Deputy Prime Minister Grant Robertson has cast doubt on National's numbers. Photo / Mark Mitchell
OPINION:
It was once common to believe that God was much like a watchmaker.
The Christian philosopher William Paley believed God was not active in the lives of each of us at every moment, interfering this way and that like the Greek gods were thought to do.
Instead, God was like a watchmaker. He designed an intricate mechanical system like a watch, whereby once the watch began to run, it had essentially preordained what followed.
National's multibillion-dollar tax announcement on Sunday was much like observing the construction of a watch, wherein the taxes National chooses to cut and how it wants to cut them preordain many of the fault lines that will open up between Labour and National between now and the next election.
This is hardly surprising. National's cuts will cost a minimum of $3 billion when fully phased in. It's quite unusual to have a party commit itself to so much spending so far out from an election. It gives National precious little to announce during the actual campaign, which is likely more than a year away.
Announcing the tax policy on Sunday, Christopher Luxon essentially goaded Grant Robertson into answering a question that could win National the next election: why do people on low to middle incomes pay so much tax?
It's a fair question to ask. After April 1, someone working 44 hours a week on the minimum wage will begin to have a small portion of their income taxed at 30 per cent, the third highest tax bracket (overall, they would pay about 15 per cent of their total $48,500 annual income in tax).
Luxon posed this question in an otherwise muted state of the nation speech, in which he announced no new policies, but reaffirmed his commitment to a host of previous National tax cuts: trimming tax brackets, pulling back the bright line test, repealing the Government's ban on interest deductibility for rental properties, and eventually axing the 39 per cent tax bracket.
The package is high stakes. It's incredibly costly and gives Labour plenty of ammunition with which to pelt National, but Luxon must believe the simple, moral argument that low and middle income earners are overtaxed (they are) is strong enough to be worth that risk.
Which isn't to say that Luxon didn't try his hardest to avoid what are his tax plan's most obvious pitfalls.
Luxon announced the plan in a rather curious way. The first budget he could conceivably deliver is in 2024, the year following a National victory in the 2023 election. The package announced on Sunday was not for that budget, but was instead announced as if it were to be funded from Budget 2022, a Budget which, barring a dramatic crisis in the Labour party, will not be delivered by Finance Minister Simon Bridges.
This is quite deliberate. If there were ever a time to sell a round of expensive tax cuts it's ahead of the 2022 Budget.
The centrepiece of Luxon's plan: a decision to reset the tax brackets for the inflation that's occurred over the past four years, would cost $1.7 billion.
In any ordinary year, this would be a staggering sum for a single policy - indeed, the Key-English government never delivered a Budget with an operating allowance (funding for new day-to-day spending) totalling more than $2b. But the immense cost of the tax package pales in comparison to Robertson's 2022 operating allowance of $6b.
Luxon can quite rightly claim that Robertson could fund the bracket changes and still have a record $4.3b allowance left over. That means he can fund the tax cuts from that year's new spending, and still have new spending leftover to increase the amount given to public services.
Besides cost, the other argument against Luxon's plan is that it would generate inflation. To answer this question, Luxon again used Robertson's $6b allowance something of a economic shield: "as we are proposing the fiscal impact of these tax cuts be met from the Government's current new spending allowance of $6 billion, the overall impact on inflation would be minimal – it would essentially be replacing some Government spending with spending (or saving) by New Zealanders".
He's right on both counts.
But the problem for Luxon is that in asking this potentially election-defining question, he opens himself up to defeat on both of those arguments in 2024, when he'll actually have the opportunity to make the cuts.
On the latter point, by conceding that the cost of these tax cuts is not inflationary, he weakens the argument he and Bridges have been making since December that Robertson's 2022 Budget will add to inflationary pressures.
Treasury's fiscal impulse from its HYEFU 2021 forecasts shows that yes, the net effect of Government spending this year will be expansionary to the effect of just over 4 per cent of GDP (translation: the Government's 2022 Budget will add to demand in the economy, and likely inflation).
By substituting $1.7b worth of new spending for $1.7b worth of tax cuts, Luxon is simply substituting one form of economic stimulus for another. Meaning his package would be inflationary, but it would be no more inflationary than what the Government is currently planning to do.
