Dipping into the HYEFU

Just a few things caught my eye flicking through yesterday’s HYEFU summary tables – if you don’t count points like the fact that The Treasury projects we will have had five successive years of operating deficits (in a period of a high terms of trade and an overheated economy), and that net debt as a per cent of GDP (even excluding NZSF) is still increasing, notwithstanding the big inflation surprise the government has benefited (materially) from.

This chart captures one of the things that surprised me. It shows export volumes and real GDP, actual and Treasury projections. Exports dipped sharply over the Covid period (closed borders and all that), but even by the year to June 2027 Treasury does not expect export volumes to have returned either to the pre-Covid trend, or to the relationship with real GDP growth that had prevailed over the pre-Covid decade.

The Reserve Bank does not forecast as far ahead as the Treasury but has quarterly projections for these two variables out to the end of 2025. Here is a chart of their most recent projections

It is a quite dramatically different story.

The issue is here is not so much who is right – given the vagaries of medium-term macro forecasting there is a fair chance that none of those four lines will end up closely resembling reality – as that the government’s principal macroeconomic advisers (The Treasury) have such a gloomy view on the outward orientation of the New Zealand economy. One of the hallmarks of successful economies, and especially small ones, tends to be a growing number of firms footing it successfully in the world market. Earnings from abroad, after all, underpin over time our ability to consume what the rest of the world has to offer. Quite why The Treasury is that pessimistic isn’t clear from their documents – one could guess at various possibilities in aspects of government economic policy – but it does tend to stand rather at odds with the puffery and empty rhetoric the PM and Minister of Trade are given to.

Then there was this

On Treasury forecasts the CPI in 2025 will have been 13.3 per cent higher than if the Reserve Bank had simply done its core job and delivered inflation on average at 2 per cent per annum (the Reserve Bank’s own projections are very similar). It is a staggering policy failure – especially when you recall that the Governor used to insist that public inflation expectations were securely anchored at around 2 per cent. It is an entirely arbitrary redistribution of wealth that no one voted one, few seem to comment on, and no one seems to be held to account for, even though avoiding such arbitrary redistributions (benefiting the indebted at the expense of depositors and bondholders) was a core element of the Reserve Bank’s job. We don’t – and probably shouldn’t – run price level targets, but let’s not lose sight of what policy failures of this order actually mean to individuals.

And the third line that caught my eye was this

A good question for the National Party might be to ask how much of this 3.5 percentage point increase in tax/GDP they intend to reverse, and how, or would any new National government simply be content to leave little changed what Labour has bequeathed them?

As longer-term context (slightly different measure to get back to the 70s) the only similarly large increases in tax/GDP seem to have been under the 1972-75 and 1984-90 Labour governments.

Rodger Finlay

If you have long since lost interest in my series of posts as to how Christchurch company director Rodger Finlay came to be appointed by the government as a director of the Reserve Bank (in its new governance model where the powers, including bank regulatory ones, rest with the Board) while, it was envisaged, he would keep on as chair of NZ Post, the majority owner of a bank (Kiwibank) the Reserve Bank prudentially regulates and supervises, and the spin around it, feel free to stop here. The title of the post was due warning. But sometimes you have to see things through to the end.

A couple of weeks ago, I wrote here about (and excerpted) The Treasury’s incident report about the Finlay affair, and specifically the events that led to the Secretary to the Treasury providing a written apology to the Minister of Finance for the failure of her staff and organisation to explicitly draw to the attention of ministers the conflict of interest issues around Finlay’s appointments, either when he was being appointed to the Reserve Bank Board a year ago, or when Cabinet was agreeing to his reappointment as chair of NZ Post in June this year.

Yesterday I had two more OIA responses. Appointments to SOE boards are on the joint recommendation of the Minister of Finance and the Minister of State-owned Enterprises, and I had asked both ministers for material relevant to Finlay’s NZ Post reappointment (and withdrawal from that post) in June. Megan Woods had been the SOE minister responsible, but she apparently declared a potential conflict of interest, around her personal and professional relationships with Finlay, and so formal responsibility was shifted to Kris Faafoi (as it turned out, by the end of this he was in his last few days in office). Faafoi having left office, his papers on the issue are coming only slowly (early next year I’m told) but The Treasury did yesterday release the papers they had relevant to the appointment process Faafoi was involved in.

Treasury OIA response re acting Minister of SOEs and reappointment of Rodger Finlay as NZ Post chair Oct 2022

and Grant Robertson also provided his response to a similar request, but which also covered contacts with journalists on the Finlay appointments.

MoF OIA response re Rodger Finlay and the NZ Post board Oct 2022

In total there is about 50 pages of material

Taking the Treasury response first, there isn’t a great deal that is new.  The relevant paper to the Cabinet Appointment and Honours (APH) Committee is included in full.  It doesn’t note any conflict of interest issues (but we knew that from the Secretary to the Treasury’s apology and their report) but their description of NZ Post itself is a little surprising.

with no mention that NZ Post is also the majority owner of the 5th largest bank in the country.

I was slightly amused by what was, and wasn’t, kept secret about Finlay’s personal details

and the fussing around in the paper about whether the board was going to be suitably “representative”

But perhaps the point of substance was an email to Treasury officials from Faafoi’s private secretary on 8 June after the APH meeting noting that “Finlay’s reappointment went through APH today with no issues”.

While The Treasury had clearly been remiss in not including the conflict of interest issue in the papers, quite where were ministers (whether those proposing to make the appointment – and especially Robertson – or those deliberating on it)? Did it not occur to any of these people – either then, or when the RB Board appointment was made – to question whether it was really quite right to have someone responsible for bank regulation also chairing the majority owner of a bank. It is hardly as if Kiwibank’s ownership was a secret, and the APH paper does note that Finlay had been appointed as a Reserve Bank Board member (and from the Robertson bundle of documents we find talking points The Treasury had prepared for Faafoi, one (of a handful) of which explicitly states that he has been appointed to the Reserve Bank Board)? Or do conflicts of interest, real or apparent, just not matter to this government?

Most of the interest in the Robertson bundle is in the exchanges by members of his staff with various journalists about the Finlay issue.

But there is also an email exchange on 10 June, the day my first post on the Finlay issue appeared. We know from The Treasury’s incident report that prior to 8 June (the day of the APH meeting) Finlay had approached Treasury suggesting that he could take leave of absence from the NZ Post role until the (then not known to the public) reshuffle of Kiwibank ownership went through – it had initially been planned, so the documents show, to have had this reshuffle wrapped up by 30 June).

Anyway, on 10 June my post went out at about 8:30am (it is in my email inbox at 8:32) and at 9.34am Finlay himself sent a link to the post, without further comment, to four Treasury and NZ Post addressees. At 3:21pm, Treasury is emailing people in the relevant ministers’ offices, cc’ing the NZ Post people

I found it interesting that the official states “This potential concern has been on our radar” – what, just waiting for someone (whether me or another observer) to notice the egregious conflict involved in having the chair of the majority owner of a bank sitting on the governance board of the bank regulator? And so they suggest rolling out what Finlay himself had proposed – that he temporarily step aside from the NZ Post role – and had gone far enough to get the agreement of another director to act in Finlay’s place if ministers were to go with this option.

But that didn’t happen. The Treasury report says Finlay himself called the Minister of Finance, and the Minister took the view that as the potential conflict had been considered when the initial (RB) appointment was made and nothing had changed, there was no reason for Finlay to stand aside. Except, of course, that we know that the advice to Ministers and Cabinet in late 2021 had not mentioned the conflict, and neither had the advice to other political parties when, as the RB Act requires, they were consulted on Finlay’s RB appointment.

It is also pretty extraordinary – and this isn’t picked up in Treasury’s report – that there was no sign that these Treasury officials (or perhaps Finlay) really recognised the character of the Finlay conflict. He could have temporarily stepped aside as NZ Post chair and would still be responsible for bank regulation and supervision around Kiwibank during that period, and almost all regulatory decisions have effects longer than a few months standdown might imply. To address the conflict by means of temporary stand-down it would have to have been the Reserve Bank Board he stood down from, but the Reserve Bank role isn’t even mentioned here, and nor were Reserve Bank officials copied on the emails from either Finlay or Treasury.

And so Cabinet went ahead and on 13 June reappointed Finlay for three years. And on 14 June Finlay wrote declining the appointment.

The first journalist to have asked Robertson anything about the Finlay issue was the Herald’s Jenee Tibshraeny.

At the time of this phone call and email, it was full steam ahead. Cabinet had approved Finlay’s reappointment and the letter of offer was going out.

It took the best part of two days, and multiple reminders, to get an answer out of Robertson.

