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The Economy & The Superfund: Weighing The Evidence

Auckland Chamber of Commerce
Thursday, 31 May 2001

'The Economy And The Superfund: Weighing The Evidence'

Today I want to question the cosy consensus about economic growth, which has built up between the Government and the business community. I also want to talk about the fiscal situation and the superfund proposed by the Government.

What politicians think about economic growth matters, but what they do matters even more. The Budget made the ritual noises about growth, and the centrepiece was a $100m venture investment fund, to be invested over 10 years. That is the equivalent of 3 Southland dairy conversions per year - significant but it won't transform the economy. In Auckland it's the equivalent of 25 new apartments. We can't transform Auckland's traffic problem by putting a few new carparks into the city.


Lets look at how the growth story has unfolded.

The collective view about growth has been conditioned by the forecasts rather than reality. For instance all through last year Treasury forecast 3% growth for the following three years. In the March MPS the Reserve Bank forecast growth over 3% for the next three years. 3% has become embedded in economic commentary

The Government is particularly complacent. Unemployment is under 6% and the current account deficit has reduced.

These improvements flow from growth of 4.4% in the year to March 2000. However the growth rate then dropped to 2.4% in 2001 and Treasury is forecasting growth of 2.6% to March 2002. That is not a strong performance at a time when we are enjoying the best export conditions in a generation.

The Government has consistently overestimated growth in the year ahead. Each change in the forecasts is the same - drop the forecast growth rate for the next year and push up the forecast for the two years after that.

Is there any reason to believe the economy will start growing faster in the next 6-9 months? Export volumes will drop, even if export prices hold up. The global slowdown hasn't affected our big exports, so there isn't a lot to be gained even if the US economy picks up again quickly. There are signs of labour shortages starting to push up wages. This is a picture of uncertainty, as the export surge slows.

We need to recalibrate our thinking. The economy is not bubbling along - it is dawdling when it should be sprinting.

I have been careful as the Opposition Finance spokesman not to attribute a political cause to everything that happens in the economy. However I think we are beginning to pay the price of a Government that leans against growth.

New Zealand continues to slip down the global international competitiveness surveys and wealth stakes.

Raising economic growth is a complicated long-term business - it's about getting a whole lot of aspects of policy and attitude all leaning in the right direction. The Government has squandered the opportunity to put its shoulder to the wheel when exports were giving the economy momentum.

The Labour Government has focused on savings. Even if the policy works and savings grow, there is no guarantee these savings will be successfully invested.

The problem for New Zealand is boring old productivity of labour and capital. Most things the Government has done have tended to hinder productivity, not help it. No one argues higher taxes; nationalised industries, government-owned banks, and reregulated labour markets help productivity. None of these is fatal on its own, but the direction is clear - the government opts for productivity-reducing measures every time.

And productivity is dropping. A recent study by Deutsche Bank shows a rapid deterioration in the last 18 months, such that labour costs are now likely to rise faster than the expected rate of inflation. I think it is too soon to hang that on the Government. We can make some good guesses at what drives productivity in the long-term.

Productivity, rather than savings is the core of National's approach to economic strategy. We can shift productivity in the long run, with better infrastructure, a better climate of innovation, a vigorous decentralised education system and a culture that values teamwork, success and entrepreneurialism. In every respect the government is headed in the wrong direction.

Fiscal Implications

Lower than expected growth is now starting to affect the Government's books. The drop in forecast growth lopped $1.8 billion off the government's surpluses for over the next 3 years. Labour is running out of choices fast. When they say there isn't the money to run hospitals, that is a result of their own strategy. They spent most of the money buying votes at the election, and most of what's left they want to put into the superfund. They also have an ambitious capital investment programme, a no asset sales policy, and they want to get debt down.

The pressure on spending is growing. They need to find $100m to pay for Helen Clark's right to tell you what you can watch on TV. They are going to hide health funding problems as deficit funding, and then there is election year.

It doesn't add up and the pressure popped out as a $3.6 billion surprise in the bond programme. The Government is going to increase its debt for the first time in 9 years. It's a surprise because there was no indication of this in the December Economic and Fiscal Update. The fiscal outlook has deteriorated by several billion dollars in just 6 months.

