By Brian Fallow*
Next month’s budget will foreshadow very large increases in Government spending over the forecast period, which raises the obvious question: where will the money come from?
The three options are (a) tax, (b) borrow and (c) just print it.
It is inevitable that a legacy of this time of peril and pestilence will be an increase in the future tax burden. An important debate needs to be held about how best to expand the tax base, render it more progressive and, hopefully, eliminate current distortions.
But a severe recession is not the right time to be raising taxes.
At the moment the difference between options (b) and (c) is somewhat fuzzy, because the Reserve Bank has embarked on large scale asset purchases (quantitative easing) for monetary policy purposes at the same time that the Treasury is undertaking large scale debt issuance for fiscal policy purposes.
It is a convenient overlap.
To the extent that the Reserve Bank’s buying of government bonds matches the scale and pace that New Zealand Debt Management (the Treasury) is issuing them, the net effect is that money newly created by the central bank flows, via a swift detour through the secondary bond market, into the Government’s bank account.
It gets the money it needs to disburse on useful things like nurses’ salaries, jobseekers’ support and infrastructure, while the central bank gets a pile of government IOUs, longer-dated than its normal stock in trade.
From the taxpayer’s point of view it is important that the bonds are held by an entity which is part of the core Crown rather than the normal holders, private sector institutional custodians of people’s savings.
It means coupon interest payments which flow across the Terrace from the Treasury to the Reserve Bank can be spun around and sent back as a larger dividend to its owner.
Likewise if the bank is sitting on a capital loss if it holds a newly issued bond to maturity which it has bought at a premium to its face value, the corresponding profit has accrued to its owner, the Crown.
These are transactions between two pockets in the same pair of trousers and should not bother anybody.
To the extent the bank’s bond buying matches the Treasury’s bond issuance, it is a means of monetising the deficit.
It is not how adherents of Modern Monetary Theory would like to see it done. The central bank should bypass the market, they argue, just create the money and give it to the Government with no obligation to repay or any other strings attached.
But in practical terms it is not all that different. In theory QE allows the Reserve Bank to later sell down its bond holdings into the market, withdrawing money from the system in the process -- running the shredder, one might say, instead of the printer.
And if the economy were running hot and inflation threatened, that would be useful thing to do.
In practice, however, where other central banks have undertaken quantitative easing there has tended to be a pretty sturdy ratchet under their bond holdings.
The experience of the US Federal Reserve is telling in this respect. When it started doing QE in September 2008 it had a balance sheet of around US$900 billion. Six years later it had increased to US$4.4 trillion.
It stayed at that level for three years and then over the two years to September last year, while the US economy was going strong, it reduced by just US$600 billion or 14% before climbing again – almost vertically lately – to US$6.4 trillion a week ago.
So pretty much one-way traffic.
As the BNZ’s interest rate strategist Nick Smyth puts it “If the central bank rolled over its QE bond holdings continuously (reinvesting the proceeds of maturing bonds), which is the default position we seem to be in at present, there’s little distinction with direct monetary financing.”
There was an instructive exchange between David Seymour and governor Adrian Orr when the latter appeared (virtually) before Parliament’s epidemic response select committee last Thursday.
Seymour raised the question of what would happen when the time came for bonds to be redeemed. “I suspect politicians here as elsewhere will find it more attractive to tax less and spend more and roll over the bonds ad infinitum,” he said.
“In that case is it a tax on people who have New Zealand dollar savings, who find that their share of the New Zealand dollars in the world is less, and the goods and services they wish to buy cost more because you have inflated the currency?”
Orr replied: “Yes over time Government debt will either be paid back or rolled over. Since the days of Julius Vogel we have owed somebody something. Fortunately this time we start from a very low debt to GDP position and, judging from what we are seeing, we are going to get back to an average historical position.
“What we [the Reserve Bank] are doing is transferring those long-term IOUs into short-term cash. We are doing it through the secondary market, not buying it directly off the Government…It is a way of effectively monetising, or creating the cash for people to spend.”
The bank could do that without fear of inflation if it was during times, like now, when there was a significant negative output gap when demand was way below sustainable potential growth, Orr said.
