Key's tax plan 'won't lift rates'

National's finance spokesman John Key is confident his party's tax cuts package will not lead the Reserve Bank to raise interest rates and market economists agree.

National expects to fund most of the package, details of which will be released on Monday, from spending restraint rather than borrowing.

The rest, which represents the additional fiscal stimulus over and above what is already in last May's Budget, would be about $1 billion in 2006/07, $1.2 billion the next year and $1.3 billion the year after that.

That equates to 0.6 or 0.7 per cent of gross domestic product.

Economists said with the economy already slowing that was unlikely to trigger further interest-rate hikes from the Reserve Bank.

"But it might moderate the easing cycle when it comes," said Deutsche Bank chief economist Ulf Schoefisch.

"It might mean we don't get the last 25 or 50 basis points of interest rate cuts that we might otherwise have got."

Westpac chief economist Brendan O'Donovan said that as a general proposition fiscal policy should not be set to try to fine-tune demand, but in this case the fiscal stimulus both major parties were offering was timely.

Bank of New Zealand head of research Stephen Toplis said that if the slowdown did not arrive as expected any fiscal stimulus should be reconsidered.

"But if economic growth is tailing away and there are signs capacity constraints are being alleviated then there is no reason to believe any fiscal stimulus of that nature would cause any undue concern."

National's tax package is phased in from $2.2 billion in 2006/07 to $3.5 billion the next year and $3.9 billion in year three.

Most of that will be funded by a combination of scrapping existing "low quality" spending, cancelling initiatives in the May Budget like KiwiSaver and the inflation-indexation of income tax thresholds, and by allowing substantially less for spending increases in future Budgets: $600 million, $1 billion and $1.4 billion over the next three years instead of the $1.9 billion in each year allowed for in the last Budget.

Finance Minister Michael Cullen said that because those spending targets were unrealistically low and could never be met, National's tax cuts would set off an inflationary spiral and force the Reserve Bank to push up interest rates.

But Key said Don Brash, National's leader and the former governor of the Reserve Bank, had been fully involved in the preparation of the policy and was confident that the net additional fiscal impact would not put pressure on interest rates.

The net stimulus would be quite small and would occur at a time when growth would be weakening.

Key said some tax cuts people received would be saved.

And there would be some dynamic effects, through stimulating investment and risk-taking, which would grow the economy and tax base, though they are hard to quantify and did not form part of National's modelling of the fiscal outlook.

Key said that gross Crown debt would track slightly higher than under the Budget projections, to be about 1 per cent of GDP or about $2 billion higher in three years.

But as the Budget did not take account of the impact of Labour's policy of scrapping interest on student loans, he doubted in the end there would be much difference on this count between the two parties.

In any case, Key said net debt to GDP and net worth were at least as important as measures of fiscal prudence and that view was shared by international credit rating agencies.

Net debt, including the assets of the Cullen fund, fall below zero in the June 2007 year as a result of both parties' policies.

Key said National had not been tempted to do a large tax cut package and take on more debt.

The party did not need to run surpluses larger than was needed to fund the New Zealand Superannuation Fund and make a modest contribution to capital expenditure.

Forex: Central bank role

The National Party intends to scrap the Reserve Bank's mandate to intervene in the foreign exchange market to shave the tops and bottoms off the exchange-rate cycle.

Finance spokesman John Key said yesterday National would drop plans to put an extra $500 million in the 2006/2007 year and $200 million the year after into the Reserve Bank's balance sheet.

"We don't intend to allow the bank to intervene in the forex market and we will reverse that," Key said. The Reserve Bank declined to comment.

Early last year, Finance Minister Michael Cullen asked Parliament to put an extra $1 billion in equity into the bank's balance sheet, on top of the $400 million it already had, to boost its ability to ride out unrealised losses on its foreign exchange exposure. He also sought Parliament's blessing for the bank to borrow $1.9 billion in foreign currencies to boost to about $7 billion the reserves it maintains for emergencies. Those reserves are insurance against the possibility of the market becoming extremely disorderly or dysfunctional - in effect, if no one else is prepared to buy kiwi dollars.

It has long been the bank's policy to intervene in such circumstances, although it has not had to since the dollar floated nearly 20 years ago. Nor has it used its more recent power to intervene to moderate swings in the exchange rate.