A bigger recession for each Kiwi than the GFC

Tuesday, 17 December 2024

ANALYSIS: The Government’s half year update has landed - and as expected it shows bad news and a worse outlook than in the May Budget.

Finance Minister Nicola Willis showed slides outlining just how much the forecasts have been downgraded - at pains to point out the revisions were not as a result of Government policy. In good news, the economy is still expected to start growing in the coming year.

House prices are forecast to drop in 2025 before getting back to around 5% annual growth by 2026.

The most telling line in the whole document is the one that hits livelihoods, living standards and economic opportunity.

“Since the September quarter of 2022, per capita GDP has fallen 4.6%, making the current downturn a deeper per-capita recession than the global financial crisis,” The Budget Policy Statement reads.

That means that the living standards of each New Zealander has dropped by nearly 5% over the past two years. That is a large reduction and along with inflation and high prices, is the driver of grumpiness among voters, an outflow of people to Australia, and has and will lead to higher unemployment.

The finance minister defended her approach of no big top-line spending cuts to bring the deficit to heel, while also doing no tax hikes that would do the same while also undermining growth.

A post-Covid productivity bump and assumptions around it have been downgraded significantly. Treasury thought that some productivity gains would persist - but it appears few did. Tax revenue is down, deficits are up and the surplus projection has been pushed out to 2028/29 - depending on which measure you use.

The Government is still hoping to hit surplus a year earlier.

“Lifting New Zealand’s productivity means doing a thousand things better,” Willis said. She is correct.

The macro settings across the economy will not change much, but it is microeconomic and supply side reform that will boost living standards in the long run.

This has always been the uniting logic of the coalition. The question has always been around the political skills of making and then linking those reforms with the bigger picture. This is something Willis has been attempting to do for some months now. It takes time, discipline and that most underrated of political skills - creativity.

Liberalising New Zealand’s dirigiste overseas investment regime, where investing in New Zealand is explicitly considered a privilege, is now the next big cab off the rank in the economic space.

The Government has also changed its measure of the Operating Balance Excluding Gains and Losses (OBEGAL). This figure is the usual measure of whether the Government’s book are in surplus or deficit.

The Government has created a new x-rated version of this called OBEGALx. It strips out any gains (and in this case particularly) losses from ACC.

It’s a reasonable call given that ACC’s deficits aren’t particularly material to Budget management (they are up to the corporation to manage through costs and levies). And there’s no reason to tighten fiscal policy due to ACC running some deficits.

But it does make the track back to surplus look considerably better than it would otherwise.

On the OBEGALx figure - which is the new preferred measure for the Government - the Budget is expected to hit surplus in 2028/29 (a year later than expected at the Budget). On the old measure, a surplus would not be achieved any time soon.

Would the change have been made if ACC was running big surpluses? Probably not. Is it a conceptually justifiable change to make? Yes it is.

The Government’s bond programme - how New Zealand finances its debt - is expected to ramp up significantly as well to be $4 billion, $6 billion and $8 billion higher over the next three years than previously expected. That is to fund the longer term deficits.

There are other measures that show up in the fiscal deterioration, including Health NZ deficits and surprises in education.

The overall fiscal picture is the Government continuing to run its tight operating allowances (new discretionary spending each year) and pushing back the return to surplus if need be.

Overall, however, the news is grim. Productivity growth forecasts have been revised down to 0.9% per year and GST revenue has taken a hit. It was expected to fall after it surged in the immediate post-Covid low interest rate domestic economic spend up, but it has fallen further than expected.

In 2025, a nearly $13 billion deficit on $144 billion of core Crown spending is expected. The forecast deficit is $10 billion the following year. The interest rate bill on Government debt will be over $10 billion for the coming five years.

The economy is expected to return to sluggish growth over the coming years, but one of the slides presented by new Treasury secretary Iain Rennie was one developed by the US Federal Reserve showing that there is significant geopolitical risk weighting based largely on threatened tariffs by soon to be renewed US president Donald Trump.

Rennie presented his first Budget update as secretary and gave a very good headline summary of what we were seeing, with context and relevant figures. It was a good public start for Rennie, a crucial public service role that should have organisation and public leadership at its heart.

Overall the Budget Policy Statement was consistent with last year’s and demonstrated a consistent approach from Willis. But the books do show just what a challenge the coming few years will be.

Willis said at one point during her press conference that at some point, the Government will get some surprises on the upsides. Both gross domestic product and gross domestic product per capita are forecast to start rising again in 2026. And Willis is still confident a forecasted thin deficit can be turned into a surplus by 2027-28.

The political question is when all these moving parts become real for people.