By Geoff Simmons*
Some are calling for the Labour-led Government to ditch its net debt targets in order to invest in infrastructure.
The Labour/National duopoly that we have had for the past 34 years has had a single-minded focus on reducing government debt. That was a fair goal post, given the country was nearly bankrupt after Muldoon’s spending binge. But now public debt is at record lows internationally, interest rates are near record lows and the country is groaning under the strain of population growth without infrastructure investment.
So why does the obsession remain? There are a few fake reasons for it, and a couple of good reasons for it.
Fake Reason #1: The shadow of Muldoon
Our current fiscal management approach is the legacy of Muldoon, as much as the Clyde Dam and Springbok tour. When the new Labour Government was elected in 1984, it was immediately thrust into crisis mode because the country’s books were in such awful shape. The size and immediacy of the problems were not public knowledge.
This led to changes to government accounting rules and eventually the Fiscal Responsibility Act, which ensures the Crown’s books are transparent and presses the government to either make a surplus or say when it will. Since then every government has been squarely focussed on running surpluses and reducing debt, even when Muldoon’s greatest fan (Winston) is part of the Cabinet.
The changes made in the 1980s and 1990s have been very successful, but those days are long gone and these budget rules are now as out of date as stone-washed jeans. As long as the economy is growing the government could run a deficit indefinitely and still hold net debt the same (as % of GDP).
Fake Reason #2: Saving for a rainy day
Both Labour and National like to cite “saving for a rainy day” as a key reason for their spending and debt targets, usually referring to the Christchurch and Kaikoura earthquakes in the same sentence. However, the truth is we survived both of these large natural disasters with barely a blip in our (already low) debt profile. We never got anywhere near Greek levels of debt despite the unprecedented string of natural disasters.
Besides, this concept is really where the notion of the government as being like a household falls down. Unlike households, our government can create money if it needs to, just like the US and UK did during the Global Financial Crisis. Creating money can carry the risk of inflation, but that is less likely in the case of rebuilding a city after a disaster because it is restoring the ability of that city to contribute to the economy.
Fake Reason #3: Keep debt repayments low
National likes to make a big deal of the additional interest that will accrue as a result of Labour’s slightly higher borrowing, but that is just a red herring. Firstly, interest rates are at near record lows. That is usually the time to borrow and invest, not continue to reduce debt.
Secondly, National’s shallow critique just looks at the cost side of the equation. If we all did that, nobody would ever borrow anything. National is supposed to be the party of business, so it should know this: most businesses borrow, and they do so to invest. They will only borrow if the returns on the investment are enough to cover the cost of the borrowing.
Our government should operate on the same approach; if the returns on the investment are greater than the costs of borrowing, it should invest. That should be the rule governing debt, not some random number plucked out of the air.
Partial Reason #1: Low public debt offsets our absurd private debt
While public debt in NZ is really really low, our private debt is quite high. Keeping public debt low reduces the risk of that private debt becoming a problem later on.
We love borrowing money from overseas to speculate on housing and land. This doesn’t make us better off as a country, but it does make some of us feel richer, and makes total sense when our tax system gives us a free pass on such activity.
The downside is that high private debt makes our economy susceptible to shocks. So in effect New Zealand faces the peculiar situation where high levels of unproductive private speculation in housing are crowding out important public investment in infrastructure. Normally it is the other way around.
Of course the real answer here isn’t to keep public debt low, it is to fix the tax system to kill off unproductive speculation in housing and land. That would then allow the government to invest in productive things like infrastructure. It will be interesting to hear the results of the Tax Working Group, but given its constraints, no party in Parliament looks like they are ready to tackle that particular problem.
Partial Reason #2: NZ Super is not so super
There is another reason to keep net debt low, and it isn’t a good one – NZ Super. As more people live longer, the cost of funding our biggest benefit keeps rising long into the future. We can’t make it more affordable by growing the economy as NZ Super is linked to wage rates. As wages grow, so does NZ Super.
No political party in Parliament has proposed reforms to make NZ Super affordable for future generations. The only options on the table are raising the retirement age by a paltry two years in 2040 (by which time the elderly will have added more than two years to their life expectancy), or pre-funding.
Labour has resumed contributions to the NZ Superannuation Fund as a form of pre-funding. Keeping net debt low is another form of pre-funding NZ Super, as it allows future governments more room to run up debt in order to keep funding the ever increasing Super bill.
Sadly, truly pre-funding NZ Super is a futile exercise. NZ Super is so unaffordable that pre-funding is a bit like telling a millennial to save a deposit for a house by not eating avocado. After a week of living on Weet-Bix, the deposit has risen by more than you’ve saved.
