Uncorrected transcript

FINANCE AND EXPENDITURE COMMITTEE

Inquiry: Budget Policy Statement 2001

21 February 2001

Members
Mark Peck (Chairperson)
Clayton Cosgrove
David Cunliffe
Rod Donald
Hon. Bill English
Rodney Hide
Luamanuvao Winnie Laban
Hon. Dr Lockwood Smith
John Tamihere
John Wright

Staff
Graham Hill, Clerk of the Committee
Julian Kersey, Assistant Clerk of the Committee

Witnesses
Hon. Dr Michael Cullen, Minister of Finance
Alan Bollard, Secretary to the Treasury
Iain Rennie, Deputy Secretary
Geoff Dangerfield, Deputy Secretary

Peck: Dr Cullen, we are here to take evidence today on the Budget Policy Statement. Just before I ask you to kick off, I wonder if you could perhaps very briefly turn your attention to whether or not you actually see this process that we are engaged in, sort of ritualistic, every 12 months, as worthwhile, or perhaps there is some better way of dealing with this matter.

Cullen: I think it is an issue that this select committee could well give some thought to. It is clear that if we look over the years BPSs have generated extremely few submissions. They tend to be somewhat ritualistic. I sometimes wonder whether we basically photocopy the BPS commentary from year to year—whoever is the Government it seems to say exactly the same thing. And so it is true pretty much of the few other organisations that respond. Indeed, the essential information that is contained in here in terms of updated projections and so on could all be contained within the December Economic and Fiscal Update. I mean, that’s the stuff that is of interest both to Parliament and the select committee and to financial commentators and others outside. I have been deliberately trying to downplay this sort of PR presentational side of Budget Policy Statements. I see them indeed as I see the Budget itself as primarily statements of accounts and forecasts and so on. I really do wonder whether this part of the process itself is of any great use at all and indeed the consequential submissions process.

Picking up on the point that Peter Dunne has raised previously, whether the committee might care to think—and it would require obviously some legislative change—whether it is more appropriate for the committee to have some capacity to be acting more proactively at an earlier stage in the cycle and feeding you views about the next Budget. We all know that fundamentally once this out, and by the time we get to this time of the year, a great deal is already getting locked in, in any case. The notion that this is the sort of blank slate we start writing on it at this point is not an accurate description of the Government’s financial processes from December onwards. I think it is worth thinking about.

The one other issue I would raise, which I have been addressing on a number of occasions publicly and in front of the committee and which I will be considering further, I hope, in the Budget this year, is how we present the overall numbers, particularly the operating balance, in the light of those big one-off changes that occur which drive big change in the operating balance but actually aren’t reflective of what’s truly happening to the operating balance. It is the things like the ACC changes, the GSF changes, and so on.

You will recall that last year, on Budget night, in very round terms, we announced an out-turn for the year of about sort of $750 million or so surplus. The final out-turn was closer to 1.5. It wasn’t the Government suddenly saving $750 million odd in the meantime or cut spending or increased revenue or anything of that sort; it was just some very big revaluations of various kinds, and a good deal of those tend to reverse out over cycles so that if you look through the cycle there are sort of ups and downs in those things as assumptions change.

I think that we need to get to where we are presenting the Government accounts in the way where people can see clearly those distinctions, because otherwise you have the danger that those sorts of changes can overwhelm. If we look in terms of the sort of changes we see in GSF each year, it is probably fair to say that they are considerably larger than the total discretionary amount in the Budget that in reality I am operating for this year’s coming Budget. In theory it is somewhat larger than that. If you actually take the drivers in there, what is actually available to pummel around the edges in one direction or another, it is probably rather less than the annual change often occurs in the GSF valuation, and that is a very strange process. The Minister of Finance goes through weeks and weeks of agony for modest outcomes at the end and then a technical assumption change, which is most likely to reverse out the next year or the following year, completely overwhelms it in one direction or the other. So I think it is something we need to give more thought to as to how we present that clearly, so that people understand what is actually happening to Government accounts.

English: I’ve just been looking at annex 1 in the Budget Policy Statement. It says here: “short-term fiscal intentions are consistent with the…long-term fiscal objectives”, which I understand reflects the requirements of the Fiscal Responsibility Act, is that correct?

Cullen: Yes.

English: And then I go to the table on page 4 and I’m a bit puzzled about this. On page 4 one of the objectives is to keep expenses at around current levels of about 35 percent of GDP—

Cullen: Yes.

English: —which I’ve heard being expressed. And then table 1 shows that the expense ratio is actually headed downward at a reasonably considerable clip.

Cullen: Yes.

English: 34.9 down through to 32.3—

Cullen: Yes.

English: —which an outsider looking at it would assume there was a target of something actually like 30 percent—

Cullen: Oh!

English: —that that was your long-term objective and that’s where you were heading.

Cullen: How you suggest such a number!

English: I can understand the political difficulties of you articulating such a target, Dr Cullen, but can you just explain why your short-term expense ratio, which is heading down, is consistent with your 35 percent level?

Cullen: Yes, surely. There are two factors here: the first is that the final 2 years’ out-turns are very much driven, as you will know, by the technical assumption on spending in those years, the spending allocation, the $800 million is actually built into those 2 years. And as we’ve signalled, I think that is probably not a realistic technical assumption; I would expect that to be updated in the Budget itself probably to more around broadly the $1 billion mark, which has quite a significant impact as that rolls out and keeps that number closer to 33 percent, rather than 32.3, by the end of the period. So, changing that technical assumption is quite a change.