His point is that what would be inflationary if the economy’s resources were fully employed, is necessary when instead it is caught in a deflationary rip. Falling inflation expectations push real interest rates upwards, the opposite of what is required right now.
The large scale asset purchases are being done purely for monetary policy purposes, Orr said. “With low nominal interest rates if we weren’t doing it we would have significant deflation, which brings a whole new set of challenges.”
It should not, in short, be seen as compromising the bank’s autonomy or price stability mandate.
That leaves the empirical question of to what extent its bond buying will match the scale and pace of the Treasury’s debt issuance.
Since mid-March when the Government announced its initial fiscal support package the bond programme for the 2019/20 year has been increased by $15 billion to $25 billion and the expected increase in Treasury bills by $4 billion.
With droll understatement the Treasury adds that “It is anticipated that increases to programmes for future years will be necessary relative to those published at the Half Year Economic and Fiscal Update 2019.”
The Reserve Bank for its part announced on March 23 it would be undertaking $30 billion worth of QE over the next 12 months, to which it has subsequently added $3 billion of purchases of local government debt.
No-one expects it to end there. “On the monetary stimulus side all I can say is at most we are at the end of the beginning around what may need to be done and what we can do,” Orr told the select committee.
“We did the $30 billion QE because that was about 30, 40% of the Crown debt on issue. ” It equated to 35% of central government debt securities on issue at the start of March.
“And we don’t want to crowd out the rest of the market by being the only participant. But as that opportunity grows so does our ability to continue the quantitative easing.”
Both the Government and the central bank have emphasised the importance of maintaining the efficient functioning of the secondary bond market in all this.
That is an important consideration. When a lot of New Zealand government bonds are owned offshore and there is a non-trivial risk that a gruesome global slump will trigger Global Financial Crisis II, the sequel, there is a clear financial stability case for the bank to support the market, on top of the objective of trying to keep long-term benchmark interest rates low.
If the bank sees 40% of the stock of bonds on issue as some kind of upper limit before crowding out becomes an issue, then as a matter of simple arithmetic if the stock of bonds on issue were, say, to roughly double from 25 to 50% of GDP, it could buy up 80% of the increase before reaching that level. That would require roughly doubling its QE “budget”.
Beyond that point direct monetary financing -- currently a barely discernible dot on the horizon of possibility -- might well loom larger as a prospect.
In an interview with interest.co.nz Finance Minister Grant Robertson, when asked about the option of a more direct bilateral financing arrangement with the Reserve Bank, opened the door a crack towards that possibility.
The current system was providing the amount of financing the Government needed. “I’m comfortable for it to continue to be the way that we work,’’ he said.
“Obviously we keep it under review. If we don’t believe it’s working or if the amounts of money that are required turn out to be such that they can’t be sustained through the secondary market…then of course we would look at that.”
*Brian Fallow is a former long serving economics editor at The NZ Herald.
*This article was first published in our email for paying subscribers. See here for more details and how to subscribe.
71 Comments
Using the secondary market only allows the banksters to clip the ticket on the way through.
If all banks that take up those bonds were local, it wouldnt be a problem. Profit would be banked locally, but its not and currently replaced by more overseas borrowings. Dont know about you, but I'm tired on banksters lies.
As far as I can see there are two alternative solutions to the current path:
1. We nationalise all banks (remember NZ owned most of the banking some 30 years ago - and did better then), or
2. We print money for ourselves, without a parasite middleman being involved.
Inflation is the last of our worries at the moment, and the $185 trillion the Federal Reserve has printed in the US over the last 30 years has hardly created inflation for them.
How to expand the tax base...
How about CGT to starf with which is also just and must but JA ego will prevent it as she promised that not as long as she is PM (vote bank politics) but she should also remember that the reason she was able to promise as PM was that she promised before the election that will introduce CGT if she becomes PM si vite for her.
Politicans........
Capital Gain is fair tax in almost all countries except NZ and should be in the system - may be not for now but in years to come.
Question is, we are asking the people benefitting by not having CGT to frame it, so unlikely by current lot of politicans.
