Editorial: How to save the economy? Tax cuts, rate cuts or both?

Minister of Finance Grant Robertson says the Government was assessing whether or not it needed to implement a fiscal stimulus package in May's Budget. Photo / Dean Purcell

EDITORIAL

As economic impact from coronavirus heads into territory that will flatten New Zealand's growth and potentially trigger a recession, the issue of how we stimulate the economy and support business becomes crucial.

Will we see a monetary policy response in the form of Reserve Bank rate cuts? Or a fiscal response in the shape of targeted Government spending or even tax cuts? The unfortunate reality is that we will probably need both.

The Reserve Bank was reluctant to move quickly on rate cuts a fortnight ago, given the uncertainty at the time. But it's been a grim two weeks as the virus has spread dramatically outside of China.

We've now seen the world's central banks start to move.

That has local economists picking the Reserve Bank will cut rates on March 25 - or, potentially, even earlier.

Meanwhile, some commentators have pointed out the fact that monetary policy is losing its power to address economic shocks as rates head towards zero. Central banks are still using the same weapons they deployed more than a decade ago to head off the GFC - and they are nearly depleted of ammunition.

That leaves us more reliant on the Government to deliver fiscal stimulus to see us though a temporary slump.

Thanks to a generation of sound management across both major parties, the New Zealand Government is currently well placed to handle a shock such as this.

Core Crown debt is just 20 per cent of GDP - low by global standards - and that's with a large stimulatory policy of new infrastructure building already underway.

The Government has the capacity to borrow more. The bigger issue wil be around how to spend it.

The simplest way to invigorate the economy is through short-term tax breaks, which effectively puts cash directly back in the hands of the public. This can provide a short term bump in consumer spending which can flow through to business and boost confidence in short term.

But, while this is relatively quick and simple from an administrative point of view, it may not be the right stimulus for this situation. Consumer confidence isn't at the front end of this downturn, as was the case in the GFC of 2008.

This time around, many businesses face highly specific supply issues because of the shutdown of factories in China. Exporters are facing distribution issues as goods languish at ports.

Consumer spending won't solve those issues and, should those businesses grappling with them start to falter, then jobs will go.

Be that as it may, targeted government support at a micro-economic level is difficult to administer. It may involve picking winners. For example, thus far the attention has been on tourist operators and log exporters.

But while the shutdown in China continues in a bid to slow the COVID-19 coronavirus, expect to see more small and medium size businesses under pressure as they expend inventories.

It will be vital the Government works closely with industry groups in coming days to identify and target the most vulnerable parts of the economy.