The delay was convenient as by this time – and against the wishes of the Minister – Finlay had stepped aside, and finally personally resolved the conflict issue. Against that backdrop, the Minister’s answer to the Herald was pretty much active and deliberate disinformation.

The next lot of media inquiries worth mentioning was on 1 July (the day after the rest of the new Reserve Bank Board was announced, including reference to Finlay as “previously” chairing NZ Post. Stuff’s Rob Stock asks Robertson’s senior press secretary

Who, in a series of email exchanges also engages in an active attempt to put the journalist off the trail (pretty sure the government would call this “disinformation” if anyone else was doing it).

First, the Minister was sick and couldn’t comment, but there was no news because Finlay’s term was due to end on 30 June. Stock responds that he didn’t recall either the RB, the Minister or Finlay “mentioning this was the plan for managing the conflict”, to which Bramwell responds disingenuously “I’m not sure if it was the ‘plan’…..you’d have to talk to Mr Finlay about that – or perhaps the RBNZ?”. Stock immediately responds (presumably of attempts to get others to comments) “No comment, not available, talk to Minister”. Whereupon Bramwell (for the Minister) again avoids answering the actual question with this response

Stock must have given up at that point. But if Bramwell’s last response was a non answer, it was nonetheless interesting since (a) it points us to Reserve Bank involvement in the political spin, and b) tells us that the Bank concedes that there may well have been “material conflicts of interest” from 1 July had the government gone ahead with its plans and Finlay not, at the end, done the decent thing.

There is a final rounds of exchanges between Tibshraeny and Robertson’s office at the end of August. These requests came after some earlier OIAs had begun to shed more light. You can read the exchange for yourself. On Finlay, the key question is “How was it ever ok for Rodger to be NZ Post chair and on the new RBNZ Board at the same time? [as the government deisred and intended]. Even [if] this would’ve been within the law [which it was] it surely would not have been within the spirit of the law”. There is never a straight answer from the Minister, just a deflection to the Reserve Bank who, she was told, concluded that “any conflict of interest…could be managed”.

Tibshraeny’s final question is about an issue I was not aware of until she identified it: that Finlay is a director of Ngai Tahu which now owns a 24.94% stake in Fidelity Life Assurance, an insurance company regulated by the Reserve Bank. That deal was not settled until early 2022 but had been agreed on before Finlay was appointed to the Board (and “transitional board”) late last year. That appears not to have been disclosed or discussed when his appointment was made. In Tibshraeny’s final email she notes “So, not great…..”

There have been so many issues to keep track of – including the other new director who when appointed was also on the board of an insurance company that for some reason was not regulated by the Reserve Bank (before there was a belated rethink and he resigned from the insurance company board) – and the Fidelity stake isn’t controlling so that on its own I can’t get too excited about it. But it does tend to speak to a pattern – running across all those involved here – that all that matters is the letter of the law, and nothing at all about the appearances, and the potential for actual or apparent conflicts. Finlay should, right upfront, have identified both the Kiwibank and Fidelity stakes as potential conflicts – and should never have put himself forward if he intended to stay on at NZ Post. In combination, they should have been disqualifying – to The Treasury and to Ministers.

As far as I can see no one emerges very well from this whole saga, with some slight brownie points to Finlay who did after all finally step aside. The Treasury did poorly, perhaps so too did their recruitment consultants, the Brian Roche interview panel (for the RB roles) did really poorly (and that includes the head of APRA who sat on the panel), ministers did poorly (Grant Robertson most of all). No one called stop at any point, and all seemed to be focused (if at all) on the letter of the law rather than the substantive issues that mean it would not be acceptable anywhere to have as director of the bank regulator the chair of a majority owner of a bank.

But if any of these people or groups of people should have stood up and called a halt (before Finlay finally did), so too (and perhaps above all) so should the Governor of the Reserve Bank. the chair of the Reserve Bank Board, and all their attendant senior managers and Board colleagues. Every one of them should have known the conflict was untenable and unacceptable (it was the immediate reaction of a whole bunch of former central bankers after my first post appeared), and quite damaging to the credibility of the institution.

But if you have been following this story since June, you may have noticed that there have been OIA responses, fairly timely ones, from the Minister and from The Treasury, and nothing at all from the Bank (just references to them and their involvement in some of the other documents). It isn’t for want of trying.

On 1 July, the day after the full Board was appointed, I lodged with the Reserve Bank a request for

…copies of all material relating to appointments to the new Reserve Bank Board, including all material relating to appointments to the “transition board”. 

Without limitation, this request includes all papers and other material generated within the Bank (other than of a purely administrative nature), any advice to/from or discussions with The Treasury, and any advice to and interaction with the Minister of Finance or his office on these issues.

It was directly parallel to similar requests lodged with the Minister and with The Treasury (both of whom responded substantively).

On 13 July, one of the many communications staffers got in touch to tell me

We have transferred your request to the Treasury as the information is believed to be more closely connected with the functions of the Treasury. In these circumstances, we are required by section 14 of the OIA to transfer your request.

You will hear further from the Treasury concerning your request.

I rolled my eyes – it was evidently a ploy (note I explicitly asked about material generated within the Bank, which other agencies would not necessarily be expected to have) and no doubt the Bank knew by then of my other requests – but did nothing more while I waited for responses from the Minister and The Treasury.

Having received those responses, on 3 September I went back to the Bank to renew my request (all on the same email chain, so there was no ambiguity about what the request was)

I am writing to renew my request.  You transferred the request to The Treasury, but (as I’m sure you know) their release provided nothing on anything the Bank, its staff or management, Board or “transitional board” members said, wrote or did.  I now know from the responses to similar OIAs to The Treasury and to the Minister of Finance, that the Board chair was involved in the selection of new board and transitional board members, Rodger Finlay (then a “transitional board” member) served on the interview panel for the second round of Board appointees, that RB legal staff had discussed issues around potential conflicts of interest for Rodger Findlay.    Against that backdrop (and the media coverage of the Findlay situation in late June), it is inconceivable that there were no papers, emails or the like on any matters relating to the selection and appointment of Board members, whether or not such material was conveyed to The Treasury or to Minister.

That was almost two months ago. It was only yesterday I thought to check up on it and have sent them a note pointing out that I did not yet appear to have had a response. It increasingly appears as though the request will have to be referred to the Ombudsman.

But no doubt the Governor and his colleagues will keep on with the spin about being a highly transparent central bank. At this point, you really wonder what they can have left to hide, but perhaps the secrecy and obstructiveness is just some point of unprincipled principle?

UPDATE: About 40 minutes after this post went out I had an email from the Reserve Bank offering what appears to be a fairly abject apology for allowing this request to have fallen through the cracks, promising process improvements etc. Accidents happen, system aren’t foolproof (even with 20 comms staff), so I am inclined to take them at their word, but I guess it means I might finally get a response by Christmas.

Rodger Finlay: The Treasury’s incident report

Regular readers will recall that since June I’ve been on the trail of events surrounding the appointment of Rodger Finlay as, first, a “transitional board” member (attending actual Board meetings) and then a full Reserve Bank Board member, at the same time that he was chair of NZ Post, the majority owner of Kiwibank, an entity subject to Reserve Bank prudential regulation and supervision. From 1 July, the new Reserve Bank Board had legal responsibility for all the powers the Reserve Bank had on prudential policy and implementation. Finlay’s term as NZ Post chair was due to expire on 30 June, but processes were in train that saw Cabinet reappoint him on 13 June.

The most recent post was here. The story gets a little complicated, and there have been various documents (from the Minister of Finance and from The Treasury), and comments from the Minister or his office reported by the Herald. From that 31 August post

In the earlier documents, it was noted that the Secretary to the Treasury had asked for a report from her staff as to what had happened, how, and what if any process changes needed to be made. That report was released to me this afternoon and is here.

Treasury incident report on Rodger Finlay conflicts and appointments

This was the first stage

It reflects very poorly on The Treasury staff concerned (Treasury is after all responsible for monitoring reviewing the Bank), the Reserve Bank Governor and Board chair (who seem to have been more interested in some legalistic narrow definition than in either appearances or substance), and the interview panel, including the head of the Australian Prudential Regulatory Authority who, if the issue came up as Brian Roche says, should have been making the point that it should be unacceptable to have the chair of the majority owner of a bank sitting on the board of the prudential regulatory authority.

As I’ve noted before, it reflects poorly on Finlay too, who signed an application stating that he had no conflicts.

Treasury goes on to note that they did not advise the Minister of the potential conflict issue so that he could make his own informed choice, and nor were other political parties (who had to be consulted) advised.

