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Pre-election Economic and Fiscal Update 2011

[Full document: prefu11.pdf]

Pre-election Economic and Fiscal Update 2011

Hon Bill English, Minister of Finance
25 October 2011

Executive Summary

Real economic growth of 2.3% is forecast for the year ending March 2012 and an average growth rate of 2.9% per year is forecast for the years ended March 2012 to March 2016.

The unemployment rate is forecast to fall from 6.5% in June 2011 to 4.7% in March 2016.

A return to surplus in the operating balance (before gains and losses) is forecast for the year ending June 2015 and the ratio of net debt-to-GDP is forecast to peak in the same year.

These forecasts represent the outcome of judgements around likely developments in, and interactions between, five major forces that are influencing the economy:

• The world economy is slowing and concerns about sovereign debt and the stability of the banking system have unsettled financial markets. In a number of advanced countries the outlook for an upturn in growth is constrained by their need to reduce public debt to sustainable levels. We assume that European governments manage the region’s debt issues and stabilise financial markets.

• Income growth in China and east Asia has increased demand and world prices for New Zealand’s exports. Developments in these economies will be a major determinant of New Zealand’s export performance.

• The pace and magnitude of the rebuild in Canterbury.

• The progressive withdrawal of domestic monetary and fiscal stimulus.

• The magnitude of an anticipated move away from household dis-saving.

At present, export prices are high, business confidence remains firm and the Rugby World Cup has provided some temporary support for consumption and for services exports.

Partly offsetting these positive impulses, growth in the world’s largest developed economies is slowing and financial market volatility has increased. We have revised down our estimates of trading partner growth and there is a significant risk that mediumterm growth slows further than is built into our forecasts. The implications of even slower trading partner growth are captured in the Risks and Scenarios chapter.

The reconstruction work in Canterbury will gather momentum over 2012 and into 2013, generating higher employment and business investment, helping to insulate the economy from the impacts of slowing trading partner growth. The Treasury’s estimates of damage from the Canterbury earthquakes have been revised up from $15 billion in the Budget Economic and Fiscal Update (Budget Update) to $20 billion in this Pre-election Economic and Fiscal Update (Pre-election Update) and our forecast of the scale and duration of the rebuild is also higher.


As the rebuild and broader economic recovery gather pace, spare capacity is drawn into production and monetary policy stimulus will be progressively withdrawn. Fiscal policy stimulus is also forecast to be withdrawn and operating deficits replaced by surpluses in the year ending June 2015. As capacity becomes stretched, the pace of annual average growth slows to 2.4% by the end of the five-year forecast period (Table 1).

A return to positive household saving, defined as aggregate household incomes being higher than consumption, is estimated in the year ended March 2011, for the first time in more than a decade. The rate of household saving is expected to continue to strengthen as households in aggregate move to strengthen their net asset positions. This results in more moderate consumption growth in the current upturn than was experienced in the previous cyclical upturn. In spite of this, the Treasury anticipates that the current account deficit will widen, driven by investment related to the Canterbury rebuild and partly funded by earthquake insurance payments.

The fiscal forecasts are largely in line with the Budget Update and continue to show a return to surplus in the year ending June 2015. Core Crown revenue increases as a percentage of GDP over the forecast period while core Crown expenses decline as a percentage of GDP. While the operating deficit continues for the next three years, this trend in revenue and expenses results in a surplus in the fourth year (Table 1).

When capital spending is deducted from operating cash flows, residual cash deficits persist throughout the forecast period. As a result, net debt rises throughout the forecast period and peaks at 29% of GDP in the year ending June 2015 before falling as a percentage of GDP. The decline in net debt as a percentage of GDP continues in the medium-term projections.

The risks to our main forecasts are skewed to the downside. In an illustrative downside scenario, in which we assume a sharper slowdown in trading partner growth and lower terms of trade, we estimate that New Zealand’s nominal GDP could be a cumulative $35 billion lower over the five-year forecast period to the year ending June 2016. We estimate that there is at least a one-in-five chance that the New Zealand economy performs worse than in this scenario.

The Crown’s net worth is expected to decline in each of the next two fiscal years, before experiencing moderate growth over the remainder of the forecast period. Due to the upwards revision of the fiscal costs arising from the Canterbury earthquakes, this fall is now sharper than previously forecast in the Budget Update. Net worth is expected to be slightly below the current level in the year ending June 2016, at $77.2 billion, despite strong gross asset growth across the balance sheet over the forecast period.

The medium-term fiscal projections, covering the decade beyond the end of the forecasts, are similar to those included in the 2011 Fiscal Strategy Report. After first attaining a surplus in the year ending June 2015, the operating balance before gains and losses continues to strengthen over the projection period. Core Crown net debt steadily declines over the projection period, largely as a function of increasing surpluses being used to retire debt.

ENDS

[Full document: prefu11.pdf]

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