Finance Minister Nicola Willis responds to news of American tariffs. Photo / Mark Mitchell
Finance Minister Nicola Willis responds to news of American tariffs. Photo / Mark Mitchell
Finance Minister Nicola Willis said the Government will reduce the amount of new spending in the Budget.
Overall spending will still increase this year, but not by as much as forecast — and not enough to meet Treasury’s forecast of what is needed to meet cost pressures.
The restraint is intended to preserve a surplus by the new Obegalx measure in 2029.
In the finance minister’s annual pre-Budget scene setter speech onTuesday morning, Willis said she was slashing the pot of money available for new discretionary spending, known as the operating allowance, from $2.4 billion to $1.3b.
Well, according to the most recent Treasury forecast, the Government will spend $149.8b in the next Budget.
An enormous amount of this is non-discretionary spending which the Finance Minister doesn’t have much control over (unless they want to cut it): things like benefits, superannuation and debt servicing (collectively, we‘ll spend $58.5b on these three things in the coming year).
Finance Minister Nicola Willis respondsg to news of American tariffs. Photo / Mark Mitchell
The rest of the Budget - things like health, education, and defence - have to fight it out for their slice of what’s left.
Every year, the cost of delivering these services increases thanks to inflation. If the finance minister wants to fund those increased costs - the cost of just standing still - they (usually) need to raid their operating allowance. If the finance minister wants to fund any new projects, funding for that needs to come from the operating allowance as well.
$2.5b in new funding for existing services is much more than the $1.3b Willis has set aside.
This problem isn’t an accident - it’s actually by design. Treasury even has a name for it, it’s called the Fiscal Management Approach (FMA).
If the finance minister wants to put a lid on spending growth they can set an allowance that is too small to fund cost pressures across all services.
In these Budgets, in order to make ends meet, ministers and their departments will have to do two things: first, some departments are not going to have their cost pressures funded. They will have “zero budgets” (an approach used during the Key-English years). This means their baseline funding for the coming year will be roughly the same as it was this year.
That will put the squeeze on chief executives — pay rises will be small or non-existent and any new spending will need to come from cutting spending somewhere else.
Secondly, ministers can axe or trim entire lines of spending, freeing that money up to be deployed somewhere else.
In both instances, the Government is metabolising its own fat - axing spending somewhere and deploying it somewhere else.
There may only be $1.3b in net new discretionary spending in the Budget, but there will be far more new spending announced on Budget Day. How will Willis do this? Well, the thing that the money is being spent on will be new, but the funding itself won’t be — it will come from spending axed somewhere else and redeployed.
Every government does a bit of cutting and redeploying (Labour did some too), but not at this scale.
The squeeze is extra tight because Willis has already pre-allocated $1.37b in new funding for health and about $150m to fund cancer medicines at Pharmac.
That means that even before getting started on anything outside of the health system, the Government has run out of new discretionary spending - the rest must come from funding freed up somewhere else.
On Tuesday, Willis said this approach had “freed up billions of dollars”. We‘ll have to wait until May 22 Budget Day to see what has been cut.
Some guesswork
… but who wants to wait that long?
The Government has some big bills to pay this Budget, particularly in health, education and defence. Willis has promised increases in these areas - so where might the cuts come from?
The truth about trimming public spending is that firing “back office” only gets you so far. If you want to save significant sums of money, eventually, you have to touch payments and services.
The really big-line items in a Budget aren’t the “back office” public servants (in 2024, $11.2b was spent on the employment costs of about 62,000 public servants — the total Budget was $139.b). The big-line items are transfers and services like superannuation, benefits and pay for the 253,000 or so people who work on the front line of the public health and education systems (and don’t count towards core public service).
The Government has already left some clues as to where it might be looking.
The Best Start payment ($73 a week to parents with newborns) is universal in the first year, but means-tested in subsequent years. It is forecast to cost the Crown $346m this year, while the Winter Energy Payment ($20.46-$31.82 a week) is forecast to cost $555m this year.
Willis could apply greater means-testing to all these payments.
Over 1 million New Zealanders get the winter energy payment, which goes to superannuitants, beneficiaries, veterans, and some students. The British Government has just hacked at the UK equivalent.
But challenges abound.
Means-testing the winter energy payment is an obvious area where trimming could be achieved (billionaire superannuitants currently get it), but the National-NZ First coalition agreement obliges that it be kept for seniors - and would any government trim eligibility for beneficiaries and veterans, but not billionaires?
Why the Government is cutting — and breaching the $200b debt ceiling
The dirty little secret of how the Government pays for itself is that New Zealand‘s tax system does not automatically index tax thresholds for inflation.
