The world is in a serious mess. Late last week, and for the first time in history, Standard and Poor’s downgraded the United States from AAA, the highest credit rating, to AA+. More ominously still, they noted that there was a “negative outlook” for the rating. With a AA+ rating, the United States government is now rated no more creditworthy than the New Zealand government and within months could be rated a worse credit risk than New Zealand.
Across the Atlantic, more and more governments of countries in the Eurozone are grappling with serious debt problems, and financial markets are gripped by fear that not just relatively small countries, like Greece and Ireland, but also large countries, like Spain and Italy, could be forced to reschedule their debts.
More and more people are contemplating the unthinkable, namely that the Eurozone itself might not survive the current crisis.
In one sense, what is surprising is that people are surprised by current developments. It has been obvious for many months that some of the biggest countries in the world have serious and apparently unsustainable debt problems. An IMF paper published late last year noted that the government debt to GDP ratio of the G-7 countries averaged 102% in 2009 and was projected to rise further to 117% by 2015. In Japan, the government debt to GDP ratio was already 218%.
Laurence Kotlikoff, professor of economics at Boston University, argued in a recent article that “the US is bankrupt” and that for the United States to deal with its current budget deficit, and the spending commitments already built into legislation, federal tax revenue would need to nearly double as a share of US GDP.
What is depressingly obvious is that democratic governments are finding it increasingly difficult to deal with these problems.
Over recent weeks, we have seen US politicians playing chicken with the world economy by threatening to default on US government bonds. They reached a “solution” which leaves the longer-term prospect for US government debt totally unresolved.
In Italy, where government debt is already well over 100% of GDP and financial markets are reflecting their nervousness by demanding interest rates well above those in Germany, the government introduces a range of austerity measures, but with most not due to begin until 2013.
The Japanese government seems to be utterly paralysed and unable to get to grips with its serious debt problems.
What does it all mean for New Zealand? It’s impossible to be dogmatic at this early stage, but it seems very likely that many of our export markets will slow significantly over the next few years. Exporters might get some assistance from a lower exchange rate, but of course the flip side is that the rest of us would be paying more for many of the goods and services which we import.
Fortunately, our government debt is still quite modest by comparison with most other developed countries – thank the fiscal surpluses which the National Government ran after Ruth Richardson’s Fiscal Responsibility Act was passed in 1994 and those which the Clark/Cullen Government ran through most of its term in office.
But unfortunately, that same Clark/Cullen Government went mad with the cheque book – your cheque book! – in their last few years in office, with government spending going up by 43% in the four years to June 2009. As a result, surpluses have turned to deficits and in the year to June 2011 the deficit was nearly $17 billion.
Yes, our accumulated government debt is still modest, relative to the size of our economy, but it’s going up fast – by $300 per family of four every week! – and much of that debt is being borrowed offshore. If we want continued access to those offshore markets at a time of maximum nervousness, we’ll need to impress those markets with our prudence.
It’s also important to remember that, while our government debt is still modest by international standards, the debt owed by the private sector to foreign creditors is enormous, mainly because over many years New Zealanders have borrowed more from the banking system than they’ve been willing to deposit with the banks, so that banks have funded the difference by borrowing overseas.
Because rating agencies have seen how when banks overseas get into trouble governments often step in to save them, rating agencies often look not just at government debt but at total country debt to foreign creditors. And on that score, New Zealand does not do well at all: our total net indebtedness to foreign creditors is right up there with some of the most heavily indebted countries in the world.
What does this mean for domestic politics? It means that we have to have a government willing to explain to the New Zealand public why funding poorly targeted government programmes with billions of dollars of borrowed money is grossly irresponsible. And must stop.
The ACT Party is critical about many things the current government is doing, and about some of the things it is not doing. We will continue to voice our criticisms strongly. But I have advised the Prime Minister that the ACT Party is willing to commit to providing support for a National Party Government on Confidence and Supply.
Copyright © 2024 Don Brash.