They go on to note that in the process of planning to reappoint Finlay as NZ Post chair (a process that ran for some months) the issue of the potential conflict was also not advised to ministers.

And then we get this

I guess it is encouraging that Finlay belatedly raised the issue, even if he then let the bureaucrats convince him there wasn’t an issue.

Then there was this

From context, Project K is clearly the scheme to have the Crown buy out the existing (Crown bodies’) shareholdings in Kiwibank. Again, it is perhaps encouraging that Mr Finlay again broached the issue of potential conflicts. It also makes sense of this from the minutes of the RB “transitional board” on 9 June (which I had been puzzling over).

and the story rounds off here (Cabinet having made the NZ Post appointment on the 13th)

Which, as these things seem so often to do, again sheds particularly poor light on Grant Robertson as Minister of Finance, who was apparently totally unbothered by the actual or perceived conflicts even when Finlay himself had raised the issue – not even to accept the offer from Finlay to stand down from NZ Post until the Kiwibank deal was resolved (although as the RB was the regulator, if he was really serious he should have sought to take leave from that Board).

The report sums up

All of which is no doubt true, but it isn’t only (or even primarily) The Treasury’s reputation that should have been damaged by this (even if I now look on Finlay himself a little more charitably).

Anyone interested can read the rest for themselves, including the multi-page note on process improvements.

UPDATE:

It also reflects poorly on Robertson that (extract from my previous post) it is pretty clear that he actively misrepresented the situation to the Herald’s journalist.

We deserve better

A few weeks ago there was the debacle of the government introducing one afternoon a bill that would have imposed GST on investment management fees, ministers defending that bill the next morning, but then by lunchtime the policy was gone.

The proposed law change seemed on the face of it perfectly sensible in principle. I even read the Regulatory Impact Statement that was published with the bill, and most of the reasoning and argumentation made sense there too.

But it contained this little section

Perhaps unsurprisingly, those big numbers got a fair amount of media and political attention. As an example, here was an RNZ story

I was a bit curious about this “modelling”, which was not published at the time the bill was introduced. It wasn’t described in the RIS, the numbers weren’t put in any sort of context, they were just baldly stated. Quite probably ministers don’t read RISs, but perhaps you might think that the political advisers in their offices would (looking for fishhooks and headlines if nothing else). And you might have hoped that officials (Treasury/IRD) might have done a bit more than drop big numbers into the RIS – numbers that might reasonably be seen as creating problems for a sensible rational tax reform – rather than just stick the numbers out there waiting for the first curious journalist or Opposition MP to find them.

My suspicion was that something very simple, and potentially quite misleading, had been done. After all, one wouldn’t normally look to the FMA to undertake any serious modelling (it is a regulatory implementation agency). So I lodged a request for the modelling, and got a reply back this afternoon.

It is a helpful reply. They have set out their assumptions clearly, and even offered that I could talk to the responsible senior manager if I wanted to discuss matters further.

And it was pretty much as I had expected. They had assumed (probably reasonably enough [UPDATE; but see below]) that all of any GST burden would be passed on to customers/investors, and thus that overall returns would be a bit lower. But then they simply assumed that all the additional tax went to the government, which sat on it, and neither the government nor the savers made any subsequent changes in behaviour……..over the subsequent 50 years. And thus, mechanically, future managed fund balances would be lower than otherwise (about 4.5 per cent lower)

It might be a reasonable approximate assumption for a first year effect. Just possibly it might even be valid for the KiwiSaver component, since KiwiSaver contributions are largely salary-linked. But it makes no sense over a 50 year horizon, across all managed funds (let alone all private savings) and especially as the only macro-like number to appear in the entire document.

Over a 50 year view surely it would be reasonable to assume that one modest tax change makes no difference to the fiscal outlook, and thus that what is raised with this tax won’t be raised by some other tax. Household income won’t really be changed, and since most of the evidence tends to be that household savings rates in aggregate aren’t very sensitive to rates of return (partly because there are conflicting effects – low rates of return on their own might discourage saving, but on the other hand people with a target level of accumulated savings in mind for retirement will need to save a bit more when returns are lower than they had previously assumed) neither will the overall rate of household saving. There is more sensitivity (to return) on the particular instrument people choose to put their savings in, so that if returns on investment management products are a little lower than otherwise, people might prefer, at the margin, to hold a bit more of some other assets. But what of it? Supporting investment management firms’ businesses is no part of a sensible government’s set of goals.

Surely the best assessment would have been that over anything like a 50 year view, a small tax change like this, affecting returns on one form of savings product, simply would not be expected to make any material difference to accumulated household wealth in 2070, with perhaps some slight change in the composition of household asset portfolios: a little less Kiwisaver, not much change in other investment management products, and a little more in other instruments.

The FMA were at pains to point out that they “had limited time to feedback to IRD as part of IRD’s policy consultation”, although it isn’t clear whether IRD/Treasury requested these numbers or the FMA took it upon themselves to do it. And thus in a way I don’t much blame the FMA. They tend to be enthusiasts for and champions of KiwiSaver, and simply do not have a whole-economy remit or set of expertise.

What disconcerts me is that neither IRD nor Treasury (the latter especially) seem to have been bothered by FMA’s numbers, and neither seems to have made any effort to provide any context or interpretation. There wasn’t any obvious reason why those FMA numbers had to be in the RIS, but if they had put them in with a rider “On the (unlikely) assumption that governments simply accumulate the additional tax revenue for 50 years and neither they nor households make any other changes in behaviour, then FMA ‘modelling’ suggests……”, it might have done materially less damage, through highlighting the sheer implausibility of the assumptions over a 50 year horizon.

Of course, you might also have hoped that ministers and their political staff would have noticed that something seemed odd.

What was proposed still seems as though it would have been a sensible tax change. Perhaps it will even happen one day. Perhaps it would have been derailed anyway, even if those FMA numbers – unqualified – had never made it into the document. But neither ministers nor officials really seem to have helped themselves.

UPDATE

A reader got in touch and suggested I might have been too generous in accepting the FMA view that all the GST would have been passed on to customers. With that reader’s permission, here are his comments

“Having owned a fund manager as part of a wider business, the GST exemption was a pain.  We could not recover GST on certain inputs and so therefore had to charge more – about 7.5% more because of this.  Plus we had an extra employee in the finance area that we could have got rid of.  It is not obvious to me that the fees would have gone up for this reason at all, except that the industry would probably have used it as an excuse to raise fees as it means that at some future point they could cut them and get a pat on the back from the FMA.”

LSAP losses

The Minister of Finance and The Treasury appeared before Parliament’s Finance and Expenditure Committee yesterday. It was encouraging to see National MPs asking questions about the Reserve Bank’s Large Scale Asset Purchase programme, which was undertaken with the agreement of both the Minister and The Treasury and which has now run up staggering losses for the taxpayer.

A standard way of estimating those losses is the mark-to-market valuation of the Bank’s very large LSAP bond portfolio. As of the latest published Reserve Bank balance sheet, for 31 October, those losses were about $5.7 billion. When the 30 November balance sheet is out, probably next week, the total losses will be lower (bond rates fell over November), but with a very large open bond position still on the books taxpayers are exposed to large fluctuations in the value of the position (up or down), with no good basis for supposing that the expected returns are likely to compensate for the risk involved. If there was a case for putting on a large open bond position early last year – I doubt it, but take that as a given for now – there is no case for one now, in a fully-employed economy with rising inflation, and with the conventional instruments of monetary policy – which expose taxpayers to no financial risk – working normally and effectively.

A post from a few weeks ago set out the issues.

I didn’t watch the whole 2 hours (link to the video above) but from exchanges with various people I think I have seen all the questions and answers relevant to the LSAP issues.

First, at about 43 minutes in, National’s Andrew Bayly asked the Minister of Finance (a) why, when Crown indemnity was approved the Minister did not then require a plan for unwinding the position (the Bank is currently talking about having a plan early next year, almost two years on), and (b) why there was no limit to the indemnity.

I’m not sure either question was that well-targeted, and the Minister had no real trouble responding. As he noted, the LSAP programme had been initiated in the middle of a crisis, time was short etc. And although there isn’t a limit on the indemnity itself there is a limit of how many bonds can be bought, and the government determines which bonds are on issue which amounts to much the same thing. That said, both responses take as more or less given that the idea of an LSAP had never occurred to anyone on any corner of the Terrace/Bowen St triangle until late March 2020. We know the Bank had been (rather idly) talking about the option for several years, including saying they’d prefer not to use it, but it seems they had not done the hard ground work, and neither had The Treasury nor the Minister insisted on it, well in advance. There is no sign any cost-benefit analysis for something like the LSAP was ever done, no analysis of likely Sharpe ratios, no analysis of potential peak taxpayer losses and so on. The Bank should be held accountable for that, but…the Minister is primarily responsible for holding them to account, and The Treasury is the Minister’s principal adviser (and the Secretary is a non-voting member of the MPC).

