The stark choices confronting New Zealand

First published in the Dominion Post. 5 February 2010

Two months ago, the 2025 Task Force published its first report on how New Zealand could match Australia's living standards by 2025. It evoked a wide variety of reactions.

It attracted a lot of editorial support, including some from The Dominion Post, and considerable support from economists and business groups. But in other circles it was grossly misrepresented or dismissed with the assertion that catching Australia was totally unrealistic given its size and mineral wealth, or not important anyway.

Well, the first point to make is that the target of catching Australia by 2025 was not chosen by the task force but by the Government, and reflects a long-standing National Party commitment to close the gap with Australia. The prime minister has reaffirmed that goal on a number of occasions.

Is it unrealistic? It is totally unrealistic if we continue on our present mediocre policy track. Matching Australian living standards by 2025 means that we need to exceed Australia's growth rate over the next 16 years by 1.8 per cent every year.

In other words, if Australia grows at an average of 1.5 per cent per capita we need to grow at an average of 3.3 per cent per capita. No analyst or forecaster thinks that's plausible with current policies.

So is the goal really achievable? New Zealand enjoyed living standards on a par with those in Australia for most of our history until the late sixties, and with growth-friendly policies the goal is certainly achievable.

Over the period from 1993 to 2006, 36 countries achieved growth averaging more than 3.3 per cent per capita. That included countries such as Ireland, Hungary, Slovakia, South Korea and Singapore.

Is the goal important? Absolutely. Over the last decade, New Zealand has lost a net 260,000 citizens overseas, mostly to Australia – the equivalent of the entire population of Masterton, Gisborne, Whangarei, Nelson, Timaru and Invercargill.

The difference in living standards is almost certainly the biggest factor in that exodus. If the gap between living standards here and those in Australia continues to widen, it will get more and more difficult to retain the people we need to provide the services we take as our birthright.

Only last month, doctors warned that the removal of restrictions on where New Zealand-trained doctors could practise in Australia, coupled with the much higher salaries paid to doctors there, created a "threat to the whole medical profession in New Zealand".

Perhaps the most contentious of the taskforce's recommendations was to reduce the level of government spending from around 36 per cent of GDP to 29 per cent of GDP by 2012-13.

If that were done, the top personal tax rate, and the company and trust tax rates, could all be aligned not at 30 per cent (the Government's current medium-term objective) but at 20 per cent. Such a top tax rate would have a dramatically positive effect on investment, employment and growth in New Zealand.

There would be no need to increase GST, or introduce a land tax, or change the depreciation rate on rental houses.

The recommendation was dismissed by critics as ridiculously unrealistic or simply ideological. It was noted that most of the affluent countries of Western Europe have ratios of government spending to GDP that are higher than New Zealand's.

Fair point, but those countries are already much wealthier than New Zealand, and grew wealthier when their governments were rather smaller than they are now.

We are seeking to grow much faster than they are because we are now markedly poorer than they, and the evidence is strong that sustained rapid growth with a high level of government spending is almost impossible.

It is not an accident that three of the fastest-growing countries in the Organisation for Economic Co-operation and Development – Slovakia, South Korea and Australia itself – have some of the lowest ratios of government spending to GDP in the OECD.

Was the recommendation to reduce government spending to 29 per cent of GDP over three or four years so radical?

Hardly; that was the ratio in 2004 and 2005, at the end of Labour's second term in office. The increase to 36 per cent was the result of a massive increase in low-quality government spending over the past four years.

If the economy grows at a nominal rate of 5.5 per cent per annum over the next few years – real growth of 3 per cent and inflation of 2.5 per cent – the ratio of government spending to GDP would reach 29 per cent by 2013-14 with government spending simply held constant.

Of course, holding government spending constant is easier said than done. Getting back to 29 per cent would almost certainly require scrapping some of the low-quality programmes that the National Party attacked so vigorously in Opposition, such as interest-free student loans.

But if we are serious about improving our prospects, it is a realistic goal. It would enable a radical cut in income tax, strongly promoting investment and innovation without the need for any increase in other taxes.

The task force was also confident that as much as a third of the gap between our living standards and those in Australia could be closed if our regulatory environment were international best practice.

The unanimous recommendations of the 2025 Task Force were carefully thought out, and consistent with the advice of bodies such as the OECD. We don't claim infallibility, but we are absolutely certain that current policies, or a little minor tinkering with current policies, won't get us anywhere near the goal the Government has set.

When the Government announces its policy programme next week, we hope it will signal a start on the sort of serious multi-year reform New Zealand so desperately needs.

First published in the Dominion Post. 2010-02-05 00:00:00.Long.
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