Government set to dampen Budget expectations

Election 2017 saw some high-profile and costly spending promises by all three parties now in government, and expectations are high for more cash in the upcoming budget. Finance Minister Grant Robertson will lay out his spending plan on May 17, with a mixture of red, black, and green anticipated.

This article explores the major spending areas the government has committed to on the campaign trail, and what needs funding. It then sets out the shift in spending priorities by the new government and the difficulty in funding them all. Finally, it considers if the Budget Responsibility Rules are too much of a constraint on government spending in light of the huge fiscal wish-list.

Expected lolly scramble may not be as sweet

Labour had promised the world to any and all that asked for it in a bid to get back into government during the 2017 election. Now that Labour controls the purse strings, Treasury has had to provide a reality check about how much they can actually spend.

Though the coalition government reversed the tax threshold changes of the former government, it has also committed over $2b towards fees-free tertiary education. The total funding available in Budget 2018 is unlikely to be able to meet the expectations across different sectors who have heard promises of increased money throughout the election campaign.

Two areas the government has singled out for large increases in spending are health and education, although they, too, might not get all they expect.

Education trade-offs: teachers and classrooms

Earlier in April the government warned that $200m of school buildings weren’t fit for purpose and should be demolished. This announcement signalled a significant need for new capital in education both for maintenance and renewals, but also to service population growth. Importantly, the Government has ruled out public-private partnerships (PPPs), requiring Treasury to provide the cash up front for new school projects.

At the same time as these school building needs have been identified, teachers have announced they are mulling a 16% pay increase pitch. When considering this proposal against the backdrop of a shortage of teachers, it’s easy to see potential costs spiralling away from what the education budget can actually afford.

Funding diagnosis: too many unknowns

Health is another high-profile spending area for the government. After issues with Middlemore Hospital were aired publicly, the Health Minister announced around $14b in capital funding was needed over the next ten years in the health sector. Some projects are small, quick fixes, but others are large projects that will need to be fully funded by the Crown upfront. Again, the government has shunned PPPs in the health sector, meaning projects such as the $1.4b Dunedin Hospital redevelopment will quickly eat up funding for health capital expenditure.

The health sector also has staff resourcing issues. Hospital operations are under threat from potential strikes by medical staff and nurses after the Government signalled a significant rise in heath spending.

Signing a stack of new cheques

The change of government has caused many organisations to urgently establish what changes might result from the Labour/NZ First/Green triumvirate.

One of the largest changes in policy direction has been in transport (which we covered in our latest forecasts). Not only has an entirely new direction been established, but previous ideas about future projects have begun to be reversed (with expectations for a four-lane highway south of Whāngārei now dashed ).

Already the government has committed to several costly new policies: a $2b+ spend on the fees-free tertiary education package, and another $2b earmarked for KiwiBuild.

Add in the investments the Government has announced for rail, rapid transit, and public transport, and it’s obvious that money’s tight.

Future relaxing of the BRRs?

In light of the growing fiscal demands, could we just spend more? Much of the recent commentary has rightly tried to reconcile the coalition’s lengthy spending promises and ambitious work programme with the Budget Responsibility Rules (BRRs) that guide public spending. These Rules are self-imposed by the Labour and Green parties, and have no official significance. The BRRs detail that net core Crown debt is to be 20% of GDP within five years of taking office. Although the government’s debt track is slightly higher than it was for the previous government, both show debt falling to 20% within five years.  

Source: Source: Treasury
Note: All figures are as published in the HYEFU or PREFU documents, and do not include GDP revisions

 

This debt-to-GDP ratio targeted by the coalition government is at odds with its desire to undertake major investments in a large number of areas including conservation, health, education, and transport. It essentially stops them being able to pay for all of their promises.

Increasing debt (or debt-to-GDP) is not necessarily a “bad” move: debt spreads the cost of capital items across time (and in doing so, spreads the cost across future taxpayers that will use the assets). The concept is often described as intergenerational equity.

If debt repayments were slowed to allow for greater government spending, there would be no discernible effect on financial stability or credit ratings. We anticipate the coalition government will resist the urge to alter the BRRs until after the 2018 Budget. Over the next 12 months, calls for more spending in priority areas will increase, eventually forcing the government to drop its constraints and slow debt reduction targets to spend more.

Such increased debt should only be taken on if it is to purchase genuine capital needs rather than other government spending whims. Well-built hospitals and schools, rather than an ineffective fees-free education package, should be prioritised for new spending, debt-funded or not.

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