Treasury's fiscal impulse also shows that in subsequent years, the effect of Government spending has a net contractionary effect, in other words, dampening inflation pressures (Treasury thinks CPI inflation will fall to 3.1 per cent next year, and further the year after).
Luxon's problem in funding his cuts this way is that it would appear he's signed up to Robertson and Treasury's way of thinking: that this wave of inflation is transitory, and not worth setting-aside big spending promises over. He's tied himself to Robertson's argument on inflation, structurally weakening one of the strongest arguments against this Government, which is that cost increases are punishing people on low incomes.
Indeed, by the time Luxon could conceivably implement these cuts, inflation is forecast to be back within the Reserve Bank's target band at 2.7 per cent, meaning Robertson can credibly argue that National's tax package will reanimate inflation's lifeless corpse just as it appears to have been slain if Luxon chooses to implement it without cutting new spending elsewhere.
The second challenge for Luxon is the sheer cost of the package and when those costs are booked.
Luxon cleverly fudged his party's policy to axe the 39 per cent top rate of income tax, saying he wouldn't call for it to be culled this budget because it's only just been implemented. Leaving it out of the current package meant National didn't have to include it in the costings it released on Sunday. Likewise, it avoided including the cost of reversing the interest deductibility changes despite reaffirming its belief in that policy.
Calculating the cost of these policies in 2024 is impossible, but it is possible to get a conservative guess by reversing revenue estimates published by IRD.
IRD's most recent revenue estimate for the 39 per cent rate is that it nets just under $600m a year (although this could be almost $900m now, as IRD now thinks 50 per cent more people pay the tax than previously suspected). Interest deductibility nets the Government $800m a year, based on another, earlier estimate. Treasury's most recent forecasts reckon it will net $350m in 2024 and $490m in 2025.
Repealing those two taxes would cost a minimum of $950m a year, and as much as $1.7b a year - possibly more, as rising interest rates increase the cost of interest deductibility.
This cost problem will be massive for National on three fronts.
First, it is likely to face an uphill battle selling a $3b tax package in which $1.7b of bracket changes go to all 3.2m income tax payers, but $1.4b in cuts go to the top 3 per cent of income earners and those who own more than one property.
In numerical terms, half of the cost of the package would go to all 3.2m income tax payers, while the other half would be split between New Zealand's 120,000 landlords and 120,000 taxpayers who earn over $180,000 (many of these people will likely be the same).
It's hard to see this as political tenable, especially given obvious Labour attacks on Luxon's personal wealth and background.
Luxon's other challenge is painting this as fiscally conservative. Again, funding this out of Budget 2022 conveniently allows him to avoid answering this question now when the operating allowance is $6b. That won't be the case in 2024, when the operating allowance is slated to be just $3b.
Assuming Luxon funds the bracket reset, reversing interest deductibility, and axing the 39 per cent top rate all in one budget, he will have spent an entire allowance before even getting to funding new spending initiatives promised at the election, and no room to trim planned spending in favour of reducing the deficit and lowering debt.
Looking at operating spending alone, Labour could conceivably find itself in the unusual and unnerving position of going into election 2023 promising a tighter budget than National if National decides to implement all the cuts in one budget, while also adding new spending initiatives.
Of course that won't actually happen. National will likely stagger the cuts, or fund them outside of a normal budget, but Luxon won't be able to walk away from the cost.
Labour will almost certainly spend more than $3b in Budget 2024, but it shows the gap between the two parties is both closer than nearer than appears: they're miles away from each other on tax, but practically the same when it comes to the cost of their promises.
Any attempt at debt reduction would have to be done by cutting capital investment (National's plan to kill Auckland light rail is an obvious place to start). The heavy lifting on infrastructure investment would come from Waka Kotahi-NZTA's fuel-tax funded land transport fund, not Crown debt.
Pivoting this fund towards infrastructure and away from public transport subsidies while axing the Auckland regional fuel tax will put Luxon and National on a collision course with Auckland, which needs the money to fund ATAP, and whose likely next mayor Efeso Collins, wants the Government to spend even more subsidising public transport in the city.
