Financial crunch coming, Treasury’s Dominick Stephens warns - debt, deficit and ageing population are factors

By Susan Edmunds of RNZ

An ageing population, combined with higher-than-expected government debt and structural fiscal deficits, poses a major financial challenge for New Zealand, Treasury’s deputy secretary and chief economic adviser says.

Dominick Stephens made a speech today in which he outlined the impact of increasing longevity on public finances.

While healthcare, society and economic advances had created improvements in living standards, society would have to adapt, he said.

“Including regarding government revenue and spending… I have every confidence that we can make the changes necessary to live sustainably in a society characterised by longer human lives.”

In the 1970s, there were about seven people aged 15 to 64 for everyone aged 65 and over. Today there are four and in 50 years there will be about two.

Stephens said while New Zealand’s population was not ageing as fast as some, the ageing that was happening was expensive.

“The New Zealand Government spends considerably more on over-65s than it gathers in tax revenue from over-65s.”

It is an issue Inland Revenue has also highlighted in consultation it is conducting.

Stephens said Treasury’s high-level estimates were that the cost of delivering current services would rise by about $2.5 billion over the year ahead.

“And we must bear in mind that the population will grow.”

Treasury's deputy secretary and chief economic adviser Dominick Stephens.

He said that meant the Government needed to increase revenue or reduce the amount it spent per person. “This implies that savings and reprioritisation will likely be a feature of future budgets, as in Budget 2024.”

Stephens said Treasury “has been banging the drum for many years” on the long-term unsustainability of fiscal policy.

Now, public debt levels are higher than Treasury had earlier expected.

“The 2006 LTFS projected net core Crown debt to be around 13% of gross domestic product (GDP) in the year ending June 2020,” Stephens said.

“It was instead around 26% of GDP and has subsequently risen to 39.3%. Starting out with higher debt increases the sustainability challenge, because of the compounding nature of interest.”

The recent experience highlighted that fiscal policy was often easier to loosen in a downturn than to tighten in an upturn, which could create a bias towards increasing debt, he said.

Stephens said while debt was higher than expected, it was still low by international standards.

“However, the current trajectory of debt is concerning. New Zealand is currently running a fiscal deficit of around 2.4% of GDP.

“This deficit is structural, meaning it is not solely the result of the current economic downturn. The Treasury estimates that we would be in deficit even if the country was in normal economic times rather than recession. Government action, as well as economic recovery, will be needed to return the books to surplus.”

Stephens said the increase in workforce participation of people over 65 had been notable. The country had gone from being having among the lowest labour force participation levels to one of the highest.

Because NZ Super is universal, there is no disincentive to staying in the workforce past 65.

“The downside of universality is that it makes national superannuation expensive… This tension between affordability and work incentives will need to be balanced in future thinking about the design of retirement policies.”

He said improving productivity would be important.

Treasury had identified areas that would help boost economic performance such as focusing on a strong and stable business environment, improving the performance of the regulatory system, addressing declining student achievement, smart adaptation to climate change and strengthening international connections.

“It’s worth noting that productivity growth alone is not enough to alleviate fiscal pressures. Higher productivity growth would boost wages, which flows through to higher wage-indexed superannuation payments and higher costs of providing labour-intensive public services. However, higher productivity growth would make New Zealand a more prosperous economy, and this may give governments more options to make changes to policy settings.”

Stephens said it would also be important to invest in younger generations.

“We want our younger people to be healthy, skilled, and productive, not only for their own sake, but also because we will need them to support the increasing number of older people. It’s also important to ensure that future generations remain willing to support their elders.

“New Zealanders have high trust in one another and in our institutions. Acting early to ensure fiscal sustainability will help sustain this trust and may bolster the willingness of future generations to continue participating in our pay-as-you-go pension provision system.

“Taking early action to manage the fiscal burden on younger generations will also encourage our best workers to stay in New Zealand, and will help us attract the most skilled migrants, boosting productivity and prosperity.”