Cablegate: New Zealand's Grim Pre-Election Economic

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DE RUEHWL #0337/01 2882151
ZNR UUUUU ZZH
R 142151Z OCT 08
FM AMEMBASSY WELLINGTON
TO RUEHC/SECSTATE WASHDC 5473
INFO RUEHNZ/AMCONSUL AUCKLAND 1759
RUEHBY/AMEMBASSY CANBERRA 5281
RUEHDN/AMCONSUL SYDNEY 0733
RHHMUNA/CDR USPACOM HONOLULU HI
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RUEATRS/DEPT OF TREASURY WASHDC
RUEHRC/DEPT OF AGRICULTURE WASHDC
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UNCLAS SECTION 01 OF 03 WELLINGTON 000337

SENSITIVE
SIPDIS

STATE FOR EAP/ANP AND EEB, STATE PASS TO USTR, PACOM FOR
J01E/J2/J233/J5/SJFHQ

E.O. 12958: N/A
TAGS: ECON ETRD PGOV PREL NZ
SUBJECT: NEW ZEALAND'S GRIM PRE-ELECTION ECONOMIC
FORECAST

Ref A) WELLINGTON 168, B) WELLINGTON 159

WELLINGTON 00000337 001.2 OF 003

1. (U) Summary: New Zealand's economy contracted
dramatically since the release of the May 2008 Budget
projections, resulting in budget deficits twice as large
as forecasted due primarily to two quarters of negative
growth and growing current account deficits. GNZ
officials however, maintain that the downturn in the
economy is not directly linked to the global credit
crisis. Finance Minister Michael Cullen's message to
voters following the release of the bad economic news was
that thanks to his fiscal prudence, New Zealand is better
placed to weather the economic downturn than a lot of
other countries. Some analysts feel Cullen may have
exacerbated the economic downturn through tax cuts and
increased government spending to bolster the Labour
Government's re-election prospects. The grim economic
forecast caused National Party leader John Key to
reformulate his tax cut program to NZ$47 per week for the
average wage earner beginning in April 2009 and dropping
the originally planned cuts for upper income earners.
End Summary.

NZ Treasury Warns of Severe Economic Downturn
---------------------------------------------

2. (U) The GNZ is required under the Fiscal
Responsibility Act to produce the Pre-Election Fiscal
Update (PREFU) which reflects the Treasury's view of the
government's fiscal position based on information
received up to August 28th prior to the general election.
In the PREFU released October 6, Treasury officials said
the New Zealand economic outlook had deteriorated badly
since the May budget was released, which meant reducing
government revenue forecasts and recalculating increased
government costs (see Ref A). Cash deficits -- the net
amount after all infrastructure funding and payments to
the New Zealand Superannuation Fund are made -- are
predicted to balloon from around NZ$5.9 billion a year in
2008/9 around NZ$7.3 billion a year in 2012/13. The
Government's operating balances are predicted to fall
into deficit for the first time since 1994 reaching
NZ$3.2 billion by 2012/2013. Treasury Secretary John
Whitehead said forecast scenarios had Government debt
increasing from 17.4 percent of GDP to 24.3 percent by
2013. Mr. Whitehead said that despite the fact that the
Pre-Election Fiscal and Economic Update was completed
before the international financial crisis had become even
sharper, the Treasury's near-term economic forecasts
would remain largely the same. Tax revenue was predicted
to be NZ$3.1 billion less than anticipated in the budget
due to the reduced government revenues resulting from the
recession, along with an increase in subsidies for
programs like early childhood education (NZ$200 million
per year) and the growing popularity of the KiwiSaver
plan (additional NZ$280 million per year). The slowdown
is expected to continue through the middle of next year
with unemployment predicted to rise to 5.1 percent from
the current 3.9 percent.

Government Figures Show Trend Towards Red
-----------------------------------------

3. (U) Key figures from the Government's economic report
(Pre-Election fiscal) include:

-- Gross government debt to rise from 17.4 percent of GDP
to 24.3 per cent by 2013 against the Government's target
of 20 per cent of GDP on average.

-- Growth expected to be only 0.1 percent by March 2009
before lifting to 1.8 percent and then 3.3 percent in the
following two years.

-- The budget deficit forecast to be $64 million next
year rising to $1.7 billion by 2010 and staying in
deficit for 10 years.

WELLINGTON 00000337 002.2 OF 003

-- A cash surplus of NZ$2 billion in the year to June
falling to a projected cash deficit of NZ$5.9 billion in
2008/2009 and further deficits over the next four years
rising to NZ$7.3 billion by 2012. In the May budget cash
deficits were forced to average NZ$3.5 billion.