One family home to be exempted and rest to pay tax. Full stop,
Utterly disagree. Capital Gain is a theoretical gain only, until it is realised by either a sale or borrowing against. This is basics. Unless either of those two instances occur, the material wealth, actual money, of the owner does not change. If however an asset is sold recording a capital gain then in that instance i suggest our laws already specify that it be taxed. So what about enforcement?
If we already have provusion of CGT in another form like BLT but if not implimented so why hesitation to have CGT.
Agree that gain is only when buy and sell take place and make profit just like in business pay tax when buy and sell take place - this is utter rubbish reason for not to have it. Any tax is when profit is created.
If make money - world over people pay tax and if no buy/ sell and no profit than no tax.
Why than tax on fixed deposit - can argue anyway but fact of the matter is CGT is must as in other part of the world.
Vested / biased people exploiting and making money have to fear like politcans or not in favour.
No CGT us a blot on NZ Tax system.
So the question that most people are not asking is "When is Capital Gain to be measured?" Current discussion does not in any form address this, and it is dangerous to make an assumption. We should all be afraid of any move to tax a perceived gain that is theoretical only.
I was going to give your comment a thumbs up until the last sentence.
I am on board with having a CGT that has no exceptions, and applies when the gains are realized. Okay, maybe a single exception for the family home, if one has gains on the sale of a family home, one can defer those gains if one buys another home for use as a primary residence within six months. Then again, maybe no exceptions is best as there are ways to game exceptions.
I’m not against cgt, but really, it’s just an envy tax with little real world value and full of potential loopholes. And to be fair, it would need to work both ways. The FDR/FIF is a bit of a rort at the moment, with an implied taxable dividend rate of 5%. Where do you get that? Income tax, consumption tax, property rates. You might hate em, but you can’t avoid them and they will remain the backbone of our tax system. Wealth/asset taxes would be electoral suicide in this country.
"but she should also remember that the reason she was able to promise as PM was that she promised before the election that will introduce CGT if she becomes PM si vite for her."
Actually the last promise she made before the election was not this at all.
The last promise is that there would be a tax working group who would consider the idea and present a report to government - this promise was kept.
Based on the report, the government would come up with a policy proposal which Labour would then campaign on at the 2020 election and the 2020 election would occur before any CGT policy went live.
This promise has also been kept. It just so happens that their policy proposal for the 2020 election is "there is no capital gains tax and will not be so long as JA is prime minister".
At earlier points in the election campaign the promise is that CGT would be enacted before the 2020 election. But that is not the final promise they made on this subject ahead of the election.
Still better than National's promises around tax ahead of the 2008 election, that they would not increase GST. nek minnit.
Michael Cullen told Jacinda that a CGT was political and electoral suicide for whoever introduced it, so the Working Group recommended not to do it. Kiwibuild was different, apparently. Also, we are not taxed because we earn money, we are taxed to pay the government's expenses. If some forms of moneymaking are not taxed and the government can still get enough money, then what is the problem?
To the extent that the Reserve Bank’s buying of government bonds matches the scale and pace that New Zealand Debt Management (the Treasury) is issuing them, the net effect is that money newly created by the central bank flows, via a swift detour through the secondary bond market, into the Government’s bank account..
Is that so? Explain away this interpretation, which seems more likely:
A recent Bloomberg article described central bank easing with the phrase “pumping money into the economy.” That’s a misconception. Monetary easing is actually an asset swap. The public was holding savings in one form, and now it holds it in another. The Fed buys Treasury securities from the public, and replaces them with currency and bank reserves (base money) that someone has to hold, at every point in time, until the Fed sells its bonds and retires the cash. All monetary policy does is to change the mix of government obligations held by the public. Only fiscal policy – specifically deficit spending – changes the total amount of those obligations. Link
Furthermore, the out of thin air proceeds the US Federal Reserve issues to primary dealers in exchange for QE securities purchased are called reserves and are lodged and recorded here as liabilities offsetting the asset ledger of the newly purchased notes and bonds. The US Treasury has no claim to them.
It is wrong to assume that government deficits create money, when actually they create national debt & growing regressive interest transfers from the many poor to the few rentiers who they seem to be serving.