: The other problem is in effect an accounting problem, and it relates to the transfers into the New Zealand Superannuation Fund. Transfers into the New Zealand Superannuation Fund are treated as a capital item and offset, obviously, by the asset on the other side and therefore not counted as part of the expenses for accounting purposes. But, as I think I’ve said to this committee before—and I’ve certainly said in the public arena—I think in a sense that while that’s correct in accounting terms, in common sense terms it is being a little bit cute. It does actually, of course, raise the possibility you could just every year borrow the whole lot, transfer it into the fund, which would be a rather strange thing to do. In common sense terms I prefer to see the transfer into the fund as being part of the Government’s expenses. So that 35 percent figure is to be taken as inclusive of transfers into the fund.

English: That’s a fairly significant policy shift, I would have thought. To produce a Budget Policy Statement using these numbers—

Cullen: No.

English: —when actually your intentions are quite different—

Cullen: No, it’s not that the intentions are quite different; I’m saying that the accounting treatment requires us to present expenses in that form, as going to that level. They are going down, in fact; right down this year compared with last year and it will drop further in the coming year. The question is whether you can regard the transfer into the New Zealand Superannuation Fund in common sense terms as opposed to accounting terms, and I think there is a difference here, as not being part of the Government’s expenses, because you and I, I think, are both of an agreement that fundamentally, at least averaged over the cycle, you would expect the Government’s operating balance to be in excess of the transfer into the fund.

English: So when you say keeping expenses at around current levels, you don’t mean what the committee thinks it means; you mean something else—that is, operating expenses—

Cullen: Inclusive of the transfers into the Superannuation Fund, which is about that 2 percent difference of GDP.

English: So when is that going to appear on official documents, because otherwise the targets are fairly misleading?

Cullen: We need to be more explicit about that in the presentation of the Budget documents.

English: You need to be more explicit about it?

Cullen: In the presentation of the Budget documents this year.

English: OK. So in the Budget documents we can expect that the description of the expense target will change—

Cullen: No, I think we need a description of the expense target which includes that rider that I’ve put in. We have to maintain the honesty in terms of the accounting position but recognise that common sense would actually lead us to a quite non-commonsensical outcome.

English: Well, hang on, why can’t you just adjust your expense target downwards, because that’s actually what is happening to Government expenditure?

Cullen: You could do that, if you wish. I think it is more commonsensical to regard the transfer into the super fund as in fact an expense but it’s not for accounting purposes, because accountants have their own rules, GAAP rules which we follow.

English: How far do you think we can go—it complicates the monitoring by Parliament what Governments do if—

Cullen: I don’t it is that complicated.

English: —if “expenses” starts to mean what the Minister of Finance thinks it means rather than what the Fiscal Responsibility Act says it is?

Cullen: No, what GAAP procedures say it is. The Fiscal Responsibility Act doesn’t require us to follow GAAP procedures, does it?

English: Well, if the accounting standard is going to be what you decide it is, that leaves the committee in a fairly difficult position.

Cullen: No, I think it’s fairly clear it’s not that difficult. I don’t think one should make it more complex than it needs to be—it is one large item.

English: So why is that not laid out in the Budget Policy Statement, which is a precursor to the Budget? It is a major change at least in description of the Government’s accounts—

Cullen: The point that this is—

English: This isn’t a minor item; this is a very large item—

Cullen: Sure.

English: —and the Budget Policy Statement does not reflect that at all. The Budget Policy Statement leave quite a confusing picture.

Cullen: I think the only answer I can give to that is that at the time the BPS was prepared of course we hadn’t even got the legislation into Parliament. I think that is a fact that needs to be borne in mind.

English: Well, it won’t be through by the Budget, either?

Cullen: We shall see.

English: So the superannuation legislation might be through by May?

Cullen: We shall see. I haven’t announced the Budget date yet, either.

English: What I am trying to find out is when your definition of expenses becomes the official definition by which we can monitor the Government’s economic—

Cullen: No, it’s not a definition of expenses; don’t put words into my mouth. What I am saying is I think we need to explain that when we set a target of 35 percent that includes the transfer into the New Zealand Superannuation Fund.

English: So your accounting expense target will be what?

Cullen: Accounting expense target is 35 percent less the transfer.

English: So what is that likely to be?

Cullen: Around about 33.

English: OK. So you’re not actually going to be—

Cullen: Which is about what it’s going to be if you look at the numbers and adjust for that technical assumption in the out-years.

English: So what do you think would be the common sense interpretation of your political undertaking, which has been consistent for a couple of years now—that Government expenditure would be retained around current levels? Do you think that the common understanding of that in the media or in the public is that—well, I would assume that what people think that means is that you will spend about the same proportion of GDP—

Cullen: Yes.

English: —on health and education as has been the case.

Cullen: Yes, and if I think I walked up to the person in the street and asked them “Do you think the Government is spending money by putting money into the superannuation fund?” I think they would say yes. I think if I told them that it was a capital Budget item, and was not included in the Government expenses, they would look at me as though I was slightly strange. I would then have to explain that that’s the GAAP rules.

English: Hang on. Let’s go back to the question—

Cullen: I think the person in the street would understand this better perhaps than some others do.

English: The implication of that has to be that other expenditures will drop as a proportion of GDP.

Cullen: As they have.

