OnPoint by Keith Ng


PREFU 2011: "What credit downgrade?"

Headlines from the Pre-Election Fiscal Update today:

  1. The economic impact of the Christchurch Earthquake was less than expected. This means the short-term hit will be smaller, but the rebound from that will be smaller as well.
  2. Household saving was higher than expected (to be precise, dissaving less). "In the year ended March 2011, the difference between income and consumption - saving - is expected to be positive for the first time in more than a decade." Higher saving means lower consumption and lower growth in the short-term.
  3. Our trading partners - Europe in particular - are looking a bit grim.

All in all, nothing too wild.

Except that Bill English finally said the words I've been waiting to hear since 2009. He finally acknowledged cutting debt will be painful, and that pain hasn't actually started yet. It's been a long time coming.

In 2009, English made our debt disappear by cutting money promised for future spending. It's like saying that you've actually lost weight because you made a New Year's resolution to lose weight. And of course, because you've already lost weight in the future, you don't need to lose weight now. It seemed like the Government was expecting future Governments to do the painful cutting (or not), while they did little apart from take credit a decade in advance.

I was even more cynical in 2010, when English took credit for the reduction in debt that came from an improved economic outlook - while the Budget itself did nothing to reduce debt. Not only that, but its "fiscally neutral tax switch" was actually a billion dollar tax cut. It was only "fiscally neutral" because, apparently, tax cuts have macroeconomagical powers to grow the economy and pay for themselves.

Back then, I wrote of this growth:

It would be unfair to call this magic money, but at the very least, it’s entirely theoretical money. Not only can we not know whether it’s real or not now, but we won’t know whether it’s real or not in 2013/14.

Well here we are, two years early, and I'm calling it magic money. In today's PREFU, they just revised tax revenues down by $2b. That wipes out the growth the tax cuts were supposed to create twice over. Was that because of the earthquakes or the global economy? Or because the tax cut didn't actually have macroeconomagical growth powers?  Or because of the influence of Mars on Water signs as it ascends over Sagittarius? Oh, that's right - it's unknowable.

Thank you Macroeconomics.

Anyway, after all that, in this year's Budget, English cut the allowance for new spending altogether. It was a good start, but today, by promising pain in the next term (his words were we can't underestimate how demanding the challenge will be), English showed he might actually be committed to reducing the debt, rather than just promising that future Governments will do it. For me, that's quite a big deal. It makes me hopeful that debt is more than just a handy boogeyman for the Government, and that they are willing to expend some political capital to actually govern.

And speaking of boogeymen, here's what the PREFU document said about credit rating agencies:

The credit rating downgrades, which occurred after the interest rate forecasts were completed, are not expected to have a material impact on debt financing costs.

That's to say, Treasury's full response to the downgrade was: "Meh."

Did it mean the Government shouldn't have bothered trying to appease the rating agencies in the first place? That all the talk about the potential impact of a downgrade was overblown? English pointed out that plenty of creditworthy countries are faced with downgrades, and because of that, it didn't have that much of an impact. He made the point that, had a downgrade occurred a year or two ago, it would have been a different story.

I'm marginally sympathetic.

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