour market data were released after these forecasts were finalised. The outturns point to slightly more inflationary pressure and a tighter labour market than anticipated in the Budget Update outlook, but do not materially alter our view on underlying spare capacity in the economy in the near term.

As a small, open economy, New Zealand's growth is particularly affected by external flows of people, goods and services, which can turn around quickly. This means that there are risks and uncertainty attached to any set of forecasts. Likewise, relationships between economic variables, such as between household debt and consumption, may play out differently from those in these forecasts. The Risks and Scenarios chapter expands on such risks further.

The Economic Outlook#

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Real GDP growth expected to peak in early 2019

Continuing high inward migration, construction activity (including rebuild activity related to the Kaikōura earthquake), exports (particularly tourism) and low interest rates are expected to underpin real GDP growth of around 3% to 3.5% over the year ahead. Growth is expected to peak at 3.8% in 2019, as residential investment growth resumes after a temporary pause in 2017 and as the stimulatory impact of the Government's Family Incomes Package flows through the economy via higher household spending (see the Economic and fiscal impact of the Family Incomes Package box on page 21). Unemployment is broadly flat over the year ahead, as employment growth is balanced by high labour force growth, before the unemployment rate steadily declines. Underlying inflation picks up over the forecast period as spare capacity is used up, with headline inflation stabilising around 2% from mid-2019. The aggregate growth outlook for New Zealand is stronger than in the Half Year Update, but revisions to the starting point level of real production GDP mean the level of real GDP only surpasses the Half Year Update forecast in mid-2019.

Figure 1.2 - Real production GDP

Sources: Statistics New Zealand, the Treasury

Stronger for longer migration…

Net migration has continued to outpace expectations, with annual net migration rising to 71,900 in the year to March 2017. Net migration is assumed to hold up at a higher level than forecast in the Half Year Update given New Zealand's relatively favourable economic conditions and the persistent strength of recent net inflows, peaking at 72,500 in mid-2017.

Thereafter, net migration inflows are assumed to ease. Flows of New Zealanders are assumed to return to their long run average net outflow in line with real wage differentials between New Zealand and Australia. Net inflows of non-New Zealanders are assumed to fall as New Zealand's attractiveness relative to other locations declines, and as some recent migrants leave (eg, students). Net migration is expected to add 212,000 people to the population over the next four and a half years, similar to the gain over the past four and a half years. Relative to the Half Year Update, net migration is assumed to decline more gradually (adding around 67,000 more people), with risks to the forecast present in both directions.

Figure 1.3 - Net migration

Sources: Statistics New Zealand, the Treasury

Population growth is a key driver of economic growth. Average GDP per capita growth over the forecast period (1.3%) is similar to that forecast in the Half Year Update (1.4%), but the level of real GDP per capita is lower throughout, as revisions to history have led to a lower starting point (see the GDP revisions and their implications box on page 9). Scenario Two in the Risks and Scenarios chapter explores the implications should migration levels deviate significantly from those assumed.

…increases labour supply…

Unemployment is forecast to remain flat over the year ahead, as rapid labour force growth (from a combination of high working-age population growth and record-high participation rates) is balanced by robust employment growth (with 215,000 additional people employed over the forecast period), before steadily declining to the long run unemployment rate of 4.25%. Wage growth is relatively modest in the near term, reflecting some spare capacity in the labour market, past low inflation and relatively weak productivity growth, before picking up to over 2% in mid-2018 as price inflation picks up.

Figure 1.4 - Unemployment rate

Sources: Statistics New Zealand, the Treasury

Compared to the Half Year Update, employment growth is stronger over the forecast period. However, the labour force is forecast to increase at a faster rate, with higher participation rates and working-age population growth, meaning spare capacity in the economy is not used up as quickly as previously anticipated. This translates into a relatively higher unemployment rate and weaker wage growth over the remainder of the forecast period relative to the Half Year Update, and points to a softer near-term picture of non-tradables inflation.

…and drives private consumption…

Private consumption growth is expected to remain above its post GFC average over most of the forecast period, supported by population growth, low interest rates and higher farm incomes. The Family Incomes Package also provides a boost to household consumption, with households assumed to spend the majority of the boost to their incomes from this package (see the Economic and fiscal impacts of the Family Incomes Package box on page 21).

Figure 1.5 - Real private consumption

Sources: Statistics New Zealand, the Treasury

In the latter half of the forecast period private consumption growth eases to around 2% per year as monetary conditions begin to tighten and household saving rises modestly, house price growth slows and as population growth eases with slower migration.

These forecasts assume households will continue their relatively cautious behaviour of recent years, keeping dissaving rates fairly close to zero, with consumption growth largely matched by income growth. The implications for the economic forecasts if households behave in a different manner are explored in Scenario Two in the Risks and Scenarios chapter.

Private consumption growth is stronger than expected at the Half Year Update over most of the forecast period. Data revisions post the Half Year Update have provided a higher starting point (see the GDP revisions and their implications box on page 9), and the Family Incomes Package increases household incomes and expenditure.

...while also adding to pent-up demand in the housing market

Rapid population growth and low interest rates increase demand for housing. In the near term, indicators including building consents suggest that real residential investment and house price growth will remain around current levels owing to a range of factors that are judged to be largely temporary. Factors explaining the recent slow-down in residential investment include the impact of tighter loan-to-value ratios, uncertainty around the Auckland Unitary Plan, capacity constraints in the construction sector (particularly for skilled labour) and tighter credit conditions (particularly for developers).

Figure 1.6 - Real residential investment

Sources: Statistics New Zealand, the Treasury

Further out, most of the temporary headwinds are expected to subside and pent-up demand for housing returns to the fore (given rapid population growth and relatively low interest rates), resulting in a further pick up in residential investment. House price growth is anticipated to pick up once more in 2018 then ease from 2019 onwards as supply increases to meet demand.

The recent slow-down in residential investment growth explains much of the lower momentum in near-term growth in the forecasts. There is considerable uncertainty associated with the judgement that this slow-down will be temporary. See the Recent developments in residential development boxon page 13 for further discussion.

Housing market developments have been reflected in growing household debt, which reached a new high of 168% of household disposable income at the end of 2016. If income growth were to slow significantly or if interest rates were to rise sharply, debt servicing could become difficult for some households. This has the potential to constrain GDP growth as households adjust by reducing consumption and residential investment. See Scenario Two in the Risks and Scenarios chapter for further discussion.

Business investment grows…

Business investment accelerates over the forecast period, supported by low interest rates, rapid population growth and the Kaikōura earthquake rebuild. Population growth encourages businesses to invest in order to expand their operations and to match growth in employment with growth in capital. Some elements of business investment are closely related to residential investment (eg, infrastructure) and so the delayed residential investment compared to the Half Year Update contributes to the weakness in business investment early in the forecast period and the strength thereafter.

Government consumption growth is forecast to peak in the near term, and ease thereafter. The government consumption forecast has been updated to include recent developments such as the new operating allowances of $1.8 billion in Budget 2017 and $1.7 billion in subsequent budgets and the latest estimates for the Care and Support Workers Pay Equity Settlement Agreement.

Figure 1.8 - Real business investment

Sources: Statistics New Zealand, the Treasury

Figure 1.9 - Real government consumption

Sources: Statistics New Zealand, the Treasury

…increasing productivity growth in the medium term

Productivity growth is expected to remain low in the near term, with rapid growth in the working-age population. Labour productivity growth is forecast to rise in the medium term as business investment picks up and net migration inflows begin to subside, and averages 1.4% over the final four years of the forecast period.

Growth in potential output is expected to slow over the medium term, as labour force growth declines owing to easing net migration inflows. In annual average terms, potential output growth slows from 3.3% in the near term to 2.6% by 2021, but is higher than in the Half Year Update given strongerlabour force growth.

Underlying inflationary pressures rise as spare capacity is used up, prompting higher interest rates

Inflation surpassed 2% in early 2017, above the mid-point of the Policy Targets Agreement target band for the first time since 2011. Inflation in the March 2017 quarter was largely driven by what are regarded as temporary price movements (eg, in petrol and food prices), with smaller changes to core inflation. After a period of volatility (where recent price increases drop out of the annual calculation), inflation is forecast to rise above 2% in 2019 as spare capacity is absorbed and capacity pressures build, supported by the stimulus of the Family Incomes Package. The output gap is forecast to close in mid-2018 and become positive thereafter.

Interest rates respond to restrain inflation and therefore keep overall inflation within the target range of 1% to 3%, rising from the September quarter in 2018 onwards.Short-term interest rates gradually lift to 3.9% by June 2021, which is still below their assumed long-run level of around 4.5%.Long-term interest rates are expected to rise gradually to 4.3% by 2021 as inflation in advanced economies begins to rise and global monetary policy settings are tightened, particularly in the US.

Figure 1.10 - Consumers price index

Sources: Statistics New Zealand, the Treasury

Figure 1.11 - 90-day interest rates

Sources: Reserve Bank of New Zealand, the Treasury

The recent strength in inflation was higher than anticipated in the Half Year Update and, owing to its temporary nature, feeds into the relatively high volatility of the CPI inflation track in the middle of the forecast period. A further key difference is the announcement of the Family Incomes Package, which is expected to lead to a modest increase in inflationary pressures through its impact on consumer spending and therefore demand. Overall, interest rates begin to rise two quarters earlier than forecast in the Half Year Update.

Growth among New Zealand's key trading partners remains stable…

The international outlook has become more positive since the Half Year Update, although it is still the subject of considerable uncertainty. Indicators of economic activity in recent quarters show the pace of growth has increased in many economies, including China, the US and the euro area. In addition, indicators of business and consumer sentiment have improved further and financial market volatility has remained low. Over the forecast period, trading partner growth is expected to remain broadly stable.

Growth slowed in Australia last year but this is expected to be temporary. Spare capacity remains in the labour market, and wage growth is subdued. The Australian housing market remains an area of risk (see the Risks and Scenarios chapter for further discussion). Further out, the outlook is for ongoing, moderate growth as Australia continues to transition from mining investment to other sources of demand.

Growth is expected to ease in China (as it transitions from investment- to consumption-led growth), and the UK (as uncertainty around Brexit hampers investment, and as inflation and the weaker pound erode consumer purchasing power), remain moderate in the euro area and Japan and grow more rapidly in other developed and newly industrialised economies. Growth in the US is expected to increase, supported by fiscal stimulus, although the details of such stimulus remain unclear.

Risks remain around the continued imbalances in the Chinese economy, future US economic, trade and fiscal policy, and the impact of Brexit. The extent of the potential impacts from these uncertainties and the precise channels through which they might impact on New Zealand are difficult to ascertain. Consequently they are treated as risks to the central forecast.

…with less downside risk to global interest rates and inflation

Absent any further shocks to the international economy, global inflation is thought to have troughed, and global monetary stimulus peaked. Our trading partners have seen comparable increases in inflation to New Zealand, being similarly affected by global petrol prices. The recent increase in global inflation reduces risks of deflation, and there are some signs of growing underlying inflationary pressures. Global inflation is expected to rise towards the end of the forecast period in line with falling global spare capacity. Likewise, interest rates are expected to rise as monetary conditions begin to normalise, global inflation increases and as central banks begin to unwind their balance sheets.

The terms of trade remain high…

The terms of trade increased sharply towards the end of 2016 as dairy prices recovered from their recent lows and import prices fell. After falling slightly as import prices recover in the near term, the terms of trade are expected to remain broadly flat across the forecast period at a relatively high level compared to history. Import prices are forecast to remain relatively muted, with oil prices growing only gradually with past investment in exploration and technological advancements boosting supply (although Organization of Petroleum Exporting Countries (OPEC) coordination represents a risk that oil prices will be higher than projected, depending on the response of US producers). Export prices are likewise expected to increase gradually over the forecast period.

Figure 1.12 - SNA goods terms of trade

Sources: Statistics New Zealand, the Treasury

…supporting the New Zealand dollar…

The New Zealand dollar TWI has largely evolved as forecast in the Half Year Update, falling to 76.1 at the end of the March 2017 quarter. The TWI is expected to remain around current levels, supported by three factors: the New Zealand economy has continued to expand at a solid pace relative to other advanced economies; New Zealand interest rates are high compared to other advanced economies; and the terms of trade are high relative to historical averages (and the Half Year Update forecast).

Figure 1.13 - Trade Weighted Index (TWI)

Sources: Reserve Bank of New Zealand, the Treasury

…while exports fall and then bounce back…

Annual average growth in goods exports is expected to decline in the near term, reflecting observed recent weak agricultural production and quarterly falls in export volumes over the second half of 2016. Further out, goods export volumes are forecast to increase as the dairy sector recovers and as non-dairy exports (eg, horticulture and wine) steadily expand.

However, goods import volumes are expected to grow at a faster rate than goods exports, driven by domestic demand, leading to a steady but modest widening of the goods deficit as the goods term of trade remains fairly flat over the forecast period. This view is broadly similar to the outlook in the Half Year Update.

Figure 1.14 - Real goods exports

Sources: Statistics New Zealand, the Treasury

…inbound tourism remains buoyant…

Services exports are expected to rise over the forecast period, supported in the near term by continued income growth across emerging Asian economies and growth in the number of routes flying to New Zealand. Further out, services export volume growth is expected to remain positive, reflecting solid growth in tourism, particularly from China. Tourist spending is expected to support construction activity throughout the forecast period, along with employment in this sector, as infrastructure and accommodation are expanded to cater for more overseas visitors.

Travel services imports are expected to maintain their recent strength owing to rising household incomes (through robust employment growth and higher wages) and the high New Zealand dollar. Overall, the services balance is forecast to remain fairly flat over the forecast period. This outlook is broadly similar to that in the Half Year Update.

Figure 1.15 - Real services exports

Sources: Statistics New Zealand, the Treasury

…and the current account deficit widens gradually

The current account deficit is expected to widen slightly over the forecast period, mainly owing to the deteriorating goods balance, alongside the declining income balance (as overseas interest rates begin to rise). Nonetheless, the current account deficit remains under 4% of GDP throughout the forecast period, significantly smaller than anticipated in the Half Year Update, largely owing to a slower deterioration in the goods balance. After a period of steady improvement the net international investment position is expected to remain broadly stable as a percentage of GDP over the forecast period. See the Current account forecasts and external balance box(page 19) for further discussion.

Figure 1.16 - Current account balance

Sources: Statistics New Zealand, the Treasury

Implications for Nominal GDP

Nominal GDP growth accelerates in the near term, in line with an increase in the terms of trade and inflation. In 2018, nominal GDP growth slows as migration inflows ease and as residential investment temporarily stalls. The resurgence of investment (both residential and business) towards the end of the forecast period and the stimulus from the Family Incomes Package helps support nominal GDP (see the Economic and fiscal impacts of the Family Incomes Package box on page 21 for more detail).