English: Do you think that’s what the person in the street thought you meant when you said you were going to maintain Government expenditure?

Cullen: I would hope so, because in the 2000 Budget speech and in subsequent speeches I said very clear: Government spending was falling as a proportion of GDP. I made that point very explicitly at the time. I made it very explicitly to this select committee on the Budget examination. So I don’t think there can be any misunderstanding on that point.

English: So you think people understand and understood that when you said you would retain Government expenditure at 35 percent that that meant you were going to reduce health and education spending as a percentage of GDP? Do you think they understood that?

Cullen: Why do you pick up those two particular items necessarily?

English: Because they are the matters of considerable political debate. They certainly were at the last election campaign.

Cullen: But we were talking previously about total Government spending, which includes a whole range of items, including Government debt servicing.

English: Well I am now asking you about health and education—

Cullen: Government debt servicing costs have continued to fall as a proportion of GDP.

English: I am following through the implications of what you’ve just told me. What you’ve just told me is that people clearly understood that Government expenditure as a percentage of GDP would be falling, and that’s what you meant when you said that you would retain it at current levels.

Cullen: I think they know that this Government is spending considerably more in health and education than the previous Government was planning to do, because you had only allowed $400 billion extra for all spending items in the 2000 Budget in addition to the proposed tax cuts. So they know that this Government spent around about $1,200, $1,300 million extra compared with the $400 billion which had previously been planned, and a goodly part of that would enter education and health.

English: Let’s just go back to the basic issue here. The basic issue is that you have now changed the nature of the key fiscal target. The key fiscal target is keeping expenses at around the current level of 35 percent of GDP. We cannot be expected to read your mind. We have a document that says that. What you are now telling us is that 35 percent means accounting expenses plus what is actually a capital item, that is, the expenditure on GDP, the expenditure on the super fund.

Cullen: I think you’ll find that this is far from the first time I’ve told you that. I think you will find I told you that in the examination of the Budget last year, that I was trapped by accounting rules—

English: But it’s not in the BPS.

Cullen: —I was trapped by accounting rules into a statement which I personally feel was commonsensically absurd—that is, I have to treat the transfers to the super fund as not being an expense, and I accept that is so.

Hide: The numbers don’t suit you.

English: I’m not worried about—

Cullen: No, actually, the numbers suit me better by not counting it as an expense. Think it through!

English: I’m not worried about—

Cullen: It would be easier for me to fiddle the Government accounts that way round, Mr Hide.

English: I’m not worried about your personal feelings on it. I am concerned about our capacity to know what your target actually is for Government expenses—

Cullen: Well, I think I’ve just told you approximately—

English: Hang on, just listen.

Cullen: —three times.

English: But it’s not in here. There is no official document anywhere that says that Government expenditure as a percentage of GDP is now no longer 35 percent. It is now, as you’ve said today, 33 percent. You told us today, for the technical accounting definition of expenses, what was regarded as the target was 35 percent, because that’s what everyone has taken to be the meaning of expenses when it is put into an official fiscal document signed off by the Secretary to the Treasury. Is that what the Secretary to the Treasury meant when he signed this document?

Cullen: Well, can I refer you—

English: No, I want to ask the Secretary to the Treasury.

Cullen: No, no, I’ll—

English: When he signed this document did he believe that the term “expenses” meant accounting expenses?

Cullen: Before Dr Bollard answers that question—

English: Is the Secretary to the Treasury incapable—

Cullen: Before Dr Bollard answers that question—

English: No, no. I want—

Peck: Order, Mr English.

Cullen: We know what you want, but you’re not going to get it yet.

Peck: Order!

Cullen: Before Dr Bollard answers that question could I refer you to the sentence in the BPS which immediately follows the statement about expenses at current levels: “These objectives are driven by the need to manage the future fiscal pressures associated with an ageing population, particularly in the area of retirement income."

English: Well, that’s hardly an accounting definition of expenses. Now, can Dr Bollard answer the question?

Bollard: Yes, Mr English, I don’t sign the Budget Policy Statement; I sign the December Economic Fiscal Update.

English: And what did you mean by expenses in that document?

Bollard: Well, I have to go back and confirm what we said.

English: So it’s now no longer clear?

Peck: I just want to remind members that we are dealing with the Budget Policy Statement—

English: Well, hang on. Is the chairman telling us that the Secretary to the Treasury cannot give us a definition of expenses as it stands in this document?

Peck: No, I think the Secretary in his answer—

English: I’m not allowed to ask him about that?

Peck: I think he’s answered your question.

English: What? The answer is that he doesn’t know.

A Member: I think the answer was that he wanted to check.

English: No. I’m not asking the Government. Does the Secretary to the Treasury know what expenses means in this document?

Peck: Well, that’s a fair question.

Bollard: Yes, and the answer is that it means precisely what the GAAP treatment of expenses is intended to cover.

English: OK, so when you wrote this document—

Cullen: Which document?

English: —BPS—expenses meant 35 percent—

Cullen: Dr Bollard didn’t write this document.

English: —of GDP. The Minister of Finance tells us that is now not the case.

Cullen: No, I’m not saying that at all.

English: Well, you just spent 10 minutes explaining that it means also the contribution to the super fund. So who is right? The Secretary or the Minister. Which target are we monitoring?

Peck: Order! I’m just going to come to this—

English: Hang on, I asked the question, Mr Chairman, and I think the committee deserves an answer.