The Superfund

This background helps understand why the politicians are asking questions about the Cullen superfund.

Let me outline the proposal.

The Government proposes to guarantee the current level of superannuation at 65% of the average wage for every New Zealander. They want to achieve this through a tax smoothing mechanism. Each year the Government will contribute to the fund the amount required to maintain superannuation at 65% for the next 100 years at current tax rates.

The fund requires contributions until around 2025 when the fund starts paying out to top up pension payments from taxes.

The fund reaches 50% of GDP at its peak and subsidises the pension at the rate of 14% at its peak drawdown. The remaining 86% or more is funded from taxes, as now.

The Government correctly calls this partial pre-funding. The cost of superannuation still rises to 9% of GDP, but the fund smoothes the rate of increase.

Contributions are made from budget surpluses, rising from $600m this budget to over $3 billion in a few years time. Labour argues there is a window of opportunity to start such a fund now because Treasury models show structural or permanent surpluses for the next 20 years.

Why shouldn't everyone support this?

The first obstacle is Labour's attitude. One way or another the large parties had moved fairly close on superannuation. This proposal is a radical departure from that consensus, but Labour has made it plain they expect to jam it through Parliament and force other parties to come along.

We have tried at each stage to raise issues in a constructive manner only to be batted down with a dose of Cullen derision. The Government has tried hard to ensure there is no public debate. We have also tried in the legislative process to take a multi-party approach, and then finally last week we tried to get independent advice for the select committee. At each stage the Government has refused to budge.

A one hundred-year piece of legislation for a fund equal to 50% of our GDP should not pass through Parliament with such cursory treatment. Parliament owes the public its best effort.

The fund needs extensive debate because this is the most significant decision a government will make about the use of taxpayers money for the next 25 years. If we have the fund, there are a lot of other things we cannot have. New Zealand needs to debate these choices now before the fund is set up.

Labour has just been through a tough Budget that cut hospital funding and leaves 48,000 low-income families without subsidised health care. The reason is the superfund, which predetermines the top priority for taxpayers' money - retirement income 30 years ahead.

The Government has sold the superfund as a free lunch - painless saving on your behalf.

Unions and churches campaigned against poverty in the last election. They are breathlessly silent as Labour moves to cut off any opportunity to increase benefits, or even to fund the public hospital system as well as National did - not for a year or two, but for decades. Labour leaves the impression these decisions will get easier - after the next election. The decisions will get harder because the contributions rise steeply and the surpluses won't.

People who are interested in relieving child poverty, or reducing the pressure on low- income families, or closing the gaps may as well pack their bags because Helen Clark and Michael Cullen have made all the decisions for a whole generation of left-leaning politicians

Other choices are also cut out. The fund relies on the current tax structure staying in place. If we have the fund as Labour proposes taxes cannot be reduced for decades.

Lower taxes and investment by Government in some of its own institutions and in infrastructure are key elements of getting this economy up and running. The demands the fund makes on future surpluses precludes those options.

It could be that New Zealanders are willing to make these trade-offs for small subsidy on future retirement income. I can't honestly say because there has been no debate. It's only now that the health cuts are starting to bite that a wider public is at all aware that there are trade-offs.

The lack of this debate means the fund does not have a political base. Former governments have learnt the lesson - policy without a wide base of support will eventually fail. At best the public wants something done -at worst the current indifference will be replaced by anger as the costs start to count.

Superfund Issues

There are a series of very important issues related directly to the fund. One arose this week - the Government is planning to borrow about half of the contributions it will make to the fund in the next 5 years. Dr Cullen's response - that he is actually borrowing for the other investments the Government makes, not the superfund, does him no credit as a Finance Minister. The fact is that without the superfund the Government's debt would be falling, with the superfund, the Government's debt will rise.

It does not make sense to borrow from the bank to put the money into savings account. The people who are meant to benefit from the fund are the same ones who will pay interest on the money.

This problem will get worse. Labour has run itself into a tight fiscal corner. They spent most of the money buying votes in the last election and they can't live within their self-imposed constraint. The economy will grow slower than they think. Every dollar the surpluses shrink will have to be borrowed in order to maintain contributions to the superfund. Labour could invoke their legislation, which enables them to reduce the contribution over the next few years and spread the cost over future years. That would damage the credibility of the fund before it even started.

