Poll Dancer by Keith Ng

Revenge of the Nerds

With the National Party finally prepared to unleash the torrent of fiscal wonk that they've been baiting us with for so long, we're about to enter the geekiest two weeks of the election campaign. This week, I talk to Michael Cullen about what really happened with the "Chewing Gum Budget", tax cuts, and countercyclical whatchamejigs. So put some fresh batteries in your calculator and get ready to *wonk*!

[Sitting-in on the interview was Patricia Herbert, Cullen's Press Secretary, who helpfully chimes in once or twice during the interview. And sorry, I know this is pretty jargon heavy - I was going to make links for all the economic terms, but I was up till 3 transcribing this bloody thing, and I'm supposed to be on holiday. So if you're unfamiliar with any of the terms, google it yourself or look it up on Wikipedia. The entries on Keynesian economics and monetary policy are probably the most relevant background pieces, if that's what you're looking for.]

Would it be fair to say that the Government has surplus at its disposal, but is choosing to invest in long-term assets and debt repayments rather than on present spending or tax-cuts?

In part, yes. In part it's also simply a matter of macroeconomic management.

One of the problems we're running into is, because the economy's been running at a very strong rate for about five years now, we've got around 4% [growth] or very close to it, and sometimes a bit above that, we've forgotten that there's such a thing as an economic cycle. And the rate of growth over the next couple of years is expectedly to be significantly lower than that number, [down] to 2.5%.

So basically what we're talking about, the surplus in last year, is a surplus at the peak of the cycle. In that situation, the government would be expecting to run, effectively, a somewhat contractionary fiscal policy, because it's trying to take some heat out of the economy. And obviously, we have a significant amount of heat in the economy at the present time, looking at labour shortages, inflation at the top-end of the band, and so on. If the government is not doing that, then it'll simply lead to a monetary policy response.

So in effect, what's happening here is good old-fashioned counter-cyclical fiscal management of the sort that doesn't lead to any great lurches, but simply says let your automatic stablisers work. When the economy is growing particularly strongly, you run surpluses, you pay off debt; when the economy is running much more weakly, you're borrowing more, in order to stimulate the economy.

[But] equally, we've also been focusing on the long-term, with the transfers into the superannuation fund and with a concern to keep debt coming down, because in the long-term, we face some significant fiscal pressures around health and superannuation.

In your 2000, 2001, 2002, 2003, 2004 budget speeches, you didn't talk about the cash surplus at all, only the OBERAC. In 2001, when you were talking about the OBERAC, you said that it "may be regarded as the measure of the underlying surplus"...

Yes, I think that's right...

But in the 2005 speech, you focused on the cash surplus as the 'real surplus'.

Yes, because unfortunately the media - and obviously political opponents, for purely tactical reasons - couldn't get it through their heads that the operating surplus wasn't the amount you could spend. I mean, I just couldn't explain to them: out of the operating surplus came the money that went into the superannuation fund, came large amounts of money from capital investment of other sorts that went off deparmental balance sheets, came the retained profits in the SOEs and Crown Research institutes and Crown entities and all the rest of it, and they kept talking of it as though it *was* the cash surplus.

It's still correct, in my view, to say that the OBERAC reflects the *underlying* fiscal position, but that's not [the figure] that tells you what you've got free to spend, over and above what you're spending now. This last year we've had a very large cash surplus. We won't have anything like that much in this current year.

About the counter-cyclical adjustments: Do you consider yourself a Keynesian economist?

In that sense, yes. I believe that one of the secrets of fiscal management is to allow the automatic stabilisers to work as best as you can, rather than actually acting consciously pro-cyclically or counter-cyclically, which assumes you can pick when the turning points are.

It's bad enough the Reserve Bank having to make those decisions, it's terrible if you've got someone else in the economy trying to make them as well - and probably making different ones. And the thing that went wrong with Keynesian fiscal management in the post-War era - and you can see it in this election campaign - it very easily degenerates into one-sided Keynesianism, where you spend at the top of the cycle, because you can afford to do so, and you borrow at the bottom of the cycle, because you need to to stimulate the economy - and so you're *always* turing towards a deficit! [laughs] And so you're always building up debt, and never paying it off! [laughs]

Are you concerned about the political implications of this kind of fiscal management? That you're losing out on the potential political gains from spending the money now, and you could be giving it to a National Government three years down the track? Is it kind of... political selfless, or even politically self-defeating?

Well, we'll know on September 17 whether it's politically self-defeating or not, but the reality is if an incoming National government decided to fund large amounts of tax cuts without reducing any form of spending anywhere, they'll quickly run into trouble. The Treasury reports will be screaming blue murder, and fairly fast, about the direction of fiscal policy over the medium-term. The Reserve Bank will be starting to issue major warnings and probably start to push up interest rates, etc. I think any such government will quickly find that its room to move is rather less than they're assuming.

I think the problem we've got now is a rather odd one, in that we've got both a leader and a finance spokesperson of the major opposition party who are very inexperienced, politically. I don't think they really understand how difficult it is to constrain the growth in health and education spending below a certain level.

Isn't that just the wave of a pen?

That's what they seem to argue. If they do that, they'll very quickly find themselves running into trouble in service delivery - in the hospital sector in particular - and an enormous political backlash, and they'll have to loosen again on the spending side. And that's pretty much common experience over the last 15 years or more now, in New Zealand and indeed any other number of countries similar to us.

What if the money from the tax cuts came from borrowing and from reducing the contribution the super fund?

Well, they've either really got to abolish the super fund or they've got to carry on keeping up the level of payments we're planning, because it's mandated in the statute.

