The vanishing surpluses in Michael Cullen’s2008 Budget have not only scuttled his reputation for fiscal conservatism, butalso sounded the death knell for one of Cullen’s key policy legacies â€“ the NewZealand Superannuation Fund.
Remember, the rationale for running largesurpluses was that the money was needed to seed the NZSF (or Cullen fund). Butthe surpluses are gone, and the government now needs to borrow to meet itscontribution targets over the next four years (and Treasury has already warnedus that their economic forecasts are subject to downside risk).
It is a dubious proposition to assume thatrebuilding those surpluses will be a priority for a National (or any)government, or that future governments are likely to see a repeat of the fortuitouseconomic conditions that produced such big surpluses in the first place.
So what use is a Cullen fund that is beingsupported through government debt? Borrowing to invest is just a shell gamewith little impact on national savings. The only way the government could makemoney out of it is be exchanging its low-risk debt for higher-risk (andhopefully higher-yielding) assets.
If a financial advisor told you to take outa mortgage to invest in share markets, you would rightfully regard this asmadness. This kind of activity is only slightly more defensible for agovernment. Firstly, the government pays a lower rate of interest on theirdebt. Secondly, the government is better placed to bear this kind of leveragedrisk â€“ after all, even if markets collapse, the government still has thefall-back plan of off-loading the losses onto future generations.
But we usually consider the proper role ofgovernment to protect us to risk, not to take on more risk on our behalf. Isthe government seriously arguing that public policy intervention is requiredbecause New Zealand investors are too risk-averse?
A further caveat for those who seen this gambleas a sure thing comes from the recent credit crunch. The major global investmentbanks have recently managed to lose the equivalent of the Cullen fund manytimes over using precisely this strategy â€“ using their excellent credit ratingto borrow cheaply and make risky loans, hoping to pick-up a margin along theway.
There is little serious dispute thatsomething needs to be done about the looming increase in New Zealand superannuationcosts, which are projected to rise by over 4% of GDP over the next 30 years (ata time when government expenditure will also be under extreme stress fromrising health-care costs).
Meeting this rising cost from income taxalone would require around a 32% increase across the board, or a tax-hikeroughly four times as big as the tax cut coming in October.
But it is far from clear that the Cullenfund is much of a solution to this problem, even if a future government doesfind the capacity to fund it properly again.
There is a common misperception that theCullen fund provides a fix to the shortfall in super funding. However, all theCullen fund is intended to do is ease the transition costs as the populationages and the ratio of retirees to workers rises, which will lead to a permanentincrease in the expense of New Zealand superannuation (not just a baby-boomerhump). The Cullen fund doesn’t change the fact that taxes will ultimately haveto rise (or benefits be cut) to the tune of 4% of GDP, it simply delays the dayof reckoning.
Even a Cullen fund that is beingfully-seeded from fiscal surpluses only has two real advantages, the main onebeing that it is more equitable to extract some more tax from current workersas they are the prime beneficiaries of a super scheme that will pay them outmore than they paid in.
The other benefit is just realpolitik. Thecompromise solution for superannuation will involve both tax increases andreductions in payouts. But introducing the Cullen fund was equivalent tobringing forward that tax increase. In other words, the current Labourgovernment is attempting to bind future governments to a superannuationcompromise that is more heavily tilted towards raising taxes.
Of course neither of those benefits occurswhen the money being put into the Cullen fund is borrowed rather than paid forout of taxation.
Although both major political parties have claimedthat New Zealand Super will not be reduced in the future, this claim isincompatible with their current policy of lowering tax rates. Thiscontradiction (to put it politely) is actually worsening the problem, because afalse belief in the viability of superannuation discourages private retirementsavings.
Ironically, KiwiSaver in its current formis actually making the fiscal burden of superannuation worse. KiwiSaver actsas a further sinkhole for taxation but provides no mechanism via which themoney being accumulated in KiwiSaver accounts will offset the governmentobligations to provide superannuation. Realists should be suspicious that sucha claw-back is inevitable.
The Cullen fund was never much more than apalliative measure to calm public fears about the patent mendacity of currentsuperannuation promises. Now that it is no longer properly funded, it fails ateven that task. Nevertheless, this zombie fund seems destined to linger onindefinitely while our current politicians lack the conviction to tackle thesuperannuation problem head-on.
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