Former Economics Editor of the NZ Herald

Brian Fallow: Bill aims to improve fiscal management

New Zealand's ability to weather the storm of the global financial crisis was materially assisted by low levels of government debt. Photo / Dean Purcell
New Zealand's ability to weather the storm of the global financial crisis was materially assisted by low levels of government debt. Photo / Dean Purcell

When finance ministers write a budget they are bound not only by the laws of arithmetic but by the law of the land.

While the former are pitiless and immutable, the latter can be improved upon, which is what legislation introduced to Parliament by Bill English last week seeks to do.

To the principles of responsible fiscal management enshrined in the Public Finance Act it would add some new ones.

They include "formulating fiscal strategy with regard to its interaction with monetary policy" and "formulating fiscal strategy with regard to its likely impact on present and future generations".

Would this make any difference?

After all, the fiscal responsibility provisions of the act impose no legal sanctions for breaching them. They aim instead to influence governments' behaviour by requiring them to be transparent about aspects of fiscal policy.

The existing principles enjoin the Government to run operating surpluses until a "prudent" level of debt is reached and a balanced budget "on average, over a reasonable period of time" once it has been.

If the principles are to be departed from the government of the day has to explain why and how, and how quickly, it intends to return to what the principles require.

The Treasury, at least, thinks this does make a difference.

"Our experience with the current provisions leads us to believe they can and do positively influence government behaviour," its regulatory impact statement says.

It is a plausible claim.

New Zealand's ability to weather the storm of the global financial crisis was materially assisted by low levels of government debt.

Whether Sir Michael Cullen, and Sir William Birch before him, would have been so assiduous in paying down the debt without a statutory injunction to do so, who can say?

But it obviously didn't hurt.

The new bill requires the Government to be explicit about how the fiscal policy it wants to run is likely to impact on the economic cycle and therefore on monetary policy.

The prevailing stance of fiscal policy is, of course, one of the things the Reserve Bank has to take into account when setting the official cash rate.

The aim of the change, according to the Treasury, is that requiring governments to expressly take into account the impact of fiscal policy on the cycle should result in fiscal policy that is less procyclical, that is which amplifies the economic cycle less.

That would put less pressure on monetary policy and result in lower interest and exchange rates than would otherwise be the case.

One of the consequences may be running larger surpluses during booms.

Amending the legislation as proposed might, the Treasury suggests, make it easier to resist pressure to use cyclical boosts to revenue to fund structural changes such as increased spending or tax cuts.

It would be no substitute for political fortitude.

But it might help a Finance Minister say no to his or her colleagues.

Cullen points out, however, that in practice policy has to be made in light of economic forecasts at the time and they can be wide of the mark.

He is sometimes criticised for running too stimulatory a fiscal policy in the last couple of years before the global financial crisis.

But the Treasury's forecasts in the 2006 Budget predicted an imminent slowdown to 1 per cent growth, which with hindsight was much too pessimistic - much as its forecasts in more recent years, especially two or three years out, have been too optimistic.

"My problem would be not that it is theoretically undesirable. It's just that in practical terms it may not be terribly useful, primarily because of the vagaries of forecasting," he said.

Even so, the fact that the issue is on the table is a sign of progress.

It suggests policymakers have moved on from one of the doctrines of the neo-liberal paradigm that has dominated the past 30 years or so.

It is the idea that the task of stabilising the cycle can be left exclusively to all-powerful central banks.

It was thought that fiscal policy took too long to act and was too likely to be distorted by political constraints.

This let governments off the hook, free, in the name of undertaking "structural" changes, to run procyclical fiscal policy if it suited them and leave their central banks to do all the countercyclical work, cost what it might in interest and exchange rates.

Then came the GFC and that neat division of labour was swiftly dropped. Governments got very Keynesian very fast. But not for very long.

Faced with the question, "which is the bigger problem, too much debt or not enough jobs?" most have opted for the former.

Austerity reigns and in New Zealand at any rate, fiscal policy has turned contractionary.

It does allow the Reserve Bank to keep interest rates lower for longer, but that is not without its perils in the context of an overvalued housing market.

The other major factor English's bill would require his successors to expressly consider is the implications of fiscal policy for future generations. The equivalent Australian legislation has a similar provision.

At present the time horizon is 15 years.

This policy has arguably already been "operationalised" in the way the Treasury is going about preparing its next Long-term Fiscal Statement.

It is replicating the process used by the tax working group in 2009, under the same chairman, Professor Bob Buckle.

An external panel of the great and the good will debate the underlying assumptions of the statement - demographic and productivity trends for example - and make public the papers put before them, ahead of a conference in December.

Where the previous two statements, written in house, projected forward existing policies and arrived at scary numbers for debt levels by mid-century, the approach this time seems to be to arrive at some sort of desirable level of debt by then and focus on the kinds of policy changes that would be needed to bend the curve down to that level.

That is a more useful approach.

Notably missing from the bill is a spending cap such as was envisaged in the confidence and supply agreement between National and Act.

An Act bill that would have limited annual growth in the Government's operating spending to the rate of inflation plus population growth, unless over-ridden by referendum, died in select committee.

The Treasury is against it.

And when the policy was debated before an audience of economists and policy wonks in Wellington last week it was heavily defeated.

- NZ Herald

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Former Economics Editor of the NZ Herald

Brian Fallow is a former economics editor for the New Zealand Herald. A Southlander happily transplanted to Wellington, he has been a journalist since 1984 and has covered the economy and related areas of public policy for the Herald since 1995. Why the economy? Because it is where we all live and because the forces at work in it can really mess up people's lives if we are not careful.

Read more by Brian Fallow

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