Could they reduce the level of the contribution?

They could reduce it, but they'd have to explain why, and "so we can have some tax cuts now” would not be a very convincing explanation. I don't think that, politically, that would be very acceptable at all.

They could borrow more, but if they were borrowing more to effectively hand that on by way of tax cuts, they'll be stimulating a higher level of consumption, and that would inevitably lead to a monetary policy reaction. That would lead to interest rate rise, so it would be very very bad fiscal management indeed. And I don't believe that someone like Brash, as an ex-Governor of the Reserve Bank, could actually really seriously be thinking about doing that.

I think that Brash does believe that it's going to be quite easy to somehow cut state spending back, and that there's going to be no great political pain in that. That's where I think he's fundamentally wrong.

What do you think about the theory of some people that National is trying to create a strategic deficit?

Well that's a possibility, of course. Certainly, Douglas did that in 1987 with that tax package. No question there was a strategic deficit in there, and the plan was that spending was going to have to be cut back to fill the hole. It's been used before in the United States context - I think that's to flatter Bush's economic management rather heavily. I don't think he's being strategic at all!

As I say, I find it hard to believe that Brash would engage in a fiscal strategy which would lead to substantial increase in debt over time. That's not consistant with everything he's ever said in the past.

But you think that he can use debt as a lever to reduce spending?

Not to a great deal, no. Very hard to justify it. And there'll be lots of very nasty Treasury reports about it, which will cause them all kinds of intense embarrassment. Given what they've been saying, if they got into government, they would have to deliver these tax cuts with both minimal impact on social services and minimum impact on borrowing. I think that's a very hard ask.

You said before that you've being trying to push "cash surplus" into the public discourse to replace people talking about the OBERAC, the message being that "there is no money to spend" rather than the message that "the Government is trying to save money for the future". Do you think that's a political problem, that people don't realise that the Government has these long-term goals in mind?

I think people understand some of that. They certainly understand that around superannuation: putting some money aside to save for the future, to build up assets, etc. What I do think a lot of them believe is that we could actually have a bit of a splurge. But what I find interesting is that at public meetings I go to, there are probably more requests for increase spending than reduced taxes.

It is matter of the Government not really trusting NZers to understand that message [of long-term fiscal planning]?

Er, no. No no. I mean, in a funny way, I suppose we are trusting them - we've put our eggs in that basket, pretty much.

But you haven't really pushed that message very hard?

[Patricia: I think often Dr Cullen's speeches do...]

Yes, that's right. Trouble is, when you keep saying the same thing you don't keep getting it reported. On the other hand, there is a degree of resonance for the argument out there that you've got to be careful about tax cuts, because it's likely to affect spending in health and education, etc. People *do* actually grasp that point. That's what the opinion surveys say.

If you were going to sell the budget again, would you be saying that there was no money for further spending now, or...

No, I'd say it's a budget which is around the long-term. The hard bit of the argument is actually arguing about the fact that, in one sense, you could put tax cuts in now, but that would unwise macroeconomic management. The problem is paying for them further out, when the government is already forecasting to move into substantial cash deficits, and the operating surplus is basically just sufficient to fund the super fund and those bits of capital expenditure which aren't really about increasing our capacity to grow as an economy. There's quite a lot of that in government capital spending: we buy our armed forces equipment, we do various other things; these aren't like buying machines for a factory - we're not going to lift our productive capacity.

Do you feel jibed by the response to the budget earlier this year?

A bit. I'm disappointed that the focus wasn't on the Kiwisaver scheme, and the sort of longer-term plans that represented, and home ownership stuff and so on. [They] got buried in this sort of suddenly created avalance of expectations around tax cuts, which wasn't there a week out from the budget. It sort of suddenly appeared from about Monday onwards... but in politics, sometimes you have to weather through that.

Where did that expectation come from?

That entirely came out from basically two newspapers' sets of journalists in the Gallery here. My failing was not to stamp on that before budget day.

Was it just a simple mistake?

Well... [grins] no comment.

[Patricia: It was more that they started to speculate, and so then if we denied the speculation, then by the process of deduction they can...]

That's right. So we just said we wouldn't get drawn into this sort of "oh well, let's speculate this and you can rule that out, so then once you're silent, we know that's it".

I'm more teed off that they blame me for their speculation, actually! I mean, that, I think, was grossly unfair. And what's really unprofessional is that they resented me for criticising them for blaming me for their false speculation, because I gave them no encouragement about that speculation at all. None at all.

But you didn't do much to discourage it?

No, because as Patricia says, the terrible thing about budgets is you start getting speculation about a range of things. The more you keep ruling everything out, the more the danger is that you end up with no budget to give at all, because basically they've already made sure they've got everything that's in it.

The long-term view of fiscal management - does it reflect your perspectives as a historian?

Yes... short-term pain for long-term gain. It might be my pain and the country's gain, we'll just have to see about that. So, yes it is. But also experience. What's happened over the last 30 years is where debt rose rapidly, and particularly under Sir Robert Muldoon. Very bad fiscal management led to an extrordinarily rapid rise in the government debt in NZ. And that then became a trigger for a period of restructuring which was pretty painful for an awful lot of people. My version of life is that by and large, you should try to avoid pain being inflicted on people. So a little bit of moderation and breathing carefully - which is what I'm saying fiscal management is about now - can save a lot of very nasty pain down the track.

If you did lose the 2005 election on the back of the last budget, would you think that it was worth it, not splurging when you had the chance?

Ha ha... um... yeah, well, I won't say I'll cross that bridge, I'll say I'll swim across that raging torrent when I come to it. [laughs]