After the Minister left, Bayly returned to the LSAP (at about 68 minutes), supported by National’s new finance spokesman Simon Bridges. Bayly asked the Secretary to the Treasury whether an increase in the OCR would increase the liability for the Crown for the indemnity. The Secretary responded that the indemnity was net neutral from a whole of Crown perspective. What followed was a slightly confused discussion with Bridges ending up suggesting that the Secretary was “plainly wrong”. I don’t think the Secretary answered well, and she certainly didn’t answer in a way designed to help clarify the issues around the LSAP, but she is correct that the indemnity itself does not affect the overall consolidated Crown financial position (the claim the Bank currently has on its balance sheet is fully offset by an obligation the (narrowly defined) central government has on its balance sheet. It is quite likely that without the indemnity the MPC would have been very reluctant to have run a large-scale LSAP programme (the Bank’s own capital would not support the risk), but once the programme was established what determines the financial gains or losses is, in short, just the movement in market interest rates. The indemnity just reallocates any losses within the wider Crown accounts. In that particular exchange, The Treasury made none of this clear, and Secretary herself seemed a bit confused when the discussion got onto the different ways the bond position might eventually be unwound (there is little or no indemnity if the bonds are held to maturity, but that doesn’t mean there are no costs to the taxpayer). And thus (reverting to Bayly’s initial question) an increase in the OCR – particularly one now expected – doesn’t itself change the Reserve Bank’s claim under the indemnity

About 25 minutes further on, Bridges returned to the fray and a rather more enlightening conversation followed. Bridges asked whether the LSAP did not represent a significant increase in Crown financial risk. The Secretary agreed and both she and one of her colleagues explained – as I have here repeatedly – that what had gone on was that the Bank had bought back long-term fixed rate bonds, effectively swapping them for the issuance of settlement cash, on which the interest rate is the (variable) OCR. Unfortunately some of the discussion still got bogged down in matters of Crown accounting (the difference between the purchase price of the bonds and the face value, which is of no economic significance), and the Secretary was very reluctant to allow herself to be pushed into acknowledging that the position of the LSAP portfolio – implemented with her support – is deeply underwater. As a simple matter of analysis, she was never willing to distinguish between the mark-to-market loss to now, and the potential gains, losses, and risks on continuing to hold a large open position from here on. One is a given – now a sunk cost – and conflating the two (in the hope “something will turn up”) obscures any sense of accountability, including for the choices to keep running the position. She and her staff wouldn’t accept that sort of explanation from any other government agency running large financial risks.

Were the position to be liquidated today – as, at least in principle (crisis having passed, economy full-employed) it should be – a large loss for the taxpayer would be realised. At a narrow financial level it is as simple as that. If the position continues to be run – in the limit through to maturity, finally in 2041 – what will matter is where the OCR averages relative to what is currently priced into bond yields, but it won’t change the fact that the portfolio is starting behind – the OCR is already much higher than was expected at the time most of the bonds were bought. And if the portfolio is let continue to run, taxpayers are exposed to ongoing large risk for no expected return (there is no reason to suppose the Bank is better than the market at guessing where the OCR will need to go over the next 10-20 years).

(The current agreement between the Minister and the Bank requires that if the Bank looks to sell the LSAP bonds it do so only to the Treasury itself. Such a sale, of course, changes nothing of economic substance (purely intra-Crown transactions don’t) – the high level of settlement cash balances would still be there, earning whatever OCR the macro situation requires – but from a political perspective it would be convenient, as there would no longer be monthly updates on the Bank’s website as to the extent of the losses caused by the MPC’s rash choices (backed by The Treasury).

Treasury officials did chip in a couple of caveats. First, the Secretary noted that in assessing the overall LSAP programme one had to look also at the (any) macroeconomic benefits. In principle, of course that is correct, but (as I’ve argued previously) any such gains are unlikely to have been large:

  • the LSAP was designed to lower long-term bond rates, but these are a very small element in the New Zealand transmission mechanism,
  • it is hard to see much evidence here or abroad of sustained effects of LSAP-like programmes on long bond rates (eg movements beyond what changing expectations of future OCR adjustments themselves would simply),
  • the Bank always had the option of cutting the OCR further (on their own telling, to zero last year, and lower still since the end of last year), at no financial risk to the taxpayer, and
  • if there is a macro effect, perhaps it was modestly beneficial last year, but must be unhelpful now (recall that the literature suggests it is the stock of bonds that matters, not the flow of purchases, and we now have an overheated economy with above-target inflation.

And one of her deputies chipped in noting that there might have been some savings to The Treasury from having been able to issue so heavily at such low rates last year, the suggestion being that without the LSAP the Crown might not have been able to get away so many bonds so cheaply. There is probably something to that point, in an overall accounting, but (a) the effect is unlikely to have been large relative to the scale of the subsequent rise in bond yields, and (b) especially with hindsight a better model would have been for the Bank not to have been purchasing bonds and the Crown to have been issuing fewer.

The Select Committee discussion ended with the offer that National MPs could lodge a follow-up question for written response by the The Treasury. I hope they avail themselves of that offer.

The Treasury could be, and should be, much clearer and more upfront about the analytics of the LSAP issues, but it isn’t clear – given their involvement all along – that their incentives are in this case that well-aligned with the interests of the public in scrutiny, transparency, and accountability.

Long-term spending and revenue

The Public Finance Act requires that every four years The Treasury publishes a “statement on the long-term fiscal position” looking “at least” 40 years ahead. Parliament allowed them to defer the report due last year, but yesterday they published a draft – for consultation – of the report they will formally publish later this year. Quite why they have chosen to go through this additional step, of consulting formally on the draft of a report that is likely to have next to no impact even when finalised, is a little beyond me.

These long-term fiscal reports are fashionable around the world. As I’ve noted previously I was once quite keen on the idea, but have become much more sceptical. They take a lot of work/resource – which should be scarce, and thus comes at a cost of other analysis/advice The Treasury might work on – and really do little more than state the obvious. As I noted when the last long-term fiscal report was published.

I was once a fan, but I’ve become progressively more sceptical about their value.  There is a requirement to focus at least 40 years ahead, which sounds very prudent and responsible.    But, in fact, it doesn’t take much analysis to realise that (a) permanently increasing the share of government expenditure without increasing commensurately government revenue will, over time, run government finances into trouble, and (b) that offering a flat universal pension payment to an ever-increasing share of the population is a good example of a policy that increases the share of government expenditure in GDP.  We all know that.  Even politicians know that.  And although Treasury often produces an interesting range of background analysis, there really isn’t much more to it than that.  Changes in productivity growth rate assumptions don’t matter much (long-term fiscally) and nor do changes in immigration assumptions.  What matters is permanent (well, long-term) spending and revenue choices. 

And I’m old enough to remember people lamenting the potential fiscal implications of an ageing population – at least conditional on government choices – well before long-term fiscal reports were a thing.

What’s more, lots of countries have these sorts of reports, and of them some have very high and rising levels of government debt, and others don’t. It isn’t obvious that access to these sorts of long-term reports really makes any difference at all (see, for example, the US, with a rich array of private and public sector analysis – although do note that the US is well ahead of us in raising the eligibility age for Social Security retirement benefits).

New Zealand, to the credit of politicians in both main parties, has been one of the (not so small) other group of countries where government debt as a share of GDP has been kept fairly low and fairly stable. We’ve had recessions and earthquakes, and governments with big spending ambitions but if you reckon – as I do – that low and fairly stable government debt is generally a “good thing”, New Zealand has been a success story. We even ramped up the NZS eligibility age from 60 to 65 (back to the 1898 eligibility age) in fairly short order. For good or ill – and no doubt there is an argument to be had – government health spending as a share of GDP was not much higher last year than it was 40 years ago (recall, 40 years is the statutory timeframe for long-term fiscal statements).

health 2021

At the start of last year I’d probably have put myself in the camp of those saying “we’ve done okay on fiscal management and there is no obvious reason to suppose we won’t adjust as required in future”. Among other things, there is a certain absurdity in paying out a universal state welfare benefit to everyone at 65 as an ever-increasing share of those 65+ are still in the workforce, so change was likely to happen – it had in other countries, it had here previously and actually Labour in 2014 and National in 2017 and 2020 had campaigned on beginning to raise the age of eligibility (to which you might respond that none of those parties then got elected, but National still won 44.4 per cent of the vote in 2017).

