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23
MAY 11

Budget forecasts aggressive growth but still no policy to get there




The 2011 Budget was one of a surprising lack of urgency and a demonstration that Government really does not understand, or is choosing to ignore, the magnitude of what faces us. There was little to generate more growth or to capture more gains for New Zealand and the cuts were underwhelming. The biggest problem with the Budget was that there was yet again no shift in the emphasis of our economy towards the tradable sector. Without a major shift to tradeables, and more cuts in spending, we will be forced to borrow more and risk the destructive impact of the increasing cost of credit as the world increasingly worries about lending to New Zealand.

The Government’s approach was backed by numbers from the Treasury showing strong growth over the next few years. The problem is the Treasury has been predicting this for a while now.



Each Budget the ‘growth rebound’ gets pushed out by another year. This puts the Government’s 2011 Budget on shaky ground. If the economy grows as forecast then public debt remains sustainable, but if we see another year or two of low growth then New Zealand’s Government debt could blow out to Ireland and Greece levels, and New Zealand’s borrowing costs will compound the problem.

The graph below from the Budget shows that the tradable sector has contracted since 2005.

Traded/Non-traded Sector Growth



Budget 2011

This changes the outlook for growth as there is unlikely to be much export pick up with the exchange rate where it is at the moment.

Real Exchange Rate Index

Budget 2011

Real GDP numbers have slumped as a sustained high currency level has taken its toll.
This leaves the question how can growth in the tradable sector be restored? The allocation of an earthquake fund and the changes to foreign bank taxation will deliver some benefits, but reducing incentives to save seems to act against the Government’s stated intentions. The partial asset sales of Solid Energy and Air New Zealand will also help but the sale of natural monopolies is more debatable. In any case the $5 to 7 billion quoted is fairly immaterial against GDP over the forecast period.

To achieve higher growth the Government needs to:

  • do what is necessary to stabilise and lower the New Zealand dollar;
  • reform the tax system to promote investment in the tradable sector over speculative investment in land and buildings; and
  • introduce productive investment incentives.

Much more effort in these three areas would start to address New Zealand’s economic underperformance. The OECD, the IMF and the Government’s own working groups have agreed that a step change in policy is needed; tinkering will not get the job done.
 


tags: budget 2011, tradable sector, currency, treasury forecasts
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