Cullen: And the answer is the one—

English: You might not want them to have to answer it, but we think they should answer it.

Cullen: The answer is the one I gave you before: that when I set the target—nothing to do with Dr Bollard; Dr Bollard does not set the targets or indeed write the BPS; it is a Government document.—when I set the target of 35 percent for expenses, as we have explained more clearly in the Budget documentation, we see that as including the transfers into the New Zealand Superannuation Fund, because I believe that that is commonsensical. It is not the accounting definition when we produced the tables of expenses; we have to use the accounting definition. So you’ve had your answer: it is 35 percent minus the transfer; it is 33. It’s not terribly hard to follow that. I don’t think it’s going to win huge interest amongst middle New Zealand.

Peck: And other members need questions. I remind Mr English that he has had in questions 15 minutes.

English: Mr Chairman, this is a vital issue. We have now a dispute; we now have a difference of view—

Cullen: No, no.

English: The Minister of Finance has just given us one definition of expenses—

Cullen: No, you haven’t, actually.

English: —and the Secretary to the Treasury has just given us a different one. That is absolutely unprecedented.

Peck: Ask your question.

English: OK. If the Minister has that definition in mind, when is he going to tell Treasury that that is now what is meant by expenses? Because the Secretary has just told me he does not know that.

Cullen: We’ve had oral discussions about this at some length, because obviously, you will have gathered, my desire would be to be able to set up the Government accounts including those transfers as part of expenses, but Treasury rightly explained that under GAAP rules expenses cannot be treated that way because it’s treated as a capital transfer. What I am saying is—and it comes back also to some of those issues, some of those valuation changes. Those are also driven by GAAP rules under accruals accounting, but you end up with some results which actually don’t conform terrible well with common sense. So one of the things I am trying to do in the Budget documentation this year is to try to distinguish between those two things so that people can more clearly understand what is happening. Otherwise, one gets the impression that either the Government can clap itself on the back for extraordinarily successful management because it has produced $800 million out of the air just like that. Or suddenly it has gone completely off the end of the cliff in terms of its financial management—it’s gone $500 million in the opposite direction. Neither is actually an accurate reflection of the Government’s management of its fiscal accounts, in the slightest, in any shape or form. Equally it seems to me that for the Government to continue to simply be hide-bound, if I can use such a word, by GAAP accounting rules in terms of its explanation of its intentions opens up the rather cute question I have had in this select committee before: “Well, couldn’t you just borrow every dollar you’re putting into the superannuation fund?” Because it’s not an expense at all; it’s just coming on the capital account. Because I can certainly do that when I’m building a school, as you well know. I could in theory borrow everything that has been put into building a capital asset where it has a zero net effect on the Government’s net debt. But that would be absurd in terms of the way to approach the New Zealand Superannuation Fund.

English: Minister, I think you’ll agree that one of the big steps forward with the Fiscal Responsibility Act was the transparency—

Cullen: Yes.

English: —of the whole exercise. Everyone knows what is being said. There’s no dodgy accounting and hiding things and so on.

Cullen: I don’t agree with that. We had absurd assumptions on our out-years in the early 90s.

English: There are accounting practices with which one can have an argument, such as the valuation one, and I can understand your frustration about that because I felt it myself. But it would seem a pretty important issue—or how important do you think it is that the committee understands, first, what definition of expenses the Government is using; and, secondly, given that the Fiscal Responsibility Act requires the Government to set targets, if you have changed a major target—probably the key target—then you ought to say that you have changed that target and it ought to be reflected in official documents?

Cullen: We had changed the target—

English: Because if you don’t do that you may not in fact be complying with the Act?

Cullen: We had changed the target from 30 percent to 35 percent. But that 30 percent rested upon assumptions of out-year expenditure which were probably not realistic, so I actually don’t agree that the papers were that transparent.

English: You know that the 30 percent target did not include contributions to a super fund—

Cullen: Exactly.

English: Everyone except you, and including the Secretary to the Treasury, has assumed that the 35 percent did not include the contributions to the super fund—

Cullen: No.

English: —because otherwise it would be in the Budget Policy Statement—

Cullen: No.

English: —on the page where all these issues are covered—

Cullen: No.

English: —and now you are saying it does include it—

Cullen: No.

English: —so we just want transparency.

Cullen: I think you will find that this is not the first time I have raised this issue in front even of this select committee.

English: We have your Budget Policy Statement that has no reference to that practice.

Cullen: And I’m saying to you, Mr English, that in fact we’ve had this discussion before, so your shock and outrage is one that does not overwhelm me with its sincerity.

English: Look, Minister, I would advise you not to question my sincerity. I am asking you this question—

Cullen: And I would advise you not to try to bully me, Mr English.

English: —why is that change in definition not in the official document?

Cullen: Which change of definition?

English: The change in definition of expenses.

Cullen: If you see the sentence after the 35 percent you will see the clear reference to the future funding of superannuation.

English: This is the new standard. The new standard of transparency is that that sentence explains that the 35 percent target now includes the contributions to the super fund.

Cullen: I think you will also find that on the many occasions I have discussed this issue with people in the financial sector and explained precisely this point about transfers into the New Zealand Superannuation Fund. This is not something new at all.

Cunliffe: Is part of the reason, Minister, that we’re having this slightly bizarre, it seems to me, debate—

Peck: Order! Ask your question.