The strongest rationale for the fund is that it might raise national savings and therefore take pressure off the balance of payments. There is a simple obstacle to achieving this. The New Zealand Superannuation Bill requires the money be invested in a prudent commercial manner. Some advisors say such requirements mean less than 10% of the funds would be invested in New Zealand.

The proportion invested here is likely to be small in any case because the fund is not allowed to control a company and in New Zealand the opportunities for minority stakes would soon run out when there is $50 billion to invest.

The superfund is therefore a large capital exporter. It takes surplus taxes from companies and households and invests them offshore. A measure intended to solve a problem of a shortage on investment capital in New Zealand has the effect of exporting billions of dollars to develop other economies, not our own.

I don't accept the argument that New Zealanders would invest this capital in the same way themselves. We are notoriously willing to invest our savings 100% in our own assets, small businesses, houses, and farms.

A Government needs a mandate to make this large scale investment decision on our behalf. When Labour argues it has a mandate for this scheme, I don't recall Helen Clark promising a large fund that would hoover up the surplus taxes of small businesses and households and invest them overseas.

There are a number of other issues which have not been debated in the select committee, let alone in public.

Treasury and most other opinion is that the fund will reduce private savings. Dr Cullen says it will increase savings. A whole generation of New Zealanders has been brought up with the idea they should save for their retirement. They will at best be confused by this sudden shift to a guarantee of a good pension forever. Either they will believe it and save less, or they won't believe it and keep saving.

Treasury and Dr Cullen say the fund will have no impact on the economy. I'm not so sure. It must affect our capital markets and it does lock in the current tax structure. Even if we can argue that it has a positive effect on the economy, there are alternative uses of the funds that might have a more positive effect on growth such as investing in lower taxes, better infrastructure or tertiary education.

The governance and investment policy of the superfund matter enormously if a generation is going to rely on it for retirement income. It turns out that the Guardians of the Fund can be fired at will by the Minister. It's highly likely that they will be fired eventually because the fund has conflicting objectives - to achieve commercial returns and protect New Zealand's international reputation. There is tension right now between Labour and the Greens on this issue. The Greens have a particular view about what the second objective means, and because it's political, it will constantly be redefined by politicians. The apparent arms length mechanism certainly won't work with governments like this one who have an opinion on everything and the vindictive capacity to enforce that opinion.

Would the fund be able to refuse to invest in Air New Zealand, or the People's Bank?

In my view there are also questions about the validity of the assumptions about the rate of return. Plenty of experts can tell us that a 9% return, based on historic returns, is too high looking ahead. The credibility of the fund depends on it generating enough returns to make a difference. A 14% subsidy is small enough but a lower return than 9% will make it even smaller.

Neither has there been any discussion about risk. Politicians are notoriously optimistic about risks and the superfund is no exception. Returns will be highly variable; exchange rate and asset prices will change as the baby boomer generation moves to cash up its assets over the next 30 years. Everyone else in the developed world will be liquidating assets when this fund does the same for the same reasons, a cash hungry older population. Risks, which are everyday events for individuals and companies, can become unmanageable for politicians if the public perceive their security in retirement is threatened.

Finally the legislative mechanism is assumed to be robust - but just how constitutionally robust is it? The legislation can't replace political consensus, even if it can slow down the process of change.

National has looked hard at the scheme, and we acknowledge also the thorough work done by the Greens on examining the scheme. The harder we have looked, the more problems there seem to be. We came to it open to persuasion. We are disappointed the Government has made no effort to debate reasonable criticism or answer reasonable questions.

We are weighing up two considerations. Will the presence of the scheme lean towards or away from growth, and is it the best way to achieve realistic security for retirement income in New Zealand.

Labour has made its choice - it is locked into the scheme and it is willing to run the next election as a referendum on the scheme if it cannot get support in Parliament. The scheme has a large impact on the policy choices available to the next National Government, and to governments for the next few decades.

We will not be rushed into that choice. However it will be made on the basis of how to best grow the economy, not on short-term political pressure to be seen to agree because a strong economy is the best guarantee of security for older New Zealanders.


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