Figure 1.19 - Nominal expenditure GDP

Sources: Statistics New Zealand, the Treasury

The key differences in the nominal GDP outlook from the Half Year Update are chiefly driven by the recent higher-than-anticipated terms of trade, the altered profile of investment (a slight delay before resurgence, rather than growth earlier in the forecast period) and the stimulus from the Family Incomes Package. The forecast level of nominal GDP is higher than anticipated in the Half Year Update throughout the entire forecast period, albeit with a different growth profile. Nominal GDP is forecast to be a cumulative $23.9 billion higher than in the Half Year Update over the five years to June 2021. Some of this increase relates to historical revisions, with a net change owing purely to the different growth forecast of approximately $17.4 billion.

Forecasts of tax revenue are sensitive to changes in both the size and composition of nominal GDP, as well as other macroeconomic factors such as interest rates and judgements around the starting point for the tax forecasts. The Risks and Scenarios chapter discusses risks to the economic and tax outlook further.

Figure 1.20 - Nominal expenditure GDP

Sources: Statistics New Zealand, the Treasury

Fiscal Outlook#

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Overview#

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• The Crown's fiscal position has improved over the past five years with an operating balance before gains and losses (OBEGAL) surplus being recorded in both the previous two fiscal years. The current year's results to 31 March continue to be ahead of previous forecast levels as tax revenue continues to be higher than expected in the Half Year Update.
• These steadily improving fiscal results are expected to continue, reflecting a growing nominal economy which drives growth in tax revenue.
• Budget 2017 sees the introduction of a Family Incomes Package that both reduces tax revenue and increases social assistance expenditure such as Working for Families, with the 2019 June year being the first full year of these changes. Page 21 to 22 provides an overview of the package.
• New operating spending in Budget 2017 has increased since the 2017 Budget Policy Statement (BPS) was released in December 2016. New operating spending averages $1.8 billion per year over the next four years (compared to $1.5 billion previously forecast). Future operating allowances have also been increased with new operating spending set at $1.7 billion for Budget 2018, increasing by 2% each year onwards.
• New capital spending was increased to $4.0 billion (compared to $3.0 billion in the BPS). The capital allowance for Budget 2018 has been set at $2.0 billion and $2.5 billion for Budgets 2019-21.
• Direct costs relating to the Kaikōura earthquake are not expected to be significantly different to the $2 billion - $3 billion range discussed in the Half Year Update with the majority of costs (excluding Earthquake Commission (EQC) claims costs) being funded through budget allowances or from insurance proceeds.
• While the 2016/17 OBEGAL surplus is expected to be similar to the previous year, surpluses are forecast to continue to rise across the forecast period, reaching $7.2 billion by 2020/21 (2.2% of GDP).
• Core Crown expenditure, as a percentage of GDP, is expected to be 28.8% in 2016/17 before falling across the forecast period to be 27.5% in 2020/21.
• Contributions to the New Zealand Superannuation Fund (NZS Fund) are forecast to resume in 2020/21 when net debt is forecast to fall below 20% of GDP, with $2.2 billion expected to be contributed in that year.
• Capital spending (excluding contributions to the NZS Fund) by the core Crown is estimated to be $28.4 billion over the forecast period. This compares to capital spending of $18.4 billion in the previous five years (excluding the proceeds from the partial share sales), largely reflecting the increase in capital allowances and increased capital spending on transport and education assets.
• Net core Crown debt is expected to decline as a percentage of nominal GDP over the forecast period, to stand at 19.3% by 2020/21. Core Crown residual cash is broadly neutral over the forecast period, with cash deficits in the next two years mostly offset by cash surpluses at the end of the forecast period. Net core Crown debt, in nominal terms, increases in the first three years of the forecast before beginning to decline to be $62.8 billion by 2020/21.
• The Crown's net worth is expected to increase over the forecast period, reaching $133.0 billion by 2020/21, surpassing pre-2009 nominal levels. This growth is the result of continued forecast surpluses across the forecast period. While as a percentage of nominal GDP net worth also rises, it is not yet expected to regain its peak of 55.6% in 2007/08 by the end of the forecast period.
• Total assets are forecast to grow by $38.6 billion to stand at $331.3 billion by 2020/21 largely reflecting the increased capital spend. Liabilities fall in nominal terms, with borrowings decreasing in the later part of the forecast period. Total liabilities are expected to stand at $192.6 billion at the end of 2020/21, with borrowings making up $109.9 billion of that balance.
• OBEGAL is expected to be lower in most years than the recent Half Year Update with the cost of the Family Incomes Package and increases in operating expenses being partially offset by tax revenue from continued economic growth. The impact of the Family Incomes Package and increased capital spending means the net debt forecasts have also increased since the last forecast. Page 44 provides more detailed discussion on the comparison to the Half Year Update.
• These forecasts are sensitive to a number of assumptions and should be read in conjunction with the Risks and Scenarios and Specific Fiscal Risks chapters.

Notes:

1. Operating balance before gains and losses.
2. Net core Crown debt excluding the NZS Fund and advances.

Source: The Treasury

Further information on the underlying economic assumptions used in these fiscal forecasts can be found on page 48.

Core Crown Tax Revenue#

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Tax revenue grows over the forecast period...

Core Crown tax revenue (Figure 2.1) is forecast to rise in each year of the forecast period in nominal terms while remaining fairly static as a percentage of nominal GDP. By 2020/21, core Crown tax revenue is expected to reach $89.9 billion, $19.5 billion higher than in 2015/16.

Figure 2.1 - Core Crown tax revenue

Source: The Treasury

…mainly owing to nominal GDP growth...

The increase in core Crown tax revenue across the forecast period can be largely attributed to the growth in nominal GDP (Figure 2.2). The introduction of the Family Incomes Package is partly offset by other factors such as fiscal drag.

Figure 2.2 - Core Crown tax revenue and nominal GDP growth

Source: The Treasury

The tax elements of the Family Incomes Package (ie, personal income tax threshold adjustment and the abolition of the Independent Earner Tax Credit (IETC)), is expected to reduce core Crown tax revenue by $6.3 billion over the forecast period. The package takes effect from 1 April 2018, so the first full-year effect of the package will be seen in the 2019 June financial year.

As noted in the Economic Outlook chapter, in addition to the direct tax impact, the package will have some macroeconomic effects, mainly via domestic consumption as households are expected to spend much of the additional disposable income generated by the package.

This increase to spending will have an immediate effect on goods and services tax (GST) revenue, with subsequent effects on company income tax, through increased business profits, and pay-as-you earn (PAYE) income tax, through increased demand for labour. There is also expected to be some additional resident withholding tax (RWT) on interest, as interest rates are expected to be a little higher than they would have been in the absence of the package.

Altogether, these tax “clawback” effects are expected to total $1.5 billion across the forecast period.

Source: The Treasury

Pages 21 to 22 provide a full explanation of the Family Incomes Package and consequential fiscal impacts.

…as nominal GDP continues to grow strongly

Nominal GDP is forecast to grow at an average rate of 5.1% per year over the forecast period. This is expected to cause tax revenue to grow by $19.8 billion over the same period, as shown in Table 2.4.

Source: The Treasury

Policy initiatives

In addition to the Family Incomes Package discussed above, all other policy initiatives that have a tax effect have been included in these forecasts. Other recenttax policy initiatives included in these forecasts are the Base Erosion/Profit Shifting initiatives and changes around the taxation of Employee Share Plans. A full table of tax policy initiatives since the Half Year Update can be found at http://www.treasury.govt.nz/budget/forecasts/befu2017

Composition of GDP

Although nominal GDP is forecast to grow at more than 5% per year on average, not all components of nominal GDP grow at the same rate. For instance, employees' compensation and domestic consumption respectively are both forecast to grow at a slower rate than nominal GDP. These are the principal economic drivers of two of the largest tax types: PAYE and GST. Collective GDP-compositional effects take $1.8 billion off tax revenue growth over the forecast period.

Fiscal drag

Owing to the progressive nature of the personal tax scale (ie, higher marginal tax rates applying at higher incomes), PAYE tends to grow at a faster rate than the underlying incomes on which PAYE is levied. This effect is colloquially known as fiscal drag and it adds $1.0 billion to tax revenue growth over the forecast period.

Interest-bearing deposit base and interest rates

RWT on interest depends mainly on the stock of interest-bearing deposits and the interest income earned on those deposits. The stock of deposits is expected to grow more or less steadily over the next five years, adding $0.3 billion to RWT over the forecast period. Interest rates are forecast to increase from recent lows, particularly through the latter half of the forecast period, and are forecast to add $0.6 billion to RWT.

Comparison with Inland Revenue forecasts

Inland Revenue has also prepared a set of tax forecasts which, like the Treasury's tax forecasts, were based on the Treasury's macroeconomic forecasts. The two sets of forecasts are relatively close to each other but differ slightly because of the different modelling approaches and assumptions and judgements made by the two agencies. This comparison can be found at http://www.treasury.govt.nz/budget/forecasts/befu2017

Core Crown Expenses#

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Nominal core Crown expenses increase...

Core Crown expenses are expected to grow by $15.3 billion over the forecast period from $73.9 billion in 2015/16 to $89.2 billion in 2020/21, an increase of around $3 billion each year (Figure 2.3).

Figure 2.3 - Core Crown expenses

Source: The Treasury

This nominal growth is largely attributable to budget decisions and new spending set aside for future budgets (Figure 2.4). In addition, social assistance spending is forecast to increase by $5.1 billion across the forecast period (refer to page 31 for further details) and the Care and Support Workers pay equity settlement adds just under $400 million per year to expenses.

Figure 2.4 - Increase in core Crown expenses relative to 2015/16 actuals

Source: The Treasury

...reflecting new budget spending...

Budget decisions made in Budget 2016 add around $1.9 billion of expenditure to 2016/17 while Budget 2017 decisions have added around $1.8 billion to core Crown expenses. In addition, spending set aside in future budgets increases spending by $5.2 billion by 2020/21.

Future operating allowances[4] are currently set at $1.7 billion for Budget 2018, increasing by 2% each subsequent Budget (Figure 2.5).

Figure 2.5 - Budget 2017 and future Budget operating allowances

Source: The Treasury

For forecasting purposes, the allowances are assumed to be all operating expenditure. However, these allowances can be used for a combination of revenue and expense initiatives when allocated, and are net of identified savings (discussed in the Summary of Initiatives).

...and increasing social assistance...

In addition to new budget spending, social assistance spending is expected toincrease by $5.1 billion across the forecast period, a 20.9% increase from the 2016 level. NZS payments account for $3.7 billion of this increase (Figure 2.6). NZS recipient numbers are forecast to increase from 690,600 in 2015/16 to 824,000 by the end of the forecast horizon. This increase in recipient numbers accounts for just under 67% of the increase in NZS costs, with the remaining increase largely owing to indexation of entitlements to wage growth (Figure 2.7). By the end of the forecast period, NZS is around 54% of the total social assistance spending compared to 50% in 2015/16.

Figure 2.6 - Social assistance spending

Source: The Treasury

Figure 2.7 - Growth of NZS expenses

Source: The Treasury

Adding to the forecast growth in NZS payments, the Family Incomes Package is expected to increase social assistance expenditure by just over $0.5 billion per year by 2019/20 primarily through increases in Working for Families and the Accommodation Supplement (Table 2.5). Pages 21 to 22 provides an explanation of the Family Incomes Package and consequential fiscal impacts.

Note:

1. Other social assistance expenses are impacted by the change in tax settings. For example, NZS is set relative to the after-tax average wage.

Source: The Treasury

...while as a percentage of nominal GDP, core Crown expenses reduce

Core Crown expenses are expected to grow more slowly than the nominal economy, which sees core Crown expenses declining from 29.2% in 2015/16 to 27.5% of GDP at the end of the forecast period (Figure 2.3).

Operating Balance#

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The operating performance of the Crown strengthens…

OBEGAL is expected to be relatively unchanged, from 2015/16, in 2016/17 followed by steady growth in the remaining years of the forecasts rising to $7.2 billion by 2020/21.

Figure 2.8 shows the composition of OBEGAL from the different segments of the Government.

Figure 2.8 - Components of OBEGAL by segment

Source: The Treasury

The core Crown segment is forecast to have an OBEGAL surplus that remains constant in the next two years before continuing to rise over the remainder of the forecast period, largely reflecting growth in tax revenue outpacing growth in nominal spending.

Crown entities' (CEs)[7]contribution to OBEGAL is expected to be a deficit of $1.5 billion in 2016/17 largely reflecting increased insurance expenses from the Canterbury earthquakes (by Southern Response) and new costs associated with the Kaikōura earthquakes (by EQC). For the remainder of the forecasts, the Crown entity sector is expected to be largely neutral with small surpluses and deficits.

State-owned Enterprises' (SOEs)[7] contribution to OBEGAL remains fairly stable with operating surpluses forecast averaging $0.7 billion throughout the forecast period.

...while investment returns contribute to the growth in net worth

The total Crown operating balance, inclusive of gains and losses, is forecast to be in surplus across all years of the forecast period with an initial peak in 2016/17 of $9.4 billion.

Gains and losses then return to long-term assumptions and operating balance follows the OBEGAL trend growing to $10.8 billion in 2020/21 (Figure 2.9).

Figure 2.9 - Components of operating balance

Source: The Treasury

The level of operating balance plays a significant part in increasing the Government's financial assets and contributing to growth in the Crown's net worth.

Following investment losses in 2015/16 the NZS Fund is forecasting gains on investments in the current year. Beyond 2016/17, investment gains assume a long-term rate of return.

In addition to investment gains, actuarial gains on the Crown's significant long-term liabilities such as ACC and Government Superannuation Fund (GSF) are forecast to be $2.8 billion in 2016/17. However, as future changes to discount rates and CPI are not forecast, they do not impact the operating balance beyond 2016/17.

While the Crown is forecast to be in surplus across the forecast period, net debt is forecast to continue to increase in the near future. Refer to page 41 for a discussion on the reason for the short-term increase in net debt.

Core Crown Capital Spending#

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The Government is forecast to spend a net total of $23.5 billion on capital items (excluding contributions to the NZS Fund) in the next four years, which includes building and acquiring physical assets (eg, school buildings), advances (eg, student loans), providing capital to CEs (eg, the New Zealand Transport Agency (NZTA)) and future new capital spending. Recommencing contributions to the NZS Fund will add a further $2.2 billion in 2020/21, and including the current year's spending of $4.9 billion raises the total spend on capital items over the forecast period to $30.6 billion (Table 2.9).

