It isn’t time to shift the fiscal stance

The media have been reporting a suggestion from the ANZ Economics team that New Zealand’s fiscal policy might be made more stimulatory in response to the actual and expected slowdown in growth that is underway.  When I heard this story reported this morning, I wondered if ANZ had been misreported, but on checking their weekly Market Focus document, it appeared not.

In a piece headed “Time to shift the fiscal stance” here is what they argue

Monetary policy is generally expected to do theheavy lifting when growth slows. However, fiscal policy and local authorities have stabilising roles to play too. Both the government and local authorities have large balance sheets, which allow them to absorb swings in the business cycle more easily than SME’s. It goes against human nature for fiscal policy to be run in a counter-cyclical sense (i.e. crank things up in bad times and wind things back in the good times), but it is sound economics. Of course there are relatively long lags involved, which can make the pursuit of such an approach difficult. But that shouldn’t stifle the concept altogether. 

Fiscal policy could move to a more neutral stance – or even an expansionary one – next year if thinking-caps were put on now. The sacrificial lamb would be nascent operating surpluses. But with net debt sitting around 27% of GDP, delaying or deferring the achievement of surpluses for a year or two is trivial – and as discussed below, the accounts are still running ahead of expectation anyway. Local authorities in rural (dairy) aligned regions could also be pulling forward investment projects. And there is room for rates relief, or at least limiting the magnitude of increase. There shouldn’t be a fear from officials to use the balance sheets at their disposal. The Government sector has a role to play just as monetary policy does, particularly when growth is below trend.

Frankly, I’m still puzzled by the case they are making.  Here’s why:

  • If the OCR were at zero, or very close to it, I would probably endorse their call.  Discretionary fiscal policy can play a useful stabilisation role when monetary policy is reaching its limits.  But the OCR is at 3.25 per cent.  ANZ expect it to be cut to 2.5 per cent, and I think there is a pretty good chance of even deeper cuts.  But even if the OCR gets to 2 per cent (probably not until early next year) there is still a material buffer above zero.  When buffers like that exist, looser fiscal policy tends to be approximately fully offset by tighter monetary policy (in the jargon, the multiplier is basically zero).  That is what happened in the years leading up to 2008, and would no doubt happen here again, given that, on the evidence of its comments and actions, the Reserve Bank would probably prefer to avoid plumbing new lows on the OCR if at all possible.
  • We have the highest real interest rates in the advanced world.  Of course, they are low by historical standards, but higher than other advanced country governments are paying.  Why would I want the government to take on even more debt, at my (future) expense at such relatively high interest rates?
  • Sometimes overseas enthusiasts for more fiscal stimulus argue for more infrastructure spending, citing the allegedly poor state of infrastructure in, say, the United States or Germany.  But the New Zealand government has been spending very heavily on infrastructure for the last decade. Indeed, at the last election I went to a session with David Parker, then Opposition spokesman on Finance, who declared his view that quite enough had now been spent on public infrastructure.  He may have had a variety of reasons for saying so, but when the finance spokesman for a left-wing party makes the case for not increasing public infrastructure spending we should probably listen.
  • How comfortable are we about the likely quality of any new government spending?  Do I need to go much beyond mentioning the economics of Transmission Gully, Kiwirail, and cycle-ways programmes?  Many of the projects governments actually spend money on simply fail to cover their costs.
  • I was left open-mouthed in astonishment at the suggestion that local government could play a part in securing a fiscal stimulus.  I’m sure many councillors would be delighted, but what sort of return do voters and the country get?  The talk of is “pulling forward investment projects”, but the investment project wishlist in often pretty questionable.   Another Dunedin Stadium for some other city?  Or a Wellington Airport runway extension?   Or even more spent on cycle-ways (I live in Island Bay where the Wellington City Council is just pouring money down the drain in a particular pointless (and controversial) “cycleway to nowhere”).
  • It is always easier to increase spending than to cut it later.  We are still living with the aftermath of the 2005 to 2008 fiscal easing.  Why put ourselves through that again if we don’t (yet?) need to?   (And did I mention Australia under Kevin Rudd?)

I can envisage a scenario in which fiscal stimulus could be useful (although if our OCR gets to zero the exchange rate will be much much lower than it is now, with a TWI still above 70) but let’s keep the powder dry for that time.  General government debt in New Zealand is not extraordinarily low (as a per cent of GDP), and even if it turns out that a modest operating surplus was recorded in 2014/15 –  made possible by record terms of trade – the prospects for the coming year are probably worse than they were when the Budget forecasts were done.  There are distinct political limits to how much fiscal stimulus any government can do, even in a crisis, so why fritter away the capacity now?  By all means, have Treasury working up some options, but don’t lose sight of monetary policy as the primary cyclical stabilisation tool.  It works.  And it probably needs to be used more aggressively now,  after being  headed in the wrong direction last year.

