Fiscal cannon aims to flatten the economic curve

Facing the greatest economic downturn in a century, Budget 2020 was always going to present a grim picture of rising unemployment, lower economic activity, and ballooning debt. But the Budget also lays a firm foundation for the economy to recover, with spending on areas needed to both respond to, and recover from, the COVID-19 pandemic and resulting economic downturn.

Finance Minister Grant Robertson and Treasury, the government’s lead economic advisor, had no good options, but instead had the unenviable task of balancing spending requests with careful fiscal management, in the shortest time possible. Indeed, Cabinet only signed off key Budget spending the Monday of Budget week, with details of key spending policies still to be determined. In this article, we break down some of the core elements of the Budget, what they mean for New Zealand, and what comes next.

Jolting the economy back to life…

Government spending rises to keep the economy from flatlining, with Treasury forecasting that total Crown expenses will rise by just over $31b in the 2020 fiscal year to $143b. This increase is driven by higher transfer payments (more people on the unemployment benefit, and higher benefit rates) alongside response and recovery activities like wage support and spending on health and education. The government’s central response to COVID-19 is contained in a $50b fund, within which separate announcements have been made.

These announcements span both immediate responses and economic recovery, including but not limited to:

  • A $5.0b package of borrowing for 8,000 new state houses over five years
  • A $3.9b boost (over four years) to health funding
  • A $3.2b extension to the wage subsidy (for eight weeks)
  • A $3.0b infrastructure funding pool
  • A $1.6b education package for trades ad apprenticeships
  • A $1.2b boost to KiwiRail capital investment
  • A $1.1b environmental employment package

At the same time, the tax take declines due to lower employment, fewer hours, and lower pay, with total Crown revenue declines by around $4.7b to around $114b.

…but the defibrillator comes at a cost

The result is a government deficit unheard of in recent times of $28.3b, with the trend of higher spending and lower income seeing the government run three years of $20b+ deficits.

To bridge the deficit, the government must borrow, with net core Crown debt rising by nearly 250% within 5 years from $58b in 2019 to $201b in 2024. With output also dropping even as debt rises, the net debt to GDP ratio measure rockets up from 19.0% in 2019 to an eye-watering 53.6% in 2024.

To be clear, it is important to borrow now to ensure the New Zealand economy maintains momentum. All this borrowing begs the question about how all this debt will occur, especially given the fact that the Reserve Bank of New Zealand is now buying government bonds. For a simplified explainer, see this recent Re: piece.

Preparing the next salvo of stimulus

The centrepiece of Budget 2020 was the $50b COVID-19 Response and Recovery Fund (CRRF). In some ways, the $50b has been hard to fully understand, given the different timing of documents. In Table 1 we try to simplify the structure of the Government’s pandemic spending:

PolicyCost ($b)
Economic Response Package (announced 17 March 2020)
Initial Wage Subsidy Scheme5.1
Income Support package2.8
Tax package2.8
Other1.4
Total12.1
Covid-19 Response and Recovery Fund (announced 14 May 2020)
Wage Subsidy Scheme extension6.9
Loss Carry Back Provisions1.6
Other2.2
Remainder of Fund39.3
– Decided after 20 April and included in Budget 202019.4
– Still to be allocated19.9
Total CRRF50
Total COVID-19 Spending62.1

In total, the government has committed $62.1b to the COVID-19 response so far (although the Wage Subsidy is now much more expensive than anticipated), with around $20b remaining unallocated.

With this remaining funding, Finance Minister Grant Robertson has options, and the ability to pause and assess what additional support is needed as the new economic landscape emerges.

Rebuilding our pandemic insurance will take tough calls

Budget 2020 marks the end of the beginning, rather than the beginning of the end. Substantial spending to keep the economy alive will require hard choices about how we unwind our debt. None of these options will be popular.

The rapid rise in debt levels remains manageable, with international ratings agencies comfortable with both the debt profile and the government’s response to COVID-19. Yet at the same time, New Zealand has just cashed in our pandemic insurance that we have saved for over the last 30 years.

New Zealand will face another issue before long – a natural disaster like an earthquake, a global financial breakdown, or another health pandemic. To adequately respond to these issues, without saddling future generations with insurmountable debt, we need to starting thinking of repayment. The policies for repayment won’t, and shouldn’t, be implemented now, to allow time for the economy to recover. But after we move forward and the rebuild starts to slow, the can will have been kicked far enough down the road.

To pull down debt levels, either revenue must increase, or expenses decrease. Expense change, like adjustments to the New Zealand Superannuation age or similar, are likely areas of change. But expense changes often offer only incremental changes. Instead, increased tax takes seem to be the most likely method to rebuild our resilience fund.

Various options remain on the table for tax change, including an additional higher tax bracket, a more comprehensive tax on capital gains (to bring these gains in line with taxation on other income), environmental taxes (which could also better capture pollution creation), or even wealth taxes.

No matter what options are put on the table, tough calls remain. A balance will need to be struck between not going too early to stop the rebuild and not going too late to bring down debt levels appropriately to ensure we can respond to the next crisis.

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