National's 2020 election policy was to give Waka Kotahi the ability to borrow up to $10b. Axing light rail but keeping Waka Kotahi's borrowing ability would give Labour the opportunity to argue National is simply swapping one form of debt for another.
National has a strong argument for the Government to pull back on its infrastructure binge, and better sequence projects so as not to fan inflation. But if National wants to seriously reduce the debt pile by reining in capital spending, Labour has an equally strong argument that Luxon would be cutting investment in hospital buildings, school blocks, and other infrastructure that traditionally polls well.
This would open National up to a problem of a different kind. The party's immigration spokeswoman Erica Stanford has cleverly outflanked Labour on migration, becoming the most obviously pro-migration of the two parties. National is likely to reaffirm that position when the detail of Labour's immigration reset is revealed later this year.
But National will have a problem if it comes out in favour of higher numbers of migrants without backing up that stance with sufficient capital investment in schools and hospitals to cope with added demand from a larger population. One of the strongest criticisms of the previous National government was that it allowed capital spending to flag and drop, while the population boomed.
The Government has an average of $2.45b in new capital spending to be allocated over the next four years. Luxon could try and trim some of that back. He's also refused to rule out reaffirming National's 2020 policy of suspending super fund contributions, currently slated to be $1.3b this year (the year Luxon thinks the tax cuts should be implemented) and $1.89b in 2024 (the year of his first budget, should he win the 2023 election).
Trimming both of those lines would allow Luxon to reduce the level of borrowing going forward, but both would open him up to fierce attack from Labour.
Luxon has bravely walked into a forest of fiscal problems to ask Robertson the bracket question, so he must surely think it's worth asking (he's not wrong).
The answer to the question is a problem for both Luxon and Robertson, and hints at where both parties might go next.
Robertson might try to explain his way out of the problem, and argue that factoring in Working for Families tax credits - described, hyperbolically, though not inaccurately, by John Key as communism by stealth - low-income New Zealanders are actually lightly taxed.
Counting Working for Families and other transfers, the OECD reckons the tax wedge (the effective tax cost for workers) for an average married worker with two children was just 5 per cent in 2020, the 36th lowest in the OECD, where the average is 24.4 per cent.
The Government is currently reviewing Working for Families, and the results of that review will likely mean funding for future budgets. Robertson might well decide that his answer to Luxon's tax question is to boost the incomes of people on low incomes through Working for Families transfers and fund any increased cost by turning his back on fixing middle-income bracket creep.
This would win the intellectual argument over who is helping people on lower incomes more (targeted tax credit support would give people on lower incomes more support at lower cost), but it would lose the political argument: middle income earners would still be paying a lot of tax to pay for such a scheme. And, crucially, middle income earners would see higher taxes and almost no offsets in increased support.
Elections are seldom won without middle income earners, and it's not clear what Robertson can do to bring them onside.
The answer to why they pay too much tax is one Robertson and Labour have avoided giving for nearly 40 years: which is that people on middle incomes pay too much because people of very high wealth pay very little tax at all.
The machinery of the modern, open economy, which both National and Labour rely on to make it easy to access financial markets for borrowing, to attract investment, boost exports, and create jobs also makes it very easy for wealthy people to pay very little tax.
The argument made against positively rinsing the rich in more tax is that most are financially mobile enough to shirk paying it, so why bother?
Faced with a choice between watching the rich take their money elsewhere, or see them invest it in New Zealand, Labour and National have both decided that the benefits of large amounts of untaxed wealth in New Zealand are better than seeing that wealth disappear offshore for fear of being taxed.
There's truth to this: rich people can avoid tax, so rich people will avoid tax, and if rich people aren't going to submit themselves to taxation, the best any state can do is attract wealthy investment and hope it generates productivity and jobs.
It's amoral (it's immoral), but for the past 40 years it's worked better than most conceivable alternatives. The electorate has effectively been faced with a choice between a fair tax system and a functional tax system. Unsurprisingly, the electorate chose function over fairness, giving us a well-funded state, but one which is over reliant on taxes from people on low incomes.
