Ross Dunlop - council debt not such a problem when you have plenty of asets.
Ross Dunlop - council debt not such a problem when you have plenty of asets.
ONE of our largest annual projects at the Taxpayers' Union is the Ratepayers' Report — a financial appraisal of local government, which includes league tables for debt, assets, average rates, staff numbers, and other items.
We cover every local authority around the country and, inevitably, a few councils complain aboutthe numbers.
This year, South Taranaki District Council has complained that while the Ratepayers' Report shows their debt levels as the second highest in the country, their debt levels are actually very low.
How do they come to that conclusion?
Mayor Ross Dunlop claims their Long Term Investment Fund (LTIF) outweighs the size of the debt, so perhaps they should be treated has having very low debt.
He has argued in the Whanganui Chronicle that because the return on the LTIF exceeds the interest rate on council debt, it is actually "prudent" financial management to hold so much debt.
But hold on — there's no free lunch in life or in economics.
If it made sense for councils to borrow money to start an investment fund, why aren't all councils doing it?
The answer lies in why the rate of return on the LTIF is higher than the interest rate on council debt.
Even a politician should know rates of return are determined by the risk of an investment. That's why you will pay more interest on an unsecured personal loan than you would on a mortgage, or why you might earn a better return by investing in the stockmarket than from lending money to a large, wealthy country like the United States.
By using debt to fund the LTIF, South Taranaki ratepayers are being compensated for taking on financial risk. While Mayor Dunlop paints this decision as a no-brainer, it's far more complicated.
Sometimes that might make sense, but it's a question of degree, and it depends on the appetite of ratepayers to take on risk.
Joe Ascroft
If there was a financial crisis, the LTIF could accumulate significant losses, putting pressure on the South Taranaki balance sheet and the rates bills of local residents.
To avoid those risks, the council could adjust their investments to lower-risk alternatives, but that would just reduce the rate of return on the LTIF, making the principal argument in favour of the fund irrelevant.
Alternatively, if the LTIF was dissolved and used to pay down council debt, local ratepayers would be far less exposed in the event of an economic downturn or stockmarket crash.
In short, debt levels do matter — even if a council like South Taranaki has plenty of assets on the other side of the ledger. When assets and liabilities aren't managed effectively, ratepayers can be exposed to high levels of risk.
If you asked the average ratepayer whether they would mortgage their house to invest on the stockmarket, it's unlikely you would get a positive response, yet it seems South Taranaki District Council might jump at the opportunity.