In total, Budget 2017 has allocated around $4.0 billion in capital spending over the forecast period. This capital spending has been allocated over a number of spending areas and across a number of years (for a breakdown of the $4.0 billion refer to Figure 2.14). This has increased from the $3.0 billion that was set out in the 2017 BPS.

Source: The Treasury

Net capital spending is expected to increase significantly in 2017/18 and 2018/19, with the largest capital spend in a number of years (Figure 2.11). The size of the forecast spend increases the risk that spending may be pushed into future periods as capacity constraints are tested.

Table 2.9 outlines the capital spending and funding from the core Crown that impacts net core Crown debt. It excludes capital spending undertaken by CEs and SOEs that is funded directly from their own resources. In addition to the capital spending in the table above, the Government has undertaken a number of capital projects through Public Private Partnerships (eg, Transmission Gully). Further detail on total Crown spending on infrastructure can be found in the Capital at a Glance document, which focusses on this broader (and therefore larger) infrastructure investment by the Crown.

Figure 2.11 sets out a history of capital expenditure over the past 10 years and includes the forecast capital activity to 2020/21. The graph excludes contributions to the NZS Fund and proceeds from the Government Share Offer programme in 2012-14 (a total of $4.6 billion) which were used to fund capital expenditure.

Figure 2.11 - Net capital spending history

Source: The Treasury

A net capital allowance of $2.0 billion is forecast for Budget 2018 with $2.5 billion for Budgets 2019-21. The Government's share of the cost of the CRL joint project with Auckland Council is assumed to be met from these allowances. Each capital allowance is assumed to be spread over four fiscal years reflecting the assumed profile of future spending. This profile is illustrated in Figure 2.12.

Figure 2.12 - Future capital allowances

Source: The Treasury

In addition to budget allowances, further capital spending is forecast to occur through the purchase of physical assets, investments in CEs and lending such as student loans.

Forecast net purchases of physical assets of $11.9 billion are forecast across the period and represent spending by core Crown agencies to maintain and expand their existing asset base. Over half of the spending ($6.7 billion) is expected to be on defence and education assets.

Net investments of $11.4 billion are forecast, and largely represent capital injections to CEs to fund their capital programmes. These investments average $2.2 billion a year across the forecast period. The largest capital injections across the forecast period are to NZTA for state highways ($6.3 billion). Net investments also include Crown support for Southern Response, which is expected to call the remaining uncalled capital facility as a result of their updated insurance liability valuation.

Net advances of $0.9 billion include issuance and repayment of student loans as well as the Housing Infrastructure Fund. Student loan repayments have been increasing over time so that, by the end of the forecast period, repayments are expected to match issuances. The forecasts assume that 60% of the Housing Infrastructure Fund will be allocated in the forecast period with the remaining 40% allocated in subsequent years.

Residual Cash and Net Core Crown Debt#

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[9]

Operating cash flows improve over time...

Net operating cash flows are forecast to be in surplus across the forecast period, rising in a similar trend to the OBEGAL forecast. By 2020/21, net operating cash flows are forecast to be $9.1 billion. Over the forecast period the Government is expected to generate cash flows from core Crown operations of $30.5 billion.

The increasing operating cash flows largely represent growth in tax receipts exceeding the growth in operating payments.

...outpacing capital spending near the end of the forecast period…

While operating cash flows are positive across the forecasts, capital expenditure is forecast to exceed operating cash flows until 2019/20, when core Crown residual cash returns to surplus (Figure 2.16).

Figure 2.16 - Core Crown residual cash

Source: The Treasury

Core Crown residual cash is broadly neutral over the forecast period, with cash deficits in the next two years mostly offset by cash surpluses at the end of the forecast period.

… leading to a decline in net core Crown debt...

Net core Crown debt as a share of nominal GDP is forecast to decrease, from 24.4% in 2015/16 (Figure 2.17) to 19.3% by 2020/21.

Figure 2.17 - Net core Crown debt

Source: The Treasury

In dollar terms, net core Crown debt is forecast to increase for the first three years as cash flows from operating activities are not expected to be sufficient to meet capital spending before starting to decline once residual cash returns to surplus. Net debt is forecast to be $62.8 billion in 2020/21.

The Government is aiming to reduce net debt to between 10% and 15% of GDP by 2025, after the current target of 20% of GDP by 2020 has been achieved.

...and gross debt begins to decline after 2016/17

Gross debt is expected to peak at $88.6 billion in 2016/17. Forecast maturities are then expected to exceed new debt being issued. Gross debt is forecast to be $78.9 billion in 2020/21 which is equivalent to 24.3% of nominal GDP (Figure 2.18).

Figure 2.18 - Gross debt

Source: The Treasury

The bond programme[10] is expected to raise funds of $34.0 billion over the forecast period, while $42.4 billion of existing debt will be repaid, providing net repayments of $8.4 billion (Table 2.10).

The issuance profile is relatively flat in order to reduce year-to-year volatility of bond programmes and ensure consistency of supply over this time.

In future the Government intends to maintain the amount of bonds issued at not less than 20% of GDP over time. The Fiscal Strategy Report (FSR) contains further information on the gross debt objective.

Source: The Treasury

Total Crown Balance Sheet#

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Increasing operating balance surpluses result in a stronger balance sheet...

Net worth attributable to the Crown is forecast to grow in nominal terms across the forecast period largely owing to forecast operating balance surpluses to stand at $133.0 billion by 2020/21. As a share of nominal GDP net worth attributable to the Crown is expected to increase across the forecast period as operating balances outpace GDP growth. Net worth attributable to the Crown reaches 40.9% by 2020/21 (Figure 2.19).

Figure 2.19 - Net worth attributable to the Crown

Source: The Treasury

...with assets increasing by $38.6 billion over the forecast period while liabilities reduce

Total assets are forecast to grow by $38.6 billion over the forecast period to $331.3 billion in 2020/21, made up of additional investments in assets, both physical and financial (Figure 2.20). At the same time, the Crown's liabilities decrease $4.6 billion and are estimated to be $192.6 billion in 2020/21.

Figure 2.20 - Total Crown assets

Source: The Treasury

The largest asset growth over the forecast period is in the social assets portfolio (just over 50% of the total Crown balance sheet). Social assets (eg, schools, hospitals and social housing) are expected to increase by $24.7 billion over the forecast period to be $174.1 billion in 2020/21 (Figure 2.21). This increase largely reflects growing capital spending.

Figure 2.21 - Social balance sheet

Source: The Treasury

Liabilities in relation to the social segment (eg, tax refunds, Emissions Trading Scheme (ETS) provision) remain fairly static. As a result, social net worth is expected to increase.

The financial asset portfolio (around 30% of the total Crown balance sheet) is expected to increase by $8.4 billion to be $96.3 billion in 2020/21, primarily reflecting investment growth in the large investment portfolios (NZS Fund and ACC).

On the liability side, borrowings in the financial sector are forecast to decrease by $11.5 billion by 2020/21, mostly as a result of the reduction in gross debt discussed earlier (page 40).

ACC's insurance liability is expected to continue to increase from $39.1 billion at the end of 2015/16 to $45.2 billion in 2020/21. By contrast, the GSF liability is forecast to fall to $8.5 billion by 2020/21, as pensions are paid out.

Overall, net worth in the financial sector increases by $19.9 billion across the forecast period (Figure 2.22).

Figure 2.22 - Financial balance sheet

Source: The Treasury

The commercial asset portfolio (representing nearly 20% of the Crown's balance sheet) is expected to increase by $4.9 billion over the forecast period to be $60.2 billion in 2020/21, mostly as a result of growth in the Kiwibank[11] loan book (with a corresponding increase in liabilities as deposit balances are also forecast to rise). Commercial net worth remains fairly static (Figure 2.23).

Figure 2.23 - Commercial balance sheet

Source: The Treasury

The Crown's balance sheet remains sensitive to market movements...

Many of the assets and liabilities on the Crown's balance sheet are measured at fair value in order to show current estimates of what the Crown owns and owes. While the measurement at fair value is intended to reflect the value of these items, it can be volatile, resulting in fluctuations in the value of the assets and liabilities reflecting changes in the market and underlying assumptions.

The Risks and Scenarios chapter includes a section on balance sheet risks and should be read in conjunction with the fiscal forecasts.

Comparison to the Half Year Update#

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The Half Year Update was published on 8 December 2016. Since then, there have been a number of developments that have significantly impacted the fiscal outlook. Table 2.12 below summarises the changes in the key fiscal indicators since then.

Source: The Treasury

The Family Incomes Package has reduced tax revenue forecasts...

The dominant feature of the change in tax revenue forecasts since the Half Year Update is the Family Incomes Package. The income tax threshold adjustment and IETC abolition components of the package have removed $6.3 billion from the tax revenue forecasts. This is most noticeable in the source deductions and other persons tax lines in Table 2.13.

Figure 2.24 - Movement in core Crown tax revenue since the Half Year Update

Source: The Treasury

…but there is some offset from a stronger economic outlook…

Offsetting the impact of the Family Incomes Package is the more-positive outlook for nominal GDP, which adds $3.2 billion to tax revenue across the forecast period. This $3.2 billion is made up of:

• a $1.7 billion increase to the tax forecasts as a direct result of macroeconomic forecast changes, plus
• $1.5 billion that arises as an indirect result of the tax clawback on the Family Incomes Package discussed on page 27.

The upward influence of the macroeconomic forecast changes is most noticeable in the corporate tax forecasts, which were increased by $2.7 billion in total. Forecasts of operating surplus, which is the component of GDP that most-closely matches taxable corporate profits, are generally higher than in the Half-Year Update throughout the forecast period.

As mentioned in the Economic Outlook chapter, interest rates are now forecast to be higher than in the Half Year Update. This will have an effect on interest income earned on term deposits and other similar investments, which has increased the RWT on interest forecasts by $0.9 billion across the forecast period.

The forecasts of GST are overall mostly similar to the Half Year Update. Although the forecast for domestic consumption has been raised slightly, this is offset by the pause in residential investment growth mentioned in the Economic Outlook chapter. Continued high levels of inbound tourism are having a positive effect on GST revenue.

Source: The Treasury

...while the OBEGAL outlook is lower…

With tax revenue overall lower than forecast in the Half Year Update, increases to the Budget 2017 operating package and future operating budget allowances, OBEGAL is expected to be lower from 2017/18 than what was forecast in the Half Year Update (Table 2.14).

Source: The Treasury

Budget 2017 new operating spending has reduced OBEGAL by $1.1 billion across the forecast when compared to the Half Year Update (for more detail, refer to Tables 2.13 and 2.14). Overall, operating expenditure increased from an average of $1.5 billion to $1.8 billion each year and future budget operating allowances have increased from $1.5 billion signalled in the Half Year Update to $1.7 in Budget 2018 rising by 2% each year thereafter.

Reductions in tax receivable impairment expenses of just over $300 million per year reflect improved tax collection. This reduced expenditure is consistent with the March 2017 actual results.

...while net core Crown debt is higher at the end of the forecast period compared to the Half Year Update

Net core Crown debt is expected to be lower than the Half Year Update in the first two years of the forecast before increasing to be $3.2 billion higher by 2020/21 (Table 2.11).

The Family Incomes Package (as outlined on pages 21 to 22) has had the largest single impact on net core Crown debt since the Half Year Update. However, this has been partially offset by the forecast increase in tax receipts owing to the stronger economic outlook (Table 2.15).

Increases in Budget 2017 new operating spend, along with an increase in the operating allowances for future budgets have increased net core Crown debt.

Overall, changes to the timing and amount of capital spending have reduced net core Crown debt since the Half Year Update, particularly in the current year. While capital spending in Budget 2017 is larger than previously forecast, other factors have resulted in reductions in other capital spending across the forecast period. Some capital spending is now forecast to occur over a longer period of time (eg, some payments in relation to the Housing Infrastructure Fund are now expected to be outside the forecast period), while other spending has reduced (eg, the cost of EQC's Crown guarantee as costs for Canterbury and Kaikōura have been refined).

The NZS Fund contribution is expected to be $0.9 billion less than previously forecast in the Half Year Update (decreasing net debt) reflecting updated underlying assumptions, including the new government policy to lift the age of eligibility for NZS to 67 years by 2040/41.

Source: The Treasury

Key Economic Assumptions Used in the Fiscal Forecasts#

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The fiscal forecasts are prepared on the basis of underlying economic forecasts. Such forecasts are critical for determining revenue and expense estimates. For example:

• A nominal GDP forecast is needed in order to forecast tax revenue.
• A forecast of CPI inflation is needed because social assistance benefits are generally indexed to inflation.
• Forecasts of interest rates are needed to forecast finance costs, interest income and discount rates.

A summary of the key economic forecasts that are particularly relevant to the fiscal forecasts is provided in Table 2.16 below.

Notes:

1. Production measure.
2. Expenditure measure.

Source: The Treasury

Risks and Scenarios#

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Overview#

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• In this chapter we discuss the risks and uncertainties surrounding the economic and fiscal forecasts. Fan charts are presented to help illustrate the range of potential outcomes and two alternative scenarios are presented to show how the economic and fiscal outlook might evolve under different assumptions and judgements. Specific Fiscal Risks are discussed in Chapter 4.
• In a number of countries, political debate around policies to restrict trade has intensified, adding to uncertainty around the economic outlook. High levels of debt remain a threat to the sustainability of growth in China and growth in Japan and the euro area remains dependent on very stimulatory monetary conditions. In Australia, there are risks around the sustainability of growth in segments of the housing market. A significant weakening in the housing market could have broader implications including slower growth in consumption and employment. Ongoing softness in the Australian labour market may help sustain higher net migration inflows to New Zealand than assumed in the main forecasts.
• An important assumption in these forecasts is that net migration inflows have passed their peak and will ease gradually. In Scenario One we consider the possibility that net migration does not decline and that capacity pressures in the construction sector are more intense than in the main forecast. As a consequence, domestic demand growth is stronger and inflation is higher, which leads to faster nominal GDP growth. This flows through to higher tax revenue and a stronger fiscal position.
• In Scenario Two we consider the implications of a desire by households to reduce debt from current high levels. In this scenario, growth in private consumption and residential investment is more moderate, the unemployment rate is higher and inflation is relatively subdued. Nominal GDP and tax revenue are lower, leading to a weaker fiscal position.
• The Crown's balance sheet is exposed to a number of risks beyond those associated with the operating balance. The Crown's financial position is exposed to risk through changes in the value of the Crown's assets or liabilities, and also through the potential impact of the Crown's fiscal obligations that arise from policy choices.