So, would you be more in favour of TSY - GOVT direct - and could that be simplified and called deficit spending with no intermediary?
I do wonder whether it might make more sense for operational expenditure of governments being TSY - GOVT direct, with capital expenditure of governments being TSY - RB - GOVT.
You can not fix a debt problem with more debt.
So an additional question is do we have direct GOVT spending that supports interest payments on past debts, or do we let those debts default?
Three parts to the equation. 1. where is the money coming from? 2. Does it have interest attached? 3. Does it result on consumption?
The ideal situation is that doesn't have interest and results in consumption. Wouldn't matter where it came from in that instance. But that isn't what they are thinking.
Typed that up in a rush, had some R&D I was working on. I should have said consumption of resources to capture the production part of that equation. It is going to be interesting to see which way this goes. I see the underlying issues causing a compression of events and I doubt there will be consistency in responses.
The government should stop crowding out savers from investing in productive enterprise that employ citizens and rid themselves of the fees associated with raising Crown debt. The better option calls for banks to lend new credit to the government directly, by purchasing Crown IOUs with their own IOUs credited to the government bank account.
That article's missing something Audaxes. Central banks have no equity! They can never be bankrupt. Swapping worthless assets for a clean balance sheet does have real world consequences though. Say the assets are defaulting residential mortgages owned by commercial banks. With a clean balance sheet the commercial banks are free to lend again, and that does increase the money supply, raise real-asset prices, and devalue existing cash (relative to real assets). Not to mention huge moral hazard of the process..
RBNZ has equity
I think the RBNZ should buy suspect bank assets directly, so they (banks) can lend again to the productive economy, but not so much to the asset speculation sector. What I think is reprehensible is purchasing risk free government debt from the rentier saving cohort via authorised central bank dealers so they can buy them again with their released savings for little to no risk and damn easy capital gains underwritten by the majority.
From the same author:
....economies are endangered when the “circular flow” of payments through the economy is stunted. The most effective intervention is to direct funds toward that entry point – where spending by ordinary Americans enters into the circular flow.
The closer we can get economic assistance to the very entry point of the circular flow – supporting individual basic incomes, contractual payments like rent and mortgage obligations of families, and fixed obligations of businesses experiencing actual economic damage – the closer these economic support policies will hit their mark.
What’s not needed, however, is the use of public money to bail out the losses of investors who hold already outstanding securities that have gone down in price. Link
I don't see any equity in the link you provided. In my humble understanding central banks have only assets and liabilities. They cant make a profit or loss because profits and losses come from increases or decreases in your equity.
so they (banks) can lend again to the productive economy haaaaaa ha lol
What makes you think banks will suddenly start lending to the productive economy? They haven't done so in the past. You're advocating giving the commercial banks a massive free pass.
Here's the obvious answer by any of our ruling elites (both red & blue), rbnz, councils, govt bureaucrats etc.
1) Don't print the money, BUT borrow/bail out from future tax payers (as so far measures reported here)
2) Anticipate the flurry of US property buyers into NZ, as per article by CCP sponsored media;
https://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=12…
3) Anticipate the OZ Chinese capital movement/people movement to NZ;
https://www.skynews.com.au/details/_6150745157001
So Kiwis? use your job looses redundancies money, wages subsidy money (instead going direct to landlords).. go to the OZ Banks now, the LVR-FHB gone, you have only 12months of short windows opportunity to jump into the F.I.RE economy scheme, this is a lifetime opportunity pretty much guaranteed by any NZ government, point (1) above is silently being mentioned by both blue & red team, to safe guard the RE valuation in NZ - you've been informed in all credible honesty.
Lets talk some numbers: as per RBNZ C35, in 2019 the scheduled payment of loans were about $18b a year (interest and principal repayments due). Lets assume that total repayments of loans for 2020 is about the same amount. In 2019, there were also about $30b new loans (this is my estimate based on total new loans minus loans fully repaid (i.e. people who sold a mortgaged home and bought a new one using some loans).
The $30b new loans in monetary term is now fully replaced for the year and more by government new borrowing. Almost all that money is given in wage subsidy and other assistance to individuals in one form or another. I assume that the said individuals use part of this money to keep the scheduled payment of $18b going.
