Treasury officials advised Finance Minister Nicola Willis that fully-funded tax cuts would put some downward pressure on inflation and interest rates, although the impact would be small.
This backs-up the claims she has made since getting into Government, even though the Reserve Bank assessed the impact of income tax cuts as being neutral or uncertain.
Advice released as part of the budget process showed the Treasury told Willis it expected any increase in private spending to be smaller than the decrease in government spending.
This may be because households choose to save some of that extra income, but it was true even if the full amount was spent — as GST would return 15% to the Crown.
Another scenario showed that lower tax rates would encourage more people into the labour force, but that effect would be more than offset by the reduction in demand and employment from government spending cuts.
While Treasury officials didn’t entertain any possibility of the income tax cuts being inflationary, they did warn these estimates were purely “illustrative”.
“None of these assumptions will necessarily be accurate, but serve to approximate the range of results and allow readers to interpolate any intermediate policy responses,” they wrote.
The tax package would reduce interest rates by about four basis points over the next two years if the extra money were fully spent by workers. Or, rates could be 14 basis points lower if they saved 70% of the money.
Interestingly, even if the tax cuts had been entirely debt-funded it wouldn’t have impacted interest rates very much. That scenario showed interest rates lifting just 16 basis points.
On the other hand, cutting spending without also lowering taxes could have lowered interest rates by 20 basis points — a little less than one rate cut.
“While the scenario modelling shows some impact on macroeconomic variables such as nominal interest rates, the absolute magnitude of these impacts is relatively small,” Treasury officials said.
They also warned the policy would result in an increase in unemployment, as net demand would decrease. However, it was not confident enough to give a specific estimate.
“We are confident though in the direction of the impact, which is the flip side of the easing of inflationary pressures due to the reduction in demand,” they said.
Operating allowances
The Treasury also advised the Finance Minister to lower annual operating allowances, but not by as much as she did. It said the annual operating allowances in Budget 2023 would mean being in deficit for nine years and suggested cutting them by up to $300 million.
Willis went further than this and hacked them by $600 million to just $2.4 billion in each of the coming years. Treasury documents did not recommend this and warned it was the smallest possible operating allowance on the table.
“We do not recommend this option at this time as it increases the relative risk that allowances would need to be increased in future,” they said.
Treasury said it would take support from all ministers in Cabinet, ongoing reprioritisation, and minimal out-of-cycle funding, to stay within such small allowances.
It is notable that there are already examples of two of these guidelines being crossed.
Foreign Minister Winston Peters successfully negotiated to be excluded from the public sector spending cuts, and a big out-of-cycle funding package for cancer drugs was announced shortly after the budget.
Officials said there was not a “clear rationale for exempting MFAT” from the savings process and advised using savings from Foreign Affairs to help fund a boost in the defence budget.
Now or later
While Willis cut her future allowances aggressively, she didn’t trim the 2024 allowances as much as recommended by Treasury. Worsening economic forecasts prompted officials to advise Willis to cut the upcoming budget by “as much as possible, ideally by at least $500 million on average per annum”.
This was because the first operating allowance was the largest, originally set at $3.5 billion, and cutting it would have the biggest impact on the deficit and inflation.
However, it would involve decisions at “the upper bounds” of available options and/or scaling back the tax package by about $500 million a year — to help the return to surplus.
“From a macroeconomic perspective, a smaller operating allowance at Budget 2024 would likely help deliver interest rate relief sooner,” Treasury added.
But this was politically unpalatable to Willis, and she ultimately set the allowance at $3.2 billion and kept her tax plan intact. This contributed to the lower allowances in future budgets, which are smaller than Treasury’s estimates of cost pressures.
37 Comments
Treasury seriously still giving advice that small movements in the level of Govt debt will have an impact on interest rates? Have they not read any relevant papers since first year macro (in the 1980s)? There is no empirical evidence that interest rates are influenced by the under or over 'supply' of Govt bonds at Treasury auction. Rates can swing around during major selloffs but we are nowhere near that territory.