Risks and Uncertainties Affecting the Economic and Fiscal Outlook#

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The main forecasts are based on a range of assumptions about the evolution of some variables, including the exchange rate, the terms of trade and population growth (see Key judgements and assumptions, page 25) and judgements about how developments in one part of the economy will affect others. One way of showing the extent of uncertainty surrounding the main economic forecasts is to present confidence intervals based on historical forecast errors.

In this chapter we also consider the consequences that different judgements and assumptions may have for the forecasts and discuss possible outcomes based on events occurring that are not part of the main forecasts. We consider two alternative paths, or scenarios, for the economic outlook, to illustrate the sensitivity of fiscal outcomes to economic developments.[12]

Economic forecast uncertainty

Figure 3.1 shows a fan chart of nominal expenditure on GDP.[13] The width of the fan increases further into the forecast period, meaning our forecasts are less accurate the longer the forecast horizon. In other words, the further away from the present the more uncertain the future is. The outermost edges of the fan chart show that, 90% of the time, nominal GDP will be within +/-8% of the main forecast at the end of the forecast period (ie, five years). The boundaries of the darker, innermost fan show that, 70% of the time, nominal GDP will be within +/-5% of the main forecast at the end of the forecast period. Over the forecast period, the cumulative impact of nominal GDP outcomes that are persistently on the 70% percentile boundary is to raise/lower the main forecast by $50 billion.

Figure 3.1 - Fan chart of nominal expenditure on GDP

Sources: Statistics New Zealand, the Treasury

The cumulative impact on nominal GDP of the scenarios we consider in this chapter lie well within the 70th percentile of the fan. The box in this chapter reviewing recent scenarios of weaker terms of trade shows that even the most extreme terms of trade scenario produces nominal GDP outcomes that lie close to the 70th percentile. That is, a number of coincident shocks are needed to push economic outcomes significantly beyond the 70th percentile.

Fiscal forecast uncertainty

The amount of tax revenue that the Government receives in a given year is closely linked to the performance of the economy. For example, a fall in dairy export prices reduces farm incomes, which impacts on investment and consumption spending. Government tax revenue is affected through a number of channels including taxes on wages and salaries and corporate profits, and via indirect taxes on sales of goods and services.

Figure 3.2 shows the uncertainty surrounding the main tax revenue forecast based on historical tax forecast variances and the assumption of an even balance of risks around the main forecast.[14] The outermost shaded area captures the range of approximately +/- $7.6 billion in the June 2021 year, within which actual tax outturns are expected to fall 80% of the time.[15]The innermost shaded area captures the range of approximately +/- $4.0 billion in the June 2021 year, within which actual tax outturns are expected to fall 50% of the time.

Figure 3.2 - Fan chart of tax revenue

Source: The Treasury

Government expenses may also be impacted by economic developments. One channel is through changes in labour market conditions that affect the demand for working-age benefits. Another channel is through the indexation of a range of welfare benefits to wage and price movements. Government tax expenditures, including Working for Families, may also be affected by labour market conditions. Changes in net migration flows may also impact on the demand for central government services, particularly health and education. Over the longer-term, current policies imply population growth and population ageing will place increasing pressure on public expenditure, particularly in the areas of health and superannuation.[16]

Changes in the valuation of long-term liabilities, such as the ACC claims liability and the GSF retirement plan, caused by changes in inflation and long-term interest rates, may also affect the Crown operating balance.

One-off and unexpected expenditures can also have a large impact on the Crown's fiscal position. In recent years, earthquakes have demonstrated the inherent exposure of the Crown’s fiscal position to unexpected events. More generally, uncertainty is inherent in forecasting the fiscal impacts of new policy initiatives.

Key Risks to the Economic and Fiscal Outlook#

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There is a range of risks to global economic, financial and political stability that may have material impacts on the New Zealand economy should they materialise. In the US, the extent and timing of fiscal stimulus is unclear while political challenges in progressing policy initiatives more broadly are also contributing to uncertainty. In China, the recent policy-driven pickup in growth is adding to already high levels of debt, which present a risk to growth. In Europe, the ability of many economies to achieve sustainably higher rates of growth remains unclear. The impacts of slower growth in the UK, the potential negative impacts of ongoing political debate about the future of the European Union and rising geopolitical tensions in some regions are further sources of uncertainty. Overall, the balance of international risks is skewed towards weaker outcomes, particularly over the medium term, than are incorporated into the main forecasts.

Disruption to global trade

Recent political developments in the US and parts of Europe highlight a weakening in the base of public support for continued trade liberalisation. Political debate on protectionist policy actions has intensified. A rise in trade protection poses the risk of a significant slowdown in global trade volumes and in global GDP. These effects could be compounded by the negative effects of increased uncertainty on investment and productivity growth.

Fiscal policy in the US

In the US, the economic outlook has been buoyed by the prospect of stimulatory fiscal policy. However, the details remain unclear and the process of reaching political agreement on the policy changes is at an early stage. At the same time, spare capacity in the labour market is limited, raising the risk of higher inflation. Nonetheless, as noted earlier, our forecasts for US growth and inflation incorporate an easing in fiscal policy over the next two years that lifts growth by around 0.5% points. It is possible that fiscal policy stimulus is larger than has been incorporated into forecasts, which could lead to higher US growth that spills over to higher global growth. On the other hand, the size and composition of fiscal policy easing may be more modest and less stimulatory for growth than assumed. There is also uncertainty surrounding US trade and immigration policy and the reaction of authorities in other countries to any policy changes.

Financial stability in China

Growth in China has been supported by significant policy stimulus in recent quarters. The impact of this support is particularly apparent in the housing market, where residential investment has accelerated, supporting demand for steel and other inputs. In the short term, the Government may continue to provide more support than expected in the main forecast. However, the recent stimulus has added to already high levels of debt that, combined with significant excess capacity in some sectors, increases the potential for a sharp slowing. The negative impacts on commodity prices, trade and capital flows would lead to slower growth in China’s main trading partners, including Australia and elsewhere in the Asia-Pacific region.

New Zealand's terms of trade  

New Zealand's terms of trade rose strongly in the final quarter of 2016, underpinned by higher international dairy prices. Some of the recent rise in dairy prices appears to reflect the negative effects of temporary weather-related factors on domestic output and lower prices are anticipated in coming quarters. Nonetheless, in the main forecasts the terms of trade remain at an historically high level. However, the terms of trade would likely weaken if the international outlook deteriorated.

Recent terms of trade scenarios

The terms of trade, which comprises the ratio of export prices to import prices, are one of the major economic channels linking New Zealand to the rest of the world. Typically, trading partner growth and the terms of trade move in the same direction, reflecting the impact of changes in external demand on export prices. Over the past few years, the risks to trading partner growth, and hence the terms of trade, have been skewed to weaker growth. Reflecting this skew, a number of recent scenarios in the Treasury's Economic and Fiscal Updates have incorporated a weaker terms of trade than in the main forecasts.

Figure 3.3 overlays past scenarios of lower terms of trade onto the current terms of trade projection. The fan chart, which is based on past forecast errors, shows the scenarios have encompassed much of the range of terms of trade movements experienced over the past 16 years. The most extreme terms of trade scenario is on the boundary of the 80th and 90th percentile fans, which means we would expect that in only 5 to 10 out of 100 occasions the actual outcomes will be below the scenario. In the most extreme scenario, the reduction in nominal GDP over the  forecast  period is around $40 billion and tax revenue is proportionately lower. Falls in the terms of trade also affect fiscal expenditures, chiefly owing to higher welfare expenses associated with a rise in the unemployment rate as domestic demand growth slows and employment growth weakens. The combined impact of lower revenues and higher expenses weakens the operating balance and increases the net debt-to-GDP ratio. In the most extreme scenario modelled by the Treasury, the ratio of net debt-to-GDP is around 7 percentage points ($23 billion) higher than in the main forecasts.

Figure 3.3 - Recent terms of trade scenarios

Sources: Statistics New Zealand, the Treasury

Although the terms of trade are close to their recent 40-year high, they remain susceptible to unexpected weakness, which has broader implications for the economic outlook. The terms of trade scenarios modelled by the Treasury help to illustrate the important role of building fiscal buffers to help manage such events.

The Australian economy and developments in the labour market

Growth in Australia continues to transition towards non-mining sectors, supported by substantial monetary policy accommodation. Low interest rates have enabled households to borrow more and contributed to increases in house prices. Meanwhile, household income growth has been moderate, reflecting low wage growth and modest increases in employment. Reflecting these developments, household debt-to-income ratios have risen to historically high levels, making households vulnerable to increases in interest rates or to decreases in expectations of future income.

In the housing market, investment in medium-to-high density housing has increased rapidly, raising the risk of a sharper than expected decline in housing market activity. This could prompt a slowdown in consumption and a correction in house prices that generates a period of slower growth and higher unemployment. Conditions in the Australian labour market are a major determinant of the strength and direction of trans-Tasman migration flows. To the extent that the labour market in Australia is weaker than expected in the main forecasts, net trans-Tasman flows are likely to continue to support higher net migration inflows than expected.

Net migration

Net migration cycles are frequent and difficult to predict. Gross inflows and outflows often change at the same time, and may be driven by political and economic developments both domestically and internationally.

The current net migration upswing is significantly larger than usual, which is adding to uncertainty around the economic outlook (Figure 3.4). Migration inflows are supporting consumption and housing demand and adding to the risk of increased non-residential construction activity and public infrastructure investment, including on education and transport networks.

Figure 3.4 - Net migration 1952-2016

Source: Statistics New Zealand

Net migration inflows may prove to be higher than assumed in the main forecast if the relative attractiveness of living and working in other locations, particularly Australia, is weaker than expected. However, stronger growth internationally, or shifts in domestic factors, may lead to sharply lower migration and slower GDP growth than projected in the main forecast.

Household consumption, saving and the housing market

Households' views about the outlook for their own income and wealth are important determinants of the consumption growth forecast, as are households' expectations around future interest payments and the availability of credit. New Zealand house prices have risen strongly in recent years and household balance sheets are characterised by high levels of debt relative to income. An unexpected rise in interest rates may lead some households to conclude that they have borrowed too much. To reduce their debt and their exposure to further interest rate increases, these households may reduce their consumption, perhaps quite sharply. Potential sources of unexpectedly higher interest rates include higher offshore funding costs for banks from a faster pace of monetary policy normalisation in the US, or renewed concerns around financial stability in Europe.

Alternative Scenarios#

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The following scenarios show how the economy might evolve if some of the key judgements in the main forecast are altered. They illustrate two of the many ways that the economy may deviate from the main forecast. Scenario One illustrates the economic impacts of net migration inflows continuing at their present level. In this scenario, faster population growth raises economy-wide demand but capacity constraints, particularly in the construction sector, impede the overall pace of GDP growth and add to inflationary pressures. Faster real GDP growth and higher inflation leads to increases in nominal GDP, tax revenue and the fiscal surplus, which reduces net debt. Scenario Two shows how growth might slow if households choose to reduce the amount of debt they hold. In this scenario, increased household saving leads to weaker domestic demand, a higher unemployment rate and lower inflation. As a consequence, nominal GDP growth is weaker and the fiscal position not as strong.

Scenario One - Net migration inflows remain close to current levels leading to higher GDP and larger budget surpluses

This scenario illustrates the impact of higher migration on the economic and fiscal outlook when capacity constraints arise. In this scenario, net migration is assumed to remain around its current level of 70,000 per annum through to the end of the forecast period. We further suppose that there are limits on the pace at which capacity can continue to expand. This may be the case if it takes time to expand the skilled construction-related workforce and to increase the supply of materials.

The recent strength of net migration inflows reflects the relatively favourable labour market conditions prevailing in New Zealand. Migration may prove to be higher than assumed in the main forecast if the performance of foreign labour markets, and the Australian labour market in particular, are weaker than expected, or if the domestic demand for labour proves to be stronger than anticipated. In this scenario, the working-age population expands over 2.0% per year and is 2.1% higher (94,000) in 2021Q2 (Figure 3.5).

Figure 3.5 - Stronger growth in the working-age population

Sources: Statistics New Zealand, the Treasury

This scenario also incorporates the March 2017 quarter inflation outturn and assumes June quarter 2017 inflation is higher than in the main forecast. This could be owing to the effects of poor weather at the start of the quarter or greater-than-expected capacity pressures in the non-tradables sector, including construction.

Construction activity has increased significantly in recent years and is now at a record high share of total activity. The demand for resources from the construction sector is contributing to capacity pressure. This is reflected in increasing prices for the construction of new dwellings.

In this scenario, stronger population growth drives faster growth in household consumption, residential investment and business investment. Stronger domestic demand is reflected in faster employment growth. However, in the construction sector, it becomes increasingly difficult to access labour and materials. As a consequence, there is additional upward price pressure on construction costs, which leads to higher headline inflation (Figure 3.6). The policy interest rate rises earlier and the exchange rate is higher as monetary policy seeks to stabilise inflation. Reflecting these conditions, growth in labour productivity, real wages and real GDP per capita is more moderate than in the main forecast.

Figure 3.6 - Inflation is higher

Sources: Statistics New Zealand, the Treasury

Overall, both real GDP growth and inflation are stronger over the forecast period. Consequently, nominal GDP growth is also stronger. Nominal GDP is around $21 billion higher over the four fiscal years from June 2017 to June 2021. This additional income generates core Crown tax revenue that is $6.8 billion higher than the main forecast.

In this scenario we assume that the Government's operating and capital allowances are unchanged from those in the main forecast (see Chapter 2 for details). Under these assumptions, OBEGAL surpluses increase in each fiscal year and reach $10.2 billion (3.0% of GDP) in 2021 (Table 3.1).

In practice, a significantly faster pace of population growth will have broad implications for a range of publically provided services including health, education and transport. However, as discussed in the 2016 Half-Year Fiscal and Economic Update, the effects on the Government's spending plans are difficult to isolate and the Government has a range of choices available to meet additional demand pressures.

Scenario Two - Higher household saving lowers domestic demand and weakens the fiscal position 

In this scenario we illustrate the implications for the economic and fiscal outlook from a desire by households to reduce balance sheet risk.

We assume that bank funding costs increase by around 50 basis points by the end of the year and that this leads households to reassess the affordability of their current debt obligations. Higher funding costs might occur if financial markets anticipated a faster pace of monetary policy normalisation in the US or if financial volatility increased due to renewed concerns about global growth.

