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Treasury has changed the way discount rates are applied to projects for public investment.
The changes were agreed by Finance Minister Nicola Willis.
They changes make it easier for some public good proposals to stack up.
Treasury has changed the way it uses discount rates - a crucial component on cost-benefit analysis - to better-recognise the long-term benefits of non-commercial public good investments.
Economists use a discount rate to calculate the present value of a long-term investment, or the long term costsand benefits of a policy. It is a way of measuring the opportunity cost of spending money and to work out whether the return you get from that investment or policy is worth it.
A lower discount rate places more weight on benefits and cost in the future. Investments are more likely to stack up if they have future benefits and up-front costs, because the future benefits will matter more with a lower discount rate.
As of the October 1, Treasury has changed the way it calculates discount rates. Proposals that are more commercial will be assessed using a higher rate, making those investments more difficult to stack up than than an investment with a lower rate. Public good investments will have a lower rate.
The new analysis will assist the investment case of long-term public good investment. Photo / David Haxton
The previous discount rate used by Treasury did not distinguish between commercial and non-commercial proposals. It recently reviewed its discount rate and concluded that proposals that had mainly commercial costs and benefits should be discounted using a different discount rate than non-commercial proposals.
The change will not impact the amount of spending, done by the Government, but it will impact how proposals are analysed and which might be prioritised for investment.
Finance Minister Nicola Willis agreed to the changes and that they would take effect from October 1.
“This is a positive development which will help to make government spending decisions fairer and more transparent, especially for long-term projects that benefit New Zealanders, like healthcare or education,” Willis said.
“The lower discount rate for non-commercial proposals will encourage projects with higher long-term benefits and discourage those with higher longer-term costs.
“By applying lower discount rates to non-commercial projects, an increased value is placed on projects which bring benefits to public welfare, aiming to improve the quality of public services and infrastructure in the long-term.
“These changes to the discount rate also bring New Zealand into better alignment with international best practice and advances in economic policy in this area,” she said.
Chief executive and principal economist at Infometrics Brad Olsen told the Herald the change was a positive one.
Olsen said the review was a positive one.
“Higher discount rates would have been penalising more than they perhaps should have,” he said.
He said it made sense to have a higher discount rates for more commercial investments because the Government needed to consider whether it might be more appropriate for the private sector to take on those investments.
“I think it makes sense to split it by non-commercial and commercial,” Olsen said.
“There have been concerns over time because it has difficult to get projects over the line because the discount rate was higher,” he said.
Treasury will review the rates every three years. Olsen said there was probably merit in reviewing the discount rates more regularly given how quickly interest rates are changing.