ANZ don’t mention it as a reason, but perhaps they are uneasy that further cuts in the OCR will fuel the house market. Perhaps, but if the outlook really is as  gloomy as they suggest it might become, then  income growth will be taking a hit as well (wage expectations are already falling), and New Zealand will be increasingly less attractive to migrants.  Real interest rates are hundreds of basis points lower than they were in 2008, and in most of the country real house prices are still lower than they were then.  The OCR is generally cut for a reason – that demand is weakening at any given interest rate.

9 thoughts on “It isn’t time to shift the fiscal stance

  1. Nice. I am glad some one with some real cred in the Economics realm has articulated my thought on first reading the ANZ’s comments. Lets get interest rates to a level that is more realistic – then and only then can the government think about fiscal loosening policies.


  2. Rudd and Co did cut back on spending. They got hit by revenue not expanding as expected and then nominal GDP went below trend!
    It why you had a recession and we did not.


  3. fair enough on the first limb. I’d disagree on whether the fiscal initiatives prevented a technical recession (recalling that Aus had a nominal GDP recession, and a material rise in unemployment). the Chinese stimulus package was also rather important.


  4. agree on nominal recession but chinese stimulus came well after ours.

    A few thoughts on monetary V fiscal.

    Adam Posen showed well before the OECD or IMF that fiscal policy has a lot more kick to it then monetary. when looking at Japan in the 90s. If rates are this low cutting them to say 2% doesn’t give you a lot of bang for buck. Just ask Glenn Stevens!

    I would argue for fiscal stimulus via infrastructure if the TOT mean nominal GDP falling below trend We know all about that here! please note it is short term and cuts out reasonably early.


  5. At least by announcement dates, Rudd’s packages were Oct 08 and (the larger one) Feb 09, and the Chinese package (much bigger) was announced in Nov 08. With hindsight, wouldn’t it have perhaps been better to (a) have had a mild recession in 08/09, and (b) have had the cash rate cut more deeply, reducing the extent to which the budget has subsequently dominated a lot of political debate in Aus? Hindsight is a wonderful thing of course…

    I think the case for lower policy rates in Australia is reasonably strong – I presume the RBA is held back by unease about the housing market (which I don’t think should drive mon pol) and some sense (shared by most OECD central banks) that interest rates really should be higher, and that surely demand will rise fairly strongly fairly soon.

    As I noted in the original post, I think there is a place for fiscal stimulus in some circumstances, but (a) the quality and econ worth of much of govt infrastructure spending here is pretty lousy, which prob has me favouring, say, a temporary reduction in GST (as the Brits for 2009), and (b) I think things could get much worse from here (not a central view, but perhaps a 20% chance) and we’ve seen around the world the limited political tolerance for additional fiscal stimulus, so I’d prefer to marshall the limited available fiscal ammunition to manage that tail risk. In the current NZ case, the OCR could be taken to 2%, and the NZD/AUD (in particular) would be much lower than it is now. We’d get quite a lot of macro support from that combination.


  6. Couldn’t agree more with point 4 (quality of expenditure). Having worked exclusively at the micro end of that point, I can tell you that from experience, there isn’t some bottomless line of quality projects which the government could put its money to if it chose to do so (or if the discount rate was lower). Those projects are invariably disasters from the start, and almost always a case of a central government funding a project which has no revenue line or reasonable market failure to address.

    Straight up, this means that the macro fantasy of “spend it and it will return a tax revenue” is just false. It was never true to begin with. If a government funds an airport which nobody uses, or a convention centre which is five times bigger than it needs to be, or a road which connects two towns of twenty people, then exactly where is the payoff? There’s a construction sector stimulus in the short term, and make work jobs for people in the mid term – but all of this is funded by a debt balance at the government level funded via taxes, with no corresponding material increase in economic activity to fund those taxes.

    And those projects which could have a material impact on economic activity are generally the ones which attract the greatest objections from the community (think of the Glenorchy Tunnel).


    • Bent Flyvberg gave a nice talk the other day. He has spent decades studying failed megaprojects. The key takeaways IIRC were:
      – For megaprojects (defined as >1bn USD), the results is usually (90%) failure or massive cost blowout.
      – Contrary to my expectations, private sector megaprojects also often failed
      – For the minority of projects that met or exceeded expectations, the common element was a very strong project owner.


  7. I said as much to Bill English a few months back, that fiscal balance is contractionary if you have a 2% inflation target and leads to asset price bubbles based on low interest rates. He has followed the path of his predecessor.

    The best way to inject money into the economy is by tax cuts – that way each individual gets to allocate the extra income in the best way for them. Much better than stupid government misallocation, as a general rule.


  8. I came across a suggestion on that 100 residency permits should be auctioned each month. That would allow us to find out what they are really worth. Are we selling them for a fraction of their real value?


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