In this scenario, the rise in bank funding costs, which is reflected in higher mortgage rates, causes households to lower their consumption and increase their saving as they seek to reduce their exposure to further interest rate increases, particularly those households servicing large debt (Figure 3.7). Higher interest rates also dampen household expectations of the outlook for the growth of house prices and their wealth, which lowers residential investment growth. Expectations of lower household demand and higher interest costs also reduce business investment. With weaker domestic demand, imports are also weaker. The policy interest rate is projected to be unchanged until mid-2019. In sum, real GDP growth is around 0.4 percentage points weaker in both the 2018 and 2019 June years than in the main forecast (Table 3.1). 

Figure 3.7 - Household saving is higher

Sources: Statistics New Zealand, the Treasury

In the labour market, this translates into lower employment growth, higher unemployment and slower wage growth (Figure 3.8). CPI inflation is lower by around 0.5 percentage points per year. Overall, nominal GDP is around $23 billion lower over the forecast period. Core Crown tax revenue is $7.5 billion lower. 

Figure 3.8 - The unemployment rate is higher 

Sources: Statistics New Zealand, the Treasury

As in Scenario One, we assume that the Government's operating and capital allowances are unchanged from those in the main forecast (see Chapter 2 for details). Under these assumptions, OBEGAL surpluses are smaller but increase to $4.2 billion (1.3% of GDP) in 2021, and net debt is higher (Table 3.1).

aapc = annual average % change

Source: The Treasury

Fiscal Sensitivities#

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Table 3.2 sets out some rules of thumb on the sensitivities of the fiscal position to small changes in specific variables. For example, if nominal GDP growth is one percentage point higher than forecast in each year up to June 2021, tax revenue would be around $4.6 billion higher than forecast in the June 2021 year as a result. The sensitivities are broadly symmetric and if nominal GDP growth is one percentage point lower than expected each year, tax revenue would be around $4.5 billion lower than forecast in the June 2021 year. The figures are indicative and can be influenced by the composition of growth as different types of activity have different effective tax rates.

A different interest rate path from the forecast would also impact the fiscal position owing to the effect on the portfolios of various government reporting entities, such as the NZS Fund, ACC and the Treasury's Debt Management Office (NZDMO). A one percentage point lower interest rate would result in interest income on funds managed by the NZDMO being $112 million lower in the June 2021 year. This would be more than offset by interest expenses $350 million lower in the June 2021 year. As above, the sensitivities are broadly symmetric.

Note:

1. Funds managed by the Treasury's NZDMO only.

Source: The Treasury

The interest rate impacts in the table above represent the impact of lower interest rates on the financial assets and debt managed by NZDMO. While the majority of the Government's debt is managed by NZDMO, other government reporting entities hold financial assets and liabilities that are also sensitive to changes in interest rates. For example, at 30 June 2016, a 1.0% increase in NZ interest rates would have reduced the total Crown operating balance by $896 million while a 1.0% decrease would have increased the total Crown operating balance by $926 million.

The forecast financial position is based on a number of judgements and assumptions about the future. To inform these judgements and assumptions we rely on market information. Some additional assumptions include those around foreign exchange rates, share prices, the carbon price and property prices. Where the actual outcome differs from our assumptions, the Crown's actual financial position is likely to differ from the forecasts. For example, foreign currency-denominated financial assets and liabilities are converted into New Zealand dollars at the reporting date, the Government's listed share investments are reported on market prices and property owned by the Crown is valued using market information. Changes in these variables can also have flow-on effects on the Crown's operating balance. For example, a strengthening of share prices may result in higher returns from the Government's direct share investments.

Balance Sheet Risks#

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The balance sheet is exposed to a number of risks beyond those associated with the operating balance. The Crown's financial position is exposed to risk through changes in the value of the Crown's assets or liabilities, and also through the potential impact of the Crown's explicit and implicit obligations (including a strong expectation that the Crown would respond to an event) as a result of policy settings.

Main sources of balance sheet risk

A large source of balance sheet risk can be attributed to changes in the value of the Crown's assets and liabilities owing to movements in market variables such as interest rates, exchange rates and equity prices. As noted above, these changes can also have an impact on the Crown's operating balance.

Three areas of the balance sheet are particularly susceptible to market risk:

• Financial assets held by the Crown financial institutions (CFIs) are sensitive to financial market volatility. CFIs tend to diversify their portfolios across a range of financial assets to manage exposures to specific market risks.
• Insurance and retirement liabilities and provisions are prone to market volatility through their actuarial valuations, which are sensitive to assumptions about variables such as interest and inflation rates.
• Physical assets such as land, buildings, state highways and military equipment are susceptible to valuation movements through changes in property market conditions, interest rates and changes in the costs of construction.

Other sources of balance sheet risk

• Business risk: a number of entities owned by the Crown, including commercial and social entities, have their financial performance and valuations impacted by the broader commercial environment.
• Funding risk: the New Zealand Government remains amongst the highest-rated sovereigns globally, with the top Aaa foreign-currency rating from Moody's and AA foreign-currency ratings from Standard & Poor's and Fitch. Ratings outlooks are stable from all three agencies.
• In the case of an increase in global risk aversion and in the absence of a marked improvement in the external position, New Zealand could face increased funding pressure in the future. All else being equal, deterioration in the ratings outlook could raise debt-servicing costs and lessen the funding capability for the Crown.
• Liquidity risk: with respect to its ability to raise cash to meet its obligations. This risk is relatively small and managed by each agency to meet its specific liquidity risk requirements and by the Treasury's NZDMO to manage the Crown's liquidity requirements.
• Contingent liabilities: relating to natural disasters and financial system stress. The Specific Fiscal Risks chapter discusses contingent assets and liabilities in greater detail.

Managing risk 

While the Crown's exposure to risks is sometimes unavoidable, the Crown's general approach is to identify, measure and treat these risks where practicable. However, it may not be possible to reduce all risks. Maintaining debt at prudent levels and sustaining healthy levels of net worth can help to manage residual risks and increase the Crown's resilience to unanticipated events. A prudent and sustainable balance sheet helps to absorb the impact of risk through the balance sheet so that the wider economy need not adjust immediately at a greater economic cost.

In March 2018, the Treasury will publish its four-yearly Investment Statement, which provides information on the shape and health of the Crown's portfolio of assets and liabilities.

Specific Fiscal Risks#

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The Statement of Specific Fiscal Risks is required by the Public Finance Act 1989. It sets out, to the fullest extent possible, all government decisions and other circumstances known to the Government that may have a material effect on the fiscal and economic outlook, but are not certain enough in timing or amount to include in the fiscal forecasts. The risks disclosed in this chapter reflect those that are known at the date of the finalisation of the fiscal forecasts. Although the process for disclosure of specific fiscal risks involves a number of parties, including government departments, the Treasury and the Minister of Finance, there remains a possibility that not every significant risk is identified. Disclosure of known risks is also subject to specific requirements and materiality thresholds.

Overview#

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Specific fiscal risks can be positive or negative and can affect revenue or spending or assets and liabilities. The links between external events and spending are indirect because new policies that change spending and revenue usually require a decision by the Government and approval from Parliament. The approach taken in this chapter is to disclose those potential policy decisions and key areas of uncertainty that may have a material effect on the fiscal outlook.

Established practice is that the Government sets aside operating and capital allowances for future budgets to manage uncertainty and cost pressures. These allowances are included in the fiscal forecasts. Future policy decisions affecting operating expenses or capital expenditure are met either from within these allowances or through reprioritisation.

Future policy decisions are risks to the fiscal forecasts only to the extent that they cannot be managed from within:

• for operating expenditure, existing baselines or the allowance in the fiscal forecasts for forecast new operating expenses, or
• for capital, the existing Crown balance sheet or the allowance in the fiscal forecasts, for forecast new capital expenditure.

Notwithstanding this, known material policy risks are identified as specific fiscal risks, even though the Government has more control in managing such risks through reprioritisation, the existing Crown balance sheet and the budget allowances. This is done to ensure a prudent approach to the disclosure of risks, improve transparency and not pre-judge future decisions by governments.

The Specific Fiscal Risks are categorised by ministerial portfolio. The summary table also classifies each risk into:

• Potential policy decisions affecting revenue: For example, changes to tax policy or ACC levies could reduce or increase government income.
• Potential policy decisions affecting expenses (expected to be funded from reprioritisation or the budget operating allowance): Costs of policy proposals could increase or decrease expenses depending on decisions taken, and they are risks to the fiscal forecasts only to the extent that they cannot be managed within existing baselines or the budget operating allowances.
• Potential capital decisions (expected to be funded from the existing Crown balance sheet or the budget capital allowance): Capital investment decisions are risks to the fiscal forecasts only to the extent that they cannot be managed within the existing Crown balance sheet or the budget capital allowance.

A range of generic risks to the fiscal forecasts exist but are not separately disclosed as specific fiscal risks:

• Risks from changes to economic assumptions; the most significant economic risks have been identified in Chapter 3.
• Business risks and volatility in the returns from and valuation of the Crown's investments relating to the broader economic and commercial environment.
• General cost pressures, such as those associated with demographic changes (eg, an ageing population).
• Potential risks from changes in demand for government services or transfer payments owing to underlying structural factors (such as changes in demand for Jobseeker Support).
• The costs of future individual natural disasters, biosecurity incursions and other major events, as they usually occur infrequently and their occurrence, nature and timing cannot be predicted. Once a disaster does occur, a number of choices arise about how to respond and when potential liabilities are recognised (eg, through setting aside an allocation of funding). Specific risks are disclosed at this point based on the range of possible responses.

The final part of the chapter contains a current list of contingent liabilities and contingent assets. Contingent liabilities are costs that the Crown will have to face if a particular event occurs or are present liabilities that are unable to be measured. Typically, contingent liabilities consist of guarantees and indemnities, legal disputes and claims on uncalled capital. The largest quantified contingent liabilities are to international financial organisations and mostly relate to uncalled capital and promissory notes. Contingent assets are possible assets that have arisen from past events but the value of the asset, or whether it will eventuate, will not be confirmed until a particular event occurs.

Criteria and Rules for Inclusion in the Fiscal Forecasts or Disclosure as Specific Fiscal Risks

The Public Finance Act 1989 requires that the Statement of Specific Fiscal Risks sets out all government decisions, contingent liabilities or contractual obligations known to the Government and subject to specific requirements that may have a material effect on the economic or fiscal outlook.

The criteria and rules set out below are used to determine if government decisions or other circumstances should be incorporated into the fiscal forecasts, disclosed as specific fiscal risks or, in some circumstances, excluded from disclosure.

Criteria for Including Matters in the Fiscal Forecasts

Matters are incorporated into the fiscal forecasts provided they meet the following criteria:

• The matter can be quantified for particular years with reasonable certainty.
• A decision has been taken, or a decision has not yet been taken but it is reasonably probable[17] the matter will be approved, or it is reasonably probable the situation will occur.

Additionally, any other matters may be incorporated into the forecasts if the Secretary to the Treasury considers, using best professional judgement, that the matters may have a material effect on the fiscal and economic outlook and are certain enough to include in the fiscal forecasts.

Rules for the disclosure of specific fiscal risks 

Matters are disclosed as specific fiscal risks if:

• the likely impact is more than $100 million over five years, and either
• a decision has not yet been taken but it is reasonably possible[18] (but not probable) that the matter will be approved or the situation will occur, or
• it is reasonably probable that the matter will be approved or the situation will occur, but the matter cannot be quantified or assigned to particular years with reasonable certainty.

Additionally, any other matters may be disclosed as specific fiscal risks if the Secretary to the Treasury considers, using best professional judgement, that the matters may have a material effect (more than $100 million over five years) on the fiscal and economic outlook but are not certain enough to include in the fiscal forecasts.

Exclusions from Disclosure

Matters are excluded from disclosure as specific fiscal risks if they fail to meet the materiality criterion (ie, are less than $100 million over five years) or if they are unlikely[19] to be approved or occur within the forecasting period.

Additionally, the Minister of Finance may determine, under section 26V of the Public Finance Act 1989, that a matter be included in the fiscal forecasts or a specific fiscal risk not be disclosed, if such disclosure would be likely to:

• prejudice the substantial economic interests of New Zealand
• prejudice the security or defence of New Zealand or international relations of the Government
• compromise the Crown in a material way in negotiation, litigation or commercial activity, or
• result in a material loss of value to the Crown.

If possible, the Minister of Finance should avoid withholding the matter, either by making a decision on it before the forecasts are finalised, or by disclosing it without quantifying the risk.

Statement of Specific Fiscal Risks#

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Summary Table

The matters listed below are disclosed as specific fiscal risks because they meet the rules for disclosure outlined before this Statement. Full descriptions of the risks listed below are set out in the next section. Where quantification is possible, this is included in the description of the risk.

The table below is ordered by portfolio and includes the title of the risk, its status and the type of risk. The status of the risk describes whether the risk is changed or unchanged since the 2016 Half Year Economic and Fiscal Update or reflects a new matter. The type of risk highlights whether the risk impacts on revenue, operating expenses or capital expenditure. Cross-portfolio risks to the fiscal forecasts are outlined in a separate table.

Specific Fiscal Risks by Portfolio#

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ACC

ACC Levies (Unchanged)

Indicative future levy rates for the Work, Earners and Motor Vehicle accounts have been included in the forecasts. However, final levy decisions are made by the Government and may differ from the forecast levy path. In addition, revenue from the levies set for these accounts may be more or less than is required to cover the cost of claims. If factors such as claims experience, ACC performance and economic assumptions (particularly discount rates and unemployment rates) turn out differently from what has been forecast, ACC's levy revenue, claims costs and liability may also differ from forecast. Any variance will have a corresponding impact on the operating balance.

Non-earners Account (Unchanged)

The amount of funding provided by the Crown (and included in the fiscal forecasts) for the Non-earners Account may be more or less than is required to cover the cost of claims. If factors such as claims experience, ACC performance and economic assumptions (particularly discount rates) turn out differently from what has been forecast, any such variance will have a corresponding fiscal impact.

Work-related Gradual Process Disease and Infection (Unchanged)

Under current legislation, the Government incurs an obligation for Work-related Gradual Process Disease and Infection claims when the claim is made, and an expense is recognised at this point. The liability for commercial accident and sickness insurance contracts would usually be recognised when exposure to conditions that will give rise to a claim occurs. An amendment to legislation would be required to recognise claims at the same time as for commercial contracts. An initial adjustment to the liability and an expense of about $1.0 billion to $1.5 billion would need to be reported if such an amendment were to be enacted.