Now it all goes to debt write offs. How much of the total $272b debt will be written off will determine if we have monetary deflation or inflation. In my very rough estimates we will not see monetary deflation, even if banks do not lend $1 to anyone for the year to come, unless we have write off circa 10%. Now, that is not to say that we will not have decrease in house values. We will have them more likely than not. But unless that reduction causes bad debt circa 10% of total loans, it will not be enough to offset money printing by the gov. Around 10% and more will be deflationary for sure. But I guess the gov will then print more money and buy the bad debts from the banks. So I do not see with RBNZ actions how we will have deflation. Reduction in house prices yes. long term stagnation yes, but deflation (in Monterey terms) no.
"I guess the gov will then print more money..."
And for me, that where it all goes wrong.
Arguably, we should have learned our lesson the first time; not in 2008 but in 1987! That's when this monetary madness started to take hold, and at each 'crisis' since; when the Left fork (forgive the pun) in the road offered us "More of the same"; more debt, lower interest rates etc and the 'Right' fork beckoned with "We need to go another way"; better use of what debt we already have and the productive use of same, we veered Left
And we are trying to again!
At what stage do we have the courage to say "We are going the wrong way. We need to go in another direction".
Now, would be as good a time as any!
For new readers, reminder about F.I.RE economies insignia means:(Note: OZ, US, UK, Canada are also included)
https://www.scoop.co.nz/stories/HL1507/S00101/the-fire-economy-new-zeal…
https://www.youtube.com/watch?v=MGrBCtOt4Qs
Means Tested Pensions(1.25m pensioners, remove half, $11 bn saved per year- back of envelope)
Pension age increased, BOE =$ 23 billion saved per year. (variations for race due to life expectancy)
Job done, next.
Boomers have to take a hit as its them (me) that are largely being protected atm.
In anticipation of the squealing all my family would lose out but its time for NZ to join the real world. Full CGT, (no limit to holding periods,) and Land tax also a given at some pt.
Oh and all lobbyists jailed starting with Katherine Rich due to her involvement with the bread fiasco that Key reversed causing the spina bifida issues to continue.
What dont you like?
Solves the current problem with a quid pro quo from the wrinklies and as Brian Gaynor said way back in 2011,
".... His (piggies) subsequent decision to abolish Labour's compulsory scheme was the country's worst economic decision."
"No wonder the OECD concludes that New Zealand has the most generous non-contributory public pension."
https://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=10…
That whole article is worth reading as well as his recommendations- means testing.
Time for kiwis to join the real world, a world that has the WUHAN
You might have to explain why kiwis are so special that almost uniquely on this planet we have no means tested pensions, CGT and land tax.
You realise that it's time for the rubber to hit the road dont you, this is probably the reset that ol PDK has been warning since whenever.?
Also do you understand that "no means testing" has not always been the way. Read the Gaynor article, it's quite illuminating. See what the pension age was when it was first bought in during the late 1800s. (65)
Agreed, but you are talking to people who are unable to listen. Their opinions depend on ignoring basic facts, so that is what is done. The vast majority of Kiwi voters either own appreciating property, or want to, so their votes have to be allowed for. Hence Michael Cullen''s CGT advice.
Also, if the government only spent money on stuff I think it should be spent on, existing taxation would be plenty.
I can think of multiple ways to shape the country to my liking, but it counts for nothing if I can’t bring others to support it in a democratic decision and even then I have to factor how people will react to my desired actions. One of the reasons I come to this site is to see what the lefties are up to, and assess what impact it could have on my future. I think this lot are in Lala land and even if they could bring something in I’d be ahead of the curve to avoid the impact.
won't someone think of the poor betrayed boomers. If they're looking for ways to cope with getting the rough end of the stick, perhaps they could ask their grandkids they've spent the last decade insisting were just too lazy to buy houses. I'm sure they'll have some pointers on how to cope. Maybe a few less takeaway coffees here and there might help.
