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18 May 2007 Another Budget of Missed Opportunities by Roger Kerr The budget is, in the first instance, a document which pulls together an overall economic strategy and outlook. So, the first thing to look for in Budget 2007 is the medium-term outlook, bearing in mind the government's ‘top priority' goal of moving New Zealand into the top half of the OECD income ladder. In his 2001 budget, Dr Cullen targeted annual growth in real GDP of 4% or more. The budget confirms that the government is failing to achieve that goal. For the forecast period 2008-2011 economic growth is expected to average a mere 2.5% a year. There are nasty imbalances in the economy. Inflation is forecast to stay in the top half of the Reserve Bank's target range, meaning monetary policy is likely to remain restrictive, depressing economic activity and putting pressure on interest rates and the exchange rate. There is no relief for the export sector in sight. The current account deficit is also projected to remain very large, raising risks of a sharp correction and a weaker economy. The recent trend in productivity growth in the measured sector of the economy (essentially the business sector) has been poor (labour productivity has only grown by 1.2% a year on average since 2000). While the government talks about wanting to improve productivity growth, the outlook seems no better, especially since projected growth rates of business investment are extraordinarily weak at under 3% a year. The second aspect of the budget is the government's fiscal position and plans. The key issue is not the operating balance but government spending, which has a major impact on the economy. Here the news is also bad. In the next financial year total operating expenses are projected to rise by $3.8 billion. This is a huge additional bite out of the productive sector, putting pressure on wages, the supply of skilled labour, and other resources. There is also no sign that the government has rigorously assessed whether spending programmes are delivering value for taxpayers' money. The government has ignored calls by the business community, the OECD and the IMF to slow the growth of government spending and cut taxes more. This would not threaten medium-term inflation, which is a monetary phenomenon. The Reserve Bank can control money. Lower taxes would encourage workforce participation, investment and non-inflationary growth. The third key element is tax policy. A benchmark for assessing the quality of the government's decisions is the 2001 McLeod tax review, which recommended a lower, flatter tax structure across the board. The top personal tax rate should be aligned with the corporate rate. Here the government again gets a low score. The reduction in the company tax rate to 30% is welcome, but does not make New Zealand ‘stand out from the crowd' internationally. The Business Roundtable has advocated reductions in all income taxes, to a maximum of 25% in the medium term. Thus the move is a baby step, and is of little benefit to many small firms, farmers and other unincorporated businesses which pay the personal rate rather than the company rate. The KiwiSaver measures seem more likely to change savings patterns than to increase total savings. The compulsory employer element is a completely unjustified intrusion into voluntary workplace arrangements and, given that the costs will ultimately fall largely on employees, will be resented by many employers and their staff. The tax measures will also increase the complexity of the tax system. New Zealand is adding about 100 pages annually to an Income Tax Act already 2400 pages long, whereas the entire tax code of Hong Kong, with an essentially flat tax, comes to around 200 pages. The final key point is that the budget has nothing to say about the tsunami of new regulation engulfing the business sector which is increasing costs and reducing productivity. All up, this is another budget of missed opportunities. It also scores poorly relative to moves by the government in Australia to reduce regulatory burdens, cut taxes and expand economic freedom – to the point where Australia is now above New Zealand in the Heritage Foundation/ Wall Street Journal freedom index. Economic mismanagement is producing poor outcomes. New Zealand could be doing far better if the government reduced its involvement in the economy and created a freer environment. The time has come for debate on stronger fiscal and regulatory responsibility constraints. Roger Kerr is the executive director of the New Zealand Business Roundtable. |