TSY Secretary at PREFU 2023
The lights stay on, but there will be no home improvements
Wed 13 Sept 2023 by Brad Olsen in Government

This opinion piece was first published in The Post on 13 September 2023.

Buried within the PREFU came a stark warning: although there’s money set aside to cover the critical cost pressures of government, that’s about it – so any future decisions around additional spending will need to be made in the context of raising more revenue or spending cuts elsewhere. That means there’s enough to keep the lights on, but maybe not enough to buy a new lamp.

Each year, the government provides itself an operating allowance – the amount of additional money able to be spent. They’re sizeable sums, $3.5 billion for Budget 2024, $3.25b in Budget 2025, $3b in Budget 2026. Normally, that is thought of as mostly for new policy announcements by the government at each Budget. But it also needs to cover the cost pressures of providing the same services each year – pay rates increase, the cost of building rises, etc.

Although $3.5b sounds like a lot of money, at a government scale, it doesn’t go far in today’s world. At this year’s Budget, Treasury suggested around $2.8b of the $3.5b each year in the next few budgets would be needed to maintain the current levels of government services after accounting for the inflation and wage increases expected. More directly, it said “operating allowances should be sufficient to cover cost pressures to existing services but would leave limited headroom for other investments”.

In the PREFU, this warning was expanded, with Treasury stating that “the remaining Budget operating allowances should be broadly sufficient to meet remaining critical cost pressures not already funded, however, significant trade-offs will be required”. But additional demand, like faster-than-expected population growth, isn’t factored in, and “could add extra pressure to future Budget allowances”.

Treasury also, said, diplomatically, that “in recent times, government’s final allocations have exceeded the signalled Budget allowance. If this trend was to continue and there was no corresponding offset from either an increase in revenue or a reduction in expenses, there would be an adverse impact on the fiscal outlook.” In other words, governments often spend more than they had anticipated or signalled, and unless there’s A) more revenue coming in, or B) something else not being funded, then C) it’s got to be funded by debt.

Which means that although there’s always more money spent each year, it will become increasingly difficult to announce new policies without removing old policies, generating more revenue, or further adding to debt. None of these options stand out as an obvious appropriate or “right” choice – hence the warning of “significant trade-offs”.

It was already clear that the fiscal outlook was going to be more difficult. Over the 11 months to May, the tax take was already $2b below forecast, as cost increases saw business profits fall and a lower company tax take. Some of that lower earning potential persists into the future, with Core Crown tax revenue set to be $3.5b lower over the forecast period compared to Budget 2023. At the same time, Core Crown expenses are set to be $7b higher than previously forecast.

Treasury stated clearly that the demand generated by increased net migration would outweigh the supply boost to the labour market, adding to inflationary pressures in the economy.

With several other changes in the mix, net debt in 2027 will now be $13b higher than previously expected – debt needing to be paid off by future generations. The mix of lower tax revenue, higher spending and more debt means that the forecast return to surplus has been pushed out another year, to 2027.

At a time when households and businesses are making difficult decisions around what gets spent on, and what gets left behind, finding $4b in savings, but then adding $7b more to spending, implies the government is not taking a prudent approach to its finance or tightening its belt, as the private sector is being forced to do.

To be fair to Finance Minister Grant Robertson, he was willing to discuss the approach being taken. He highlighted that there is a bit of everything in the outlook: some more revenue being introduced, some less revenue being collected, some higher expenses coming through to pay for cost pressures in the economy, and some lower expenses as government seeks savings. In his view the approach taken was balanced, providing the services that people expect from government.

There’s some good news among the doom and gloom. The economic outlook looks similar to the last Treasury forecast at May’s Budget. Amid the economic worries at home and abroad, the expectation that New Zealand is emerging from recession will be welcomed by many.

However, much of the strength in the economic outlook is underpinned by higher net migration, with Treasury now expecting a peak of nearly 100,000 more people to move to New Zealand than leave this year alone. The additional supply of labour means workforce shortages are being reduced. More people also means more sales can occur than before, increasing spending more than otherwise. But this demand poses other challenges, with Treasury stating clearly that the demand generated by migration will outweigh the supply boost to the labour market, which adds to inflationary pressures in the economy.

Regardless of our stronger performance than other parts of the world (a fact, not an opinion), and despite a stable economic picture, New Zealand will still need to grapple with the challenge of trade-offs at some point. Are we willing to increase government revenue somehow to pay for our spending? Are we willing to adjust our expectations of what the government provides, and doesn’t provide, to citizens? Or do we just keep kicking the can down the road, funding new investments through debt to be paid for by someone else in the future?

Because that’s what we’re doing. Essentially, PREFU 2023 showed that future Kiwis face a higher debt burden to keep the lights on today. The operating allowance is sufficient for funding the rising cost of current public services, but there is little headroom for any new spending going forward. There are no easy options, apart from the easiest but worst option of them all – worry about it later. The longer we delay making the difficult choices, the more painful that adjustment will be. Treasury has clearly signalled that changes are becoming increasingly necessary.

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