Where to From Here?

13 July 2003

An address to the national conference of the New Zealand National Party

Four months ago, the National Party issued Prosperity for all New Zealanders.  The paper highlighted the very large gap which has emerged over the last four decades between living standards in New Zealand and those in Australia, suggested that this gap looks likely to continue getting wider under the policies of the present Government, and argued that unless that gap begins to narrow our future as a prosperous and harmonious society is at serious risk.  The paper listed 10 areas where policy improvements are needed if that gap in living standards is to be reduced.

The paper sought reactions to the policy suggestions from members of the National Party, from the business sector, and from the public more generally.

Of the responses, almost 70% indicated that they felt that economic growth should be the most important objective of government policy, while almost all the other respondents felt that economic growth should certainly be one of the four or five most important objectives of government policy.  Indeed, 70% of respondents agreed that the gap between living standards here and those in Australia now constitutes a serious threat to our future way of life.   Unsurprisingly, 66% of respondents felt that the policies of the present Government were damaging to our future growth prospects, 23% felt that these policies were of “no significant benefit” to economic growth, and only 11% felt that the policies of the current Government were good for economic growth.  

This morning, I want to summarise the key messages we got back in response to the paper, and give you some of my current thinking on where we go from here.

Readers were asked seven questions in addition to the general questions about how they ranked the importance of economic growth and how they rated the present Government’s performance in improving our growth.

1) Do you support reducing the size of the government sector relative to the size of the economy as a whole, and if so how?

There was overwhelming support for a reduction in the relative size of the government sector, with 92% of respondents answering “yes” to this question.  Sixty per cent favoured doing this by constraining the growth of core public services to a rate below the growth in the total economy, while 75% favoured actually reducing the absolute size of the public sector by involving the private sector in areas such as health and education.  There was also support for achieving this objective through selling government-owned commercial enterprises, with more than half of all respondents favouring this course of action.

2) With some scope to reduce tax rates, do you favour tax cuts which a) are likely to stimulate economic growth (such as those involving a reduction in the company and top personal tax rates), b) assist those on low incomes, but do very little for longer-term growth, or c) do a little to assist growth and a little to assist those on low incomes?

Over 80% of those who responded to that question advocated cutting tax rates in a way which would most encourage economic growth.

3) Should the resources available for education be focused on improving basic literacy and numeracy by improving the quality of education provided at pre-school, primary and secondary school level, or on improving the education provided by our tertiary institutions?

Nearly 80% favoured devoting resources to the improvement of pre-school, primary and secondary education in preference to spending more on tertiary education.

4) Noting that the cost of complying with a raft of laws and regulations is often mentioned as an obstacle to faster economic growth, which laws and regulations pose the most serious obstacles to growth in your view?

The Resource Management Act was seen as the most damaging from a growth point of view, followed by the Employment Relations Act, but the Local Government Act, the Inland Revenue Department, the Health and Safety in Employment Act, the Hazardous Substances and New Organisms Act, the ACC, and the Human Rights Act were all seen as involving unnecessary costs and obstacles. 

5) On a scale of 1 to 5 (with 1 being “very poor” and 5 being “very good”), how do you rate the quality of the infrastructure in your area?

One of the most surprising reactions to Prosperity for all New Zealanders was the response to this question.  Only 4% of respondents rated infrastructure in their area as “very poor”, while 7% rated it “very good”.  Most gave infrastructure in their area a “3”, suggesting general satisfaction with that infrastructure.

This result may reflect the fact that the question was rather vague, referring to “infrastructure” in general rather than the quality of any particular part of the infrastructure.  It is probably true to say that for most of us, in most parts of the country, the roading system is quite satisfactory, the ‘phone system works well, good quality water comes out of the tap when it is turned on, and the lights work.  But there are some significant problems, in roading, waste water, and electricity – all sectors where public sector utilities dominate – and the problems would become more acute if the economy were to grow at above 4% for any sustained period.  They are already acute in Auckland.

6) What are your views on the desirability of New Zealand’s adopting some other currency, perhaps that of Australia or the United States?

Most (59%) respondents favoured the retention of the New Zealand dollar, with a further 14% having no view on the matter.  Only 26% favoured adopting some other currency.   In my own view, adopting some other currency could possibly make sense for New Zealand in the longer term, but only in the context of a more flexible and less government-dominated economy.

7) Recognising that whenever the government gives special encouragement to particular activities it must keep taxes at a higher level than otherwise, or reduce other government spending, should the government be trying to help growth by spending more on strategic public good research, encouraging more research and development in the private sector, or encouraging the development of high-risk commercial ventures?