-- Kiwi dollar expected to decline in value by 22.7
percent by 2013. The Kiwi dollar slipped to a five-year
low of US57.85c this month.

-- 90-day interest rates falling from 8.8 percent to 6.3
percent by 2013.

-- NZ$496 million is all that is left in next year's
budget for new spending.

-- Unemployment tipped to rise above 5 per cent by 2010.

-- Inflation forecast to rise to 4.5 percent by March
2009 before falling back to just under 2.5 percent.

-- Tax revenue for the next three years to be lower on
average by around $900 million.

4. (SBU) Finance Minister Michael Cullen's message to
voters following the release of the bad economic news was
that thanks to his "fiscal prudence," New Zealand is
better placed to weather the economic crisis than a lot
of other countries but he ignored the impact of his binge
spending on the limited options left has to address the
economic downturn. Having been pilloried for running
huge surpluses in past years, he feels vindicated that
the money went into strengthening the Government's books
for the inevitable rainy day which has now arrived.
Cullen said that had he known earlier in the year how bad
things would get, he would have taken a "more cautious"
approach to cutting taxes. Some analysts feel Cullen
may, in fact, have exacerbated a poor economic outlook by
delivering tax cuts and increased government spending in
the lead up to the November 8 election (see Ref B).
Probably for that reason, he avoided baiting National too
heavily about their proposed budget rollout, instead
letting the budget figures speak for themselves and
waiting for the National Party's response detailing their
plan for tax cuts and how National intended to pay for
them.

5. (U) Despite having to explain why the government's
books looked worse than predicted, Cullen said now was
the not time for "a slash and burn response" to
government spending, or more tax cuts. He said the
Government was maintaining a steady and prudent approach,
and should continue to do so. He signaled that any post-
election government would have to take a closer look at
revenue forecasts and increases in government spending.
The tough times meant there would have to be a review of
"low priority" spending to fund "more productive" new
initiatives.

National's Tax Cut Policy
-------------------------

6. (U) Opposition National Party leader John Key had to
reformulate his election promise of delivering greater
tax cuts to businesses and wage earners following the
grim economic forecast. Key said that, if elected, he
will deliver a three-tier personal tax system with the
highest rate no more than 33% on income over NZ$50,000.
Key proposes cuts in personal tax rates beginning 1 April
2009 of NZ$47 per week for the average wage earner. He
dropped the originally planned cuts for wealthier tax
payers. This last move preempts Labour accusations that
National remains the party of the well-to-do. To head
off the criticism that it would have to take the fiscal
axe to cherished programs to pay for this, National has
pledged to make no cuts to frontline public services and
no cuts to superannuation entitlements or eligibility
requirements. National says it can make its plan

WELLINGTON 00000337 003.2 OF 003

affordable by making changes to KiwiSaver. It will
reduce the minimum contribution for employees and
employers from 4 percent to 2 percent, discontinue tax
credits to employers, and cap the Government contribution
at $NZ1,040 a year, or 2 percent.
National's Kiwisaver Move Presents Risk
---------------------------------------
7. (U) To help fund National's tax cut program, Key wants
to trim down government and employer contributions to the
enormously popular KiwiSaver program. National's
KiwiSaver changes would remove altogether a tax credit
the Government currently pays to employers to help them
pay a contribution into employees saving accounts -
saving NZD3 billion. Instead of being forced to
contribute 4 per cent of an employee's gross salary into
KiwiSaver in future years, however, employers under
National would have to give only 2 per cent. Labour
immediately jumped on the proposed changes and Cullen
accused National of "savaging KiwiSaver" and providing a
disincentive for saving by reducing the standard
contribution. By and large, political analysts thought
that National tax package was "good politics" because it
did not ignore the middle class and assisted those who
have not received any assistance from Labour. Analysts
also acknowledged that even those low-income earners not
assisted in a significant way by National's proposed tax
program already receive considerable financial assistance
through existing programs which National has pledged to
retain, such as the Working for Families scheme.
However, they acknowledged that changing the KiwiSaver
scheme represents a political risk for National.
Kiwisaver is very popular with New Zealanders - 800,000
members since Labour promoted it in 2007 - and analysts
believe that any changes National proposes could alienate
a huge block of the voting population.

8. (SBU) Comment: The next New Zealand government
following the November 8 general election will inherit a
brittle economy mired in red ink due in part to Finance
Minister Cullen's binge spending which produced now
projected cash deficits of $NZ5.9 billion. National
miscalculated the impacts of the economic downturn and
has been forced to reformulate its tax cut program meant
to entice potential voters away from Labour. Regardless
of which party prevails on November 8, the recent
economic data will limit either party's ability to
stimulate the economy and end the current recession.

MCCORMICK

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