OECD warns NZ Govt it shouldn’t borrow to pay for tax cuts

Finance Minister Nicola Willis says that while she doesn't agree with all the OECD's recommendations, the Government's already working on many of them. Photo / Mark Mitchell

The Organisation for Economic Co-operation and Development (OECD) is issuing a stark warning to the Government three weeks out from the Budget – tax cuts should be “fully funded” by spending cuts or new sources of revenue, not debt.

The organisation made the statement in a new detailed biennial report on the New Zealand economy.

It noted the pandemic, and spending overruns that followed, led to a “permanent increase in the government spending to GDP [gross domestic product] ratio, resulting in a substantial deterioration of New Zealand’s fiscal position”.

The OECD suggested the Government “gradually” get the books back in surplus.

It said if that if the Government chose to do so by increasing taxes, it should broaden the tax base rather than raise existing taxes.

Like the International Monetary Fund, it said New Zealand needs a capital gains tax, because shares, land and owner-occupied property are treated favourably under the tax system.

On the other side of the ledger, the OECD flagged the costs New Zealand faces as the population ages. It suggested “acting now”, gradually increasing the age of eligibility for superannuation.

It supported the Government cutting its spending, but said it should be mindful of any unintended consequences associated with doing so.

“For example, setting unrealistic fixed headcount targets for government agencies can at times lead to excessive hiring of consultants and temporary workers, which can be costly and counterproductive,” the OECD said.

Finance Minister Nicola Willis said “The Government is already acting on many of the initiatives proposed by the OECD and we will give consideration to its other recommendations.

“While we do not agree with the OECD about everything, we welcome its expertise and the opportunity to have our thinking tested by it.”

The OECD pulled up the previous Government for consistently spending more than it said it would, saying these increases weren’t always justifiable after the initial onset of Covid-19.

“Expenditure slippage is sometimes justified as a “one-off”, but a repetition of “one-offs” can quickly contribute to a permanently higher trend increase in expenditure.”

The OECD said that while the stimulus provided during the pandemic was warranted, its effects were more inflationary than in other countries.

It said this was partly because the Reserve Bank went into the crisis with more scope to lower interest rates than other central banks, which had looser monetary conditions in place to begin with.

It also said the domestic supply shocks faced by New Zealand, as it grappled with a labour shortage and issues caused by Cyclone Gabrielle, were more pronounced than elsewhere.

The OECD recognised New Zealand’s low economic growth is partly a consequence of the necessary rebalancing of the economy post-Covid.

It said interest rates should remain high to curb inflation.

However, it saw economic growth remaining sluggish and New Zealand’s trade deficit remaining deeper than it has been in the past.

Among other things, the OECD believed taking a more aggressive approach towards improving competition between businesses in some sectors would bolster the country’s waning productivity growth.

“Large firms in New Zealand often face weaker pressures to innovate, seek efficiencies, and provide better services and lower prices to consumers,” the OECD said.

“In some sectors, market concentration can be so high that regulation will not suffice to improve competition enough, and structural solutions such as break-ups (although as a measure of last resort) could be warranted.

“New Zealand would also benefit from adapting its competition regulations to the new challenges of market power in digital markets.”

Improving education was another issue the OECD was big on.

“There is an urgent need to improve the curriculum, reform teacher education and strengthen support to teachers and schools.”

It noted New Zealand students’ Programme for International Student Assessment (Pisa) scores had been dropping at a faster rate than the OECD average.

On the issue of climate change, the OECD made several recommendations that don’t sit that well with the Government’s plans.

It said the agricultural sector needs to improve the way it measures emissions, so it can start paying for these.

It flagged New Zealand’s focus on planting trees to offset emissions, rather than reduce emissions, saying a review of the Emissions Trading Scheme was required. The Government has put the brakes on a review the previous Government started on this issue.

As for reducing the effects of climate change, the OECD said local government will need extra revenue to pay for more resilient infrastructure.

It also said the Government should start planning for what would happen if property owners couldn’t get affordable insurance cover for floods.

The OECD said it should monitor the price and availability of insurance and “stand ready with options for reform of the market”.

It believed the Government could relook at how much cover is provided privately versus publicly (by the Earthquake Commission for example).

Jenée Tibshraeny is the Herald’s Wellington Business Editor, based in the parliamentary press gallery. She specialises in government and Reserve Bank policymaking, economics and banking.