Cunliffe: —is the repetitive nature of the Budget Policy Statement process—it’s an annual cycle? These numbers haven’t changed materially since last time we saw a BPS—that’s true, I think. Would it not be a sensible option, or, Minister, what’s your view about the option of whether we might go through this process when there is a material change to the BPS rather than a repetitive annual cycle?

Cullen: Well, I think in the Budget itself—

A Member: Go back to—

Cullen: I don’t think members are paying attention—in the Budget itself of course the Government has to set out all the same indicators—

Young: Why pay attention when it’s a patsy question.

Peck: Order!

A Member: Point of order.

Peck: Order! I am the sole judge of relevance at this committee.

Cullen: Mr Chairman, I have no intention of staying here if people aren’t going to listen. I have no reason to stay.

Peck: Order!

Hide: Point of order.

Peck: I don’t need a point of order. I am the sole judge of relevance at this committee. The question is in order and the Minister will answer. And we won’t have cheap comments about it.

Young: Well, talk to him about that!

Cullen: The Budget itself has to lay out these key indicators, and, of course, these key indicators were first laid out in the Budget 2000. We’ve been through these issues already in discussions of the Budget 2000. Perhaps people weren’t fully alert to the nature of the discussion at that time, but that was gone through at that time, with some degree of clarity, in fact. I would be flattered if I thought that ordinary people in the street read the Budget Policy Statement, but I have the sneaking suspicion that it’s not true. As I said, the December Economic and Fiscal Update can contain, does contain, the great bulk of the information that is useful. What I questioned in response to the original question from the chair was whether the Budget Policy Statement process itself is particularly useful in terms of submissions and hearings and so on, because it seems to me that it doesn’t add anything to the transparency. All the data that is required can be contained in the DEFU, and the select committee can examine the Minister on the DEFU.

Hide: Just to be clear, Minister, is it your policy to make the superannuation fund that you are proposing off balance sheet?

Cullen: You mean that we will not bringing the liabilities on to the accounts?

Hide: No. I mean that you are wanting to present them—

Cullen: It’s on the balance sheet.

Hide: Yes, because if it is on the balance sheet, then of course, it seems to me obvious that you can’t put the funding of it in as an expense.

Cullen: No, of course I can’t for accounting terms, but I think the Government, in setting its expenditure target, can realistically say that’s got to include its transfers into the fund. I think that is a common sense statement as opposed to an accounting statement. Yes, you are quite right, Mr Hide, for accounting terms, no, you cannot do that.

Hide: So you’re going to maintain that a balance sheet. It’s a Government funding a fund that it owns—

Cullen: Yes.

Hide: —so it stays on the balance sheet, and that is the problem that you find because what you are trying to present to the Government is, “I’m setting aside this amount of money”—

Cullen: Yes.

Hide: —“and while it’s not presented as expenditure, because I’m using this as a constraint on my spending, as far as I am concerned it is.”

Cullen: It becomes, in effect, a constraint on spending, yes, I think that is quite right.

Hide: But it will stay on balance sheet?

Cullen: Yes.

Hide: So it will always be presented thus, unless there is a change in the G8? (?)

Cullen: That’s right, and which, obviously, we can’t do.

Hide: Just talking about the revenue side, how much extra revenue were you hoping to get by lifting the top rate of tax to 39 cents?

Cullen: Four hundred million was the estimate. Some of those estimates vary somewhat, but in broad terms they tend to increase in the out-years.

Hide: And that was in the first year?

Cullen: Yes.

Hide: I notice that there’s been a drop-off between the Budget and Treasury’s update in December of expected tax revenue. How much is that drop-off?

Rennie: Clearly, the drop-off in tax revenue in the DEFU was driven very much by the change in economic assumptions. If you recall, in the short term, we were seeing a slightly weaker ________ economic cycle, and that was the driver of the change in tax revenue. In fact, as you will be aware Mr Hide, since the DEFU tax out-turns are actually slightly stronger than we foreshadowed DEFU.

Hide: I’m very appreciative of your explanation. Now, can you give me the answer. How much did your tax revenue forecast drop between the Budget—

Cullen: 2001 Budget and 2001 DEFU?

Hide: Yes.

Rennie: About 400 million. Drop in total tax revenue.

Hide: In actual fact, you’ve projected that you’ll get an extra 400 million because you’ve put taxes up?

Cullen: Yes.

Hide: The reality was yu projected that when you put the Budget together half way through last year. When we got to the end of the year the economy was down on forecast so tax revenues were down 400 million?

Cullen: Well, the projection in December was 400 million below the projection in June. At the moment revenue is running a little ahead of forecast, but I note that Mr Prebble only 2 weeks ago said that we would collect a great deal more than the $400 million.

Hide: I’m asking about the Budget Policy Statement and the Fiscal Update. The point I am making, sir, is that you projected that you would get an extra 400 million—

Cullen: Yes.

Hide: The economy hasn’t performed as projected and is 400 million down. Is that correct?

Cullen: On projected revenue as at December; at the moment we are running ahead of that projection.

Hide: No, no. I’m only relying on what we have in front of this committee, which is your Budget Policy Statement and the Budget and Economic Fiscal Update of 15 June and a December Fiscal Update, 19 December. That shows that the $400 million painted picture evaporated, is that correct?

Cullen: No, not at all.

Hide: It got reduced?

Cullen: There is a counter factual you seem to have forgotten.

Hide: What’s that?

