Pre-election Economic and Fiscal Update 2023

Executive Summary#

New Zealand’s economic slowdown is unfolding broadly in line with the Budget Economic and Fiscal Update 2023 (Budget Update). High interest rates are driving a sustained period of soft economic growth that is necessary to reduce inflationary pressure.

The Pre-election Economic and Fiscal Update 2023 (Pre-election Update) shows a similar economic outlook to the Budget Update, but with slightly higher activity reflecting stronger migration-led population growth. Persistent domestic inflation suggests that interest rates will remain high for some time yet to contain inflation. The resulting period of soft activity growth then continues to drive further slowing in the labour market, with the unemployment rate forecast to peak at 5.4% in early 2025.

Recent tax outturns have fallen short of expectations, and we expect this will persist. This leads to weaker results for the fiscal position in 2022/23 and across the forecast period. After taking into consideration the Government’s recently announced fiscal sustainability measures, higher expenses, and other developments since the Budget Update, the Pre-election Update shows the operating balance before gains and losses (OBEGAL) returning to surplus in the 2026/27 fiscal year, one year later than previously forecast, and net debt as a share of gross domestic product (GDP) starting to fall from a peak of 22.8% in the 2024/25 fiscal year.

Notes:      

1. The fiscal measures for the 2023 fiscal year represent the unaudited actual results.
2. Consumers Price index.
3. Operating balance before gains and losses.

Sources: Stats NZ, the Treasury

Slow economic growth is forecast to continue over the next eighteen months as high inflation necessitates high interest rates. Domestic inflationary pressure has remained persistent, and with ongoing domestic demand pressure, interest rates are expected to remain at their current level over the next year in order to reduce inflation. High interest rates are expected to constrain economic growth to a quarterly average of 0.4% over the next year, and the unemployment rate is expected to rise to 5.4% while wage growth eases from a relatively high 6.9% in June 2023 to 3.7% in June 2027.

After a period of slow growth, annual inflation is expected to return to within the Reserve Bank of New Zealand’s target by December 2024 and interest rates are expected to gradually ease from late-2024. From then on, economic growth slowly lifts, and the unemployment rate starts to fall from mid-2025.

Households and businesses are expected to remain under pressure. Subdued house price growth and easing labour market conditions will dampen households’ wealth and incomes, constraining growth in household consumption. For businesses, rising costs and subdued domestic demand will weigh on investment, offset partially by the North Island weather event rebuild. Meanwhile, the outlook for real government consumption, a measure of goods and services provided by the government, remains much flatter than has been previously experienced.

The export sector also faces headwinds. The global growth outlook remains subdued as interest rates remain high in many countries to counter inflation. This in turn weighs on export demand and prices, contributing to a slower narrowing of the current account deficit, which returns to 4.3% of GDP in December 2026, close to the historic average.

The Pre-election Update shows a more moderate economic slowdown relative to the Budget Update. The main driver is the recent surge in net migration, which contributed to an earlier stabilisation in house prices and supported stronger employment growth. A larger forecast population than the Budget Update implies a higher level of nominal GDP. However, recent weakness in corporate and other persons tax means revenue has fallen as a proportion of GDP, and this is expected to persist. Consequently, the Pre-election Update revenue forecasts are lower than the Budget Update forecasts.

The unaudited actual OBEGAL deficit was $10.0 billion in the 2022/23 fiscal year, which is $3.0 billion larger than expected at the Budget Update due to weaker than expected tax revenue. Weaker than anticipated taxable profits for corporates and other persons were behind these lower tax results. Meanwhile, net debt was close to forecast at $71.4 billion as the weaker tax results were largely offset by favourable investment market conditions.

Core Crown tax revenue is forecast to continue growing from the 2023/24 fiscal year onwards as economic growth supports all the tax types, particularly source deduction and goods and services tax (GST). However, forecast tax revenue is lower than previously expected by $3.5 billion over the forecast period. This partly reflects the expectation that recent weakness in tax revenue will persist and factors in the implications from the Government’s SmokeFree Aotearoa 2025 Action Plan decision taken in 2022, which have now been quantified.

Core Crown expenses remain elevated in the 2023/24 fiscal year and are $6.9 billion higher across the forecast period than anticipated at the Budget Update. Elevated expenses largely reflect decisions at Budget 2023, the rephasing of unused spending from the 2022/23 fiscal year, the response to the North Island weather events, and the increasing costs of debt servicing. Beyond the 2023/24 fiscal year, core Crown expenses gradually decline to 31.4% of GDP by the end of the forecast period, partly as a result of the Government’s recently announced fiscal sustainability measures.

As a result, the OBEGAL deficits are expected to narrow in the near-term and return to surplus in the 2026/27 fiscal year, one year later than shown in the Budget Update.

Residual cash deficits are forecast in all years, leading to a cash shortfall that will be largely covered by additional borrowings and a reduction in financial assets. Since the Budget Update, the bond programme has been increased by a further $9.0 billion to fund the cash shortfall. Overall net debt is expected to be higher than previously forecast by $13.4 billion, reflecting the weaker residual cash position and an increase in Crown entity borrowings. However, these factors have been partly offset by the stronger starting position from favourable investment market conditions. At the end of the forecast period, net debt stands at $102.6 billion or 21.0% of GDP.

Valuations at 30 June 2023 have resulted in a significant change in the value of assets and liabilities, which has been the main contributor to net worth lifting by $17.1 billion to $191.4 billion (or 48.6% of GDP) in 2022/23. Growth in net worth is more modest over the forecast period, and as a result, net worth as a share of GDP falls to 40.6% by the 2026/27 fiscal year.

Uncertainty associated with the economic outlook, in particular global economic conditions and the response of the domestic economy to monetary tightening, is a key risk to the fiscal outlook, alongside the uncertainties outlined in the risks to the fiscal forecasts chapter. The economic chapter considers the implications of two alternative economic scenarios.