I’m no longer so sure.

One chart that didn’t feature in the draft long-term fiscal report was this one from the Budget.

mcl 2

On their own numbers and estimates, the cyclically-adjusted primary deficit for the current (2021/22) financial year is projected to be really large (in excess of 5 per cent of GDP), at a time when – again on their own numbers – the economy is more or less back to full employment, with an output gap estimate close to zero. Note (again) that this is not a dispute about appropriate policy in the June quarter of last year when most of us were ordered to stay home and many were unable to work. It is about now.

In their text, Treasury is at pains to play down the current fiscal situation. They don’t mention these cyclically-adjusted estimates, but they claim that the situation is temporary, the spending is temporary, and will go away quite quickly. Of course, they have lines on a graph that show such an outcome, but that isn’t the same thing as hard fiscal choices over a succession of years. No doubt there are still some temporary programmes – the subsidies for Air New Zealand and exporters, MIQ costs, and vaccine costs – but a cyclically-adjusted primary deficit in excess of 5 per cent of GDP is getting on for a gap of $20 billion per annum. And every instinct of this government appears to be to spend more.

Here is the chart from the draft report

LTFS 2021

The primary deficit for 2060 on this scenario actually isn’t much larger than the primary deficit The Treasury smiles benignly on this year (assuming it will all go away quite easily). There are long-term issues that need addressing, but perhaps a less complacent approach to the current situation – and the poor quality of a lot of the new spending decisions – might be a better place to start.

Ah, but of course we heard from The Treasury a couple of weeks ago – the Secretary no less – that they are now keener on more government debt and a more active use of fiscal policy. Which probably isn’t the best backdrop against which to make the case for adjustment.

More generally, one of the things that has shifted over the last couple of years – and certainly since the 2016 LTFS – is some sense, especially on the left, that lots more public debt is something to embraced or welcomed, coming at little or no cost (so it is claimed). The focus is always on interest rates (low) and never on opportunity cost (when the coercive power of the state is at work in the spending choices). It makes it a bit harder to mount fiscal arguments about NZS if – as is probably the case – New Zealand could have government debt of 177 per cent of GDP without being cut out of funding markets (although note that, in the nature of such scenarios, the debt ratios mechanically explode beyond that 40 year horizon). And that is another reason why I’m sceptical of the benefits of reports like this: The Treasury really can’t offer any useful insights on the appropriate level of public debt, even if they can offer useful technical advice on the implications of various specific measures that might raise or lower the debt. The real debates to be had are political – both about the debt and the numerous progammes and even (to some extent) around the tax choices.

On NZS here were my thoughts from a post a couple of years ago (emphasis added)

As for NZS itself, personally I’m not overly interested in arguing the case for reform on fiscal grounds but on a rather more moral ground.    Even if we could afford it, even if there were no productive costs from the deadweight costs of the associated taxes, there just seems something wrong to me in providing a universal liveable income to every person aged 65 or over (subject only to undemanding residence requirements).    45 per cent of those 65-69 are now in the labour force –  suggesting they are physically able to work –  which is substantially greater than the 30 per cent of those aged 60-64 who were in the labour force 30 years ago when NZS eligibility was at age 60.

I don’t consider myself a welfare hardliner.  I think society should treat quite generously those genuinely unable to work, especially those who find themselves in that position unforeseeably.  Old age isn’t one of those (unforeseeable) conditions, but personally, I have no particular problem with something like the current flat rate of NZS, or even of indexing it to wage movements (which would be likely to happen over time anytime, whether it was the formal mechanism from year to year), from some age where we can generally agree a large proportion of the population might not be able to hold down much of a job.  I don’t have a problem with not being overly demanding in tests for those finding work increasingly physically difficult beyond, say, 60.   But what is right or fair about a universal flat rate paid – by the rest of the population – to a group where almost half are working anyway?  It is why I would favour raising the NZS age to, say, 68 now (in pretty short order) and then indexing the age in line with further improvements in life expectancy, and I’d favour that approach even if long-term fiscal forecasts showed large surpluses for decades to come.    At the margin, I’d reinforce that policy change with a provision that you have to have lived in New Zealand for 30 years after age 20 to be eligible for full NZS (a pro-rated payment for people with, say, between 10 and 30 years of actual residence).  Why?  Because in general you should only be expected to be supported by the people of New Zealand, unconditionally, in your old age, if most of your adult life was spent as part of this society.

Reasonable people can, of course, debate these suggestions.  But they are where I think the debate should be –  about what sort of society we should be, what sort of mix between self-reliance and public provision there should be, even about what mix of family support and public support there should be, or what (if any) stigma should attach to be funded by the taxpayer in old age –  not, mostly, about long-term fiscal forecasts.

And Treasury can’t help with very much of that. It is what we have politicians, think tanks, and citizens for.

I don’t think enough weight is given to the role that rules of thumb play in disciplining choices. If, in modern floating exchange rate open-capital account economy, many governments can take on almost any amount of debt as they want, and even the interest rate consequences of higher public debt are really quite small, what constrains government choices? No doubt there are a few zealots who think no constraints are necessary, but most people – left, right, or centre – don’t operate that way.

I favour running fiscal policy to two rules of thumb (not legal restrictions, but political covenants/commitments). First, aim to keep the (cyclically-adjusted) operating balance near zero, and second, aim to keep net public debt (all inclusive measures) near zero.

Note that (a) neither rule of thumb would be binding year by year (the state needs to cope with pandemics, earthquakes, or the like), they would be constant aiming points, the standard reference points towards which policy is oriented over several years, and (b) neither rule of thumb says anything about the appropriate size of government (if we conclude we want governments to do more (less) longer-term than adjust tax rates to pay for that. Adjusting tax rates – especially upwards – is a much higher hurdle (and appropriately so) than the Cabinet (commanding a majority in Parliament) simply deciding one morning to substantially alter spending.

There is probably less dispute about the operating balance rule of thumb than about the debt one. Smart people will mount arguments about (a) infrastructure, or (b) the potential capacity of the Crown to capture various high returns. A typical householder or company will, after all, have some debt. But (a) the disciplines on individuals and firms are much stronger, and more internalised, than they are for governments, and (b) much of government activity acts to reduce private savings. I’m not going to pretend there is any great difference between the narrow economics of a 20% debt target vs a -20% one, but zero has a resonance that no other number is ever likely to have. (And if you think this benchmark is demanding, on my preferred analytical measure – the OECD series on net general government financial liabilities – New Zealand has been between 10 per cent and -5 per cent of GDP continuously since about 2004.)

If you want the state to do more, make the case, have the debate for higher taxes – which takes the resources from specific identifiable types of people (tax incidence arguments aside), rather than by monetary policy squeezing out other private sector activity to make way for the government (in a fully-employed economy they are the only two options, there are no free lunches).

This has gotten rather rambly and I’m going to stop here, except to point you to this interesting table at the back of the Treasury report.

LTFS 2021 2

I noted:

  • the sharp drop in the long-term assumed birth rate (largely reflecting recent developments presumably)
  • the reduction in the assumed improvement in life expectancy
  • the significant reduction in assumed long-term productivity growth, and –  unlike the others, substantially a policy matter, 
  • the substantial increase in the assumed long-term annual rate of net inward migration

Pandemic income insurance

Way back on 16 March, the day before the government brought down the first of its pandemic economic response packages, I ran a post here in which – among other strands of an approach to the rapidly worsening economic situation – I suggested that the government should legislate quickly to provide, for the coming year, a guarantee that no one’s income would fall below 80 per cent of what it had been in the previous year. The proposed approach was to treat individuals and companies in much the same way. The underlying idea was to provide some certainty – to individuals, firms and lenders – without offsetting all losses (society was going to be poorer) and without locking people in to employment or business relationships that may have been sensible/profitable previously, but which wouldn’t necessarily be in future. And to recognise that individual firms and people are better placed to reach those judgements – about what makes sense for the future, what makes sense (say) to borrow to support – that government ministers or officials.

I knew that any such scheme might be very expensive, and rereading the post I see that I proposed it even though I was talking about economic scenarios for potential GDP losses that were materially worse than most think we will now actually face. But part of the mindset was the parallel with ACC – our no-fault accident compensation system. Being able to treat people in a fairly generous way when a serious pandemic – that was no one’s fault – hit could be conceptualised as one of the bases for the low-debt approach successive governments had taken to fiscal policy over recent decades. And it did not require governments to pick winners – firms they thought might/should flourish – or pick favourites.

Since it was sketch outline of a scheme, dreamed up over the previous few days, I was always conscious that there were lots of operational details that would have to be worked through before an idea of this sort could be implemented, and any scheme would need to be carefully evaluated for the risks that might lie hidden just beneath the surface. But evaluated not relative to standards of perfection, but relative to realistic alternatives approaches in a rapidly unfolding crisis.