Cullen: That the December revenue update would have been below the June revenue forecast, whatever the tax rate had been at that time. OK. So, all else being equal, yes, we are still collecting significantly extra revenue that we would have done had we not increased the top tax rate. It was the counter factual argument.

Hide: Let me ask a question of Dr Bollard. I know that the way you do your forecasting doesn’t have any feedback, but do you believe that lifting taxes is a negative for economic growth, all things being equal?

Bollard: If you are talking in general terms of the sort of—I mean, that would depend on the size of the tax increase. One could envisage very significant tax increases that could do that. We haven’t expected from a tax increase of that 400 million—which I presume you are talking about here—would have a significant detrimental effect on growth.

Hide: So you think that taxes can be increased, even by small amounts, without negative consequence?

Bollard: At low, medium levels.

Hide: And do you think that taxing at 36 percent of GDP is a low, medium level?

Bollard: By OECD standards, yes.

Hide: So if we increased it by, say, 1 percent it wouldn’t have negative impact that year?

Bollard: I wouldn’t expect it to have a discernible effect of just a change of that nature.

Hide: And 1 percent the following year?

Bollard: Well, at some stage I would expect it probably would have an effect.

Hide: I’m asking you at what point does it have an impact?

Bollard: I’m sorry, I can’t answer that just off the cuff like that. That would depend on levels of tax, level of demand in the economy and whether you are getting into a tax evasion/avoidance sort of syndrome with the very high level of tax.

Hide: You are confusing what I am saying. You are arguing on my question was about the impact of tax on economic activity not Government revenue. My question is this: all things being equal, if we have lower taxes do we have a higher growth potential than when we have higher taxes, in your view?

Bollard: Our view is that provided we are in the low, medium tax range we wouldn’t expect to see a significant effect on economic activity from a tax change alone. Much more important is the sort of tax change you are talking about and the sort of intermediate effects that might come out of it.

Hide: Can you produce for this committee the research upon what that is based?

Bollard: I’m sure I can produce some generalised research. It won’t answer that specific question, but I am happy to.

Hide: No, no, I’m just wanting the empirical research upon which that is based.

Bollard: I am happy to trawl through the work that we have done.

Hide: That would be good if you could.

Peck: Mr Donald.

Hide: Hey, hang on. I’ve still got questions.

Peck: We are running rapidly out of time.

Hide: Yes, well, don’t cut mine.

A Member: Oh, so sad!

Hide: Yes, it is sad.

Peck: If you have one more question, ask your question because I am then going to Mr Donald.

Hide: I’ve got two more, Mr Chairman.

Peck: Well, ask your question, because I’m going to Mr Donald.

Cullen: Just put a semi-colon in the middle, Rodney.

Hide: This is a quick one. You raise in your discussion about ACC and the GSF throwing around the Government surpluses as a consequence of re-evaluations. I certainly share your concern about that, because it masks in a way the reality of what a Government is doing. That concern must be magnified with a superannuation fund which will suffer the same problem, might it not?

Cullen: Yes and no. But, not no, because, as we’ve discussed in the committee before, it is not the intention to bring the liabilities on to the Government accounts. If you did that, and it’s a real reason not to—

Hide: No, no, I accept that you are not putting the liabilities on, but you’ve got an asset that has a value—

Cullen: Ah, I see what you mean.

Hide: —some of it is going to be—

Cullen: There are some asset changes there, yes, and again I think it is important therefore to distinguish those sorts of changes. Again they will tend to reverse out by economic cycles.

Hide: Sure. But one year to the next it could be quite marked?

Cullen: Yes.

Hide: Have you got a proposal for handling that?

Cullen: I think, again, it comes back to how we are able to present the accounts in a way to clearly differentiates so that people can see, if you like, what the operating balance is before those adjustments and after the adjustments. The attention has tended to be on that bottom line after the adjustments. And I think the attention needs to focus more in general terms on the operating balance before the adjustments.

Hide: This is my final question. We are talking about the superannuation fund in this Budget Policy Statement and of course we’ve got it before this committee but I would be grateful if you could answer this question.

Cullen: Sure.

Hide: Treasury are very clear that when we come down to paying out from the fund, on average it covers 10 percent of the costs of super—

Cullen: Is that what they have said?

Hide: And it peaks at 40—

Cullen: Who said that? [Interruption] Did they?

Hide: You put out a press statement on 22 November where you said, no, that’s not correct; that the contribution will be closer to 25 percent and you put out a table. What you did was you had here’s what the fund is paying now and you included in that the tax that the fund would be paying. I have to say that I think you are wrong in that.

Cullen: We will continue to disagree on this interpretation.

Hide: I want to clarify with you: who is right, you or Treasury?

Cullen: Well, you’re telling me what Treasury has said. Nobody’s put their hand up so far as having said that, so we will have a discussion later with Treasury. But we will continue to disagree on that interpretation, you and me.

Hide: Maybe you can come back to us on that.

Bollard: Could I invite Geoff Dangerfield to answer that question?

Dangerfield: One of them is an answer to the question of what is paid out of the fund; the other one is an answer to the question of what is in fact the fiscal impact.

Hide: Yes.

Dangerfield: —because the fund does pay tax.

Hide: Yes.

Dangerfield: I think we’ve given you material on what is the contribution to the fund—partial prefunding because that is all the scheme is designed to do—and given you graphs and the like around that. There are implications for the overall Crown accounts, given that the fund is a tax-paying entity.

