I spoke last night with Simplicity Chief Economist and Head of Policy
about the Government's latest budget policy tightening, the risks for infrastructure investment and a potential dampening of GDP growth.He points out that the Government has cut capital expenditure so far in the current financial year, rather than operating expenditure, and he worries further restrictions in infrastructure spending by the Government will restrain growth and future attempts to deal with infrastructure deficits and the need to boost productivity.
He sent me these charts showing how the latest Crown accounts show a reducing net cash outflow, although that’s due to still-rising operating expenditure being more than offset by lower capital expenditure.
Here’s another view of that for the first eight months of the financial year.
Here’s a lightly-edited transcript of our conversation in the video above:
Bernard Hickey: Finance Minister Nicola Willis says she's going to cut her operating allowance for 2025-26 from $2.4 billion to $1.3 billion. What did you think of that apparent tightening of policy?
Shamubeel Eaqub: Essentially it's just enough for us to cover inflation and population and because there's so much pressures at the moment with a weak economy, the welfare payment increases, the increases in things like New Zealand Super, there's just not a lot of room with that kind of very small allowance in there.
Bernard Hickey: How would you characterise it in terms of tightness?
Shamubeel Eaqub: This government was elected on an austerity platform, so I think they are doing exactly what they said they would do. They wanted to cut taxes and cut spending and increase investment. From the beginning that was a really difficult trick to pull off and they haven't been able to do that. So what we have seen is they have cut taxes, but they haven't been able to cut back on the actual operating expenditure, which is where the great hope was… ‘we'll find all this cost savings and everything will be better.’ But that stuff is really tough.
Bernard Hickey: The impression you get from listening to ministers is that they're working hard to cut spending in various places, be it welfare, housing, and they're trying to contain cost growth in health and education. But what did you actually find on where the spending reduction was actually happening in those first eight months or so?
Shamubeel Eaqub: For the first eight months of this financial year, spending on pretty much all the OPEX (Operating Expenditure) items are up, with the exception of net interest, and all the kind of big reductions were on the investment side of things. It doesn't mean that they haven't made cost savings. Those things might have increased a lot more without those pressures. But because they've had those big tax cuts that came in when they were first elected, there's just less money around to be able to balance the books.
Bernard Hickey: The government is saying that it's going for growth and this is part of its going for growth strategy. But if you're tightening fiscal policy, you're reducing the amount of spending the government's doing into the economy, could that actually slow down growth?
Shamubeel Eaqub: Especially in a recession, fiscal policy is really important to provide a buffer and or at least as a catalyst to revive economic growth. The best bang for buck is to increase infrastructure investment. Unfortunately, the politics always gets in the way of that when there's a change of government. You know, ‘we turn off the previous teams projects for the new teams projects,’ and the hiatus is what we're experiencing at the moment.
There is an intent to increase infrastructure investment, but the unfortunate reality is that they're actually spending less on this physical infrastructure stuff at the moment. So that's probably the biggest concern for me. I don't have a problem with the wider view of getting a financial position on a more sustainable footing. I think that's a good thing to do. I think if you want to have lower taxes, that's fine, as long as you can find a reasonable way of reducing spend and still get good outcomes that New Zealanders want out of their health, education, transport and other things. But it's very hard to do in a short period of time that they're trying to do it in.
Bernard Hickey: Because there's two sides to a budget. You can get it back into balance by reducing your spending or you could increase your revenues. One of the things that's happened over the last couple of years is that the government has reduced some of its revenues by delivering some tax cuts and has also spent a tiny bit more, a lot less than they expected perhaps on the childcare rebates.
So if the government strategy is to get back into surplus by 2027/28, are they using all the tools they really could?
Shamubeel Eaqub: It's always the trade-off, isn't it? If you're going to have a surplus, then either you have to increase revenue or have to reduce spending. They have made it really hard for themselves by reducing spending first and then trying to cut spending, which is always very difficult to do because so many things that we do in government are just really locked in. You think about health, education, justice. These things are expensive and they're kind of volume driven. Population growth and inflation drives that stuff.
They're going to find it very challenging to get back into surplus in a way that doesn't damage the public's confidence in things, those things that people care about, like health, like education, because those are really personal things to people and people value those things highly.
It's a really big political risk as well as the of the risk to the actual sectors and the people who are involved in it.
Bernard Hickey: So the economy is starting to recover, but it's certainly not a really strong rebound, and perhaps not as strong as some expected, or maybe the government hoped. Is there a risk here that the government's dialing back on spending could actually slow the economy so much that it really loses momentum and frustrates the Reserve Bank's attempts to get things going again with rate cuts?
Shamubeel Eaqub: The private sector has got some positives in terms of lower interest rates. The two or three big headwinds are slowing net migration, fiscal austerity, and just the uncertainty in global markets with tariffs. We've got three kind of headwinds against a very strong, powerful positive from lower interest rates. So we're not coordinated. And that's always been the problem in New Zealand. The politics and the needs of the economy are not necessarily coordinated.