Eighty-eight per cent of respondents favoured the government doing more to encourage research and development in the private sector, 38% favoured the government spending more on strategic public good research, and 24% favoured government encouraging the development of high-risk commercial ventures.  

While those who responded to the paper were in no sense a scientific sample of New Zealand opinion, the views expressed were generally consistent with the views expressed in broader surveys of business sector opinion and form a very useful backdrop to the development of our economic policy over the next few months.

Where to from here?  Fortunately, what we know about the factors which drive a growing economy is entirely consistent with the core values espoused by the National Party – and in particular values such as national and personal security, equal citizenship and equal opportunity, individual freedom and choice, personal responsibility, competitive enterprise and rewards for achievement, and limited government.  Those are all important factors in maximising our growth potential.

But what about specific policies?  We’ve still got some further work to do before we can be too precise in some areas.  But we can be clear about the assumptions and beliefs which will guide us.  There are seven in particular.

1) Government has an important role to play

The National Party believes in “limited government”, but this does not mean that we believe in “no government”, or even “minimal government”.  We believe that government has a vital role to play in maintaining macroeconomic stability (low inflation, moderate economic cycles, low levels of public sector debt), in defending the country from threats from abroad (be they military threats or biosecurity threats), in protecting the lives and property of citizens, in ensuring that markets are actually or potentially competitive, in ensuring the provision of those “public goods” which would never be provided by the private market on a purely commercial basis (such as public sanitation and some roads), and in protecting the environment for future generations.  We also believe that, without detracting from the importance of personal responsibility, government has a role to play in providing a safety net for those who, for reasons of ill health or other circumstance, are unable to provide basic necessities for themselves.

2) But beyond these well-established roles, further expansion of government can damage economic growth

Not only is freedom to order one’s life a value in its own right, it is also clear from international studies of what drives economic growth that more freedom is typically associated with a higher rate of economic growth.  And this implies moderate levels of taxation, to leave income in the hands of those who generate it and have the most incentive to use it carefully.  It implies keeping laws and regulations to the minimum required to discharge the core responsibilities of government.  It implies giving adults the right to choose not simply where they live, what jobs they work at, and what they eat, but also what kind of schooling they want for their children and from whom they get medical and hospital care.

3) Governments do not have the incentive to maximise efficiency, or to be good owners of commercial businesses

This point is in a sense the obverse of the last point, about the desirability of leaving income in the hands of those who generate it.   There are, of course, some efficient government departments, and some very good public sector managers.  But in general the incentives on public sector managers to manage efficiently and adopt new ways of doing things are weaker than on private sector managers, not least because few public sector managers operate in a competitive environment.  The situation is somewhat different in the case of managers of state-owned companies, some of whom operate in competitive markets.  But the evidence from international studies is clear: state-owned enterprises perform less well, on average and over time, than privately-owned companies, and this means that growth is less than might otherwise have been the case.

4) People tend to respond to the incentives facing them

In a sense, this is a truism, but it is often overlooked nonetheless.  For example, it is highly likely that making it more costly, in time and money, to dismiss employees will make employers less inclined to hire staff deemed to be “risky”, such as those who have been unemployed for a lengthy period, those with limited language skills, those who may face racial or cultural barriers, and those who are perceived as being “too old”.  Similarly, unemployed people are unlikely to seek employment very diligently if the extra income they can earn by getting a job is little different from what they can receive from a benefit, and possibly some “under the table” cash payments as well.  Nobody should have been surprised that making student loans interest free for a period led to a sharp increase in the level of student debt: anybody with the intelligence to be attending a tertiary institution could presumably work out that being offered interest-free money was an offer too good to refuse.

5) Shielding people from the consequences of their actions has costs, sometimes substantial costs

This is a very tricky one, because much long-established policy is based on doing exactly this.  For example, few people question whether “free” (but very expensive) kidney dialysis should be provided to those who, over many years of over-eating, substantially increased their risk of type 2 diabetes; or whether somebody who has a road accident while driving under the influence of alcohol should be provided with a “free” (but very expensive) helicopter ride to “free” (but very expensive) intensive hospital care.   And almost nobody (except perhaps those with no children) questions the desirability of providing tax credits and other benefits based on family size.  I doubt if there would be any support in the National Party for a wholesale reversal of these long-established policies, but it is clearly important to be aware of the consequences of them, and to think through the implications of any new initiative to shield people from the consequences of their choices.

