Budget headwinds both sides of the Tasman

Australian Treasurer Joe Hockey looked longingly across the Tasman this week at New Zealand's tax system and its much-healthier Government finances but he is not the only one grappling with big economic headwinds in the quest for a surplus.

Just as Hockey was finalising a paean to New Zealand-style fiscal management, Finance Minister Bill English was forced to admit in his annual pre-Budget speech that the Government would fail to achieve its four year-old target of achieving a surplus in the current 2014/15 year.

"Predictions of surpluses and falling unemployment in New Zealand had a surprisingly short shelf life."
Bernard Hickey, Publisher at Hive News

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Almost enviously, Hockey pointed to New Zealand as an exemplar of how best to run an economy as he prepares to unveil a Federal Budget with an un-ending sea of red ink.

"New Zealand has been busy making the difficult decisions for their future," Hockey said in the Op-Ed. "As a result they have falling unemployment, rising living standards and a Budget that is coming into surplus."

The trouble for Hockey and for English is that his predictions of surpluses and falling unemployment in New Zealand had a surprisingly short shelf life.

English told Parliament a few hours after the Op-Ed was published that Treasury was now forecasting that falling dairy prices and inflation running at almost 0 per cent had carved $NZ15 billion or 1.5 per cent off its Budget 2014 estimates of nominal GDP over the next four years.

This meant the Government would disclose in its Budget on May 21 that tax revenues would be around $NZ4.5 billion less than expected just a year ago.

To jeers from the opposition benches, English said there would now be a deficit in 2014/15 and a smaller surplus in 2015/16 than the NZ$565 million forecast last year.

Financial markets are unworried about the one-year delay, but the Labour-led Opposition trumpeted the miss, pointing to the surplus target's headline role in the National-led Government's successful 2011 and 2014 election campaigns.

"While progress is slower than expected, we remain on track to achieve surpluses and to start repaying debt," English told Parliament.

He compared the miss to a dieter who tried to lose 10 kilograms, but only lost 9.9 kgs.

"That doesn't mean they've failed," he said. “It means they can get to 10 kg, but it's going to take a bit longer, and it's the same with the surplus."

But the clouds are gathering over New Zealand's Budget outlook, although they're still not as dark as the ones enveloping Canberra and Australia's Federal Parliament.

New Zealand labour-force figures for the March quarter released on Wednesday showed unemployment stagnated at 5.8 per cent and has bounced from a five-year low of 5.5 per cent in September last year.

Annual jobs growth remained strong at 3.2 per cent, but strong net migration and a higher participation rate meant the extra 16,000 jobs created in the quarter were overwhelmed by an extra 19,000 joining the workforce.

Unchanged annual wage growth of just 1.7 per cent was also a symptom of a jobs market where there's plenty of activity, but not much inflation.

Low wage growth and weak price inflation are dragging on the Government's income tax and GST receipts, and that's before the effects of a slump in dairy incomes starts to flow through the economy.

Economists lowered their forecasts this week for the all-important Fonterra dairy payout for 2015/16 to around $NZ5.70/kg from over $NZ6.20/kg after another weak dairy commodity auction.

The payout in the current year is languishing at $NZ4.50/kg, which is down from a record $NZ8.40/kg last year. That will cut dairy incomes by as much as $NZ7 billion and force many dairy farmers to ask their banks for some help over the next year to 18 months.

Annual consumer price index inflation of just 0.1 per cent in the March quarter is also making life difficult, and not just for the Government. This is well below the 2 per cent midpoint of the Reserve Bank of New Zealand's one per cent to three per cent target for inflation.

The two per cent figure is crucial because that's the main focus of Governor Graeme Wheeler's Policy Targets Agreement with English.

In another sign that the economic weather is on the turn in New Zealand, Wheeler adopted an easing bias for the official cash rate last week, saying that a softening of demand and a further slide in wage and price setting behaviour could trigger a cut from its current 3.5 per cent.

Ironically for the Government, this makes its Budget outlook just that bit more difficult, given it will accelerate the slide in withholding taxes on the interest on the $NZ140 billion in bank term deposits.

The tightness in English's Budget bottom line has left little room for largesse or any change in tax settings. A couple of tiny lumps of spending on research and development, cycle paths and hip operations have already been foreshadowed, but English says there is not enough money for a big spend-up on reducing child poverty. Prime Minister John Key signaled that as a priority for Budget 2015 immediately after his third consecutive election win last September.

"The ability to afford large-scale programmes just isn't there," English said, adding the Government remained on track for modest income tax cuts in Budget 2017 - just before the next election.

But as politically uncomfortable as the surplus miss was for English, he's in a much less painful position than Hockey, who is expected to reveal deficits of over $A45 billion this year and next year, before a decline to a still-whopping $A25 billion the following year.

"We still see deficits as far as the eye can see, with the repair task getting harder both because of economics - commodity prices and wages - and because of politics," Deloitte Access Economics' Chris Richardson said in his Federal Budget preview.

Some on the shaky side of the Tasman might have indulged in a little schadenfreude at the prospect of the 'Lucky Country' being down on its luck.

Not so English, who said in his Budget Preview speech that New Zealand needed Australia's economy to recover for it to do well in the long run – albeit with some gentle ribbing thrown in for good measure.

"We do well when they do well. I can't wait for that irritating self confidence to come back," English said to a Wellington business audience last Friday. He got a good laugh.

It will be a while before Joe Hockey can crack a joke about the Australian economy and Budget.

The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.

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