Colin James: Eight principles are the key

We have got to know the boxer in the pink corner pretty well over the past 5 1/2 years. His sixth Budget tomorrow will run along well-worn tracks. But what about the guy in the light-blue corner?

John Key is at last getting a frame around his thinking. He has left it a bit close to the election but there is now a set of principles to go with his determination to fire public servants and cut tax rates across the board - a switch he reckons at about 2 per cent of GDP (about $3 billion), if you add up the overs and unders.

And that highlights the fiscal difference between Key, National's finance spokesman, and his opponent.

Michael Cullen balances his Budgets on the revenue side and gives ground on tax not in a broad sweep but through micro-measures - a bit on depreciation here, a bit on fringe-benefit tax there and some technical changes to help business on the side. There are rumours of something, sometime on personal tax thresholds but those are rumours (at least until tomorrow).

Cullen pays cash for most of his capital expenditure. With allocations for student loans, other investments and the superannuation fund, that reduces his $8 billion operating surplus to a modest cash surplus this financial year which, Treasury projections say, is poised to head into deficit.

Meanwhile, hefty dollops of windfall tax dollars from the roaring economy are funnelled into public servants', nurses' and teachers' salaries, expanding existing social services and adding new ones - somewhere around $2 billion if you add up the overs and unders.

Key would balance his Budgets on the spending side. The state would do less and lower taxes would leave more money in individuals' hands.

Key has distilled his approach into eight principles, which he puts like this: "National stands for a high-productivity, high-wage, high-employment economy based on:

* Striving for individual and economic freedom.

* An open and competitive business environment that ensures global connectedness.

* Modest but fair levels of taxation.

* Minimising regulatory burdens on the business sector.

* High-quality education and skills, with work, not welfare, the norm.

* Maintenance of flexible labour markets.

* Recognition of property rights.

* On average, running modest but consistent Government surpluses.

Note that word "modest". Key's big differences are not only with Cullen but, on the face of it, with his boss, Don Brash.

In 2003, Brash challenged National to set a spending cap: increases no more than inflation. Sounds gentle, but he reckoned that in 10 years that would cut spending by 5 per cent of GDP because GDP usually outstrips inflation.

That reasoning allowed Brash to set bold targets for income tax of 25 per cent top rate for business and people. His reasoning: lower taxes and less spending reduce crowd-out of the private sector and the economy grows faster.

That bold Brash has disappeared in office behind populist slogans and economic generalisations. But Key subscribes to the lower tax/spending theory nonetheless. Cullen doesn't.

Key is a student of the electorate. He has found voters want a lot of services - health and education and pensions foremost - for which, in a modern society, the Government is ultimately the guarantor. That is inconvenient for theorists but politics always beats theory in the short term.

Now stir in two big Brash populist promises.

Last July, Brash promised as many police as it took to sort out crime. Since the Government's addition of 1000 police in the past five years has produced falling confidence in the force, Brash's promise clearly envisages a lot more than that over the next five years. Let's say $200 million to $300 million.

Then, last month, Brash said he would shovel on to roads all the petrol tax money that goes to the consolidated fund: another $600 million or so.

So Key starts with the best part of $1 billion of new spending already committed by his boss. Although the petrol tax would be in stages, the structural change that spending would bring about is measured by the whole sum.

And this is Cullen's point: a spend-up or tax-rebate binge in good times (such as the past four years) can turn quickly into a deficit in bad times. He will argue to voters in the election that that is where Brash and Key are heading.

Key unpicks this in three main ways:

* Don't do all the capital spending out of cash. Get private enterprise to put up some of the stake in partnerships. And fund some it from debt, especially if it is a road or hospital that will serve users for decades. Debt is relatively low and the Crown balance sheet could stand a "modest" increase if invested in projects with an economic return.

"The need for roads is so great it will take a while to get to the point where the economic return is doubtful," Key says. That reduces the risk such capital spending could turn, in effect, into consumption spending.

Cullen has toyed with private-public partnerships and infrastructure bonds but has not actually done either.

* Cut public service numbers - not operatives such as nurses and teachers but "bureaucrats", including policy analysts. Do a "general baseline review" asking whether programmes should be done at all and chopping those for which the answer is no (that would, for instance, take out a chunk of things New Zealand Trade and Enterprise does with its 600 staff). And cut back new spending.

* Contract out some public services, most notably routine hospital operations which can be done efficiently in the private sector, and develop trust schools and "move the funding around with individuals". Encourage over-65s to work. Health and superannuation are the two big structural upward pushers on spending.

Overall, Key would aim over time to switch 2 per cent of GDP from spending to a tax programme (announced closer to the election) which would be "large and multi-faceted" and include savings and the marginal tax on beneficiaries moving into work.

Key makes much of "freedom". He rejects Labour's recentralisation of health and education on the state, "where the risks are great": state provision eliminates competition and that leaves the state holding the baby and unable to make hard decisions. He says the state folds under wage rounds and, in any case, "governments are high-cost providers".

He wants tertiary education money focused only on courses which lead to a realistic opportunity to get jobs. He wants quality childcare (with early childhood education locked into it) to improve women's work and learning options. He acknowledges that is expensive.

Key would be "aggressive" on research spending. It would rise as a percentage of GDP.

And, of course, there would be a more flexible labour market and reform of the Resource Management Act.

Heard it all before in National's Mother of all Budgets in 1991? Didn't spending then rise anyway during the 1990s? Yes. But Key is ambitious and determined.

He may use the word "modest" but he keeps close to Brash. Where Brash has turned into a sheep in wolf's clothing, Key might just be the opposite.