I wrote a couple of other posts (here and here) touching on aspects of the pandemic insurance idea, and as I reflected a bit further and discussed/debated the idea with a few people, I suggested some potential refinements, including greater differentiation between companies and individuals. Other people, here and abroad, also suggested ideas that had some similarities in spirit to what I was looking to achieve.

Of course, nothing like the pandemic insurance scheme was adopted. Instead, we had a flurry of schemes and of individual bailouts, the main attraction of which seemed to be a steady stream of announceables for Cabinet ministers in election year (generally a negative in terms of the public interest, in which similar cases should be treated similarly), all while offering little or no certainty to individuals, firms, or their lenders.

I’ve continued to regard something like the pandemic insurance scheme as a superior option that should have been taken, but mostly I moved onto writing about other things. But the return of community-Covid, more or less severe government restrictions on economic (and other) activity, and arguments about whether and for how long the wage subsidy should be renewed only reinforced that sense that there would have been a better way. But a few tweets aside, I hadn’t given the issue much thought for a while until a few weeks ago a TVNZ producer got in touch to say that they had found reference to the pandemic insurance idea in an OIA response they had had from The Treasury, and asking if I’d talk to them about it.

It was only late last week that I got to see the response Treasury had provided (Treasury having fallen well below their usual past standards has still not put the response – dated 12 August – on their website (or even acknowledged my request for a copy of the same material). A little of the subsequent interview with TVNZ was aired as part of their story on Saturday night, itself built around the notion that the government had rejected this (appealing sounding) idea.

OIA Response Pandemic Insurance etc

The TVNZ OIA request had actually been for material on “helicopter payments”, which was refined to mean

“one-off payments made by the Government to citizens with the purpose of stimulating the economy,

(which in some respects does not describe the pandemic insurance idea well at all).

And yet most of the material in the quite lengthy OIA response (77 pages) turned out to be about the work The Treasury had undertaken on the pandemic insurance idea over the couple of weeks from 7 April, including some advice to the Minister of Finance.

There seems to have been quite serious interest in the option, and there is paper to the Minister of Finance providing a fair and balanced outline of the scheme – merits and risks – dated 9 April

tsy pandemic

and suggesting that if the Minister was seriously interested Treasury would do more work and report later in the month. Although there is no more record of the Minister’s view, he must have been sufficiently open for more work to have been done, including drawing in perspectives from operational agencies (including IRD and MSD) on feasibility and operational issues.

My impression is that Treasury did a pretty good job in looking at the option.

tsy pandemic 2

That final paragraph was always one of the key attractions to me.

As I went through the papers, I didn’t find too many surprises. The issues and risks official raised were largely the ones I’d expected – including, for example, the risk that some people might just opt out of the labour market this year and take the 80 per cent guarantee, and issues around effective marginal tax rates for those facing market incomes less than 80 per cent. Perhaps the one issue I hadn’t given much thought to was a comment from IRD about the risk of firms being able to shift revenue and/or expenses between tax years, with the observation that existing rules were not really designed to control that to any great extent. But, and operating in a second-best world, the officials involved generally seem to have regarded few of these obstacles as insuperable, bearing in mind the pitfalls of (for example) the plethora of alternative schemes.

The work seems to have come to an end on or about 23 April with Treasury finally deciding not to recommend the pandemic insurance approach. This email is from a Principal Advisor heavily involved in the evaluation to the Secretary and key (on the Covid issues) Deputy Secretary.

tsy pandemic 3

It probably shouldn’t surprise readers that I think the wrong call was made in the end, but equally it is probably not that surprising that the decision went the way it did. One reason – not, of course, acknowledged in the Treasury papers – is how slow officials were (across government) in appreciating the seriousness of what was already clearly unfolding globally – and as a major risk to New Zealand – by the end of January. As I’ve noted before there is no indication in any of the papers that have been released, or public comments at the time, that (for example) Ministers or the heads of the key government departments had begun serious contingency planning – devoting significant resource to it – any time before mid-March. This particular work didn’t get underway until well into April, by when a great deal had already begun to be set in stone, and when rolling out bite-sized new announcements – robust or not – no doubt seemed, and was, easier than a new comprehensive approach.

As it happens, even though there was a great deal of concern back in April about the affordability of the pandemic insurance scheme, with the benefit of hindsight there is a reasonable argument that it could even have been cheaper than the approaches actually adopted (GDP losses having been less severe, on a sustained basis, than feared in April), which in turn might have left more resources for the stimulus and recovery phase (pandemic insurance – like wage subsidies – was always more about income support and managing uncertainty in the heat of the crisis than about post-crisis recovery stimulus).

From my perspective, the post was mostly about recording my pleasant surprise at how seriously the pandemic insurance idea (mine, and some other variants) was taken by officials, and by what appears to have a pretty good job in evaluating it as an option, in what will have been very trying and pressured times.

From this vantage point – with the advantage of knowing how the first six months of the virus went, and with a sense of the economic ramifications – I still reckon it would have been a better approach. And yet – and I don’t recall seeing this in Treasury’s advice (perhaps it isn’t the thing for officials to write down) I can also see political pitfalls – around very large payouts to some companies, even if they weren’t gaming the system – that might have made it impossible, and unsustainable if tried, without (at least) a very strong degree of political leadership and marketing that such a no-fault no-favour approach was a better way to have gone. As I noted in an earlier post, I’d have hated having the Crown pay out to casino companies, but I would have endured for the sake of a fair across the board scheme. But every single person, every single lobby group, would have found some potential recipient to excoriate.

The TVNZ interviewer asked me about the pandemic insurance idea still had relevance for the future. My initial response to him was that yes it did, and that we might be much better off to have the infrastructure required to make it work in place and on the shelf ready to go for when future pandemics happen. Taxes will, after all, be a bit higher than otherwise as we gradually lower debt ratios, amid repeated talk of being ready for the next major adverse event, whether earthquake, volcano or pandemic.

And yet reflecting on it again over the weekend, I’m no longer quite so confident of that answer. More detailed work, and more thought, is probably required once this pandemic is behind us to strike the right balance – individuals vs firms, generosity in a no-fault shock vs moral hazard as just some of the examples of issues to be thought through, and planned for, ideally in a way that would survive contact with a new real severe adverse shock.

A speech from the new Secretary to the Treasury

Early last month the new Secretary to the Treasury, Caralee McLiesh, gave her first on-the-record speech in the new role.    The Treasury was a bit slow to release the text, but it is now available here.     It wasn’t a long speech, but it was to a fairly geeky audience –  the Government Economics Network’s annual conference – most of whom wouldn’t yet have seen much of the new Secretary.  With not much else to go on yet, it seems reasonable to look at what she said for any indications of whether/how The Treasury is changing for the better under new leadership.

I’ve been uneasy about the new Secretary for several reasons:

  • first, because she isn’t a New Zealander and has no background or experience in New Zealand issues or people, no domestic networks, and (most probably) little in-depth understanding of the idiosyncrasies of New Zealand, including its longrunning economic underperformance, and
  • second, because she has no work experience in a national economic agency/ministry, dealing with national economic issues (financial crises, monetary policy, exchange rates, immigration, trade, or even very much exposure to fiscal or tax policies), and yet is now the principal economic adviser to our government (itself light on economic expertise or experience).

On the other hand, she has some fairly good academic qualifications and may well be quite capable as the sort of generic public service manager favoured by the current State Services Commissioner.   Whether she can bring to the table more than that –  and New Zealand economic policy, and The Treasury (weakened over the previous 10-15 years) needs more than that –  remains to be seen.

The topic for the GEN Conference was “the role of regional and urban development in lifting living standards”. It is fair to say that my response to the title was along the lines of “there is no such role”, but it was still going to be interesting to see how the Secretary chose to respond to the topic, and perhaps to nest any specific insights on regional/urban issues in an understanding of the much bigger national productivity failings.

Of course, there are distinct limits to what serving senior public servants can and can’t say.  One could argue they mostly shouldn’t be doing public speeches –  their job is primarily to advise ministers, not to spin government PR (or to explicitly challenge it).  But successive Secretarys have chosen to give speeches.

Here is McLiesh running spin for the government

The theme of today’s conference is how well-performing regions and cities can contribute to our wellbeing and raise living standards for all. Those of you familiar with the Government’s Economic Plan will know that the Government has identified ‘strong and revitalised regions’ as one of the key economic shifts it is working towards. And work on government’s urban growth agenda and resource management reforms is well underway.  So this is a significant and substantial topic for New Zealand.