We need to face up to the fact that NZ Super is not affordable, will never be affordable, and needs urgent reform. If we managed that, the Crown’s balance sheet would be freed up to make the considerable infrastructure investments that everyone needs right now.
New Zealand desperately needs investment, and the Government could fund that investment by increasing net debt. Instead, we prefer to hold on to the impossible dream of perpetual capital gain and funding every baby boomer’s retirement no matter how well off they are. These unsustainable goals hang like albatrosses around the neck of our economy.
*Geoff Simmons is an independent economist and former co-deputy leader of The Opportunities Party.
39 Comments
What a lot of well reasoned misdirection. Yes, if the returns on the investment are greater than the costs of borrowing, then investment can be considered, but should only go ahead if there is a suitable margin of safety that allows a clear path to the repayment of that debt in a reasonable timescale for the type of investment concerned.
In a commodity based business, such as New Zealand's, that timescale is usually quite short. So the sort of internal rates of return suitable to a mining bankable feasibility study seem appropriate. The Macquaries and major miners really understand this stuff, economists not so much, government economists even less.
Finally, I see he doesn't question the wisdom of not fixing the cause of the infrastructure deficit, or at the very least recommend a thorough examination of the merits or otherwise of the policies that led to the problem in the first place.
This is D- analysis.
Well written and well considered, but I'd still rather we ran a surplus. Couple of years of decent surpluses and the NZ government would have the ability to invest in proper income generating assets. A sovereign wealth fund of sorts, how nice would it be to get returned to the country some of Apple's profits, or BMW's or BAE-systems or Rolls Royce. Within a generation you would have infrastructure projects or NZ super funded by foreign earnings. The major problem with our democracies is that we give the purse strings to governments who often only ever think at the second term in power and lose interest about anything other than themselves (Uncle John in NZ and Uncle Tony in UK) by the third term. In my view our government debt is actually already quite large given our lack of diversity should a storm hit, for example, NZ is an expensive holiday destination and if things do get tight internationally a large part of our GDP may consider holidaying closer to home.
All reasonable points to raise and discuss however fake reason #2 the disasters were financially weathered because we could take on more debt. Unlike Muldoon era we weren't pushing the limits of available credit. Fake reason #2 is a good argument for maintaining low debt.
Partial reason #2 we do need a solution as borrowing to pay for super would be a stupid idea as that is just borrowing from the future generations. The super fund is too small and most kiwisaver balances/private investments are too small to survive 30 years of retirement. Better to deal with this issue now rather than be forced to deal with it under dire circumstances.
I agree that now is the time to borrow and invest in infrastructure. It is one of only a few ways to ensure long term, sustainable economic prosperity and now financing it has never been cheaper. However this only works with world class leadership and execution and this is where it all falls down in NZ.
Arguably, the worst time to take on debt ...is when the cost of debt (interest rates) is low! If life is a 50/50 thing ( which it is, otherwise the price of anything would be somewhere else, that then becomes 50/50) then the chances of the cost of the long-term committed debt going up are high. ( infrastructure isn't short-term venture). Buying anything with debt when the cost is 'cheap' adds risk that borrowing, but when interest rates are high it lessens the same risk - Rates are more likely to fall from a height and rise from a bottom.
I don't agree with your logic. Firstly financing can be long term - 10+ years which should see any project through. Secondly, if interest rates are higher at the time of refinancing then it is almost certain there is inflation and/or growth within the economy. In which case the replacement cost will be higher, inflation is the friend of any fixed asset.
bw,
What a bizarre sense of logic you have. Your second sentence is totally devoid of meaning. Infrastructure;roads,sewage,hospitals,schools represent long-term investments in a society's future and will last through several financial cycles. Thus,investment in these and other areas,should be considered at any point of the cycle.
Growth would be more sustainable, if improved efficiencies in distribution were coincident surely?
Or is growth unsustainable because our source of capital, and thus all growth implies interest? (Compounding interest upon all growth. I suspect a square function would describe that?)
It seems to me the days where wages and salaries, and the product of industry being the origin of capital are long gone. Am I missing something? Because this is a paradox as plain as day to me.
The very essence of sustainable growth is not having your foot on the gas, avoiding credit bubbles, swings in the output gap. Growing at a pace that is not too hot and not too cold. Australia hasn't has a recession for 27 years, I would consider that sustained growth, do you?
No. There is no essence of sustainable growth.
