The PM has ruled out any new taxes in this year’s budget, while still promising financial relief in the face of a fiscal hole. Stewart Sowman-Lund asks some economists whether it can all add up.

Christopher Luxon has reiterated his intention to introduce tax relief as planned in May’s budget, despite ongoing questions over a possible multibillion-dollar fiscal hole in the government’s books. 

Over the weekend, in a speech that also made headlines for a reference to Nazi Germany, deputy prime minister Winston Peters dropped a mega fiscal bomb on his own government. He claimed there was a $5.6 billion fiscal hole in the coalition’s economic plan, effectively endorsing analysis by a Sunday Star-Times columnist who had made reference to that figure earlier in the day. Whether the hole is that significant or not, the decision to publicise it would nevertheless have come as a shock to the prime minister and finance minister, as wrote the Herald’s Audrey Young in her weekly politics newsletter.

“Whether the original figures were Peters’ or someone else’s, the deputy prime minister was undermining the work of the finance minister at a pretty delicate time in the budget cycle,” wrote Young. “That is unheard of, especially at a time when coalition relationships are going well. Imagine what Peters would be saying if relations were strained.”

How big is the hole – and does it even matter?

Since the weekend, two further potential figures have come out via other media outlets. The Herald’s Thomas Coughlan wrote that the hole was about $3.3 billion over the four-year forecast period, while Newsroom analysis suggested it was more like $1.5 billion. 

Speaking to The Spinoff, economist Shamubeel Eaqub said it didn’t matter what the figure was – the government had its work cut out for it. “I think they are going to be found wanting come budget day,” he said. “The reality is you cannot deliver tax cuts, reduce debt and get back to surplus in the time frame and in the language they have used.”

Former Reserve Bank economist Michael Reddell told RNZ on Monday that tax relief in the face of the current financial circumstances didn’t make sense and the coalition should focus on balancing the books first. “They will argue that they will do enough spending cuts that will roughly match what the tax cuts are going to be and let’s hope that’s so but I think many economists would take the view that we are starting with such a large fiscal deficit bequeathed to them by the Labour government that it’s not the time for tax cuts,” he said.

At his post-cabinet press conference on Monday, the prime minister stuck with the promise of tax cuts being delivered in this year’s budget, but would not say whether they would be the size promised ahead of the election and nor would he rule out new taxes to pay for them.

But yesterday, during his morning media round, he made things clearer. “There won’t be any new taxes in the budget, we are determined to deliver low- and middle-income New Zealanders tax relief as we talked about during the campaign,” Luxon told Newstalk ZB. “Tax relief is going to happen. Period.”

Given the fiscal situation the government is facing, it begs the question: how? What rabbits could be pulled out of the financial hat in order to meet the tax promises laid out by the prime minister during the campaign – including a rise in after-tax pay for the “squeezed middle” by July 1 – and reiterated this week?

According to Eaqub, there are few if any rabbits available. “The majority of government spending is pre-committed,” he said. “The money is being gobbled up really quickly and quite often they are long-term commitments. Using the power of taxation is the ultimate fiscal rabbit, or using more borrowing… all of the other stuff is really hard. Things like spending cuts, it’s all very easy to say in opposition but when you come to do it in practice, it’s really tough.”

Stop and think, or follow Liz Truss?

Craig Renney, chief economist for the Council of Trade Unions, agreed. He told The Spinoff that there were only a few options on the table. “The government is in a hard place. The best advice would be to stop, think, and make a more considered decision – especially given the current economic conditions. Cutting services and investment in a very weak economy is likely to be pro-cyclical, meaning that it will likely suppress domestic demand and consumption.” 

But rethinking what had been proposed would require political courage, said Renney. If the government opted to cut more, it would be able to recoup some of the extra money required for its tax plan. “But it gets harder and harder to deliver larger cuts. It also starts to impact more services, so Kiwis will start to notice the cuts quickly,” Renney said. 

Alternatively, the government could borrow more to pay for the cuts – something he referred to as “the Liz Truss plan” – and hope that economic growth helped to “close the gap”. Liz Truss stepped down as UK prime minister in October 2022 after just 49 days in office, after a mini-budget including massive tax cuts funded by ramping up borrowing sparked a government crisis.  

Is tax indexation the answer?

Eric Crampton from the New Zealand Initiative agreed there was a substantial challenge ahead for the coalition. “One thing they could do on the tax side, if they are demonstrating a credible path to surplus through spending reductions, would be to lock in automatic inflation adjustments to the income tax thresholds,” he told The Spinoff. “It wouldn’t necessarily mean tax relief today, but it would prevent inflation from continuing to push people into higher tax brackets through fiscal drag. The benefits of doing so would accrue over the longer term.” 

Crampton said he was concerned at the use of the word “austerity” to describe what was a retreat from crisis-level spending during Covid-19. “If it is politically impossible to scale back after a crisis, good luck getting consensus for necessary spending in the next crisis,” he said. “I would hope that Budget 2024 would set a clear expenditure path down to levels no higher, as a fraction of GDP, than those promised in the 2019 Wellbeing Budget. The Wellbeing Budget was not austerity. It was fairly expansionary. A National-led government really ought to be able to get spending back down to levels they’d criticised in 2019 as being excessive.”

Whatever is revealed when Nicola Willis delivers her budget in two months, Eaqub said it was the result of the government’s own promises. “It’s a situation entirely of its own making,” he said. 

We will get a better idea of the challenges facing the coalition later today when the latest GDP figures are released, but the government hasn’t swerved when asked to confront the situation. Luxon told Newshub yesterday that the government had “inherited a deteriorating set of economics and a pretty bad set of books”. 

Willis has denied the extent of the budget shortfall during interviews this week, but admitted some of the government’s revenue streams had under-delivered so far. “What we said was that our plan overall was cautious and conservative, it had multiple elements to it and we acknowledged that there would be some overs and unders,” she told RNZ.