She, if no one else, I guess has to take the government seriously, at least in public, when it says it has a (30 year) Economic Plan.

But in the rest of speech there really wasn’t much substance.  There was the best part of two pages recounting the Living Standards Framework – in text that is fine, but which offers nothing fresh.  At least it ended with a reminder that economic performance matters

The Treasury always has an important role to play in advising government on how to lift economic productivity and performance, and this remains a core part of our LSF thinking. A roomful of economists doesn’t need to be told, but I will say it anyway, that high living standards depend on strong economic performance, and that markets that operate well – and I emphasise, “well” – can, and do, powerfully lift living standards. They enable people to participate in labour markets, earn higher incomes, and apply those incomes towards whatever wellbeing means for them. The story of development is basically a story about investment in the institutions and mechanisms that enable people to flourish in deep and complex markets – that is, to grow.

But really that should be “motherhood and apple pie” stuff to an audience of economists.  And sadly, there hasn’t been much sign of rigorous or systematic advice on lifting productivity and economic performance in recent years.

She moves on to highlight that there are regional differences across New Zealand.  There is quite a nice graphic drawing on OECD data, but she conveniently omits to highlight that (according to the graphic) not one New Zealand region has incomes in the top third of OECD country regions.  Productivity is a huge failing in New Zealand, and that failing just isn’t region-specific.  If anything, the gap between highest and lowest income regions within New Zealand is unusually small by OECD standards.

And thus when the speech says

Regions may contribute more to national economic development if we can tap unrealised economic potential.  A policy approach that emphasises strengthening regional comparative advantage means we may be able to lift national economic performance rather than just shifting economic activity around the country.

it has the feel of someone who is stuck with the Provincial Growth Fund, rather than someone who has thought hard about New Zealand (and what does that counteractual –  “just shifting economic activity around the country” – mean: who has been doing that?)

The next paragraph isn’t any better

There can be a role for government in helping communities to identify strengths and opportunities or strengthening local governance. There can be a role in working across agencies, local authorities, local people, and the private sector to coordinate and facilitate private investment. Or in investing in infrastructure where this directly unlocks economic opportunities. And can we do more to coordinate between social interventions and economic opportunities to ensure these approaches are complementary?

I guess bureaucrats would like to think so, but is there any evidence of governments being able to specifically catalyse regional economic development in a useful and sustainable long-term way, other than by getting the overall national policy settings right, and understanding the national failings?

There are some strange observations

More than a third of New Zealanders live in Auckland, a city with house prices vastly in excess of the marginal cost of supply.

But house prices aren’t “vastly in excess of the marginal cost of supply”, rather national and local regulatory policies have driven the marginal cost of supply –  especially the land component –  well above where it would otherwise be, so that there is no huge gain on offer to people developing new houses.

It was encouraging to see the Secretary allude to Auckland’s longer-term economic underperformance

Between 2000 and 2018 our national population grew by 26 percent, but all of the above-average population growth has been from the Bay of Plenty northwards, with Auckland the fastest growing at 37 percent. Contrast that with population growth of 7 percent in Southland, 5 percent in Gisborne and 4 percent on the West Coast.

This population growth is despite the fact that Auckland’s GDP has grown at only 82 percent of the national average in the 2000 to 2018 period.  In contrast, GDP growth was well above the national average in every region of the South Island, while Bay of Plenty and Northland had above-average growth too.

But there isn’t much sign that she or her department have thought hard about a compelling narrative that explains what has gone on.  Instead we get this rather confused paragraph

Other cities and regions may have plenty of available land.  However, they will need to improve their quality of business and quality of life attributes too if they are to significantly ease pressure in Auckland. And worldwide we see that agglomeration into major cities continues despite congestion and high property prices. Clearly, both employers and employees often see better long-term prospects in these major cities, despite efforts to develop other regions.

In both New Zealand and Australia, we certainly see more people in major cities, but little evidence of the vaunted productivity gains from continued concentration of people in these places.  Natural-resource-based economies tend to be like that, but there is no hint of that as an issue in the Secretary’s story.

And from there the speech heads downhill again

Central government has created more capability through urban growth functions in HUD, and appointing senior regional officials to lead engagement and coordinate government across regions.

Of course lifting wellbeing across the regions is not just up to central government, which is why we see more partnering with local government and regional economic development agencies over recent years to develop action plans.

Lots of busy bureaucrats, lots of meetings for ministers and officials to open and attend, but not much sign of any understanding of quite why the overall economy has performed so poorly over so long (when almost all the tools of economic policy are controlled at the central government level).

Of the final page, I could commend her sense of humour, including this old Tom Scott cartoon (if memory serves from back in the late 80s or early 90s)

scott

But then it is straight back to the self-congratulatory stuff

In closing, I want to acknowledge that being an economist working in public policy is incredibly rewarding, but it can also be challenging. We are a community of professionals that sometimes has to be loud to be heard. When people want the comfort of policy that is simple, certain, and swift, we can find ourselves the sometimes uncomfortable voice of technical rigour, nuance, and realism.

I guess that it might have been music to the ears of some in the audience.  But we don’t –  or shouldn’t –  hire senior public servants to tell people (including ministers) what they want to hear.   Sadly, there has been little consistent sign of The Treasury offering that “uncomfortable voice of technical rigour, nuance, and realism” in recent years, especially on these big-picture economic performance failings.  They seem to have been content to just go along, to maintain access (perhaps) by not addressing the hard issues, and playing distraction with the fluffy stuff while the economic prospects – the living standards prospects –  of New Zealanders, regional or urban, drifted further behind.

It is still early days for McLiesh.   I have heard a few positive things about the new Secretary, including hints of renewed emphasis on rigour. I hope this particular speech isn’t a foretaste of the standard we can expect, but that the Treasury really does begin asking the hard questions, doing robust analysis, not simply going along with conventional political verities (eg regional development).   Perhaps there isn’t a political demand for such advice and analysis –  are there any politicians who really care? – but shouldn’t stop The Treasury being a voice, perhaps at times crying in the wilderness, pointing to how things might be such better here.  As a hint, regional economic development agencies aren’t likely to be any substantive part of the answer.

 

HYEFU thoughts

I don’t have that much to say about the HYEFU and the Budget Policy Statement released yesterday.  If governments are going to keep on with the insane and destructive (to the economic wellbeing/prosperity of New Zealanders) policy of supercharging population growth then, sooner or later, they are going to need to spend more on increasing the associated public “infrastructure” (roads, schools, hospitals etc).  One can, of course, question the quality of some of that expenditure –  baseline or projected –  but more people pretty reliably means a need for more capital.

That said, if the population is growing rapidly you’d usually expect to see all sorts of investment growing quite strongly.    As I illustrated in a post last week both government and business investment have been really rather subdued in recent years.  The Treasury doesn’t give us forecasts that separate out government and business investment, but here is a chart of their forecasts for total non-housing investment (public and private) as a share of GDP.   The first observation is an actual, the rest are forecasts.

inv hyefu 19

Note the scale.  These are not huge moves, but they are falls.  Treasury expects that non-housing investment will be a smaller share of GDP in the coming years than it has been in the recent past.    Something doesn’t seem right about the economic policy settings, at least if the governments cares about lifting average material living standards of New Zealanders.  Treasury forecasts on the basis of policy as it is, and (fiscal) policy changes the government has told them it will be making.

The picture in the forecasts also doesn’t look very good if we concentrate on trade with the rest of the world.  Here is exports as a percentage of GDP.

exports hyefu 19.png

When it first took office, the government occasionally used to talk about a more export-oriented economy and all that.   No sign that the Treasury thinks that policy settings are consistent with delivering that.  I didn’t include imports on the chart, but the fall in imports as a share of GDP over the forecast period is slightly larger than the forecast fall in exports.     Taking on the world and winning, consuming more of the best the world has to offer, it isn’t.

And it isn’t as if The Treasury is forecasting doom and gloom: they expect overall GDP growth to pick up and be running at around 2.75 per cent per annum.

You’d hope that, faced with projections like these, the Minister of Finance would be demanding from the Secretary to the Treasury –  and that the Secretary would be proactive in offering –  robust advice on what might, after all these years, begin to reverse New Zealand’s woefully poor long-term economic performance.    It doesn’t seem very likely, but the Secretary is new.  Perhaps she is genuinely shocked at how poorly New Zealand does.  Perhaps she is demanding answers, analysis, and advice from her staff.