What there is, is a definition of long-term sustainability on a finite planet.
That requires zero draw-down of finite resources, or 100% recycling of them
It requires the use of renewable resources nt to exceed their renewal rate.
And it requires the use of 'sinks' to not exceed their absorption rate.
That's it. And no, Australia has actually drawn down resources at increasing rates, has water/salinity problems, is climate vulnerable. If you're talking about money, what Australia is doing is turning real resources into digits in a computer, and the rest is people playing 'borrow more against the same old house' to 'fund' their latte lifestyles. That had to end.
Te Kooti,
Australia's 27 years of sustained growth does not make it sustainable. Where has much/most of that growth come from? From digging up coal and iron-ore and selling them to other countries,but these resources are FINITE. Even if climate change is not factored in,this is not sustainable,though many of their politicians seem to think it is. The fact that all of NSW and half of Queensland is in drought-in Winter-might just give them a clue that things are changing.
I have borrowed for major items, eg a house, and it was a good thing. Because the cost of that was multiples of my yearly income, and was not going to be every week. It would be ridiculous to borrow for basics, like the weekly groceries. Such will always end badly.
I am going to propose that for a government (and for local government) borrowing for infrastructure is more like buying groceries than borrowing to buy a house. Each item is small compared to the yearly income, and everyday there is going to be a similar item.
Borrowing by governments for infrastructure is the same as an individual borrowing to buy the loaf of bread. Going to get you feed today, but tomorrow it's an even worse situation.
In the end we all have to match our expenditure to our means.
KH,
Are you completely mad? Who is going to build sewerage infrastructure if governments don't do it? Who is going to build hospitals,schools,roads,lighting,rail lines and on and on?
We are constantly behind the 8 ball with infrastructure and it costs the country dearly,financially and socially.
Partial Reason #1, is in fact crucial. Everyone knows that you can forget OBRs etc - the second that the property market busts here, there will be bailouts all over the place. Right or wrong, any government that ignores the property-owning class will be thrown out of office in short order.
A decent chunk of NZ's private debt burden will end up on the public balance sheet, so we need to leave wriggle room.
Of course, the correct way for an individual to act on this observation is to leverage yourself to the hilt and buy assets offshore on an unhedged basis.
Good point.
Truthfully I can't foresee a situation where the government avoids involement if open bank resolution is required (which voids the approach) to keep banks fully solvent. They just wouldn't risk the economic damage, that could be orders of magnitude larger, of the panic a contraction might cause mid-bubble. This has always been the flaw in OBR.
Geoff .... Why The obsession with debt..??
Debt is not a magical thing.
Debt does NOT create wealth and prosperity.
Muldoon showed me, with his "think Big" , that Govts. are NOT great visionaries or investors
John Key with his "White Gold" strategy, kinda confirmed it..
Why don't we focus on what creates a wealthy prosperous Country..
eg.. Work ethic, Creativity, innovation... etc
(The symbol for me, of what can come out of that , is RocketLabs...)
My Parents taught me to live within my means... and use debt judiciously. To have robustness to weather economic and financial storms..
The GFC gave NZ a free lesson on the implications of being a chronic debtor Nation.... why don't we learn.
Borrowing a $billion to build some roads and bridges is hardly going make us prosperous...
Why don't we have a referendum on how big we want govt to be..?? ( Maybe if Govt and local govt was smaller we would all be better off..?? )
I do understand that some projects need debt, but that should be a calculated thing , that gets repaid.. ( Northern Toll road comes to mind ).
Geoff seems to trivialise the nature of debt with his article. He implies there is some kind of nirvana in paying interest on debt forever more...
I agree that the difference between a householder and a Govt. is essentially that a Govt can create money..
Geoff,, why aren't you arguing for reform of our Monetary system... Argue that it should be the Govt that creates Money and NOT the private banking sector..
Your approach would require teaching kiwis that being in debt is not the same as being wealthy. We would need to cure the wealth effect.
The other issue is we would need to change our monetary system so that new money is not created, primarily, by mortgages. That would take the pressure off house prices as the monetary link between "growth" and house prices would disappear. How would we regulate the creation of money if we shift away from the debt based system we use now?
A couple of big problems to solve.
The best idea Gareth Morgan had, was the "Big Kahuna". ( UBI...Universal basic income ).
Ties in with Steve Keens idea about the most equitable way to deleverage.. ( print money and pay everyone the same amount of money each yr (UBI ), with the proviso that for anyone with debts, it must be used to pay down debt.
II cant see that it would be difficult to change the Monetary system , and no longer to allow Bank credit to be used as money..
