ANALYSIS
On Tuesday, the Government “opens the books”, revealing the shape of the public finances and Treasury’s best guess at what the economy will look like in the uncertain future.
One thing we can predict with reasonable certainty is that Labour and Grant Robertson will say that the books show the merits of a “careful” and “balanced” approach through successive economic crises (or something like it); we can predict National and Nicola Willis will claim they show the cost of Labour’s profligate and irresponsible spending.
The truth will be a mixture of both. Despite a weakening economy, the books will be in better shape than feared, but with serious questions hanging over the quantum of recent spending in the past and the level of spending and borrowing going forward.
Prime Minister Chris Hipkins managed expectations on Monday, admitting “the government’s finances are in a challenging position because we’ve seen a decline in government revenue”.
Tomorrow is PREFU - the Pre-Election Economic and Fiscal Update. It’s when Treasury publishes a set of forecasts for the government’s fiscals (that is the amount of money it taxes, borrows and spends) alongside forecasts for the broader economy.
This means we get a look at taxation, spending, borrowing, unemployment, benefit numbers, house prices, student numbers - you name it - over the forecast period to 2027, and in slightly less detail, over the projected period to 2037. Treasury will also publish “risks” to these forecasts - a laundry list of things to keep an eye on.
We can thank former Finance Minister Ruth Richardson for PREFU. Outraged at being informed of the imminent collapse of the BNZ bank only after National had won the 1990 election, Richardson forced the publication of detailed forecasts and risks prior to every election to hold the government accountable for its fiscal management, and to give an opposition an idea of what it might inherit. Both sides of this will be important tomorrow, with Labour needing to defend its decisions, while National will be forced to account for how its own promises add up.
This year, the books will be something of a “moment of truth” to determine how big the much rumoured, meme-generating hole identified by Winston Peters, Nicola Willis and David Seymour actually is.
What is almost certain is that the books will show larger deficits and increased borrowing when compared to the last set of forecasts published with the Budget in May.
This is largely a function of the economy slowing as the Reserve Bank chokes off our supply of cheap credit in a bid to control inflation. Weakening demand from China and other major trading partners will also have an impact. So far, what we’ve seen is that in the year to May, the books were $2 billion worse off when compared to forecasts that were only a few weeks old. The amount of revenue coming in is shrinking, and shrinking fast.
“Certainly the outlook is expected to turn darker. The Government was $2b short in May, we’re now in September,” Infometrics chief executive Brad Olsen told the Herald.
PREFU is likely to be the third straight set of forecasts to show a weakening in the government’s revenue, after the December HYEFU and May’s BEFU also showed a downturn. Olsen noted that since then government revenue fell but spending, as announced in the Budget, increased.
“I think what will be interesting is not only that position on sort of how much lower might the revenue be, but all the other little consequential changes that have happened since then that will be booked,” he said.
This has caused the Government to have to signal to the financial markets that it would be borrowing more than planned. This is no huge disaster at the moment. The Government has good credit ratings from the major agencies, with S&P recently affirming its AAA rating this month, but there are some concerns that the market may have a waning appetite for our debt.
ANZ senior economist Miles Workman told the Herald that the Government’s continual upgrading of the amount of debt it intended risked putting pressure on the debt market. While recent auctions of bonds (government debt) had cleared, increased borrowing had put New Zealand at increased risk during a debt shock.
“With this very big wall of bonds that they are going to issue into the future, it means New Zealand is ultimately more vulnerable to a bout of market dysfunction. We start thinking of this in terms of ‘what if’ scenarios. If we find ourselves where markets just don’t have the appetite to take down the amount of bonds that Treasury is trying to get away, then that market dysfunction could mean that New Zealand or the Reserve Bank for example could have to step in and alter its pace of quantitative tightening or step in with some support for the bond market,” Workman said.
As revenue dried up after May, the Government acted quickly to trim spending - part of this was through a fiscal discipline programme it had announced earlier.
The $4b in spending cuts promised in August will help mitigate the damage to the government books from the current downturn.
In fact, so severe were those cuts, there is a good chance PREFU surprises on the upside, showing a modest weakening in the government books compared with what had been feared.
Managing expectations is probably the best Labour can hope for.
The May forecast showed Labour meeting its “fiscal rule” of a surplus within the four-year forecast period, with a wafer-thin $557 million surplus penned in for 2026.
Hipkins and Robertson reckon their cuts will be enough for Treasury to forecast they will still meet this rule despite the worsening economy, but it is likely it will be pushed out one year to 2027, and even then the surplus is likely to be small.
“The $4b in savings we identified a few weeks ago [are] what we believe we needed to do in order to achieve the fiscal rules that we’ve set for ourselves,” Hipkins said.
The stakes are incredibly high.
If the surplus is delayed one year it will be the longest string of deficits since we moved to the current accounting methodology in 1994. You have to go back to the 1979-94 crisis to find a longer continuous string of deficits (under a different methodology). Robertson does not want to add his name to the list of finance ministers who presided over that crisis, beginning with Robert Muldoon, progressing through Roger Douglas and David Caygill and ending with Ruth Richardson and Bill Birch.
