Fiscal Planners Association

Thank you for inviting me to speak to you this afternoon. I will be covering three broad areas: the economic outlook, the progress of the Budget, and a topic close to your hearts, superannuation.

Economic Outlook

There are a number of conflicting messages about the economy circulating at present. More accurately, there's perception - and then there's reality.

There are negatives - prominently the Asian financial shock, and latterly the drought, and the power loss in the centre of Auckland. There is a widespread, perception that these are going to impact very adversely on the economy.

But the weight of evidence - and certainly the balance of forecasts both public and private sector - is for the economy to continue growing, and for that growth to accelerate from the middle of this year.

That is because there are several very positive forces for economic growth.

1.The lagged effects of easier monetary conditions over the past year and the strength of our main markets mean the prospects are good for exporters.

2.Tax reductions will provide a real boost to workers' take home pay and consumer confidence, and are backed by the removal of the surcharge.

3.The one-off AMP share give-away worth $1.25 billion will also support the domestic economy.

4.Major events such as the America's Cup increase investment and will bring tourists.

5.The Government is committed to a huge range of reforms to improve competitiveness and boost growth potential. What this means is that on balance - taking the negatives, and the positives - the economic outlook is still good.

The only thing that can damage that outcome is businesses being overly pessimistic.

I would never encourage businesses to not properly evaluate risks - clearly that is the responsibility of individual businesspeople and managers. What is interesting, however, is that even with the unrelenting picture of gloom some are painting of Asia, most businesses are still optimistic about their prospects.

The National Bank's latest, February, survey of business confidence had a net 6% of firms positive about their own activity. Yet, when asked about general business conditions - that is the outlook for other businesses as well - confidence fell to a negative 24%.

That is typical of most surveys in New Zealand - including those, for example, in health. People's own experiences can be largely positive, but concern about the other person, a very strong trait in this country, can lead to a quite different result.

And one which isn't necessarily accurate.

We are all well aware the problems in Asia presents real risks and challenges. But like all changing situations it also presents opportunities, and while caution is clearly warranted, gloom is not.

For example trade figures for January showed a sharp fall in some key markets compared to January 1997, including a 61.7% plunge in exports to Korea. But these were offset by growth in other key markets like Japan (20%) and China (18.2%), meaning exports to Asia only were only 6.3% lower than January 1997.

Total export growth was up 3.8% and manufactured exports 8% on January 1997 reflecting gains to the US of 20%.

Similarly the weaker currency has helped redress a decline in commodity prices. ANZ Bank's commodity price index for January was down nearly 10% in world terms but was 6% higher when measured against the NZ dollar.

Looking at what private economic forecasters are saying, Infometrics has increased its forecast for growth this financial year to 2.6%, close to Treasury's forecast, and is predicting growth will be around 3% over the next two years.

BERL says the economy is "fundamentally heading in a sound direction" and exporters do not seem to face a holocaust in their trade with Asia.

Westpac predicts growth in 1998 and 1999 of 3.1% and 2.7% with consumer confidence picking up from July with tax cuts, backed by the surtax removal, AMP demutualisation and easier monetary conditions.

Treasury's most recent assessment, as you probably know, is that growth will be 2.7% this financial year, and around 3.5% in 1998/99. Treasury had previously been picking growth next year to get beyond 4% and the effect of Asia has been to knock the top off this.

But growth of around 3% or better is still strong. To put it in historical perspective it is better than twice the 1.4% we averaged from 1980 to 1993. And the Government's latest financial results confirm an economy that still has significant momentum.

The six-monthly financial statements released ten days ago showed a surplus of $1.684 billion dollars at December 31, $223 million higher than forecast.

The Crown balance, our net worth, was $9.142 billion at the end of December, $153 million ahead of forecast and a huge turnaround from the negative $7.7 billion net worth of the Crown only four and a half years ago.

Similarly, net Crown debt was $456 million lower than forecast at $24.711 billion. This represents 25.6% of GDP, down from 26.4% last June.

The seven month out-turns were released last Friday confirming the trend of better than expected results. As at January 31 the surplus was $1,762 million, $569 higher than forecast; debt was $24.29 billion, $461 million lower than forecast: and net worth $9.232 billion, $511 million ahead of forecast.

Treasury is now saying that a significant portion of this variance - which puts the 1997/98 surplus more than $500 million ahead of forecast - will now be reflected in the full year result. And one-off factors which reduced the surplus last year are now working for the Government.

For example the Equiticorp settlement, which was not counted in the January statements, will boost this year's surplus by more than $100 million.

Private sector forecasters have not yet built these effects into their assumptions for what is the fifth surplus in a row since 1993/94.

I cannot overstate the importance of good fiscal management, of running surpluses and repaying debt, which are only underlined by Asia's crisis. We need to be in as strong a position as possible to deal with any external shocks.

