Budget Economic and Fiscal Update 2024

Executive Summary#

Economic conditions are expected to remain subdued in the near term as the economy continues to rebalance from a period of strong demand, tight supply and historically high inflation. Real GDP is forecast to contract 0.2% in the year to June 2024. Coupled with weaker year to date tax outturns, this translates to soft growth in tax revenue in the near term, while growth in core Crown expenses remain high. The combination of these factors sees OBEGAL deficits remain elevated and net core Crown debt continuing to rise in the near term.

Sources: Stats NZ, the Treasury

The economy is expected to gradually strengthen from the second half of 2024, with private sector incomes supported by the Budget 2024 tax package, a continuing recovery in tourism earnings and an easing inflation outlook enabling a gradual reduction in interest rates. This sees real GDP growth increasing to 1.7% in the year to June 2025 and averaging 2.9% per annum over the final three years of the forecast.

Compared to the Half Year Economic and Fiscal Update 2023 (Half Year Update), the fiscal outlook is weaker than previously expected, with operating balance before gains and losses (OBEGAL) returning to surplus in 2027/28, a year later than previously forecast. A softer economic outlook and a lower forecast for business income tax revenue means our forecast for core Crown tax revenue is lower compared to the Half Year Update, across the forecast period. While tax policy changes contribute to the overall reduction in core Crown tax revenue, the Government’s tax package does not change the headline fiscal indicators as it has been offset by other decisions taken through Budget 2024. Outside of tax policy changes, the weaker tax revenue forecasts have been partially offset by a reduction in core Crown expenses, largely reflecting lower future Budget operating allowances and reductions in spending on benefit expenses and finance costs influenced by lower forecasts for inflation and interest rates.  

The decisions taken through Budget 2024 will on balance reduce the contribution fiscal policy is making to inflation pressure. Tax policy changes will boost aggregate demand, but this is more than offset by lower government spending and lower allowances compared to the Half Year Update. On average over the five-year forecast period, the fiscal impulse is contractionary in the Budget Economic and Fiscal Update (Budget Update) forecasts, as it was in the Half Year Update. This means that fiscal policy is tightening (contributing less to inflation pressures) over time as the fiscal deficit narrows. At the same time fiscal deficits are larger than forecast at the Half Year Update, mainly due to unanticipated weakness in revenue and the weaker economic outlook. This implies that while fiscal policy is contractionary, it has been and will continue to make a greater contribution to inflation pressures than previously assessed. Key aspects of Budget 2024 on key fiscal indicators are detailed in the ‘Budget 2024 operating package’ box on page 29 of the Fiscal Outlook chapter.

The key reason for Treasury’s downgraded economic growth forecast is a reassessment of future productivity growth in New Zealand. Recent data outturns and revisions to previously published GDP estimates have seen our estimates of labour productivity and potential output growth revised downwards relative to our Half Year Update forecasts. This results in forecast potential GDP being 2% lower by 2026 while labour productivity levels are around 3% lower than in the Half Year Update. Further details on our revised productivity assumption can be found in the box on page 16.

Weak near-term demand and record high net migration have seen the unemployment rate increase from a record low 3.2% at the start of 2022 to 4.3% in the March 2024 quarter. Unemployment is forecast to peak at 5.3% at the end of 2024. Soft demand will limit firms’ ability to increase prices with annual inflation expected to fall below 3% in the second half of 2024. With inflation pressure abating, interest rates are forecast to begin gradually easing from late 2024 quarter, slightly earlier than forecast at the Half Year Update.

As interest rates ease, domestic activity is forecast to gradually pick up over the second half of 2024 and into 2025 with gradually rising house prices supporting residential investment and household spending. The Budget 2024 tax package also supports private sector incomes and therefore demand over this period while the recovery in tourism is expected to continue. Offsetting this, real government consumption is expected to continue to fall until mid-2025.

Growth in New Zealand’s major trading partners is expected to slow to 2.1% in the year to June 2025, down from the 2.7% growth this year, as growth slows in the United States. Gradual monetary easing is expected to underpin a pickup to 2.3% in the year to June 2026 and beyond, which is well below the pre-pandemic decade average of 3.2%. Drivers of this slowdown include slower population growth, population ageing, declining productivity growth and the reversal of policies that have promoted cross-border integration of supply chains.

Weak real GDP growth over the year to June 2024, together with falling inflation result in forecast nominal GDP growth (a key driver of tax revenues) approximately halving to 4.4% in the year to June 2024. In the following year nominal GDP growth remains close to that at 4.2% as increasing real growth is offset by further falls in inflation. Higher real GDP growth is then expected to be largely mirrored in nominal terms over the final three years of the forecast period as inflation stabilises.

The fiscal outlook is expected to recover from the 2025/26 year, but at a slower pace compared to the Half Year Update. The OBEGAL deficit is expected to grow in the near term, reaching a deficit of $13.4 billion in 2024/25, but then narrows and returns to a surplus of $1.5 billion in 2027/28. The expected improvement in OBEGAL is underpinned by stable growth in tax revenue, while core Crown expenses start to decline as a share of GDP.

Core Crown tax revenue is forecast to increase by $35.8 billion over the forecast period, from $112.4 billion in the year to June 2023 to $148.2 billion in the year to June 2028. Despite changes to personal income tax thresholds, most of this forecast growth in tax revenue comes from source deductions ($15.4 billion), as employment and wage growth lift household incomes.

Recent tax outturns from corporates and small businesses have come in weaker than previously forecast, subduing growth in these tax types in the near term although it is expected business income taxes will begin recovering from the recent weakness as the business cycle picks up and growth in taxable profits improves. Growth in GST revenue contributes around $7.3 billion of the increase in tax revenue over the forecast period. This reflects the timing of personal income tax threshold changes on consumption.

Growth in core Crown expenses is expected to remain elevated in the near-term, reflecting the impact of past and current Budget decisions, spending on the 2023 North Island weather events and economic conditions of high inflation and interest rates leading to growth in benefit expenses and finance costs. Beyond 2025 core Crown expenses start to decline as a share of GDP, as temporary spending on the North Island weather events falls away and smaller levels of funding (compared to recent Budgets) are set aside for future Budget operating allowances. In addition, the expected decline in inflation and interest rates reduce the growth in finance costs and benefit expenses.

The weaker OBEGAL outlook in the near term also results in net core Crown debt as a percentage of GDP rising and is expected to peak in the year to June 2025 at 43.5% before gradually declining to 41.8% by June 2028 as the outlook improves. The accumulated residual cash deficits total $50.6 billion across the forecast period, which is $18.3 billion higher than previously forecast. The cash shortfall is largely funded by the Government’s bond programme, which has increased by $12.0 billion over the forecast period compared to the Half Year Update. 

Figure 1 – OBEGAL and net core Crown debt

Source: The Treasury

In nominal terms, net worth is expected to remain broadly flat over the forecast period, growing by just $1.9 billion to June 2028, reflecting the forecast total Crown operating balance results. As a share of GDP, net worth declines from 48.4% of GDP in the year to June 2023 to 38.5% of GDP by the year to June 2028 as nominal GDP growth is higher than the nominal increases in net worth over the forecast period.

As with any forecast, the forecasts presented in this Budget Update are based on assumptions around how economic conditions will evolve over the forecast horizon. The Economic Outlook chapter presents illustrative “upside” and “downside” scenarios on page 22 where these assumptions are varied and shows the flow-on impacts to core economic aggregates, tax revenues and expenditures. In addition, there are a number of fiscal risks that may eventuate that could impact on the forecasts. The Fiscal Outlook chapter and Specific Fiscal Risks chapter provide further details on these risks.