Brian Fallow 's Opinion

The Economics Editor of the NZ Herald

Brian Fallow: Tax initiative sets Labour apart

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Parker’s Budget echoes Govt’s in many ways, except it repairs gaping hole where capital gains levy should be.

David Parker. Photo / Sarah Ivey
David Parker. Photo / Sarah Ivey

If the Budget Bill English delivered in May was fiscally responsible and appropriately countercyclical, you would have to say the same of the alternative Budget David Parker presented last week.

There are important differences, of course, but the similarities are striking.

Both are committed to running surpluses and paying down debt. Over the three years 2015/16 to 2017/18 inclusive they both forecast operating surpluses which are almost identical.

The debt target Labour focuses on is net debt including the assets of the New Zealand Superannuation Fund, to which it would resume contributions four years earlier than National.

So it borrows more but has a corresponding increase on the asset side of the Crown's balance sheet.

This measure of net debt would fall from 15 per cent of gross domestic product now to 12.1 per cent in 2017/18 and 3 per cent three years later, compared with 11.8 per cent and 3.7 per cent projected in Budget 2014.

The differences are so deep within the margin of error as to be essentially the same numbers.

Labour would have a slightly higher tax track but the key word there is "slightly". Over the three years to 2017/18 the net effect of its tax changes would be to raise the forecast tax track by 0.5 per cent, an average of $362 million a year on top of the average $74.1 billion a year projected in Budget 2014.

May's Budget increased the operating allowance - the provision for new spending initiatives and/or "modest" tax cuts - to $1.5 billion from $1 billion previously.

Parker's alternative Budget keeps that limit.

And in a welcome exercise in transparency Labour commits two-thirds of that allowance, an extra $1 billion a year, to health and education in order to preserve the real value of spending in those areas.

Any increase in government spending above the $1.5 billion allowance (which in both cases increases by 2 per cent a year) would be funded by additional tax revenue.

The $1.5 billion allowance was calculated by the Treasury, and then run past the Reserve Bank, as the most the Government could expect to get away with, all else being equal, without triggering a material (25 basis points) increase in interest rates, given that the economy has entered a period where it is growing faster than it can handle on a sustained basis without inflation becoming a problem.

In such circumstances fiscal policy needs to be contractionary, or else the central bank will have to counter it with interest rates higher than they would otherwise be.

It is a constant refrain from the Government that it is managing its finances in a way that does not put added pressure on interest rates and the dollar. Consistency requires it to acknowledge the same merit in Labour's fiscal policy.

But if there are close similarities in terms of the big-picture fiscal policy setting, there are big differences in tax policy between the actual and alternative Budgets.

Labour plans to repair the conspicuous gaping hole in the tax net where a capital gains tax should be.

Its version of a capital gains tax has a lot of carve-outs, most notably the family home, and the rate at 15 per cent is concessionary compared with other forms of economic income.

Some of the exemptions may be more apparent than real, however. For example, "capital gains on inheritance passed on after death will be rolled over to the heir", it says, but then adds "and not payable until the gain on the asset is realised". That would often be pretty quickly.

Because the tax would not apply to gains which predate the introduction of the tax and is only payable upon realisation, it would take years for the revenue to ramp up. Labour is reckoning on just $25 million in 2015/16 rising to $1 billion five years later.

However, a back-of-the-envelope calculation suggests that when the scheme is mature and well clear of the grandfathering provisions, it will be a substantial source of revenue.

For example a rough estimate of the current value of residential investment properties would be $200 billion.

The average (compound) rate of house price inflation since 2000 has been about 6.7 per cent a year. A 15 per cent tax on such gains would be 1 per cent of the value of asset base or $2 billion a year - if the tax had already been in place for years, as it has in most developed countries.

Labour would also raise the marginal income tax rate for the 2 per cent of taxpayers earning more than $150,000 a year from 33c to 36c in the dollar.

Together with a matching increase in the trust tax rate (to pre-empt the most obvious way of avoiding the higher rate) would bring an additional $400 million a year in 2015/16 and $600 million two years later.

This will widen the gap between the top personal and trust rates on the one hand and the company tax rate on the other to 8c in the dollar from 5c now.

We can expect tax practitioners to happily hammer that wedge into the hull of the good ship Revenue on behalf of those of their clients who can redirect earnings into company structures. There is no attempt to quantify that particular risk to the fisc.

But other tax changes Labour plans which will cost the Crown money are explicitly quantified.

These include the reinstatement of research and development tax credits, members' tax credits for an additional 500,000 people in KiwiSaver once it is made compulsory and the Best Start payment for very young children, with a combined fiscal cost of nearly $600 million by the 2017/18 year.

All of this is Labour's alternative Budget. Current polling indicates that if there is a change of government, Labour would have to take more account of what coalition or support paries want than National would.

Parker concedes the point. But he points to the line in his alternative Budget for the cost of policies yet to be announced: around $500 million in 2015/16, an additional $500 million the following year and a further $350 million the year after that.

While some of this will be filled in as policies are announced before the election, " there is leeway within this line to fund policies of Labour's governing partners." And if there is not enough leeway? Then some of what Labour wants to do may have to be trimmed, he says.

- NZ Herald

Brian Fallow

The Economics Editor of the NZ Herald

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