6) Prices in a competitive market are usually a more reliable indicator of where resources should be allocated than political or bureaucratic edict

Governments are often tempted to interfere with the market: doing so almost always creates problems of some sort.  When this Government announced its policy of charging a rental on state housing geared not to market rentals but to the income of the would-be occupants, for example, nobody should have been the slightest bit surprised when the demand for state housing escalated sharply.  Offering anything for sale below its market price will always, without exception, create an increase in its demand, requiring some method of rationing – and this needs to be recognised even in those situations where we choose to continue offering goods or services at below their market value.  One of the best illustrations of the problem is in the area of healthcare: most people do not want to allocate access to hospital care through the price mechanism, but having chosen to provide hospital care for “free” we are forced to confront the inevitability of long queues for hospital treatment and/or very difficult political judgements about what kinds of treatments will be provided free and what kind will be refused.

7) Culture plays a crucially important role in economic performance

The role of culture in economic performance is being increasingly recognised in the studies of what makes some countries economically successful and others not.  Indeed, many now argue that only societies which have a growth-friendly culture will have the political, legal, and other institutions which make rapid growth feasible.  Cultures which respect and admire those who grow successful business enterprises; cultures which are comfortable with some individuals earning more income than others; cultures where people feel able to trust those around them to do what they say they will do; cultures where enterprise is encouraged; cultures where people assume that personal effort can make an impact on events – these are the cultures which are likely to lead to rapid economic growth.  By contrast, cultures which despise those who succeed in business; cultures which require successful individuals to share all the fruits of their success with less enterprising members of the extended family or tribe; cultures which resent some people earning a lot more than others; societies with a high degree of distrust and hostility; cultures which hold enterprise in low regard; fatalistic cultures which assume that “what will be will be” and that a person’s financial status is very largely a product of forces beyond his control – these cultures are not likely to foster economic growth and prosperity.

As we look forward, we – as New Zealanders and as National Party members – face some major challenges. 

 

  • The gap between our living standards and those in Australia, already considerable, is certain to grow on the basis of the latest official projections on both sides of the Tasman.  

 

  • There is a high degree of complacency about our situation on the part of the great majority of New Zealanders, with no apparent sense of the huge risk to New Zealand’s future if we allow that gap to continue to widen. 

 

  • The number of people who recognise that economic and business performance is important to the kind of New Zealand they want to live in is astonishingly low (only 6% of those surveyed recently for Industry New Zealand). 

 

  • We will see a sharp increase in the number of those over 65 over the next 30 or 40 years (from 1 in 8 currently to 1 in 4 by 2040), with resultant far-reaching implications for the fiscal cost of taxpayer-funded retirement income and healthcare. 
  • We will also see a sharp increase in the proportion of Maori and Pacific Islanders over the same period, with further adverse effect on our growth rate unless we can overcome the serious under-performance of Polynesian people in the areas most relevant to economic growth.

The present Government talks about the importance of economic growth, but it is empty rhetoric – almost everything they actually do creates more barriers to economic growth, and they have finally had to admit that their earlier goal of getting New Zealand’s living standards back to the top half of the OECD within a decade has no chance whatsoever of being achieved.  That might be tolerable if they were making every effort to achieve that goal by, say, the end of two decades.  But they are not.  Given the “environmental factors” already mentioned – the public complacency, the lack of understanding of the importance of economic and business success, the demographic changes which are in prospect – the risk must be that we will never regain a high position on the standard-of-living league table, and that in fact we will be relegated to the second or third division, with an increasing proportion of our brightest and most enterprising people heading for greener pastures abroad.   Over the last 25 years, there has been a net outward migration of New Zealand citizens in every single year, totalling some 525,000 people – more than the current population of Christchurch and Dunedin combined.  

But what would a National Government do to turn this worrying prospect around?   At various stages over the last decade, the National Party when in Government committed itself to raising New Zealand’s rate of economic growth.  Jim Bolger and Bill Birch said they were targeting growth of between 3.5% and 5% per annum.  Winston Peters raised them to 6%.   Jenny Shipley matched Winston Peters’ target.  But neither 5% nor 6% was in fact credible.   In the last few years, we’ve made it clear that we are targeting growth of at least 4%.  And that is clearly a good deal better than the 2.5% average growth which the present Government expects over the next decade.

But are we really serious about targeting growth of at least 4%?  Are we really serious about limiting the size of the government sector relative to the total economy?  Let me try you out on a couple of dilemmas.