The credit rating agencies also look at the Govt books in the round. They know that NZ Govt is one of only a handful of advanced economies with a net positive financial worth. The Govt has more financial assets than it has financial liabilities (by around $70bn last time I looked).
English deficit spent at 4.5% of GDP in 2009 and 2010. Any sensible commentator would say that he undercooked the stimulus - leading to a painfully slow recovery. Robertson deficit spent at around 7.5% in 2020 and 4% in 2021 and we came through that initial phase of Covid in great shape with jobs and businesses broadly protected. I get that people have to be tribal (down the reds, up the blues, whatever), but the initial fiscal response from Robertson was spot on. The problem was RBNZ - they should have spent 2020 and 2021 in hibernation.
By the time we got to 2020, the writing was on the wall with regards to the coalition's ability to actually deliver any of the stuff it promised in 2017. So it had spent three years essentially just growing the State at that point.
I don't disagree that it was wildly subdued compared to what happened post-level four, but I think we can say we weren't getting much real value from whatever we were spending it on.
This comment thread is about the 6th Labour Govts actions, not straw men distractions. However, for a comprehensive debt picture I suggest this link NZ in fiscal perspective: cross-country and across time | croaking cassandra
That’s correct. It is all very well to point at a random number from a different time, but then we would need to do see what we actually got from that extra debt, and from Key and English we probably got a bunch of infrastructure and assets that will provide returns into the future. From Robertson we just got debt, with nothing produced except for potholes, criminals and a crashed health system.
I would of course have to look. It was some time ago….the wasted cash from last year and the one before is very fresh though and plain for all to see. I do remember however a few major earthquakes, which resulted in a city rebuild that is part of the debt taken on by key and English. So I guess you could call your second largest city an asset.
Well Key sold shares in the power companies and Air NZ, plus 2800 state houses at that time also, so that counts as negative 5 billion of infrastructure. (Good thing we the power of the market made it so we don't have expensive power, flights or housing anymore). Another 2 billion paying out finance company investors. We also paid 26 million to not change the flag, and 100 million to pointlessly clean state houses where meth residue was found.
On reflection though, the Key government was a walk in the park compared with the current bunch of corrupt lobbyists wrecking the place while trying to keep people distracted with culture wars.
Arguably Covid was on a whole other level of disruptiveness and cost compared with the CHCH earthquakes.
Agree. I thought oh well, back to National again when they were elected. But holy hell, they have been an absolute disaster for this country beyond anything I could have ever imagined. I never thought I'd say "Bring back comrade Key (by comparison) for the love of god!!!" but here we are.
John Key apologists often claim that extra $50 billion of debt is because of the CHCH earthquake, even though by 2015 65% of the $40b cost was paid out by insurers.
The Reserve Bank currently estimates the total construction cost of the rebuild to be about $40 billion (in 2015 dollars), comprised of slightly more than $16 billion each for residential and commercial construction and around $7 billion for infrastructure.
Five years after the damaging February 2011 earthquake, insurance claims have yet to be fully settled. As at 30 September 2015, insurers had paid out $26 billion, with the median insurer having paid out around 80 percent of estimated final payout (figure 4).
https://www.rbnz.govt.nz/-/media/project/sites/rbnz/files/publications/…
You mean when Cullen spent down surpluses to pay debt and kept personal tax rates at 39 cents in the dollar for $60K+, leading to a huge logjam of investment into residential property because the gains were relatively low-risk in terms of tax and because it let people offset losses against their massively over-taxed personal income, while at the same time the infrastructure deficiet went through the roof because they didn't build anything?
Definitely sustainable. And also, you might have heard of these things called natural disasters. Which Cullen did not have to deal with to the same extent the Nats did, or Robertson did in the form of a global pandemic.
But yea other than that, those figures are totally comparable, no issues there I can think of.
