Tangled Up in Red

A Government surplus means little when private sector borrowing is rampant.

Listener: 30 January, 2013.

A little complacency seems to have crept into the latest Government economic forecasts. In its December outlook, the Government promised to get its books into surplus in the 2014-15 year, the first time in seven years. It might just make it.

But many people are sceptical, arguing that the forecasts are optimistic. And even if the numbers come out as projected, the economy as a whole will be in a far worse state in 2014 than the Government’s accounts will be.

Having satisfactory public accounts is a consequence of growth in private spending, much of it funded by borrowing. The resulting additional revenue from GST and income tax is the source of the fiscal surplus. Sure, there are also a couple of tax hikes, increases in fuel excise and road user charges, but you don’t think you can run a Budget surplus without tax, do you?

To keep the tills ringing, the economy has to borrow an additional $33 billion over the next three years. That will mean a rise in the net international investment position (how much we owe overseas) from 72% of annual GDP in March 2012 to 77% in March 2015. By March 2017, it is expected to rise to 84%.

The Government can say it is doing its bit to restrain overseas borrowing, but it is not that simple. Ultimately, its record looks good only in contrast to the heavy-borrowing private sector. Those who lend to us, whose views are articulated by the credit rating agencies, will see our rising overseas debt as increasingly unsustainable. We can then expect a credit-rating downgrade, which will raise the interest rate we are charged. And in the longer run, the lenders may require us to take unpleasant measures to cut spending, but that is probably a few years off.

So, why the complacency? It comes from a view that the Government’s primary responsibility is to keep its own house in order and that it has little responsibility for the private sector. Would that were true. The fates of the public and private sectors are inextricably linked.

During the peak of the global financial crisis, private sector exposure was shifted to the public sector. Remember the guarantees the Government gave on bank deposits? Had they not been given, the Government would have had to find other means of bailing out the financial sector to avoid a collapse of the payments system.

Public-private linkage was demonstrated again shortly after, when the new National Government cut tax to ease the economy through the downturn. That was possible because previous governments had built up significant reserves on the public balance sheet.

As it happened, the cuts were not big enough because the private balance sheet was so weak. With hindsight, in fact, this column warned ahead of time, there is now a consensus that we were insufficiently concerned about the risk our high offshore borrowing carried. Yet we are still borrowing.

The public want an even deeper interrelationship between the state and private sectors. When Christchurch was shattered by earthquakes, New Zealanders did not expect the private sector to rebuild the city on its own. We looked to the Government to lead and contribute to the reconstruction. It is. The Treasury is expecting a net Crown financing contribution of $13 billion through to 2017.

The bill is being paid from taxes. We cannot treat the Crown as if it is a separate entity from us. The Government might like to see it otherwise, but that is not how the typical New Zealander thinks about the Crown. For the public, the Government is a means of pursuing their personal and community goals more effectively. There is no “them” and “us”, with the public and private sectors independent of one another. We are in this together.

A healthy public sector requires a healthy private sector. The Treasury forecasts say the private sector accounts are sick. The Government accounts, therefore, are not in good shape, even when it is running a Budget surplus.