The less exposure to debt we have, the less vulnerable we are.

But there are other real gains from lower debt.

Finance costs in the 6 months to December 31 1997 were 13.8% lower than the six months to December 1996 - that represents $226 million less that the Government is paying in interest on debt.

The lower financing costs are due to lower interest rates and, of course, lower levels of debt. Net public debt is now down to 25.1% of GDP, less than half of its peak at 52%.

Back in 1987/88, under Labour, the interest on debt cost the country nearly $5 billion. Of total Government spending, 21.5% went on debt servicing.

That year every New Zealand man woman and child was paying $1,502 in interest on debt. That figure is now less than $700.

Budget process

The Budget Policy Statement (BPS) set out our broad goals for the 1998/99 Budget and identified our fiscal priorities:

a further round of tax cuts from 1 July this year running operating surpluses and continuing debt repayment controlled priority spending within the $5 billion limit on new policy initiatives in the three years to 30 June 2000.

The BPS also set out what those priority spending areas would be:

I.providing a high quality health service for all New Zealanders II.ensuring quality improvements in compulsory education and building participation in pre-school education III.maximising the number of people in employment or training and minimising the amount of time on benefits IV.increasing Police resources and building safer communities V.strengthening families through well targeted social services.

The Government is now working through the third stage of the process which determines the Budget's final shape.

The first stage is the Premier House meeting held last year, which led to the goals set out in the BPS. The second stage has the gatekeeping ministers - the Prime Minister, Treasury Ministers, and senior ministers Wyatt Creech and Bill English - overview the Budget bids received and recommend a fiscal strategy for the Budget to the Cabinet Strategy Committee.

The third stage, which Mr Delamere and I are now engaged in, are bilateral talks with spending Ministers and departments, to refine and assess the quality of bids.

Treasury ministers will then report on the outcomes of the bilaterals and suggest recommendations for Gatekeepers to take to a joint cabinet strategy/expenditure control and government administration committee before final cabinet sign-off on the Budget.

This Government's position is clear. We recognise three critical fiscal priorities:

Lower public debt. Improved spending in priority areas like health, education, police and the family. We are, for example, increasing real health spending per head faster than any Government in the last 20 years. Plus lower tax, as a reward to all earners for work, effort and initiative, because that's what creates the growth and the jobs of the future.

Superannuation

Part of the Government's long-term fiscal strategy is designed to respond to the issue of New Zealand's changing demographics. The ratio of those aged 65 years and above to those aged 15 to 64 is projected to double over the next 40 years.

Clearly this demands a sensible and prudent response from government.

The proposed Retirement Savings Scheme (RSS) formed one option in the Government's strategy towards ensuring income security in retirement without creating excessive fiscal pressures or unfairly burdening future taxpayers with higher tax rates. With the referendum's rejection of the RSS, the Government intends to examine other options for dealing with future demographic pressure.

The Periodic Report Group's concluding report in December 1997 discussed a number of options to deal with this issue including:

increasing the age of eligibility, altering indexation arrangements and/or targeting New Zealand Superannuation amending the Fiscal Responsibility Act 1994 so that statements on fiscal policy intentions addressing demographic and other pressures extend beyond 10 years. continuing to reduce net Crown debt to around zero by 2015.

The Government is considering the Report with the aim of ensuring income security in retirement without creating excessive fiscal pressures or unfairly burdening future taxpayers with higher tax rates.

Such future problems place an emphasis now on controlling expenditure and achieving efficiency improvements in the delivery of services. Running surpluses to repay debt now allows us to best use the time before the baby boomers start to retire.

What we also have to consider is that if no changes are made to current policy, New Zealand will have a relatively generous universal pension for those who reach the qualification age, with no integration mechanism with a retiree's other income.

The PRG saw this combination as undesirable when considering broader retirement income objectives, and difficult to sustain over the long term.

Besides the cost, if this is not addressed it would likely be a disincentive to private saving as individuals may consider that the government will provide them with a high enough income in retirement and favour present consumption over retirement saving.

This Government wants to encourage saving rather than provide a disincentive, and we will clearly need to think long and hard about this issue.

TOLIS

I finally want to touch on concerns about the rules on the taxation of income from superannuation and life office savings.

The problem is how to tax savers in such schemes at their correct rate, when funds and life insurers are taxed on earnings at a flat and final 33%.

Last year, the Government proposed the introduction of a system of tax credits which would allow savers to be taxed at their personal rates.

That, you will recall, was one of the options put forward earlier by TOLIS'the Working Group on the Taxation of Life Insurance and Superannuation Fund Savings.

The tax credit proposal too has undergone very wide consultation with the industry.

Its development is progressing well. The fundamental features of the system remain as they were proposed in the earlier discussion document.

We are however introducing more flexibility into the rules which address concerns about compliance costs.

This week we will detail changes to the initial proposals, which will be included in a tax bill later this month.