Treasury forecasts NZ$572 mln OBEGAL deficit for 2014/15; surplus of NZ$575 mln in 2015/16; English says will get to 2014/15 surplus anyway

By Bernard Hickey

Treasury has forecast a NZ$572 million Operating Balance before Exceptional Gains and Losses (OBEGAL) deficit for the current 2014/15 fiscal year, creating the risk the Government will fail to meet its three-year-old political objective of a return to surplus in 2014/15.

Treasury said weaker inflation, lower interest rates and a slump in the dairy payout had reduced forecast tax revenues, despite an increase in the economic growth outlook.

Treasury forecast the nominal size of the economy would be NZ$13.2 billion lower over the next four years because of that lower inflation, which would drag on expected GST, income tax and resident withholding tax revenues from term deposits.

Treasury forecast an OBEGAL surplus of NZ$297 million for 2014/15 as recently as its August Pre Election Fiscal Update (PREFU) so the move to a deficit represents an NZ$869 million worsening of the Government's finances inside four months.

But Finance Minister Bill English said he remained confident the Government could achieve its long targeted return to surplus in 2014/15 by the time the final accounts are published in October 2015.

"Although this latest Treasury forecast predicts a small deficit for the current year, we believe the strong underlying economy and responsible fiscal management can deliver a surplus when the final Government accounts are published next October," English said.

"The Government has a track record of sticking to our spending plans to protect the most vulnerable and to provide certainty for users of public services. We won't be changing that approach," he said.

English said the Government had cut its operating allowance for Budget 2015 and Budget 2016 to NZ$1 billion each from NZ$1.5 billion each, but had 're-phased' the allowance over three years to provide a NZ$2.5 billion allowance for Budget 2017. It will be the last Budget before the 2017 election.

"This will allow us to consider modest tax cuts and/or additional debt repayment in Budget 2017, as economic and fiscal conditions allow," English said.

'No slash and burn'

Later in a news conference, English said the strength of the current economy meant he still expected to deliver a surplus in the current year and he repeated his resolve not to "slash and burn" spending.

"We won't be heading out to slash and burn expenditure on a forecast that shows us falling slightly short of the surplus," English said.

He pointed out the deficit was the "small difference" between two very large numbers, referring to the size of the economy of NZ$220 billion and Government spending of NZ$70 billion.

"This is just one forecast out of eight that shows a negative number," English said.

Elsewhere, English focused on the Treasury's forecast for solid economic growth with low interest rates.

"We're in a transition from the less than helpful label of being a rock star economy' to a rock solid economy," he said.

Political reaction

Labour Finance Spokesman Grant Robertson said Bill English's face was redder than the Government's books.

"This is the political test he set himself, and he has failed," Robertson said.

"John Key promised Kiwis a surplus, asking Kiwi families to knuckle down for years and trust the Government to get it right. New Zealanders have stuck to their side of the bargain," he said.

"Less than three months into its third term National is already back-pedaling on its election tax cut promise. John Key needs to be upfront with Kiwis and make it clear we are certainly not ‘on the cusp of something special’."

Green Co-Leader Russel Norman said the Government's tax cuts in in 2010 had been irresponsible and were costing NZ$1 billion a year, and would likely lead to a seventh successive deficit.

"How can people say Bill English is a good economic manager when his decisions are leading to led to seven consecutive deficits?," Norman said.

“We already know that health and education are facing big cuts in real terms under this Government, so it is concerning that Bill English plans to cover his deficits with more cuts," he said.

Economist reaction

Westpac economists said the risks were for even stronger growth and lower inflation than Treasury was forecasting, which could endanger the surplus in 2015/16.

"Oil prices have fallen much further than the Treasury assumed when it finalised its forecasts last month. A sustained fall would mean lower inflation, lower wage demands and lower interest rates than forecast, which all point to lower Government revenue," they said.

"On the other hand, lower interest rates would boost economic activity and house prices. The net effect would probably be negative for government revenue, and if inflation turns out as low as we’re expecting over the next year, even on the surplus forecast for 2016 could come into question."

They noted the Treasury's stronger growth forecasts would see a rush of revenues from 2016/17 onwards.

"The upshot is less revenue now, more revenue expected later, and the Government has adjusted its spending plans accordingly," Westpac's economists said, pointing to the cumulative NZ$1 billion of cuts from the operating allowances next year and in 2016. This had improved the fiscal profile in terms of giving the Reserve Bank some help from its mates to take pressure off the economy, they said.

"We regard the new proposed timing for fiscal stimulus as more appropriate, even if not by design. Faced with lower revenue projections, the Government chose to take the hit through lower spending and reduced surpluses in the short term, rather than increasing debt," they said.

ANZ Senior Economist Mark Smith said the Government's Budget stance remained contractionary, which would help keep pressure off the OCR and the New Zealand dollar. He said he was not overly concerned by the deficit for this year. "The key thing is that the public finances are moving in the right direction," he said.

"These are all sensible policies and will maintain the balance between being a responsible fiscal manager and improving the supply-side capacity for the economy," Smith said.

(Updated with political reaction, economist reaction)