But you can see the political opportunity for anyone wanting to blow the system open.
According to preliminary research by IRD, New Zealand's richest individuals pay an effective tax rate of just 12 per cent on their income. The minimum wage worker working 44 hours a week will pay 15 per cent tax on their income in tax, and the median worker in cities like Wellington and Auckland pays a little over 20 per cent on their incomes.
This tax burden is possibly unfair (in strictly numeric terms, rich people do pay a lot of tax), and it certainly undermines the logic of a progressive tax system that's existed in most developed nations for a century, but it's what we've got, and neither of the major parties has displayed any appetite or plan to fundamentally change it.
Robertson isn't likely to make any argument against this system because, for now, the data around how much tax wealthy people pay is a bit patchy, and it's also unlikely Labour would want to do much to seriously rinse the rich seeing as most people in the party subscribe to the rule that taxing the rich is nigh on impossible anyway, and therefore not worth the political cost of trying.
But while Robertson might not want to goad the lords of finance into paying more tax, Labour is quietly building a case for someone who might.
In Budget 2021, Revenue Minister David Parker secured $5m for a study into working out exactly how much tax was paid by the wealthiest New Zealanders. Labour could use this information to cook up a tax policy for the 2023 election or, if it decides a third election fought on tax hikes is too much, it could let the research fall by the wayside. Parker suggested in a select committee he's none too fussed either way.
But the party knows that whatever IRD picks up will be rich pickings for anyone who seeks to make the case for a more progressive tax system - someone like Labour's government partner, the Greens.
With minds focused on National's rejuvenation, little has been written about the Greens' 2023 election hopes, despite this story being one of the more interesting ones turning up in recent polling. For the first time in the party's parliamentary history, they're in the kingmaker position. Having quietly suffered the NZ First coalition in 2017, and being forced to put up or shut up in a Labour majority Government in 2020, the Greens are in position to finally exact serious concessions from Labour after nine elections trying.
If Labour is too timid to act on tax policy in 2023, you can bet the Greens won't be. Their wealth tax could make a comeback, as could any number of tax schemes cooked up in response to IRD's wealth research - likely something not already ruled-out by the Prime Minister.
Labour was in a position to rule out the Greens having any control over revenue in the 2020 campaign. With its polling flagging and the Greens' holding steady, Labour's in no position to do so in 2023. That gives the Greens every opportunity to exert some control over Labour's revenue policy (as Winston Peters was able to do, axing the capital gains tax in 2019).
It also gives National ample ammunition to run the same line against a Labour-Green coalition as it did in 2020, only this time with far more credibility. Unlike in 2020, Labour really won't be in any position to dictate terms to the Greens. This shifting of power will even have a symbol in finance minister Robertson, likely handing over the Deputy Prime Minister ship to James Shaw, who will have the Associate Finance portfolio he occupied in Labour's first term returned to him. Ardern has ruled-out a wealth tax while Prime Minister, but that's not to say a bright line-style fudge could not be found.
National has rejuvenated itself, promising attractive tax cuts with Luxon's aura of credibility. But Labour will be sure to show them over the coming days that the difference between Opposition and Government is that nothing comes without cost.
Meanwhile, Robertson finds himself caught between two divergent economic-political trends: National's correct argument that middle and low income earners are overtaxed, and the Labour left and Green argument that the cause of this is that wealthy people are severely undertaxed.
Robertson's spending ambitions won't allow him to follow National to the obvious political conclusion, which is to shift income tax brackets, but Robertson's probably political and economic fears about the popularity and possibility of effectively taxing wealthy people to pay for that would make him a sceptic for any serious taxes on the wealthy in 2023. He's caught in the middle, with unenviable choices on either side.
Usually the centre is where you want to be in politics, but in this case, Robertson's discomfort is palpable. His and Jacinda Ardern's allegations of fiscal chicanery fall far short of the "fact-based campaign" Ardern called for in 2020.
Both should fight the issue of the cuts themselves. There's no shortage of issues to fight.
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For more from Thomas Coughlan, follow the NZ Herald's politics podcast, On the Tiles. New episodes out Friday