Building and Construction

Housing Infrastructure Fund (Changed)

In June 2016, Cabinet agreed to establish a $1 billion Housing Infrastructure Fund (HIF) to which high-growth, financially constrained councils can apply to help finance roading and water infrastructure needed to unlock residential development. In principle recommendations for Ministers on which projects to fund through the HIF are expected by late June 2017, with final negotiations on amounts and terms of the loans continuing with councils until end-2017 and payments to be disbursed subsequent to that. Uncertainty created by these processes creates additional fiscal risks that need to be managed in relation to:

• the value of the bids that meet the criteria
• the split between capital and operating spending
• whether or not the full amount of the fund will be repaid to the Crown, and
• the timing of repayments of those amounts that are to be repaid.

Children

Investing in Children Transformation (Unchanged)

The new Ministry for Vulnerable Children, Oranga Tamariki, was established on 1 April 2017 with a new operating model to be implemented over the next few years and an expanded focus and target group, and new obligations from associated legislation. To the extent that the costs associated with the new Ministry cannot be funded from an amount the Government has set aside in a tagged contingency or from reprioritisation, additional funding is likely to be required.

Corrections

Additional Capacity to Address Prison Population (Unchanged)

The fiscal forecasts include provision for the Government's agreed investment to create additional prison capacity to accommodate prison population growth over the next 10 years. It is likely that the Department of Corrections will require additional funding relating to the direct costs of accommodating prison population increases, as they arise, which would impact on the operating and capital balance. There is also a risk that growth in the prison population is different from what is included in the forecasts and additional funding is required.

Defence

Operating and Capital Costs (Unchanged)

In 2016, the Government reconsidered New Zealand Defence Force (NZDF) capability and funding requirements through the Defence White Paper 2016. It is expected that changes to NZDF operating and capital funding will be made over the forecast period to achieve the Defence White Paper settings. However, the precise quantum and timing of these changes will be dependent on a range of business cases that will be considered by Cabinet in the future.

Disposal of NZDF Assets (Unchanged)

The Government is considering the potential to dispose of a number of NZDF assets. Depending on market conditions, the timing of disposal and sale price received could have either a positive or negative impact on the Government's overall financial position. NZDF is also completing an analysis of inventory that is surplus to requirements and is over and above the existing provision for obsolescence. The existing provision is also being reviewed to ensure that all items comprising the provision are still relevant.

Earthquake Commission

EQC (Unchanged)

EQC's independent actuary undertakes half-yearly valuations of the total earthquake liability to the Crown. This includes settled and yet-to-settle claims and reinsurance recoveries. Based on these valuations, a profile of the claims yet to settle is included in the fiscal forecasts. There still remains some risk that EQC's remaining settlement expenditure relating to the Canterbury and Kaikōura earthquakes will be different (higher or lower) than forecast.

Economic Development

New Zealand Screen Production Grant (New)

The New Zealand Screen Production Grant is a demand-driven, uncapped programme. New Zealand is attracting a much larger number of international productions. Based on the current rising trend, there is a risk that demand for the Screen Production Grant will exceed what is included in the fiscal forecasts.

Education

School and ECE Funding Review (Unchanged)

The Government is currently engaging the sector on a review of education funding, across schooling and early childhood education (ECE). There is potential for fiscal costs but this depends on policy decisions that are yet to be made. Any funding changes would not be implemented until 2020.

Finance

Crown Overseas Properties (Unchanged)

The Government holds New Zealand House in London on a long-term lease from the Crown Estate (UK). Depending on the outcome of ongoing discussions with the Crown Estate, an upgrade to the building may be required. Should a decision be taken to refurbish the property, a rough-order cost estimate for this upgrade is $100 million over the forecast period.

Goodwill on Acquisition (Unchanged)

As at 30 June 2016, the Government had goodwill on acquisition of a number of sub-entities totalling $602 million. Under New Zealand accounting standards (PBE IPSAS 26), such goodwill items are required to be assessed annually for impairment. If there is any indication that the goodwill may be impaired, the recoverable amount of the cash generating units to which the goodwill is allocated is required to be estimated. If the recoverable amount is less than the carrying amount of those units, the units and the goodwill allocated to them are regarded as impaired and the Government is required to recognise impairment losses in the operating statement. Such assessments will be conducted at the end of the financial year, and the fiscal forecasts currently make no allowance for such impairment losses.

Greater Christchurch Regeneration

Christchurch Central-Recovery Plan - Anchor Projects (Unchanged)

The Crown is partially funding the construction of Anchor Projects as part of the Christchurch Central Recovery Plan. The funding for the construction of Anchor Projects will vary from project to project, dependent on final scope, ownership decisions, implementation and project costs, and will to some extent eventually be recovered. Projects are progressing through the decision-making process and construction costs will become increasingly clear during the procurement phase. The quantum and timing of Crown contribution may differ from that included in the fiscal forecasts.

Residential Red Zone (Unchanged)

Some recoveries from EQC and private insurers remain outstanding and there is a risk that final recoveries may be greater or less than forecast. In addition, potential costs or potential revenues or recoveries associated with the future use of residential red zone are uncertain. The future value may change depending on any future alternate uses of the land. The fiscal impact of this is not yet certain.

Southern Response Earthquake Services Support (Unchanged)

The ultimate cost to the Crown of settling earthquake claims remains subject to significant uncertainty. Forecasts assume that the actual cost to settle claims will align with the actuary's central estimate of the claims provision. There is a risk that the actual cost could vary from this estimate which is sensitive to its underlying assumptions such as damage estimates, legal challenges, reinsurance recoveries and the forecast profile of claims settlement. The Crown's financial position may be adversely impacted as these assumptions are modified over time. Because the net claims liability is large, small percentage changes in the liability can have a material impact on costs and forecasts.

Internal Affairs

Fire Services Levy (Changed)

The Government has announced it will unify the Fire Services into Fire and Emergency New Zealand and signalled that this change will cost approximately $303 million which will be funded through a Crown contribution, a repayable capital loan and levy increases. The increase in levies required to meet the increase expenditure on Fire Services, and to contribute to repaying the repayable capital injection has been approved for the year 2017/18. Any future levy increases beyond 2017/18 will need to be approved by Cabinet and are not yet included in the fiscal forecasts.

Primary Industries

Investment in Water Infrastructure (Unchanged)

To date, a total of $183 million has been appropriated for the Crown-owned company, Crown Irrigation Investments Limited, to manage the Crown's investment in irrigation infrastructure. The Government will consider providing further capital up to $217 million in future budgets as schemes reach the “investment-ready” stage.

Revenue

Cash Held in Tax Pools (Unchanged)

Funds held in tax pools are recognised as a Crown asset. There is a risk that funds held in these pools, over and above a taxpayer's provisional tax liability, may be withdrawn by that taxpayer, resulting in a reduction in the Crown's available cash reserves.

Potential Tax Policy Changes (Unchanged)

Some of the items on the tax policy work programme could each have a significant positive impact on operating revenue: work on Base Erosion and Profit Shifting proposals including interest limitation rules, transfer pricing and permanent establishment avoidance, and the taxation of foreign hybrid instruments and entities. Some of the expected impact has been included in the fiscal forecasts but the impacts of the final policies may differ from the amounts included.

Student Loans (Unchanged)

The value of student loans is sensitive to assumptions such as the borrower's future income and general economic factors such as interest rates, unemployment levels, salary inflation and the CPI. As new lending occurs, an initial write-down to fair value will be made, and an expense will be incurred, reflecting the cost the Crown incurs in making an interest free loan and the risk that borrowers may not repay their loans. However, the assumptions made at the time of lending are volatile and are subject to change.

Transformation and Technology Renewal (Unchanged)

The Business Transformation programme agreed by Cabinet is reflected in forecasts. There are risks that the expected implementation costs, revenue gains and operating cost savings may differ from forecasts. This includes a risk that, during the transition between systems, Inland Revenue discovers historic procedural issues. In addition, the Government is considering possible policy changes affecting the way Inland Revenue manages its processes and data. Any changes to procedures or policy could materially impact the programme's cost, and the additional revenue collected.

Social Housing

Divestment and Development of Housing (Unchanged)

The forecasts include divestments and redevelopments of housing property as part of Housing New Zealand Corporation's (HNZC) asset management strategy. Proceeds from property divestments will be used to help fund investment in redeveloping and growing HNZC's stock. Market conditions impact on the proceeds of sale and the cost of acquisitions and development. Given these uncertainties, there is a risk that there will be variations from the fiscal forecasts.

Social Housing Reform (Unchanged)

The Government is progressing the Social Housing Reform Programme (SHRP). The SHRP aims to improve the housing and associated services provided to those in housing need, to build the social housing market and to fully recognise the costs of social housing. Specific Fiscal Risks associated with the SHRP are as follows:

• Existing and additional social housing places may require funding above the current Income Related Rent Subsidy (IRRS) appropriation cap.
• The development of a more diverse and competitive social housing market may adversely affect HNZC's financial position.
• Proceeds from social housing transfers are likely to differ from book value.

Tamaki Regeneration Project (Unchanged)

Proceeds from housing sales in Tamaki over the next 10 to 15 years may be less than the forecasted loss on houses sold. Over this period 7,500 new houses are planned to be built in Tamaki in place of about 2,500 existing houses.

Transport

Auckland City Rail Link (Unchanged)

The Government has committed to fund 50% of the costs associated with the City Rail Link project, which is estimated to cost $3.4 billion. Based on this estimate, the Government's contribution to this project will be around $1.7 billion, of which the first $436 million has been appropriated. There is a risk that the timing and amount of the government contribution towards the project could be different from what is included in the forecasts.

Auckland Transport Alignment Plan (Unchanged)

The Government and Auckland Council released the final report for the Auckland Transport Alignment Project in August 2016. This report identified a funding gap of $4 billion over the next 30 years. The Government and Auckland Council are considering options to address this funding gap.

Rail Network Valuation Approach (New)

KiwiRail operates both freight and passenger transport services. The valuation approach for the assets used for these different activities is outlined in Budget 2017Additional Information- accounting policies.

The freight business of KiwiRail is predominantly commercially focused and therefore for financial reporting purposes assets relating to the freight business are fair valued on a net realisable value basis.

In order for the freight infrastructure to continue to be valued on this basis, KiwiRail needs to meet certain criteria set out in the Accounting Standards Framework. Consistent with prior years, there is a likelihood of continued Crown support and a risk that KiwiRail no longer meets the criteria for valuing freight infrastructure on a net realisable value basis and may need to change to a depreciated replacement cost basis.

The impact of this change would increase the value of assets by around $4 billion, with an estimated $1 billion to $2 billion impacting OBEGAL reflecting the reversal of previous impairments of freight infrastructure assets recorded through the Statement of Financial Performance.

Southern Transport Corridor Reinstatement (New)

There is risk that the costs of reinstating the South Island Transport Corridor (Picton-Christchurch) will cost more than what is currently included in the fiscal forecasts. In addition, a portion of the costs of the reinstatement currently classified as capital expenditure in the fiscal forecasts may be reclassified as operating expenditure, adversely impacting the operating balance (currently estimated to be up to $700 million, spread across a number of years). The classification between capital and operating expenditure has no impact on net core Crown debt.

Support for KiwiRail (Unchanged)

The Government in Budgets 2010 to 2017 supported KiwiRail Holdings Limited (KiwiRail) with an investment of around $2 billion in the New Zealand freight rail system. Further Crown investment into KiwiRail is likely to be required from 2019/20. A review of KiwiRail's structure and funding arrangements will be undertaken in 2017/18, to inform future funding decisions.

Treaty Negotiations

Government Response to Wai 262 (Unchanged)

The Waitangi Tribunal's report on the Wai 262 claim focuses on the protection of Māori culture and identity, with a particular focus on mātauranga Māori and associated taonga. The Tribunal’s recommendations are directed towards a number of government agencies individually, as groups and across sectors. The Government has yet to respond to the Tribunal’s report and recommendations.

Relativity Clause (Unchanged)

The Deeds of Settlement negotiated with Waikato-Tainui and Ngāi Tahu include a relativity mechanism. Now that the total redress amount for all historical Treaty settlements exceeds $1.0 billion in 1994 present-value terms, the mechanism provides that the Crown is liable to make payments to maintain the real value of Ngāi Tahu's and Waikato-Tainui's settlements as a proportion of all Treaty settlements. The agreed relativity proportions are 17% for Waikato-Tainui and approximately 16% for Ngāi Tahu. There is a risk that the timing and amount of the expense for the relativity payments may differ from that included in the fiscal forecasts. There is also uncertainty on how various disputes concerning the interpretation of the mechanism will be resolved.

Treaty Settlement Forecasts (Unchanged)

The fiscal forecasts include provision for the cost of future Treaty settlements. Given settlements are finalised through negotiations there is a risk that the timing and amount of the settlements could be different from the profile included in the fiscal forecasts.

Cross-portfolio Specific Fiscal Risks

Agency Capital Intentions (Unchanged)

Future budgets may well include new capital investments other than those identified in other specific fiscal risks. Such investments are most likely to be developed by the 25 investment-intensive agencies that are required to identify their capital spending intentions over the next 10 years based on current policy settings and certain demographic and inflation assumptions. The Government expects that these intentions will be managed back through a range of measures such as prioritisation, improvements in asset performance, alternative methods of service delivery and changes to policy settings. New investments are risks to the fiscal forecasts only to the extent they cannot be managed through existing balance sheets, or the provision in the fiscal forecasts for forecast new capital spending.

Budget Operating Initiatives (Unchanged)

Future budgets may well include new operating initiatives for new policies or to address cost pressures other than those identified in other specific fiscal risks. Such new operating initiatives are risks to the fiscal forecasts only to the extent they cannot be managed through reprioritisation or from within the existing provision in the fiscal forecasts for forecast new operating spending. The Government's stated intention is that all new operating initiatives will be managed through these mechanisms.

Pay Equity and Caregiver Employment Conditions (Unchanged)

There are several cases and funding claims mainly from workers in the social sectors (including health, education and welfare) relating to the interpretation, and application, of the Equal Pay Act 1972, the Minimum Wage Act 1983 and the Government's policy of paying certain family members through its Funded Care Policy. Such claims within State-funded sectors may involve significant costs to the Crown.

In relation to pay equity, Ministers have accepted the recommendations of the Joint Working Group on Pay Equity applying to all sectors in the economy. While the forecasts include the cost of the settlement reached in the TerraNova pay equity claim in April 2017, they do not include the cost of other claims; therefore, the bulk of the risk remains. In relation to other claims, and in the lead-up to legislative change, there is an agreement with the Council of Trade Unions to address claims in the State sector by applying new pay equity principles in bargaining.

