Budget 2006: "Read It and Weep"

Budget 2006: "Read It and Weep"

What are we to make of the 2006 budget, two weeks after the dust has settled?

Most commentators have criticised it as a ‘do nothing’affair, and a missed opportunity to restore New Zealand’s flagging economic fortunes. Unfortunately, the government remains in denial that its policies are weakening, not strengthening, the economy.

The projections for economic growth in the budget should be ringing alarm bells. In line with what the Business Roundtable and other commentators have been predicting, the growth rate is trending downwards, contrary to the government’s stated “top priority” goal of getting New Zealand back up the international income rankings.

The budget projections suggest that economic growth in the period to 2010 is likely to average only 2.9 percent per annum, well below the government’s 4 percent target and below the average rate of growth since the early 1990s.

On a per capita basis, the growth outlook is worse, indicating that wages and other incomes will rise only slowly in the period ahead.

In its forecasts released this week, the New Zealand Institute of Economic Research expects the medium-term outlook to be even weaker. New Zealand is also falling in the rankings of international competitiveness, which is a factor in the current account deficits projected in the budget documents, averaging 7% of GDP up to 2010.

The harsh reality is that, after keeping pace with Australia in terms of productivity and output growth over the past dozen or so years, New Zealand is set to fall further behind.

This is all the more regrettable in that other countries in our region are outstripping both Australia and New Zealand.

Last year the Hong Kong economy grew by 7.3% following 8.6% growth in 2004, and the government is expecting growth to average over 4 percent a year up to 2010.

Singapore is expecting 7% growth this year, up from 6% in 2005.

Per capita incomes in Hong Kong and Singapore are already 36% and 21% respectively above New Zealand’s on a purchasing power parity basis, according to World Bank figures.

The key facts about Hong Kong, and even seemingly dirigiste Singapore, are that they are routinely ranked top in the indexes of economic freedom. The index rankings correlate closely with per capita incomes, growth and other measures of economic performance.

In the 1990s, New Zealand came just behind Hong Kong and Singapore in these indexes but it has now fallen to 9th equal place (in the Heritage Foundation/Wall Street Journal survey).

Economic performance changes only with long lags. New Zealand’s economic reformers were criticised for years before their arguments were proved right in the 1990s. Similarly, the costs of policy backsliding take time to show up. But the growth in government spending, taxation and regulation since the late 1990s is now clearly taking its toll.

Just in the two years to June 2006, government spending has increased by a massive three percentage points of GDP (from 29.2% to 32.3%). It is not possible to take such a bite out of the economy, in the form of resources diverted from the productive sector and income transfers, and expect faster growth.

The option of cutting taxes to improve incentives for growth was again spurned in the budget. As First NZ Capital put it in a budget commentary, “Clearly significant cuts to taxation have been affordable, but the government has decided to go down the path of increasing spending instead. But even on the current projections, tax cuts still remain affordable –falling debt ratios to GDP from already low levels are testament to that. Read it and weep.”

In contrast to New Zealand, the Australian government cut taxes in its budget last month for the fourth year in a row.

New Zealanders already pay more tax than Australians whether measured by the ratio of total government spending (at all levels) to GDP (the best measure), the ratio of total government tax revenue to GDP, or, in most cases, personal income tax alone.

It is vitally important that public debate about the economy refocuses on these issues.

Some commentators put New Zealand’s sagging growth rate down to the failings of New Zealand business: Rod Oram recently wrote, “most businesses wouldn’t have a clue how to earn a living in the world economy”. This is patronising claptrap: if he is so smart, why doesn’t he get out there and show New Zealand business how to do it, and make a fortune in the process?

Ample economic research shows that it is overwhelmingly the quality of a country’s institutions and policies that determine its economic fortunes. Businesses can only do their best within the economic framework in which they operate.

The quality of New Zealand’s economic framework was bad for decades up to the 1980s; it improved significantly with the two waves of economic reform in the 1980s and early 1990s; and it is now deteriorating. The longer-term consequences are quite predictable.

Roger Kerr is the executive director of the New Zealand Business Roundtable.

ENDS

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