The challenge is how can we have coordinated policy when it comes to managing the economic cycle in a very short political cycle, when you know we're seeing that the public doesn't have a lot of patience. We elect a new government, but we're not giving them much of a chance and we're seeing this around the world. Political terms are getting shorter in terms of frequent changes of government, and when governments are in charge, they're going ‘I'm going to do everything that I can because I might not get re-elected.’
And I think we're seeing a little bit of that here in New Zealand too. But to answer your question, is this going to be the reason why the New Zealand economy doesn't recover very fast? Probably not, but at the margin it's that additional headwind that doesn't need to be there, mainly because of the infrastructure spend.
Because in my view, a recession is when you should be spending tons on infrastructure because there is so much spare capacity. You can get it done on time, under budget, and by the time the recovery comes, you've got all this great kit that everybody wants anyway.
Bernard Hickey: And the normal way to pay for this sort of great kit is to borrow with government bonds, which pension funds around the world and banks love because they're liquid, they have a good credit rating, and they're pretty confident that a government will repay its debt. However, the Finance Minister argued in her speech today that we couldn't really afford to increase our debt anymore because we were at risky levels of debt and that there was a risk the bond markets, the so-called bond vigilantes, could shut us out. And it was enough of a risk that we needed to really be very tight right now. What do you think of that argument that we just can't borrow anymore?
Shamubeel Eaqub: New Zealand's debt is not particularly higher compared to our peers. But there is an element of why are you borrowing money? So if you're borrowing money to fund shortfalls in operating expenditure for a sustained period, that's a bad thing because that shows poor management. But if you're borrowing money for capital investment, that's going to make New Zealand a better place, then that's absolutely the right thing to do. And right now, we've seen a sustained period where we've been running deficit on the operating side. And that's the bad bit of the borrowing.
The good bit of the borrowing is the money that we borrow for investment. So I don't accept that all debt is good or bad. I think there is an element of what are you using the debt for if it's for good infrastructure projects for a country with a massive infrastructure deficit. I think that would be a positive. And if you look at the actual pricing of our bonds at the moment, compared to the US, we're not being priced as some kind of banana republic. mean, if anything, New Zealand's risk premium is historically at a very low level.
So there is a lot of confidence that New Zealand has relatively good fiscal prudence. I think that's what the finance minister is trying to lean into, New Zealand's reputation of being prudent managers over finances. But I think we need to make the distinction between what are you borrowing the money for? If you're borrowing the money for everyday expenses and over-running your fiscal envelope because you've cut taxes, versus you're borrowing money to invest in infrastructure, those are entirely different propositions for our investors.
Bernard Hickey: There's a paradox here, isn't it? If you have an infrastructure deficit, you know you need to invest plenty in your infrastructure, these long term assets, which are probably going to increase your productivity and the overall size of the economy and improve people's health and their ability to work and be more productive. That can make your economy more likely to repay the debt.
And there is an enormous pool of money out there in New Zealand, apart from anything else, the KiwiSaver funds and a bunch of other pension funds, not to mention all around the world, right across the Tasman, the world's third largest pension savings pool.
Isn't there a danger here that if governments are too nervous about borrowing and pension funds are keen to invest in infrastructure, that there's a chicken on the egg problem here?
Shamubeel Eaqub: It's going back to the issue of what are you borrowing the money for? If it's for good projects that are infrastructure, that's going to make New Zealand better, of course you should do it because that makes economic sense. But if you're borrowing money for the wrong reasons, then that's not a good thing. But also, you don't want to borrow so much that the interest burden becomes unbearable, like it did in the 1980s, which really was the thing that was the gun against our head during that fiscal crisis. But that's not the case now, right? Our net interest payments are less than a billion dollars in the kind of first eight months of year. It's not like that's where we are getting a huge amount of pressure.
Where we're getting the pressure from is actually ‘have we got the headroom for debt if a crisis should come?’. And I do have some sympathy for that view that we should be repaying debt during good economic times to be able to get more headroom. But again not at the expense of not investing in our infrastructure, because that's what we have done for too many decades.
At some point in time we have to turn around and say ‘we're going to do things differently’. Debt is not the only thing that we can use. We can also use, like you say, those pools of capital. There are other ways of also funding the stuff. And when we had the infrastructure summit a couple of months ago, there was huge amounts of interest because people want to come to New Zealand. They want to support our economy. They believe in the rule of law and the broad stability and all those good things about New Zealand. So I think there's a lot of goodwill and a lot of confidence in New Zealand and we should be leaning into it.
Yes, we have headroom for debt, but we shouldn't rely only on debt for everything. I think we can be creative to go, ‘we want this bit of infrastructure because it's good for New Zealand. Let's do everything that we can, but debt is the one that we can use really quickly and easily and start doing it tomorrow if we wanted to.’
Interview ends.
Ka kite ano
Bernard
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