Hide: Absolutely, but that contradicts what you said in your documentation, where you said that the fund overall has no net economic effect and presumably in that you include the idea that, all things being equal, it doesn’t increase the tax base.

Cullen: No, assumed no net economic effect.

Hide: Is that correct? Do you believe the fund will increase the New Zealand tax base?

Dangerfield ?: I can’t answer that without a further—I’ll need to reflect on that.

Hide: Can you reflect on that and come back to us.

Peck: I am now going to Mr Donald.

Donald: I have two broad questions. First, the remedy side of the equation. The last time you were here you were expressing concern about petrol prices and you were hoping they would drop. I am wondering whether they have dropped as far as you were expecting.

Cullen: They did, and then they went back up again.

Donald: Exactly. What I am wanting to know here is how that affects the outlook, because they do appear to have gone back up and stabilised.

Cullen: Yes, but on the other hand, the latest crude prices are back down. So one would assume that is going to flow through at some point. It is beginning to emerge that one of the factors that is complicating the situation is the Californian energy crisis, of course, coming into this. The dollar has slipped back slightly; we don’t know, honestly, where that is going in the medium term. But it shouldn’t have any great impact on the revenue side. The excise duty on the petrol is a flat rate, so the price of petrol does not affect the excise revenue at all. The GST revenue goes up, but the assumption is that by and large that is replacing lost GST revenue, because, clearly, if petrol prices are up, people’s discretionary spending elsewhere has to be reduced. They aren’t manufacturing more money to spend.

Rennie: In terms of our forecasting, we are assuming a crude price of around $30 a barrel at around the current time—

Donald: And the exchange rate?

Rennie: And the exchange rate about where it is now. It’s come up a little faster than we thought. So in terms of forecast assumptions we are not materially off that.

Donald: On the expenditure side, the opportunity cost of allocating Government income to the super fund, you said key policy goals, particularly education affects younger people, and then you go on to say that they are also scarce (?) in other policy areas. If you wouldn’t mind looking at your crystal ball: if we weren’t putting aside 2, 2½ percent of Government revenue into the super fund where would you be otherwise spending it?

Cullen: I suspect that you would have a faster run-down of the debt being held by Government. In other words, it would not all translate into expenditure. Probably some under changing Government scenarios would tend to end up feeding back through tax cuts. In other words, we would tend to feed consumption now in return for more problems funding expenditure later.

Donald: You would be investing more in young people?

Cullen: At the margins I don’t think it would make any significant difference at all. I have made the point time and time again that however you do it, a Government over the next 10 years ought to be running a fairly strong fiscal stance. It is a question of how it does that, what the make-up of that is. I think the people who argue that this is heavily constraining other expenditure are really saying that without this the Government could run a very loose fiscal stance over that period of time. I don’t think that would make sensible fiscal management, anyway.

Donald: My last question. Cutting expenses from just under 35 percent down to 32 percent, in your point of view, that’s not cutting anything out?

Cullen: Again I would emphasise that for 2003-4, 2004-5 that’s heavily driven by the technical assumption of 800 million. Of course, that also accumulates as 800, 800. You change that to 1,000, say, it becomes 1002 billion as opposed to 800, 1600, by year 3 it is 2.4 versus 3 billion. Quite significant changes start occurring as a consequence of changing that technical assumption. I anticipate that technical assumption will be changed in the Budget this year, which will drive quite a significant change in that operating expense number for the out-years.

Smith: The tables contained in this Budget Policy Statement cover a reasonable period of time—5 years. What advice have you received on the extent to which the growth projections that these figures are based on will achieve the Prime Minister’s stated goal of returning us to the top half of the OECD?

Cullen: It is clear that if we are to make significant progress on that, then by the end of that 5-year period we have to be doing rather better than these projections incorporate. Effectively, what the Prime Minister is foreshadowing is a range of policy changes in areas like IT, education, etc, etc, which are designed to drive a somewhat higher long-term growth rate. Clearly, a growth rate of the average that we’ve had in the last 10 years is not sufficient to do that; if anything, we would tend to fall further behind rather than catch up.

Smith: And I take it from that answer that you are confirming that the growth data incorporated into these projections will not achieve it, either?

Cullen: I think that’s correct. It requires improved policies by the end of this period driving stronger growth for that aim to start to be achieved.

Smith: Which of the policies, then, foreshadowed in this Budget Policy Statement has Treasury advised you that you will need changing if the Prime Minister’s goal is to be achieved?

Cullen: Policies foreshadowed in the Budget Policy Statement—there is a very limited amount of policy description here, quite deliberately. That’s my choice. I realise that you are new on the committee, Lockwood, but I have the view that the Budget Policy Statement in particular should primarily be just a simple statement of the aggregates, etc, in broad outlines and not get into the sort of political persiflage which we have been accustomed to in Budget Policy Statements.

Smith: I asked you about the Treasury advice you’ve received.

Cullen: So the issues, I think, are issues in relation to tertiary education, to skills, migration, information technology, business development and support, research, science and technology. This Budget Policy Statement does not go into those sorts of issues in great detail. It is not my intention to use the Budget Policy Statement as another opportunity for a glossy release.

Smith: What advice have you received from Treasury on what you need to change to achieve the Prime Minister’s stated goal?

Cullen: I think Treasury gives advice on all matters of Government policy relevant to achieving that goal and will continue to do so.

Smith: That’s not a very specific answer.

Peck: No, we are seriously over time. The Minister has been generous with his time, frankly.

