Fran O'Sullivan: Doing it on the cheap a false economy

The country can't fund bailouts for commercial failures like AMI on top of paying for Christchurch's recovery. Photo / Greg Bowker

Bill English looked positively gaunt as he fronted the television cameras on Thursday to reveal that the Government might have to find another $1 billion to underwrite the latest episode of Kiwi commercial incompetence.

English isn't saying so publicly (at least not yet).

But I'm sure that in his bones he knows very well indeed that former Finance Minister Sir Roger Douglas has a point when he says the impending bailout of AMI's policy holders has led New Zealand right to the precipice of economic collapse.

Douglas is also right on the button when he asks: "Who will bail out Bill English when the New Zealand Government keeps living on the edge of financial ruin where one more unforeseen catastrophic event will push them over the edge?"

This is a question that needs to be asked. The time must surely be fast approaching when others will be asking some very tough questions.

Particularly, the international credit ratings agencies and the country's overseas lenders on the extent of the New Zealand Government's capacity to keep writing cheques for disasters - natural and financial - while it continues to fork out to fund its predecessors' gold-plated electoral bribes.

And borrows hugely overseas to keep the whole show going because it doesn't want to increase revenues by putting taxes up again - the only real avenue that it has to bridge the ever-expanding Budget deficit in the absence of significant spending cuts or quickly selling shares in a major asset.

It's tempting to dismiss this latest catastrophe as rotten, bad luck - and it is. But a disturbing pattern has emerged.

Take South Canterbury Finance, which kept on offering above market rate debentures - thus pushing up the taxpayers' upfront liability to about $1.8 billion - when we now know that even the Prime Minister was told shortly after taking office that the finance company was staring at bankruptcy.

Instead of taking quick action and slapping the finance company into statutory management - which would have at least put a ring around the amount the Government ultimately had to stump up to pay depositors under the guarantee scheme - it was left to limp on towards ultimate failure while ministers hoped a white knight would emerge and take the problem away.

The big lesson of the global financial crisis is that the obvious white knights frequently have problems of their own. Governments should move quickly if a company is deemed "too big to fail".

Wipe out any shareholders in an afflicted company who will not contribute to the "bailout" and extract as much revenue back as possible after the reconstruction and ultimate sale back to the private sector. The consequences of inaction lead to bigger failure.

But the real downside of these catastrophes is that they deflect too much official attention away from defining policy agendas, such as Key's dream of setting up an Asia-Pacific financial services back office here, or boosting New Zealand's performance by leveraging our valuable petroleum and mineral resources and expanding NZ Inc's footprint in China.

These important issues are getting little public focus while the Government keeps applying sticking plasters to ever bigger wounds.

What does surprise in the AMI debacle is that the Government has extended its relatively open-ended support package without either taking full control of the insurer, or first organising a backroom deal for a better heeled insurer to buy the business off by writing a cheque to mitigate taxpayer exposure.

The reality is that the policy holders will still jump ship to better managed companies, safe in the knowledge that the government-backed AMI must cover their earthquake losses.

If the Government had fully stepped in - instead of putting a very expensive toe into the water - the policy holders might feel more confident in their company's medium-term prospects.

It's possible that the May Budget was just too close for English to risk a ratings downgrade by crystallising expected losses at this point.

Just a few weeks ago, I wrote about the leaky building syndrome which resulted in our cities being decimated by rotting buildings -a multibillion-dollar disaster that wouldn't have happened if we had adhered to top-notch building and material standards instead of "doing it on the cheap".

Not to mention the $7 billion of savings lost in the finance companies' collapse while the political and regulatory establishment looked on.

And the damaged buildings left standing in Christchurch after the September quake because disaster wouldn't strike in the same place twice.

Now we're faced with making good on the promises of an insurer that chased market share by undercutting competitors without having sufficient reinsurance.

English will continue to be tested. He hadn't started his pre-politics Treasury career when Douglas grappled with the 1984 financial crisis. Today's MMP environment makes it more difficult to take swift and comprehensive action.

Others in the Cabinet will not want to rock the electorate by taking truly tough choices before the election. But the day of reckoning will eventually come.