This current forecast of six years of deficits tethers Labour to the six years to surplus record of the Bill English-Steven Joyce years - a far more politically palatable legacy.
While the continued weakening of the books is obviously bad for the incumbent, it is not ideal for the opposition either.
The PREFU sets the playing field for election spending promises. National has promised to take the PREFU forecasts and use them as the basis for its fiscal plan (essentially an alternative budget) which they will release shortly.
There’s very little money to play with.
Robertson cleverly banked $250m from budget 2025 and $500m from budget 2026 a few weeks ago, meaning the PREFU will be based on budgets with tight operating allowances (Treasury-speak for new spending) of $3.5b, $3.25b and $3b - each smaller than any budget he delivered this term.
There’s every likelihood that whoever wins the election will increase those allowances when it actually comes to delivering those budgets (finding “money down the back of the couch” as the cliche goes) but what matters now is that every party must fund its election promises from them. Remembering that about $3.3b (70 per cent) of this year’s budget went to just funding cost pressures, there’s very little money in future budgets left for new promises once cost pressures have been taken care of.
In fact, a Treasury paper from April, released to the Herald under the OIA, warned that even the larger allowances of $3.5b for the next three budgets would be tight.
“Constrained allowances agreed as part of Budget 2023 will support a return to surplus in the near term, but keeping these allowances and maintaining the track to surplus will be hard given the above pressures,” officials warned.
Independent economist Cameron Bagrie cautioned that the only credible numbers relating to spending were those that looked two years into the future - those further out were effectively meaningless.
“You’ve got to focus on the two-year-ahead numbers not the four-year projections because the two-year-ahead numbers are a reflection of policy decisions that have been taken, whereas four years ahead, you can make those numbers do anything depending on what numbers you put in,” Bagrie said.
This is a major landmine for National and Act, who need to fit their promises to this window - especially if they also also want to find some way to pay down debt and return to surplus faster than Labour. That’s a mighty task, and places Willis at risk of getting lost in the Fiscal Bermuda Triangle that claimed so many of her predecessors.
The party is facing serious questions about its tax policy but the fiscal plan is an even greater challenge. It was the fiscal plan, remember, that claimed former finance spokesman Paul Goldsmith.
Olsen said the tightness in these next three budgets meant politicians would find it difficult to fund future promises.
“What sort of room does that give political parties generally to be able to fit their future spending?” he said.
“Given that, a lot of that operating allowance generally seems to be taken up with some of the inflationary impacts of just life as government,” he said.
He’s right. The Treasury paper warned that the Ministry of Health and Treasury calculated that between 40 and 50 per cent of the next three budgets’ operating allowances would be needed to fund cost pressures in the health system.
This would mean top-ups of $1.75b a year needed for health alone - before you get to cost pressures in the likes of education and defence.
Instead of increasing allowances for new spending in light of that news, the Government cut them, slicing $500m or one-sixth of Budget 2026′s new spending.
“Funding new initiatives to deliver on the Government’s policy objectives and fiscal risks is increasingly difficult as cost pressures crowd out discretionary spending. As part of Budget 2023, Cabinet agreed constrained allowances for Budgets 2024, 2025 and 2026. Manatū Hauora and Treasury’s most recent modelling suggests that health cost pressures will take up 40 to 50 per cent of annual operating allowances across the next three Budgets.
“Existing commitments to large-scale priorities, such as the transition to Net Zero and the Government’s infrastructure ambitions, will also make funding further priorities difficult.
“Constrained allowances agreed as part of Budget 2023 will support a return to surplus in the near term, but keeping these allowances and maintaining the track to surplus will be hard given the above pressures. As such, further interventions are required to support fiscal sustainability and enable the Government to invest in its policy priorities,” officials warned.
Treasury warned that over the next 10 years, superannuation is “expected to almost double ... from around $19b to $35b”.
Bagrie reckoned the lack of wriggle room for new spending was not getting enough attention on the campaign.
“There is no money in the kitty for new initiatives. Both the mainstream political parties have been out there promising a lot, which is giving money to Peter, but if you are giving money to Peter you have to take off Paul.
“Well, no one wants to be Paul and no one is talking about Paul. The numbers are very hard, they don’t stack up,” he said.
One thing we do not yet know is the effect of the Government’s changes to future Budgets over the projected period from 2027 to 2037.
Ordinarily, the cuts announced last month would ricochet through future budgets, reducing each of them by hundreds of millions of dollars. This would mean the budgeted operating allowances over the projected period would range from $3b to $3.6b - a decade of austere budgets that would be smaller in both nominal and real terms than any the Government delivered this term, shaving $40b off net core Crown borrowing from now to 2037.
On Monday, the Treasury would not confirm what the changes to future Budgets would be and how they would show up in the forecasts.
The reason why this matters is that no one really believes the numbers that far into the future, and by filleting money from those future budgets, the Government may be making the books look good now, only to actually increase spending when it finally gets to those budgets.
That makes any savings touted tomorrow contingent on 15 years of finance ministers delivering tiny budgets or raising taxes, something few politicians want to talk about weeks out from an election.
Thomas Coughlan is Deputy Political Editor and covers politics from Parliament. He has worked for the Herald since 2021 and has worked in the press gallery since 2018.
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