Hide: I just have one quick supplementary on process.

Peck: Just very quickly.

Smith: I haven’t finished yet, Mr Chairman.

Peck: I’ll tell you now that I’ll wrap it up in the next couple of minutes.

Smith: One further, brief question. Minister, referring back to the discussion earlier on, the law is quite clear in what it requires of the Budget Policy Statement—

Cullen: Is it?

Smith: —and that is where there is a difference between stated long-term objectives and the short-term data presented, that the Budget Policy Statement must explain the reason. Now you have said that the statement with respect to long-term objective on expenses of maintaining that around 35 percent, the departure in the short-term data is explained in the paragraph that follows it on page 4, you’ve said. The law requires you to explain where the short-term data differs from the long-term objectives. The Secretary to the Treasury did not realise that paragraph following that bullet point on page 4 meant—that in fact that 35 percent—

Cullen: Oh! You managed to read his mind at that point!

Smith: —was to include transfers to the proposed super fund.

Peck: The question is?

Smith: The question is: have you complied with—let me put the question to the Secretary to the Treasury: has the law been complied with when a significant departure from the long-term expense objective is shown in that table there and there is no transparent explanation for it? Has the Minister complied with the Fiscal Responsibility Act?

Cullen: Well, I don’t think it’s a matter for the Secretary for the Treasury—

Smith: I’m asking the Secretary for the Treasury.

Cullen: Well, no, you actually can’t ask him to give a legal opinion about my actions. If you want a legal opinion I suggest you go and find a lawyer.

Peck: Exactly.

Cullen: Dr Bollard is an extremely good economist, but I would never get him to defend me in court on any charge, including a traffic offence.

Peck: And to ask a legal opinion is out of order, anyway.

Smith: The answer is pretty obvious, Mr Chairman. The Secretary to the Treasury did not seem to understand that that explained the difference, and—

Peck: That’s not a question; that’s a statement.

Cullen: I think the stunned mullet on my left might want to respond to that!

??: It’s an opinion but it’s not one that I share.

Peck: It’s a matter we will consider when we are doing our report. Minister, can I thank you—

Hide: A quick question on processes.

Bollard: Mr Chairman, can I just respond that it is my understanding that this is completely in line with the Fiscal Responsibility Act and all the proper processes that have gone with that. I would hate the committee to take a view otherwise from that.

Smith: Well, given that statement, Mr Chairman, could the Secretary find for me in this document where the explanation of the departure of the short-term expense pattern down to 32.3 percent is explained in a transparent way from the long-term objective of 35 percent? Where is that explained in this document? The Act requires that explanation; the law requires that. I am just seeking where in this document is that explained. [consultation amongst officials]

Cullen: I hope they get this right!

Hide: They’re going behind the Minister’s back.

Cullen: Well, that’s the role of Treasury!

Bollard: Mr Chairman, we’re quite clear about this. The expenses are quite consistent with the objectives in here. We don’t see any inconsistency and we have produced in this report—the Minister has produced in this report—something that we think is entirely consistent with the law as it should be.

Smith: Mr Chairman, given that answer can I just put a final question here. Is it considered that to change a long-term objective to include something as significant as transfers into the New Zealand super fund as not being a significant departure from the long-term objective? Are you quite seriously putting to me that that is not a significant departure from the long-term objective?

Peck: Order! Look, we’ve been over and over that ground. We’ve got considerable evidence for the committee to look at when the transcript is out, and I suggest we make our own assessments.

Hide: Can I just put a process question.

Peck: Very quick.

Hide: You said, Minister, that you wrote this document—

Cullen: Well, that is a slight exaggeration. You know how ministerial documents work. In the end I’m responsible for every word in the statement.

Hide: I feel better, because I was trying to work out that when Mr Peters was Treasurer; I’m assured.

Peck: Peter Dunne, for absolutely the last question.

Dunne: This is absolutely the last question. It picks up something that the Minister said before. This committee has recommended a different process for the Budget Policy Statement in the future, which looks likely to occur next time round.

Cullen: Yes.

Dunne: Can you indicate to us, bearing in mind your comment about what you think should be in the Budget Policy Statement, how the Budget Policy Statement presented next time round will therefore be different? I don’t mean in terms of specific content.

Cullen: Well, what I was indicating, Peter, I think before you came in, was that in my view—and what I would like the committee to give some thought to; it would require legislation and not the kind of legislation that would be a matter of great controversy, but it is something we need a consensus on to proceed—all the useful information which is in the Budget Policy Statement could be included in the December Economic and Fiscal Update. But there is not much point in giving the Budget Policy Statement which becomes a process of select committee hearings, etc, etc, and the examination of the Minister can be the examination on the DEFU. So my own inclination suggests that we take the BPS right out, in fact, and seek to incorporate within the DEFU the key elements in terms of the projections—it is a single document at that point—and then follow that proactive. I think what the select committee might want to do is—

Dunne: So the submissions would be on the content of the DEFU.

Cullen: Or, in your own view, as I understood it, perhaps a somewhat earlier process whereby the select committee might call for submissions in fact before the DEFU comes out and feeds in an earlier stage. I think the select committee might want to give some thought to how that fits in with the FRA and whether a change to the FRA might be desirable to achieve that end.

Peck: Thank you, Minister, and thank you to the officials. We have appreciated your assistance, as always.

Cullen: Thank you for covering the whole range of the Budget.

evidence concluded

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