Assuming New Zealand Superannuation remains at 65% of the average wage at age 65 for a married couple, the cost of funding New Zealand Super will rise from about 4.5% of GDP to 9% of GDP over the next 30 years or so because of the ageing of the population.  If we maintain present policies on the government funding of healthcare, the government’s contribution to the cost of healthcare will rise, largely because of ageing, from just over 6% of GDP to almost 10% of GDP over the same period.   These two programmes alone would, if left unchanged, expand the core government sector from about 32% of GDP to about 40% of GDP, or by about one-quarter.   Doubling GST from 12.5% to 25% would not generate sufficient revenue to cover the increased costs of these two programmes.  But avoiding that major increase in the size of the government sector would require major changes in the terms on which New Zealand Super was provided, and/or major changes in the basis on which government-funded healthcare is provided, and/or significant changes in other areas of government spending, such as social welfare.

Are you still committed to limiting the growth of the government sector?  If you’re not, then give away the goal of achieving sustained growth in per capita economic growth of 4% or more, because the evidence suggests that at current levels of total government spending it can’t be done.

Make no mistake: limiting the growth of the public sector is a very important objective if we are to have any chance of materially raising our rate of economic growth and providing to New Zealanders a standard of living comparable to that in Australia and other developed countries.   And it can be done of course – countries like Australia, Ireland and the US, to say nothing of Singapore and Hong Kong, operate with ratios of government spending appreciably lower than in New Zealand.   But don’t leave this conference thinking that a little tweaking here and there will do it – a bit less for the America’s Cup or for Treaty education perhaps, or a few less Members of Parliament, desirable as those objectives might well be.

And yet faster economic growth is the absolutely essential prerequisite if New Zealand society is to survive as an attractive and racially harmonious place to live in – a prosperous society providing a wide range of well-paid jobs, top quality schools and tertiary institutions, world-class healthcare, good roads and other infrastructure, and a natural environment which respects the unique fauna and flora which has evolved in these islands.

Before I conclude, let me also note that one of the most important needs if we are to foster a higher rate of economic growth in New Zealand is the development of a culture which understands the role and importance of enterprise, which celebrates successful businesses and successful business people.  Sadly, this is not true today, as the Industry New Zealand survey I quoted earlier makes clear.   We value great rugby players, or great netball players, or great golfers.   We respect a small number of business leaders, but only if they bend over backwards to claim that they are not really concerned with building a successful business, but only about being socially responsible.  We have no problem with somebody becoming a millionaire by winning Lotto – a pure game of chance which keeps many New Zealanders hungry – but resent somebody earning $300,000, before tax, for a year of hard work running a large business employing hundreds of people and supplying the needs of thousands. 

At this stage in the policy development process, with the social welfare paper still open for discussion and feedback, the education paper about to be released, and considerable work still to be done in some other important policy areas, it would be quite inappropriate for me to spell out too many policy conclusions.  And in particular, I will refrain from any comments about education or social welfare, although getting those two policy areas right is arguably one of our most crucial policy challenges.

But the following goals are ones which I believe we should be targeting at this stage:

  • First, restrain government spending to grow by no more than the rate of inflation and the rate of population growth – in other words, restrain government spending to its present level per person, in inflation-adjusted terms.   If we could hold government spending at its present level per person in real terms for 10 years, the ratio of government spending to GDP would fall by about 5 percentage points, even before allowing for the faster rate of economic growth which I believe that declining ratio of government spending would make possible.  In other words, the ratio of government spending to GDP could well fall by more than 5 percentage points over a decade.
  • Second, reduce the company tax rate, and the two top personal tax rates, to 30%, thus encouraging investment and the retention of enterprising people within New Zealand.
  • Third, reduce the regulatory burdens on the business sector, most immediately by reforming the Resource Management Act and by making it easier for employers to end an employment relationship (something which would benefit both the business sector and those struggling to get a job).
  • Fourth, move quickly to resolve serious problems of road congestion, especially in Auckland and parts of the Bay of Plenty but also in other parts of the country, by ensuring that all road projects which meet appropriate rates of return are built without delay.
  • Fifth, review the Crown’s balance sheet with a view to selling government-owned commercial enterprises which no longer need to be owned by the state.
  • Sixth, devote additional resources to reduce the risk of a serious disease or pest becoming established in New Zealand.
  • Seventh, encourage continued immigration by those who can add to the standard of living of New Zealanders.
  • Eighth, encourage a culture in our schools – and in our society more generally – which values business and business people, and recognises the importance of enterprise.

I have no doubt at all that if the next National Government can get policy right in these areas, and in the areas of education and social welfare, we have a good chance of raising New Zealand’s long-term growth rate for the benefit of all New Zealanders.   Labour won’t and can’t do it.  National can and will.

13 July 2003.
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