Services Funded by Third Parties (Unchanged)

A wide range of government services are funded through third party fees and charges. Demand for these services can vary with a direct effect on revenue received. There is a risk the Government may need to provide additional funding if revenue collected is lower than the total costs of providing the service. There is also a risk that changes will be required to the way government services are delivered, which could result in costs to the Crown.

State Sector Employment Agreements (Unchanged)

A number of large collective agreements are due to be renegotiated over the forecast period. As well as direct fiscal implications from any changes to remuneration, the renegotiation of these agreements can have flow-on effects to remuneration in other sectors. The Government has signalled an expectation of restraint given its current fiscal stance and that agreements will be managed within the current fiscal forecasts.

Unexpected Maintenance for Crown-owned buildings (Unchanged)

There is a possibility that the Crown will incur costs when unexpected maintenance is required for the buildings it owns (for example, earthquake strengthening some of the buildings that do not meet modern building standards and maintenance for buildings with weathertight issues). The likelihood, timing and fiscal impact of any repairs are uncertain.

Risks Removed Since the 2016 Half Year Update

The following risks have been removed since the 2016 Half Year Economic and Fiscal Update.

Contingent Liabilities and Contingent Assets#

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Contingent liabilities are possible costs that have arisen from past events, but the amount of the liability, or whether it will eventuate, will not be confirmed until a particular event occurs or present liabilities that are unable to be measured with sufficient reliability to be recorded in the financial statements (unquantifiable liabilities).

Typically, contingent liabilities consist of guarantees and indemnities, uncalled capital and legal disputes and claims. The contingent liabilities facing the Crown are a mixture of operating and balance sheet risks, and they can vary greatly in magnitude and likelihood of realisation.

In general, if a contingent liability were realised, or the amount becomes sufficiently reliable to record as a liability, it would reduce the operating balance and net worth and increase net core Crown debt. In the case of some contingencies (eg, uncalled capital) the negative impact would be restricted to net core Crown debt because the cost would be offset by the acquisition of capital.

Where contingent liabilities have arisen as a consequence of legal action being taken against the Crown, the amount shown is the amount claimed and thus the maximum potential cost. It does not represent either an admission that the claim is valid or an estimation of the amount of any award against the Crown.

Contingent assets are possible assets that have arisen from past events but the amount of the asset, or whether it will eventuate, will not be confirmed until a particular event occurs.

Only contingent liabilities and contingent assets involving amounts of over $100 million are separately disclosed. Quantifiable contingencies less than $100 million are aggregated in the “other quantifiable” total.

Some contingencies of the Crown are not able to be quantified. We have disclosed all unquantifiable contingent liabilities and unquantifiable contingent assets that are not expected to be remote.[21]

The contingencies have been stated as at 31 March 2017, being the latest set of reported contingencies.

Quantifiable Contingent Liabilities and Contingent Assets

Unquantifiable Contingent Liabilities and Contingent Assets

The following unquantifiable contingent liabilities were removed: Kiwibank and Air New Zealand litigation.

Description of Contingent Liabilities

Quantifiable contingent liabilities over $100 million

Uncalled capital

As part of the Crown's commitment to a multilateral approach to ensure global financial and economic stability, New Zealand, as a member country of these organisations, contributes capital by subscribing to shares in certain institutions.

The capital (when called) is typically used to raise additional funding for loans to other member countries or, in the case of the quota contributions, to directly finance lending to members. For New Zealand and other donor countries, capital contributions comprise both “paid in” capital and “callable capital or promissory notes”.

The Crown's uncalled capital subscriptions over $100 million are as follows:

Southern Response Earthquake Services Limited

The Crown Support Deed agreed with Southern Response Earthquake Services Limited includes:

• $500 million of uncalled ordinary shares under an amended Crown Support Deed dated 30 January 2013. This capital facility was extended with an additional $250 million during 2015/16.

As at 31 March 2017, $358 million of the uncalled ordinary shares have been called (with all but $93 million paid at that date). At 31 March 2017, the company forecast that its cash needs will exceed existing Crown support arrangements by $134 million. On 10 April 2017 the Crown provided an additional $250 million of support for Southern Response. Uncalled shares of $250 million will be added to the capital facility and will provide for the forecast shortfall.

The above capital subscriptions have an impact on the core Crown net debt; however, as Southern Response is part of the Crown there would be no impact on the total Crown operating balance.

Guarantees and indemnities

Guarantees are legally binding promises made by the Crown to assume responsibility for a debt, or performance of an obligation of another party, should that party default. Guarantees generally relate to the payment of money but may require the performance of obligations.

Indemnities are legally binding promises where the Crown undertakes to accept the risk of loss or damage that another party may suffer and to hold the other party harmless against loss caused by a specific stated event(s).

New Zealand Export Credit Office guarantees

The New Zealand Export Credit Office provides a range of guarantee products to assist New Zealand exporters manage risk and capitalise on trade opportunities around the globe. The obligations to third parties are guaranteed by the Crown and are intended to extend the capacity of facilities in the private sector.

$145 million at 31 March 2017 ($211 million at 30 June 2016)

The total value of other quantifiable contingencies is $10 million (June 2016: $36 million).

The Body Laid Bare Exhibition indemnity

From March to July 2017, the Auckland Art Gallery Toi o Tāmaki is hosting the exhibition The Body Laid Bare: Masterpieces from the Tate Gallery. The exhibition is indemnified under the Government Indemnity of Touring Exhibition Scheme from 7 February 2017 to 28 July 2017 to cover the period of transit and display of these valuable works of art.

$438 million at 31 March 2017 ($0 at 30 June 2016)

Legal proceedings and disputes

Legal tax proceedings

When a taxpayer disagrees with an assessment issued following the dispute process, the taxpayer may challenge that decision by filing proceedings with the Taxation Review Authority or the High Court. This contingent liability represents the maximum liability Inland Revenue has in respect of these cases.

$150 million at 31 March 2017 ($172 million at 30 June 2016)

Other quantifiable contingent liabilities

Unclaimed monies

Under the Unclaimed Money Act 1971, entities (eg, financial institutions, insurance companies) hand over money not claimed after six years to Inland Revenue. The funds are repaid to the entitled owner on proof of identification.

$149 million at 31 March ($133 million at 30 June 2016)

Christchurch Engine Centre (CEC) Partnership Agreement

The Air New Zealand Group has a partnership agreement with Pratt and Whitney in which it holds a 49% interest in the CEC. By the nature of the agreement, joint and several liability exists between the two parties.

$111 million at 31 March 2017 ($68 million at 30 June 2016)

Unquantifiable contingent liabilities

This part of the Statement provides details of those contingent liabilities of the Crown that are not quantified, excluding those that are considered remote, reported by the following categories:

a) Indemnities

b) Legal claims and proceedings, and

c) Other contingent liabilities.

a) Indemnities

A number of these indemnities are provided to organisations within the Crown's control. If these indemnities were to crystallise, the Crown would compensate the individual entity for the loss and there would likely be an adverse impact on core Crown expenses and net core Crown debt.

b)  Legal claims and proceedings

There are numerous legal actions that have been brought against the Crown. However, in the majority of these actions it is considered a remote possibility that the Crown would lose the case. Based on these factors, not all legal actions are individually disclosed. The claims that are disclosed individually, while they cannot be quantified, have the potential to exceed $20 million in costs and not considered to be remote.

Accident Compensation Corporation (ACC) litigation

Litigation involving ACC arises almost exclusively from challenges to operational decisions made by ACC through the statutory review and appeal process. No accrual has been made for contingent liabilities which could arise, as these disputes are issue-based and ACC's active management of litigation means that it will be either settling or defending, depending on the merits of the issue in dispute. ACC's Board believes the resolution of outstanding appeals will not have any material effect on the financial statements of ACC.

Ministry for Primary Industries - Kiwifruit vine disease

In November 2014, 42 growers filed a claim against the Ministry for Primary Industries (MPI) alleging MPI is legally liable for damages they have suffered from a biosecurity incursion of the kiwifruit vine disease Psa-V in New Zealand. Included in the proceedings are approximately 210 grower claims represented by the first plaintiff, Strathboss Kiwifruit Limited. The total losses have not been quantified, but previous media reports claim they are in the vicinity of $380 million (and cite total industry losses of $885 million). As Strathboss Kiwifruit Limited is required to prove MPI owes a duty of care to the growers before losses will be assessed, MPI is unable to quantify the first plaintiff's claim. The Ministry is defending the claim.

Treaty of Waitangi claims

Under the Treaty of Waitangi Act 1975, any Māori may lodge certain claims relating to land or actions counter to the principles of the Treaty with the Waitangi Tribunal. Where the Tribunal finds a claim is well founded, it may recommend to the Crown that action be taken to compensate those affected. The Tribunal can make recommendations that are binding on the Crown with respect to land which has been transferred by the Crown to an SOE or tertiary institution, or is subject to the Crown Forest Assets Act 1989.

On occasion, Māori claimants pursue the resolution of particular claims against the Crown through higher courts. Failure to successfully defend such actions may result in a liability for historical Treaty grievances in excess of that currently anticipated.

c)  Other unquantifiable contingent liabilities

Criminal Proceeds (Recovery) Act 2009

The Ministry of Justice is responsible for administering the Criminal Proceeds (Recovery) Act 2009. The Act requires the Crown to give an undertaking as to damages or costs in relation to asset restraining orders. In the event that the Crown is found liable, payment may be required.

Environmental liabilities

Under common law and various statutes, the Crown may have responsibility to remedy adverse effects on the environment arising from Crown activities.  Entities managing significant Crown properties have implemented systems to identify, monitor and assess potential contaminated sites.

In accordance with PBE IPSAS 19:  Provisions, Contingent Liabilities and Contingent Assets any contaminated sites for which costs can be reliably measured have been included in the statement of financial position as provisions.

Treaty of Waitangi claims - Settlement Relativity Payments - see page 73

Holidays Act 2003 and other relevant legislation

A number of entities have commenced a review of payroll calculations over the past six years in order to ensure compliance with the Holidays Act 2003 and other relevant legislation. Where possible, provision has been made in these financial statements for obligations arising from that review. To the extent that an obligation cannot reasonably be quantified at 31 March 2017, a contingent liability exists.

Description of Contingent Assets

Quantifiable contingent assets over $100 million

There are no contingent assets over $100 million at 31 March 2017.

Forecast Financial Statements#

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These forecasts have been prepared in accordance with the Public Finance Act 1989.

They are based on the accounting policies and assumptions that follow. As with all such assumptions, there is a degree of uncertainty surrounding them. This uncertainty increases as the forecast horizon extends. The Risks and Scenarios and Specific Fiscal Risks chapters discuss the risks to the fiscal forecast in more detail.

The forecasts have been prepared in accordance with the Statement of Responsibility and reflect the judgements and information known at the time they were prepared. They reflect all government decisions and circumstances communicated to 3 May 2017.

The finalisation dates and key assumptions that underpin the preparation of the Forecast Financial Statements are outlined in the Fiscal Outlook chapter (pages 23 to 48).

Statement of Accounting Policies#

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Significant Accounting Policies

The Forecast Financial Statements have been prepared in accordance with the accounting policies that are expected to be used in the comparable audited actual Financial Statements of the Government. They comply with generally accepted accounting practice (GAAP) as required by the Public Finance Act 1989 and have been prepared in accordance with Public Benefit EntityFinancial Reporting Standard 42: Prospective Financial Statements.

All forecasts use the accrual basis of accounting. Forecasts have been prepared for the consolidated Financial Statements of the Government reporting entity, which includes all entities controlled by the Government (as defined by applicable financial reporting standards).

The specific accounting policies are included within the 2017 Budget Economic and Fiscal Update Additional Information document which can be found on the Treasury's website at www.treasury.govt.nz/budget/forecasts/befu2017

Forecast Policies

The Forecast Financial Statements have been prepared on the basis of the Treasury's best professional judgement. Actual financial results for the periods covered are likely to vary from the information presented in these forecasts. Factors that may lead to a material difference between information in these Forecast Financial Statements and the actual reported results in future years are set out in the Specific Fiscal Riskschapter on pages 61 to 86.

Key forecast assumptions are set out on pages 25 to 26.

Reporting and Forecast Period

The reporting periods for these Forecast Financial Statements are the years ended 30 June 2017 to 30 June 2021. The “2016 Actual” figures reported in the statements are the audited results reported in the Financial Statements of the Government for the year ended 30 June 2016. The “2017 Previous Budget” figures are the original forecasts to 30 June 2017 as presented in the 2016 Budget.

Government Reporting Entity as at 3 May 2017#

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These Forecast Financial Statements are for the government reporting entity as specified in Part 3 of the Public Finance Act 1989. This comprises Ministers of the Crown and the following entities (classified in the three institutional components used for segmental reporting):

Core Crown Segment

Departments

• Crown Law Office
• Department of Conservation
• Department of Corrections
• Department of Internal Affairs
• Department of the Prime Minister and Cabinet
• Education Review Office
• Government Communications Security Bureau
• Inland Revenue Department
• Land Information New Zealand
• Ministry for Culture and Heritage
• Ministry for Pacific Peoples
• Ministry for Primary Industries
• Ministry for the Environment
• Ministry for Vulnerable Children, Oranga Tamariki
• Ministry for Women
• Ministry of Business, Innovation, and Employment
• Ministry of Defence
• Ministry of Education
• Ministry of Foreign Affairs and Trade
• Ministry of Health
• Ministry of Justice
• Ministry of Māori Development
• Ministry of Social Development
• Ministry of Transport
• New Zealand Customs Service
• New Zealand Defence Force
• New Zealand Police
• New Zealand Security Intelligence Service
• Office of the Clerk of the House of Representatives
• Parliamentary Counsel Office
• Parliamentary Service
• Serious Fraud Office
• State Services Commission
• Statistics New Zealand
• The Treasury

Offices of Parliament

• Controller and Auditor-General
• Office of the Ombudsman
• Parliamentary Commissioner for the Environment

Others

• New Zealand Superannuation Fund
• Reserve Bank of New Zealand

State-owned Enterprises Segment

State-owned Enterprises

• Airways Corporation of New Zealand Limited
• Animal Control Products Limited
• AsureQuality Limited
• Electricity Corporation of New Zealand Limited
• KiwiRail Holdings Limited
• Kordia Group Limited
• Landcorp Farming Limited
• Meteorological Service of New Zealand Limited
• New Zealand Post Limited
• New Zealand Railways Corporation
• Quotable Value Limited
• Solid Energy New Zealand Limited
• Transpower New Zealand Limited

Mixed ownership model companies (Public Finance Act Schedule 5) 