That means that each year, the amount you pay in tax, and the proportion of your total income you pay in tax, is likely to go up as your nominal income increases — even if you are not getting better off in real terms.
That means that each year (usually), the tax take goes up slightly. In good times, the finance minister skims some of this extra money for the operating allowance to fund public services and banks the rest to reduce debt.
Treasury Secretary Iain Rennie has discussed means testing. Photo / Mark Mitchell
Alas, these are not good times.
The Treasury is forecasting a $14.1b deficit by the traditional Obegal measure this year. This means that just to keep the lights on, the Government is topping up its income from taxes with borrowing.
Willis said that the Treasury had trimmed its 2025 and 2026 growth forecasts too, meaning that had the Government not changed its approach and embraced larger cuts, the return to surplus might have been delayed even further (it’s currently 2029 or next decade, depending on your preferred measure).
Net core Crown debt is forecast to breach the $200b ceiling in the coming Budget - and is set to continue rising.
This is a level New Zealand can sustain. It’s not out of step internationally (in fact, it is lower than many other developed nations). But there are concerns about what we can sustain in the future.
S&P’s primary analyst for New Zealand, Martin Foo, told the Herald New Zealand‘s deficit was similar to the massive deficits notched up by the likes of France and the United States. It’s debatable whether those two countries can afford deficits of that size long term, but it’s very clear New Zealand cannot.
The Government’s path back to surplus does not actually involve cutting overall levels of spending - spending levels will increase each year (we’re forecast to spend $13.1b a year more in 2029, the year of the surplus than we are now). Rather, it means making sure that everyone‘s steadily increasing tax payments rise quicker than overall spending, powering the path back to surplus.
They’re likely to be unpopular - the sort of thing you get out of the way in a mid-term Budget, before election year, when the “lolly scramble”, to borrow Willis’ term, will return.
The question of where Labour is on all of this might better be posed by asking which Labour we‘re talking about.
Leader Chris Hipkins attacked the cuts, effectively blaming last year’s $14b tax package for embedding the structural deficit.
Then Finance Minister Grant Robertson and then Prime Minister Chris Hipkins announcing Labour's fiscal plan. Photo / Dean Purcell
He‘s absolutely right. Had the Government not cut taxes last year the books would be in better shape, but his position was undermined by the fact that this is not what Labour was promising at the election.
Labour’s election plan forecast new operating spending, paid for primarily by borrowing (the party planned some public service cuts too), of $29.7b (over four years - the equivalent figure for National was $26.7b - and will be closer to $23.7b with the new allowance for Budget 2025).
Hipkins can point to this plan and say public services would be better funded under Labour, but he cannot, at the same time say the Government’s fiscal position would be better — in fact it would be worse. A finance minister can spend a dollar or they can save a dollar, but they can’t do both.
Of course, Labour isn’t running on its 2023 fiscal plan — the plan it will run on will be quite different, although we don’t yet know how.
The 2026 plan seems certain to include a Capital Gains Tax (CGT), which changes things.
Willis set out her stall today, saying that more taxes would “undermine our recovery, strangle growth and threaten the economic stability New Zealand needs”.
But Labour is clearly looking at such a tax — beloved not just by the Treasury, but the OECD and the IMF too — as a tool to win back its fiscal credibility.
The debate over what kind of tax Labour would campaign on seems to have been won by the CGT backers. The next debate is on how to spend the money.
Last month, both Hipkins and Finance spokeswoman Barbara Edmonds appeared on the left-leaning BHN podcast.
Edmonds, true to her wonkish self, said a CGT could “help reduce the structural deficit if we have revenue coming in” - in other words, some money raised would be banked to improve the books. Music to the Treasury’s ears.
Hipkins, by contrast, did not specify where he would spend the additional revenue, but has, as opposition leader, staunchly criticised almost every cut by the coalition, implying he might have found the money to avoid the cuts.
It’s not clear where this money is coming from if not from the borrowing envisaged in the 2023 fiscal plan.
A CGT only raises a small amount of money in the short term (about 0.01% of GDP in year one according to the Tax Working Group, or $450m if you had one for the current Budget). He could use it to reverse some cuts or reduce the deficit, but he will find it very difficult to do both in any meaningful way.
Labour’s in the same bind it was in 2023, it can promise to fund public services better and it can promise to get on top of the deficit, but it will find it very, very difficult to do both.
Willis on Tuesday folded in the face of fiscal gravity but Hipkins shouldn’t feel think this works to his advantage. The same gravity will weigh on whatever he puts to the electorate in 2026.
Thomas Coughlan is the NZ Herald political editor and covers politics from Parliament. He has worked for the Herald since 2021 and has worked in the Press Gallery since 2018.