On page 2 of the HYEFU I noticed this claim

The Treasury is in a unique position to focus on improving the way our economy can raise New Zealand living standards. Along with delivering first-rate economic and financial advice,

Treasury certainly is in a unique position.  They have a lot of staff, have had their budget increased, and have (or should have, if they are doing their job) ready access to Ministers and input across all major areas of policy.   And yet, the actual performance has been poor, and there is little visible sign of that “first-rate economic and financial advice”.  It might be bad if governments were consistently rejecting such advice, but that is their prerogative.   But there isn’t much sign that The Treasury has been offering hard-headed searching advice on the failures of overall economic performance, whether or not successive governments had been inclined to give it heed.

All that said, one can’t argue too much with the fiscal performance.    Here is a chart of the best of the debt indicators Treasury publishes forecasts for.

net core crown debt

Modern New Zealand governments manage debt and the aggregate public finances in a pretty responsible way (I’m not one of those who thinks low interest rates mean governments should take on more debt: rates are low for a reason), and government debt levels near zero seem pretty prudent given the way other government policies remove some of the need for private savings.   And while Treasury thinks we have a small positive output gap, my own inclination –  and the balance of the other estimates they quote –  is that things are a bit weaker than that.  Commodity prices are pretty high to be sure, which always flatters the public finances a bit, but overall I’m pretty comfortable if the operating balance is somewhere just either side of zero.

Successive governments have done aggregate fiscal management pretty well.  It is just a shame they’ve haven’t shown the same degree of interest, passion, commitment etc to fixing the longrunning productivity failures.  Overall fiscal management matters, but in terms of the long-term material living standards of New Zealanders, it is a bit akin to keeping the garden pretty and the fences well tended even as the house itself slowly –  ever so slowly but surely –  rots.

 

Long-term fiscal choices

Fifteen years ago now Parliament passed an amendment to the Public Finance Act requiring that every four years or so

the Treasury must prepare a statement on the long-term fiscal position

There is nothing in the Act as to what these long-term statement should cover, just a minimum time horizon” “at least 40 consecutive financial years”.

This wasn’t a pathbreaking fiscal reform by New Zealand.  By the time our amendment was enacted a fair range of other OECD countries had somewhat similar requirements (see table on page 4).

Fifteeen years ago I probably thought this new requirement was a good thing.  I’m much more sceptical now  It is unlikely that such reports do much harm, but:

  • they cost a lot to do (at least as Treasury typically does them –  the legal requirements could probably be met with a two page report),
  • come around much more frequently than any underlying issues change, and
  • there is little sign that long-term fiscal management is any better for them existing.

There are fiscally reckless countries and fiscally cautious countries, and there were both types before and after the introduction of long-term fiscal reports.  It isn’t obvious which country has switched sides (or moved much at all) as a result of these sorts of reports.  New Zealand, after all, introduced the requirement when our own fiscal surpluses were around an all-time high already.

What is more, the underlying issues are really pretty obvious to blind Freddy.   Here is what I wrote when the last Long-Term Fiscal Statement was released in late 2016

The Treasury yesterday released its latest Long-Term Fiscal Statement.  These documents, in some form or other, are now required under the Public Finance Act to be published at least every four years.  I was once a fan, but I’ve become progressively more sceptical about their value.  There is a requirement to focus at least 40 years ahead, which sounds very prudent and responsible.    But, in fact, it doesn’t take much analysis to realise that (a) permanently increasing the share of government expenditure without increasing commensurately government revenue will, over time, run government finances into trouble, and (b) that offering a flat universal pension payment to an ever-increasing share of the population is a good example of a policy that increases the share of government expenditure in GDP.  We all know that.  Even politicians know that.  And although Treasury often produces an interesting range of background analysis, there really isn’t much more to it than that.  Changes in productivity growth rate assumptions don’t matter much (long-term fiscally) and nor do changes in immigration assumptions.  What matters is permanent (well, long-term) spending and revenue choices.   

There really isn’t much more to it than that.

That statement was released in November 2016, which means –  time flying as it does –  the next report is due next year.   A Treasury that wanted impact might reasonably be expected to publish before the election, and if they do that they need to be sufficiently early in the year not to be caught up in the immediate highly partisan pre-election period.

As it happens I went to an event at Victoria University the other day at which one of Treasury’s researchers was presenting some modelling results of work done for the next Long-Term Fiscal Statement.  I can’t tell you about those results, but it did get me thinking about some of the past Statements and wondering how they looked with the passage of time.

In my excerpt above I referred only to spending on New Zealand Superannuation which, on current policies, will rise indefinitely as a share of GDP so long as life expectancy keeps increasing.  But the other big issue –  which sage Treasury officials will sometimes suggest is really the bigger one – is health spending.  There are new technologies and drugs, rising public demand, not much productivity growth (at least in the health sector in New Zealand), and an ageing population itself seems likely to create additional cost pressures.

This is the sort of chart The Treasury likes to show, from the background papers to the 2009 Long-Term Fiscal Statement.

health 09

On those numbers, health would be a simply huge fiscal pressure, and the case for higher taxes might be hard to resist.

I’ve always been a bit more sceptical that health is quite the issue it is sometimes made out to be.  That is mostly because there are so many more dimensions on which government health spending can be adjusted than there are around NZS (for the latter, one can play with the age of eligibility, the rate, and the indexation formula, all of which get a lot of attention) and the societally-accepted boundaries are fuzzier (whose GP visits should be free or heavily subsidised, how much should be spent on drugs, how much other rationing should there be).

Anyway, on that 2009 Treasury chart, the projecting forward of historical trends (as Treasury did it) would have had government health spending by now (year to June 2020) well in excess of 7 per cent of GDP (eyeballing the chart suggests about 7.3 per cent).  Here is a chart from a recent post including budget numbers for the current (to June 2020) year.

cc2.png

Government health spending now is sitting just on 6 per cent.  It was about 6 per cent in the year to June 2008 (just prior to the recession) and not much below 6 per cent forty years (note that period –  the LTFS statutory focus) ago.

Now, quite possibly there is a totally unsustainable huge shortfall in government health spending at present.  But if so, none of the political parties is making that case (notwithstanding the rhetoric from Labour in the last campaign) or doing anything very much about, and since the issues around fiscal policy are really political in nature (how easy/hard is it to make decent choices in a timely way) it does suggest that the margins are more fluid, the fiscal outlook more readily malleable, than the quadrennial publications from The Treasury are sometimes taken as suggesting.   The system copes, and adjusts, perhaps less elegantly than officials might like, but that it does so nonetheless.  That is consistent with, now, 30 years of fairly sensible, often quite conservative, fiscal management by governments led by both main parties.  Adjustment rarely, if ever, occurs in response to projections 30 or 40 years ahead, but to pressures that become apparent within much more near-term windows.

As for NZS itself, personally I’m not overly interested in arguing the case for reform on fiscal grounds but on a rather more moral ground.    Even if we could afford it, even if there were no productive costs from the deadweight costs of the associated taxes, there just seems something wrong to me in providing a universal liveable income to every person aged 65 or over (subject only to undemanding residence requirements).    45 per cent of those 65-69 are now in the labour force –  suggesting they are physically able to work –  which is substantially greater than the 30 per cent of those aged 60-64 who were in the labour force 30 years ago when NZS eligibility was at age 60.

I don’t consider myself a welfare hardliner.  I think society should treat quite generously those genuinely unable to work, especially those who find themselves in that position unforeseeably.  Old age isn’t one of those (unforeseeable) conditions, but personally, I have no particular problem with something like the current flat rate of NZS, or even of indexing it to wage movements (which would be likely to happen over time anytime, whether it was the formal mechanism from year to year), from some age where we can generally agree a large proportion of the population might not be able to hold down much of a job.  I don’t have a problem with not being overly demanding in tests for those finding work increasingly physicallydifficult beyond, say, 60.   But what is right or fair about a universal flat rate paid – by the rest of the population – to a group where almost half are working anyway?  It is why I would favour raising the NZS age to, say, 68 now (in pretty short order) and then indexing the age in line with further improvements in life expectancy, and I’d favour that approach even if long-term fiscal forecasts showed large surpluses for decades to come.    At the margin, I’d reinforce that policy change with a provision that you have to have lived in New Zealand for 30 years after age 20 to be eligible for full NZS (a pro-rated payment for people with, say, between 10 and 30 years of actual residence).  Why?  Because in general you should only be expected to be supported by the people of New Zealand, unconditionally, in your old age, if most of your adult life was spent as part of this society.

Reasonable people can, of course, debate these suggestions.  But they are where I think the debate should be –  about what sort of society we should be, what sort of mix between self-reliance and public provision there should be, even about what mix of family support and public support there should be, or what (if any) stigma should attach to be funded by the taxpayer in old age –  not, mostly, about long-term fiscal forecasts.