Bollard turns focus on to tax reform

Alan Bollard. Photo / Mark Mitchell.

Reserve Bank Governor Alan Bollard singled out tax reform as a way to increase the effectiveness on monetary policy over the economic cycle while encouraging savings rather than property investment.

"The current system exacerbates the economic cycle through its impact on saving and investment, particularly the way it encourages demand for housing," Bollard said in the December Monetary Policy Statement. Options include "removing or offsetting the current favourable treatment of property and housing."

Bollard said the work of various government advisory groups – the Tax Working Group, Capital Markets Development Taskforce and the 2025 Taskforce are likely to underline the linkages between monetary, fiscal and tax policy. Any policy action taken in response to the work of these groups, together with the government's budget decisions, "will affect how hard monetary policy has to work to achieve price stability and potentially where the burden of adjustment falls."

Like developed economies worldwide, New Zealand is benefiting from fiscal stimulus as well as a central bank interest rate policy that is keeping interest rates as low as possible. Bollard said once the economy's recovery is assured, "fiscal consolidation would help reduce the work that monetary policy might otherwise need to do."

The central bank is careful not to second guess government spending plans, avoiding the pitfalls of being seen to question its political masters. Its fiscal projections are based on Budget 2009, though they have been updated for recent tax outturns and adjusted to reflect the bank's updated macroeconomic outlook.

"Despite improved prospects for economic activity since Budget 2009, tax revenue has been weak, particularly in taxation on corporate and entrepreneurial income," Bollard said. "We assume this weakness will persist, contributing to fiscal deficits over the projection."

He said government spending is projected to rise further as a ratio of real gross domestic product "in the near term," before easing in 2011.

"This easing is expected to see fiscal policy move to a broadly neutral stance later in the projection," he said.