Means testing is extremely complicated and very difficult to do fairly. Easy to get those that don't plan, but those with wealth do. Look at the resources thrown at Residential Care Subsidy tests..legal challenges, case laws, trusts for Africa, gifting, fake invoicing etc etc.all to save on some care (which generally doesn't last long due to age of recipient). Imagine the avoidance efforts and policing requirements when 20 or 30 years of benefit is at stake.
Wow, the ol kiwi arguments that it's just too hard/ political suicide/political betrayal, wonder how all those other countries do it?
Kiwis so dumb lah, it's not just a slogan at CCP central.
Let's remain the hillbillies of the Sth Pacific shall we, world class education that all the world comes to allegedly, but an economy built on protecting farmers and selling houses to each other. Embarrassing.
You mean the six countries that have worse home ownership rates than us?
https://en.m.wikipedia.org/wiki/List_of_countries_by_home_ownership_rate
The real reason we don't have an equitable tax system is that the huge ignoramous class out there don't know how to vote for their own best interests. Whether I agree with a CGT or not, I realize that if Labour had won the election outright we would now have a CGT. If TOP was still a credible party, and had won the election, we would now have a Wealth Tax.
So if without intervention deflation would say be 10% but with the printer going brrrrrr it ends up at 0%, is that not inflation of 10%? Against everyone who would have otherwise had things 10% cheaper and against beaten down first home buyers?
Let me answer that. Yes.
Modern Monetary Theory adherents would like you to understand that a currency issuing government (e.g. the NZ govt) can always afford what is for sale in the currency it creates. How you go about creating that currency is a moot point.
RBNZ QE is an asset swap of dollars for bonds, i.e. it causes no change in the amount of non-govt sector financial assets. Govt spending is the only operation that injects new financial assets into the economy. Any bonds sold after the fact of spending are then a separate asset swap operation, essentially parking investor money in an interest bearing term deposit. Thus govt debt operations are not where the money is being created. It all happens in the moment when govt spends.
Why is it not possible for the country to live within its means and put away a surplus each year for a rainy day, just as individual savers are advised to do?
But if we must have another tax, I think the best option would be to eliminate trusts and have an inheritance tax. Not having an inheritance tax sets in concrete increasing disparity in wealth.
It's because the money has to come from somewhere. If you want the govt sector to run a surplus, the non-govt sector has to run a deficit, at the aggregate level. We really want the non-govt sector to be able to save, and for this to happen it is required that the govt runs a deficit to create that money. The national accounts data shows this - it is an accounting law. The fact is that individuals cannot create debt-free money, but govts have that power, so govts are the only sector who can run sustainable financial deficits.
On taxes, I fully support an inheritance tax for reasons of fairness and equality. People shouldn't be allowed to give their children an extreme financial advantage, children should be given the same chances to succeed or fail as everyone else.
Revenue to government is ignored in this equation, in short term.
This will implode, as it did in UK in 2007-09, because it is a FIRE economy.
This severe drop makes the deficit explode upwards, and the extra spending aggravates it but the revenue drop is greatest contributor. Trying to fill a black hole of demand deficit in real economy for next year.
Tourism and restaurant drop in resulting minimum 15% drop in GDP
GDP B$%$#$ %...
I love how those even at the top of the food chain ( The MOF and Orr) continue to reference GDP and our debt to GDP.
Our GDP numbers have been totally irrelevant and meaningless for the last 15 years due to massive debt-funded immigration. The discipline of Economics makes corrections for mass migration by using the measure 'per capita GDP'. So while the Politicians and bankers go around quoting GDP ratios to debt they refuse to understand that NZ is 580 BILLION dollars in debt mostly mortgages, from John Key and Helen Clark as they underwrote employment in NZ by using immigration to debt fund jobs building homes and infrastructure for our country. So the concern with government debt ( which is simply New Zealander's debt borrowed on our behalf and added to our own personal debt) is not thought about correctly because of an already highly leveraged population.
NB. Not infrastructure like hospitals and schools and roads and police stations. But non-productive environment destroying assets like houses, KFC outlets, Gas Stations and retail.
It is interesting that all the articles printed under Jacinda Ardern's reign, both COVID and pre COVID, are about debt. Nothing is written about creating wealth.
https://www.facebook.com/permalink.php?story_fbid=672245826542798&id=52…
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