Infometrics
Infometrics
PUBLIC ACCESS:
Rational analysis not an ideological wishlist
Fri 19 Dec 2008 by David Grimmond.

Labour leader, Phil Goff, labelled the Treasury’s Briefing to the incoming Minister of Finance as an "ideological wish list".  However, far from being ideological, the briefing represents the rational consequences of sound analysis.   Implementing the policies recommended in the briefing would make New Zealanders better off, encourage our best and brightest to remain in New Zealand and enhance the fairness of our society.   The Treasury should be thanked and praised for producing a clear, honest, and well constructed summary of the economic issues facing the country over the next few decades.   We ignore their warnings and recommendations at our cost.

The briefing correctly focuses on medium term economic performance     Treasury notes that economic growth is a dynamic process of creation and destruction; the creation of new firms, new investments and new methods of production drive growth and replace the old, less productive firms and methods of the past.   It may seem perverse, but economic downturns are important for the long term performance of an economy as they encourage there allocation of resources from poor performing activities or management teams.  

In contrast the consequences of the current global financial crisis seem so severe that it is better to prop up the failed management teams than to risk a precipitous collapse in economic activity.   But ultimately our wealth depends on making the best use of the resources available to us.   Waste and privilege ultimately just make us collectively poorer. Our ability to make the best use of the resources available is what will generate the fastest expansion in wellbeing.   If the expansion is not adequate people will simply vote with their feet and go where prospects are better – humans have always been willing to migrate.

The difference between well performing and poor performing economies is not the motivation of individuals but the fairness of the rules and laws at rewarding effort and innovation.   As a rule of thumb, simple and transparent economic rules typically outperform complicated systems.   The more complicated are the rules, the more opportunity there is for the unscrupulous to exploit the rules for their private gain, the more costly it is for the scrupulous to comply with the rules, and the more costly it is for the government to administer and police.

The Treasury’s policy recommendations from the briefing are in line with this precept.   For example the tax system has got increasingly complex in recent years, and Treasury’s proposals would do much to simplify the tax system.   A flatter personal tax system would remove distortions and inequities in the labour market.   It would also reduce incentives for trusts and the channelling of personal income through businesses.   Such vehicles benefit individuals but at the cost of higher taxes elsewhere.   Also the extra income made by the lawyers and accountants that set up and manage these arrangements represent a diversion of resources from other business activities.

Likewise the current system for taxing income from saving and investment is highly complex and far from uniform.   If the returns from different investments attract different rates of tax this means that investment decisions will be unduly influenced by tax rules rather than on the soundness of the investment decision.   Investment should be the prime wealth creating activity for the nation, but every time an investment decision is influenced by the tax system it represents a lost opportunity.

Unfortunately, actual economic policy will be inferior to that recommended by Treasury.   There are several reasons for this.   The first is timing.   Treasury and other departments cannot deliver their briefings until after the government has formed.   Given election pledges and coalition formation horse trading, the government is already committed to many policies.    

Then there is political expediency, a dirty term that refers to protecting the interests of special groups.   These groups try to convince us that what is good for them is good for the country, but really they are just trying to protect their privileged position.

Finally there is the self interest of politicians.  Politicians depend on our votes, which means that they will generally implement policies that are beneficial to us.   But this does not mean that the policies offered will necessarily be the best possible.   National’s tax cuts are a casein point.   The key economic benefits, as identified by Treasury, will come from a removal of the top tax scale.   Instead National is proposing to drip feed tax cuts.   This works great if your interest is to make voters beholden to your government (indeed this is a lesson learnt from Labour), but in reality all it means is making do with a poor and unfair tax system.

Related Articles