Brian Fallow: New-look KiwiSaver faces popularity test

Global financial problems have altered many people's behaviour towards saving more and borrowing less. Illustration / Rod Emmerson

On the face of it, it is a paradoxical and confusing message from the Government: We need to lift national savings, so KiwiSaver is to be made less attractive, because it is proving too popular.

Huh?

Last week's Budget reflects the conviction that the economy is coming right and the Government can therefore turn its attention to the state of its own finances and structural issues like the appropriate level of government spending as a share of gross domestic product.

The Budget's forecasts have Government spending flatlining over the next three years, which means shrinking in real terms and as a share of the economy.

To that end, as some big-ticket items inevitably increase every year, it plans to cut $5.2 billion over the next four years from existing programmes.

Half of that, $2.6 billion, will come from toughening up the tax treatment of KiwiSaver.

It will halve the members' tax credit, and remove the exemption from employer superannuation contribution tax (ESCT) which employers' contributions currently enjoy.

The reduced contribution from the taxpayer will be offset by increasing the minimum contributions from both members and employers to 3 per cent, partially reversing the reduction the Government made two years ago.

This, it says, will put the scheme on a sustainable footing and be net positive for national savings (though it has yet to release the officials' advice underpinning that conclusion).

It also argues that it makes no sense for the Government to be borrowing money - reducing national savings and adding to the burden of future taxpayers - in order to boost the savings of KiwiSaver members.

This is one of those propositions which is true or false depending on how you look at it.

It is true that, all else being equal, if the Government forgoes $X million of tax revenue, that is $X million more it needs to borrow.

If it ceases to forgo that revenue it will reduce its borrowing requirement by the same amount. But that does not mean it is borrowing all the money it is contributing to KiwiSaver accounts, any more than it is borrowing the entire cost of New Vote Health or New Zealand Superannuation payments.

It borrows to fund the difference between all the things it spends money on, on the one hand, and all its sources of revenue on the other.

It is a cheap rhetorical trick employed on both sides of the House to claim it is "crazy to borrow to pay for" whatever policy they don't like. It is also internationally normal for governments to have tax incentives for retirement savings while running deficits.

Are there calls in the United States to scrap the tax breaks for 401k saving schemes because the Federal Government is running a trillion dollar deficit? If there are, they are inaudible at this distance.

The timing of the KiwiSaver changes is important.

The first thing that changes is the halving of the members' tax credit.

That applies from the 2011/12 fiscal year which starts in five weeks' time.

Because the credit is paid annually in arrears the next payment on July 1 will be at the full rate of slightly more than $1000. It is in July next year that the amount going into people's accounts halves.

But because the Government's accounts are compiled on an accrual rather than a cash basis, it can count the fiscal saving of $512 million towards its target of zero net new spending for the coming year.

In fact it offsets almost half of the effect of scrapping the previous allowance of $1.1 billion of new money in the Budget. This cleverly softens the cyclical blow, compared with making the same saving in ways that would impact immediately on pay packets and order books.

The second phase of the adjustment, making all employer contributions to KiwiSaver subject to ESCT, applies from April next year.

This can be seen either as an increase in the tax burden on businesses or as reducing the amount employers will have on the table for wage increases, all else being equal.

But from the Government's point of view it gets it an extra couple of hundred of million dollars a year closer to its zero Budget target.

The crunch comes a year later.

From April 2013 the minimum employee contribution will rise from 2 to 3 per cent and the compulsory employer contribution will rise from 2 to 3 per cent.

Of the 1.7 million people in KiwiSaver - roughly three-quarters of the workforce - about half are on the minimum contribution rate.

The increase in the contribution rates is scheduled to occur in a year in which according to the Treasury's forecasts gross wages will grow about 4 per cent in nominal terms and 1.5 per cent in real terms. A 1 per cent increase in employee contributions would gobble up most of that.

Not only that. In most sectors (construction is an obvious exception) the economic burden of an increase in the employers' contribution is likely to fall on employees.

The alternatives are to accept lower profit margins or pass it on in higher prices.

Unless the business has a lot of pricing power it will have a given amount available for labour cost increases.

It is immaterial to the employer how that is divided up between the employee's take-home pay, Inland Revenue and KiwiSaver.

Labour's finance spokesman David Cunliffe says modelling they have done indicates you could not restore the employer's contribution to 4 per cent without negative real wage growth in the transition.

In short you can't have your cake and eat it.

As for what these changes will do for national savings and our perilously high reliance on importing the savings of foreigners, the big unknown factor is to what extent smaller tax incentives and a higher minimum contribution will put people off the scheme and encourage them to suspend contributions or not to join in the first place.

The global financial crisis and associated recession have triggered a marked change in behaviour towards saving more and borrowing less.

New Zealand households might even have joined their counterparts in the rest of the world in spending less than they earn, for the first time in many years.

How durable these changes will prove to be is one the major uncertainties perplexing economic forecasters, whether in the Treasury or the private sector.

The savings working group made the point that KiwiSaver is an adjunct to New Zealand Superannuation, not a replacement for it.

With employer and employee contributions at 2 per cent, a notional annuity a KiwiSaver member on the average wage could fund, at the end of 40 years working and contributing, would be equivalent to only 17 per cent of his or her wages in the last year of work, it said.

The first of the babyboomers retire this year.

The number of people drawing NZ Super will rise by 89,000 or 16 per cent over the next four years, pushing the cost of the pension up by $2.8 billion or seven times as much as the forecast increase in all the welfare payments combined.

Yet both major parties continue to insist that the entitlement parameters around NZ Super don't need to change.

When people talk of "lies, damned lies and statistic" that one in certainly in the middle category.