In regards to Capital formation...maybe they could shift the bias towards equity investment , rather than debt.. If interest payments were no longer tax deductible, maybe more people would own shares in various businesses..
etc..
And to be reasonable, phase it in slowly , over a period of time..
For me, this would be addressing one of the root causes of growing wealth inequality...
I love Steve Keen's idea. I think the other proviso was that if there was no debt to repay, then it had to go into kiwisaver, or be otherwise invested (couldn't be used for consumption). I like to think of it as "bailing out the people", rather than bailing out the banks. It would make people into much better economic agents by helping them out of debt or helping people invest directly into productive parts of the economy.
I the Dominion Post Friday Jan the 25 2008. The headline was ' were Broke'.
Total household debt $166 Billion
Personal credit card debt $4.7 billion
Bankruptcies in year to October 3554.
What if deflation comes staking and those debt is getting paid back with money thats harder to earn and worth more?
They didn't know nothing, we could do much more broke than that.
"The flattening yield curve is making these people do strange things, things they clearly wish they wouldn’t have to. Inflation hysteria is being replaced by curve crazy, especially this last one. The first article is the usual straightforward BOND ROUT!!! stuff. The second is acknowledging the complications of markets that don’t agree it is at all straightforward, but the third is an interesting if ham-fisted attempt to put a positive spin on those complications.
It really is a ridiculous idea, too. If you take out the thing that is causing the yield curve to flatten, risk premium, then the yield curve isn’t really flat. Genius. If we blindfold Captain Smith so that he can’t see any icebergs ahead, the Titanic isn’t in any danger of hitting an iceberg?'
http://www.alhambrapartners.com/2018/07/25/from-inflation-hysteria-to-c…
You can always generate inflation, just that our methods have been stupid. The best course of action would have been to dump 10k into everyone's bank accounts, and promise to do it quarterly until the CPI rose sufficiently. Then you wouldn't need to shag around with interest rates at the zero bound, where they are clearly ineffective.
If we took our foot off the immigration rate & targeted a rate which helped maximize gdp/capita growth then we wouldn't have such an infrastructure deficit to worry about (mainly Auckland - roading, schools etc)
Auckland (& perhaps Wellington) congestion tolls would help as well - delay/defer expensive roading upgrades & reduce the size of the PT subsidy.
There appears to be a basic assumption that the current superannuation scheme is unsustainable.
However it now seems that view is predicated on forecasts which are proving to be unsound. For instance the belief that the birth rate would continue to be low among the middle class and people would stop working at 65. Basic components of the model such as these have changed but the models have not been updated to reflect them.
Moreover none of the models I've seen take into account factors such as the wealth that will recycle into the economy as the baby boomers die off, or the impact of private health insurance paid by well off boomers or the tax contribution of the large percentage of boomers working after 65, or the productive value of boomers doing voluntary work or, these days, looking after their grand children so that mothers can work..
As a boomer who lived through the Muldoon economic miracle, Rogernomics and Ruthonomics I'm hugely skeptical of claims such as those made in this piece. Basically Super bad borrowing good.
As an MMT'er of course I embrace the judicious, functional use of public deficits to offset the private sector's desire to save and the current account deficit in our sovereign currency issuing nation with a floating exchange rate. As long as there is spare capacity in the real economy (including idle and underemployed labour) such deficits will not be inflationary nor will they crowd out private investment. Simmons sort of seems to be edging towards MMT and then gets stuck on the "we can't afford Super" idiocy. Of course we can afford it. As long as there is something to buy with the super in the real economy.
Once again, the boys always seem to get stuck on the idea that deficits for infrastructure (trucks, diggers, motorways, trains, new buildings, hard hats and flour safety vests) are a good idea. But deficits to increase the wages of nurses and teachers - mostly the ladies - well no we can't have that. But you see often the best investment is improving education and health services. Health economists often say that a better service (more doctors, more nurses) is more beneficial and cost effective at the end of the day than a shiny new building that some politician can enjoy cutting the ribbon on. People need to realise that we will not have a literate numerate workforce in the future able to support its elderly by being super productive if we don't have enough teachers and we don't look after the health of our kids. This government should be massively investing in teachers and health initiatives like preventing metabolic disease though tackling our huge (excuse the pun) obesity problem. And that needs public sector workers and services. A school lunches programme would do marvels for our kids' health - like in Japan. Specialist primary maths teachers would fix our dismal numeracy. Please gents - look beyond your "diggers in the sandpit" view of what constitutes good public investment.
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