• Genesis Energy Limited
• Mercury NZ Limited
• Meridian Energy Limited

Others

• Air New Zealand Limited

Crown entities Segment

Crown entities

• Accident Compensation Corporation
• Accreditation Council
• Arts Council of New Zealand Toi Aotearoa
• Broadcasting Commission
• Broadcasting Standards Authority
• Callaghan Innovation
• Careers New Zealand
• Children's Commissioner
• Civil Aviation Authority of New Zealand
• Commerce Commission
• Crown Irrigation Investments Limited
• Crown Research Institutes (7)
• District Health Boards (20)
• Drug Free Sport New Zealand
• Earthquake Commission
• Education New Zealand
• Electoral Commission
• Electricity Authority
• Energy Efficiency and Conservation Authority
• Environmental Protection Authority
• External Reporting Board
• Families Commission
• Financial Markets Authority
• Government Superannuation Fund Authority
• Guardians of New Zealand Superannuation
• Health and Disability Commissioner
• Health Promotion Agency
• Health Quality and Safety Commission
• Health Research Council of New Zealand
• Heritage New Zealand Pouhere Taonga
• Housing New Zealand Corporation
• Human Rights Commission
• Independent Police Conduct Authority
• Law Commission
• Maritime New Zealand
• Museum of New Zealand Te Papa Tongarewa Board
• New Zealand Antarctic Institute
• New Zealand Artificial Limb Service
• New Zealand Blood Service
• New Zealand Film Commission
• New Zealand Fire Service Commission
• New Zealand Lotteries Commission
• New Zealand Productivity Commission
• New Zealand Qualifications Authority
• New Zealand Symphony Orchestra
• New Zealand Tourism Board
• New Zealand Trade and Enterprise
• New Zealand Transport Agency
• New Zealand Venture Investment Fund Limited
• New Zealand Walking Access Commission
• Office of Film and Literature Classification
• Pharmaceutical Management Agency
• Privacy Commissioner
• Public Trust
• Radio New Zealand Limited
• Real Estate Agents Authority
• Retirement Commissioner
• School Boards of Trustees (2,408)
• Social Workers Registration Board
• Sport and Recreation New Zealand
• Takeovers Panel
• Te Reo Whakapuaki Irirangi (Māori Broadcasting Funding Agency)
• Te Taura Whiri i te Reo Māori (Māori Language Commission)
• Television New Zealand Limited
• Tertiary Education Commission
• Tertiary Education Institutions (28)
• Transport Accident Investigation Commission
• WorkSafe New Zealand

Organisations listed in schedule 4 of the Public Finance Act 1989

• Agricultural and Marketing Research and Development Trust
• Asia New Zealand Foundation
• Fish and Game Councils (12)
• Game Animal Council
• Leadership Development Centre Trust
• Māori Trustee
• National Pacific Radio Trust
• New Zealand Fish and Game Council
• New Zealand Game Bird Habitat Trust Board
• New Zealand Government Property Corporation
• New Zealand Lottery Grants Board
• Ngāi Tahu Ancillary Claims Trust
• Pacific Co-operation Foundation
• Pacific Island Business Development Trust
• Reserves Boards (22)
• Sentencing Council
• Te Ariki Trust

Non-listed companies in which the Crown is majority or sole shareholder (Public Finance Act Schedule 4A)

• Crown Asset Management Limited
• Crown Fibre Holdings Limited
• Education Payroll Limited
• Fairway Resolution Limited
• Health Benefits Limited (ceased operating)
• ōtākaro Limited
• Research and Education Advanced Network New Zealand Limited
• Southern Response Earthquake Services Limited
• Tāmaki Redevelopment Company Limited
• The Network for Learning Limited

Legal entities created by Treaty of Waitangi settlement Acts (Public Finance Act Schedule 6)

• Te Urewera

Others

• Education Council of Aotearoa New Zealand
• Regenerate Christchurch

Subsidiaries of SOEs, Crown entities and other government entities are consolidated by their parents and are not listed separately in this table.

Forecast Statement of Financial Performance for the years ending 30 June

The accompanying notes and accounting policies are an integral part of these Statements.

Forecast Analysis of Expenses by Functional Classification for the years ending 30 June

Below is an analysis of core Crown expenses by functional classification. Core Crown expenses include expenses incurred by Ministers, Departments, Offices of Parliament, the NZS Fund and the Reserve Bank, but not Crown entities and SOEs.

1. The classifications of the functions of the Government reflect current approved baselines. Forecast new operating spending is shown as a separate line item in the above analysis and will be allocated to functions of the Government once decisions are made in future Budgets.

The accompanying notes and accounting policies are an integral part of these Statements.

Forecast Statement of Comprehensive Revenue and Expense for the years ending 30 June

The accompanying notes and accounting policies are an integral part of these Statements.

Forecast Statement of Changes in Net Worth for the years ending 30 June

The accompanying notes and accounting policies are an integral part of these Statements.

Forecast Statement of Cash Flows for the years ending 30 June

1. Excludes transactions with ACC and NZS Fund.
2. Further information on the proceeds and repayments of government bonds is available in note 23.

The accompanying notes and accounting policies are an integral part of these Statements.

The accompanying notes and accounting policies are an integral part of these Statements.

Forecast Statement of Financial Position as at 30 June

1. Tertiary education institutions constitute most of the equity accounted investments.

The accompanying notes and accounting policies are an integral part of these Statements.

Forecast Statement of Borrowings as at 30 June

Notes on borrowings

Total borrowings can be split into sovereign-guaranteed and non-sovereign-guaranteed debt. This split reflects the fact that borrowings by SOEs and Crown entities are not explicitly guaranteed by the Crown. No debt of SOEs and Crown entities is currently guaranteed by the Crown.

1. Core Crown borrowings in this instance include unsettled purchases of securities (classified as accounts payable in the Statement of Financial Position).
2. Gross sovereign-issued debt (GSID) represents debt issued by the sovereign (the core Crown) and includes any government stock held by the other Crown reporting entities.
3. Core Crown financial assets exclude receivables.
4. Net core Crown debt represents GSID less financial assets. This can provide information about the sustainability of the Government's accounts, and is used by some international agencies when determining the creditworthiness of a country.
5. Adding back the NZS Fund assets provides the financial liabilities less financial assets of the core Crown, excluding those assets set aside to meet part of the future cost of New Zealand Superannuation.
6. Net core Crown debt (excluding NZS Fund and advances) excludes financial assets which are held for public policy rather than treasury management purposes.
7. The Reserve Bank has used $1.6 billion of settlement cash to purchase reserves that were to have been funded by the NZDMO borrowing. Therefore, the impact of settlement cash on GSID is adjusted by this amount.

The accompanying notes and accounting policies are an integral part of these Statements.

Statement of Actual Commitments

The accompanying notes and accounting policies are an integral part of these Statements.

Statement of Actual Contingent Liabilities and Assets

More information on contingent liabilities (quantified and unquantified) is outlined in the Specific Fiscal Risks chapter.

The accompanying notes and accounting policies are an integral part of these Statements.

Notes to the Forecast Financial Statements

1. Customs excise-equivalent duty.

NOTE 2: Interest Revenue and Dividends

NOTE 3: Transfer Payments and Subsidies

NOTE 4: Personnel Expenses

NOTE 5: Depreciation and Amortisation

NOTE 6: Other Operating Expenses

NOTE 7: Finance Costs

NOTE 8: Insurance Expenses

NOTE 9: Forecast New Spending and Top-down Expense Adjustment

Unallocated contingencies represent expenses included in Budget 2017 and previous Budgets that have yet to be allocated. Forecast new spending indicates the expected spending increases from future Budgets.

The forecast for new operating spending for Budget 2018 is $1.7 billion. It has been assumed that some of the allowances will be used to fund current commitments. Therefore the spending above represents the remaining allowances as at the forecast finalisation date of 3 May 2017, with only the unallocated portion of the allowance included in this note.

Unallocated contingencies represent capital spending from Budget 2017 and previous Budgets that has yet to be allocated. Forecast new spending indicates the expected capital spending increases from future Budgets.

The forecast for new capital spending for Budget 2018 is $2.0 billion. Budgets 2019 and 2020 are $2.5 billion.It has been assumed that some of these allowances will be used to fund current Government commitments. Therefore the spending above represents the remaining allowances as at the forecast finalisation date of 3 May 2017, with only the unallocated portion of the allowance included in this note.

NOTE 10: Net Gains and Losses on Financial Instruments

NOTE 11: Net Gains and Losses on Non-Financial Instruments

NOTE 12: Operating Balance (excluding Minority Interests)

NOTE 13: Financial Assets (including receivables)

NOTE 14: Student Loans

NOTE 15: Property, Plant and Equipment

1. Using a revaluation methodology unless otherwise stated.

1. Other mainly includes transfers to/from other asset categories.
2. These additions do not include any purchases which may result from the allocation of the forecast for new capital spending (separately disclosed in the Statement of Financial Position).

NOTE 16: Intangible Assets and Goodwill

NOTE 17: NZ Superannuation Fund

NOTE 18: Payables

NOTE 19: Insurance Liabilities

ACC liability

Calculation information

PwC NZ has prepared an independent actuarial estimate of the ACC outstanding claims liability as at 31 December 2016. This estimate includes the expected future payments relating to accidents that occurred prior to balance date (whether or not the associated claims have been reported to, or accepted by, ACC) and also the expected future administrative expenses of managing these claims. The assumptions underpinning this valuation form the basis of the five-year forecast of the outstanding claims liability.

The key economic variables that impact on changes to the valuation are the long-term Labour Cost Index (LCI), average weekly earnings and the discount rate. Discount rates were derived from the yield curve for New Zealand Government bonds. For these forecast statements, the claims liability has been updated for the latest discount rates as at 31 March 2017. The equivalent single effective discount rate, taking into account ACC's projected future cash flow patterns, is 4.03% and allows for a long-term discount rate of 4.75% from 2047.

Other key variables in each valuation are the forecast increases in claim costs over and above the economic variables above, and the assumed rate at which long-term claimants will leave the scheme over the period. This assessment is largely based on scheme history.

Presentation approach

ACC has available to it a portfolio of assets that offset the claims liability. The assets below (less cross-holdings of NZ Government stock) are included as assets in the Statement of Financial Position.

EQC liability

Calculation information

Melville Jessup Weaver prepared an independent actuarial estimate of the EQC outstanding claims liability at 30 June 2016 by estimating the projected ultimate claims costs then deducting the payments made in relation to those claims on or before that date. Each component of the claims liability was split into separate groups depending upon the Canterbury earthquake event grouping or other "business as usual" claims. These event groups were further split into sub-claim valuation groups being land claims, building claims or contents claims. The assumptions underpinning the 30 June 2016 valuation form the basis of the five-year forecast of the outstanding claims liability.

Critical assumptions used in projecting the ultimate costs include apportionment of costs across earthquake events, the profile of claims settlement, claims inflation rate per annum, risk margins and claims handling costs.

There is a high level of uncertainty associated with the valuation of the outstanding claims liability, reinsurance recoveries and unexpired risk liability. Some of the key uncertainties are: a complex land claims environment, complexity of the remaining dwelling claims and the expectation that some claims will need to be reopened to rectify outstanding issues.

Presentation approach

EQC reinsurance recoveries are included in receivables in the Statement of Financial Position.

NOTE 20: Retirement Plan Liabilities

The net liability of the Government Superannuation Fund (GSF) was calculated by GSF's actuary as at 31 January 2017. The liability arises from closed schemes for past and present public sector employees as set out in the Government Superannuation Fund Act 1956. A Projected Unit Credit method was used to calculate the liability as at 31 January 2017, based on membership data as at 30 June 2016 with adjustments for cash flows to 31 January 2017. The funding method requires the benefits payable from GSF in respect of past service to be calculated and then discounted back to the valuation date.

For these Forecast Financial Statements, the net GSF liability was updated for the latest discount rates derived from the market yield curve for New Zealand Government bonds as at 31 January 2017.

Other principal long-term financial assumptions were an inflation rate, as measured by the Consumers Price Index (CPI), of 1.74% for the 21 years to 30 June 2037, then increasing gradually each year to 2.0% in the year ended 30 June 2048 and remaining at 2.0% p.a. for all years after that. In addition an annual salary growth rate, before any promotional effects, of 2.5% (unchanged from 30 September 2016).

The 2016/17 projected decrease in the net GSF liability is $1,977 million, reflecting a decrease in the GSF liability of $1,844 million and an increase in the GSF net assets of $133 million.

The decrease in the GSF liability of $1,844 million includes an actuarial gain between 1 July 2016 and 31 January 2017, of $1,372 million, owing to movements in the discount rates partly offset by the impact of movements in CPI rates. The remaining $472 million reduction is owing to the current service cost and interest unwind (increases the liability) offset by the slightly lower than expected benefits to members (reduced the liability).

The increase in the value of the net assets of GSF of $133 million includes a gain of $113 million reflecting the updated market value of assets at 31 January 2017. The balance of $20 million is the total of the expected investment returns and contributions received, offset by the benefits paid to members.

The changes in the projected net GSF liability from 2016/17 onwards reflect the net of the expected current service cost, interest cost, investment returns and contributions.

NOTE 21: Provisions

Provision for ETS credits

The Emissions Trading Scheme (ETS) was established to assist New Zealand in meeting its international climate change obligations and to reduce New Zealand's net emissions of greenhouse gases to below business-as-usual levels. The ETS creates a limited number of tradable New Zealand Units (NZUs) which the Government can allocate.

The allocation of NZUs creates a provision if allocated for free; the provision is reduced, and revenue recognised, as NZUs are surrendered to the Crown by emitters.

The prices for NZUs used to calculate the ETS provision are assumed to remain constant over the forecast period and are based on market prices during the last week of March 2017.

The ETS impact on the fiscal forecast is as follows:

NOTE 22: Changes in Net Worth

NOTE 23: Core Crown Residual Cash

1. Short-term borrowing consists of Treasury Bills and may include Euro-Commercial Paper.

NOTE 24: Net earthquake expenses (operating and capital)

These net earthquake costs are the latest estimates of the net impact on the Crown of the earthquakes. These estimates reflect the known costs under current policy settings. They do not include future decisions the Government may take regarding the rebuild.

The forecasts assume that any additional costs to the Crown will be met within budget allowances.

Note:

1. Some expenses are non-cash (eg, asset write-offs and impairments) and therefore do not have a cash element to them.

Further information on Canterbury earthquake expenses can be found in the Additional Information published on the Treasury website.

Forecast Statement of Segments

Forecast Statement of Segments (2017)

Forecast Statement of Segments (2018)

Forecast Statement of Segments (2019)

Forecast Statement of Segments (2020)

Forecast Statement of Segments (2021)