If Govt hadn't deficit spent at an (average) of 6% of GDP per year from 2020 to 2023 we would have experienced an absolutely massive economic crash. The deficit spending was needed in 2020 and 2021 to sustain employment, and then in 2022 - 2024 the Govt deficit had to be big enough to offset a huge and unavoidable current account deficit, which blew out thanks to price spikes in imported oil, food, fertiliser etc (amongst other things).
I agree that Labour wasted their time in power - they should have made structural changes to address inequality and tackle rentierism / corporate power, and they should have pushed harder on infra investment in 2023 and 2024 - using taxation to create the space in the economy.
Labour wasted their moment. Too softly softly. In contrast, look at ACT. David Seymour lobbyist in chief knows exactly why he was elected and who he serves. Wasting no time in advancing the interests of the top 1%. Say what you will about the right in this country, but there's no denying they're effective at advancing a narrow set of interests while purporting to be supporting the 'squeezed middle'. Unfortunately, there isn't a lot of critical thinking in this country so people latch on to any jingoistic truism that plays to their fears about people taking advantage (albeit usually misdirected to great effectiveness by those with the most to gain).
If they had of at least tried to stop all that cheap stimulus pouring into housing, that would have been one small win. But, alas. RBNZ taking off the LVRs because "oh they're probably not needed now because who would want to buy a house during a pandemic?" That will stand as one of the many failures of regulation that characterise the market failure that defines the NZ economy.
So many comments and only kiwikidsnz mentions the RBNZ after you made it clear where the problem lay?
Quite clearly, Jfoe, people simply don't understand what the RBNZ did and the massive damage it caused. Quite saddening. We really need to get this stuff taught at schools.
The tax cuts were such a joke. A few measly dollars in exchange for even worse public services and an increase in levies/co-payments right across the board for everyone that more than eats it up. Not to mention interest, which absolutely swamps what little crumbs the taxpayer got back. Do people really think they're better off after the 'tax cut' we were so generously given? Only people I know who were materially better off because of it are our friends who are landlords, who awkwardly tried to avoid the topic knowing I'd ask how much it saved them.... $10k a year in tax on each rental apparently. No wonder national didn't have a tax calculator for landlords to figure out how much they'd get because it would be so disproportionately huge in comparison to everyone else. Meanwhile these same people have shifted all of their personal mortgage debt on to their rental properties to take advantage of the ability to write off the expense costs and carry it forward. I wonder how many other landlords are doing this at the moment. I didn't even know you could take out equity from other properties and use it to reduce your personal mortgage. This seems unfair when what should be private debt is then written off an expense, and funded by taxpayers.
I guess that's how the decay we had in the quality of public services despite huge spending and increasing head-counts yielding little tangible results gets missed by some as well. It doesn't affect them until they're the one trying to get their kid seen at an ED waiting room, and until then it's out of sight, out of mind and recognising it might cause them to question their own political beliefs.
That's rich. So one's political view mean they cannot complain about the public services becoming worse than they already were because they allegedly weren't previously worried about that? That's flawed logic.
National's rethoric was pretty much "you're spending too much money and delivering crappy services" and their genius solution was "let's cut all we can, benefit folk who don't need it and deliver even crappier services". The facts are true regardless of one thinking that Labour can or will fix that if elected.
I don't actually disagree. I just find the sudden insistence on the quality of public services to be extremely convenient. I wish it had mattered as much to some people six years ago as it suddenly does now.
As an aside, I strongly suspect GR would have needed to make the same if not more extensive levels of cuts had Labour been returned; given they were still promising unicorns and fairy dust and already having to trim budgets to do it. Highly likely we would have seen more of the same.
How do you know it didn't matter 6 years ago? Also, why would someone who votes National hold Labour to such high expectations during their term? Wouldn't you hold the party you vote for to a higher standard?
Oh, no wait that's right this is New Zealand and politics is like sport. You cheer on your own team and boo/hiss/scowl the opposing team.
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