a headshot of Nicola Willis against a yellow shape and green striped background with stickers saying "Budget 2024" and a pair of scissors
Photo: Getty Images; design by The Spinoff

PoliticsMay 29, 2024

What can we expect from National’s long-promised tax cuts?

a headshot of Nicola Willis against a yellow shape and green striped background with stickers saying "Budget 2024" and a pair of scissors
Photo: Getty Images; design by The Spinoff

Tax cuts are definitely coming in Thursday’s budget, the government says. But questions remain about who they will benefit, where the money will come from, and what effect they will have on the economy. Liam Rātana explains.

Remind me, what even are tax cuts?

Tax cuts reduce the amount of tax that individuals and businesses pay, increasing their disposable income or profits. This additional money can be spent or saved, influencing economic activity.

What has been promised, and why now?

Before the last election, National campaigned on adjusting the existing tax thresholds, which haven’t been updated in 14 years. They proposed keeping tax rates the same but increasing the thresholds at which they apply, meaning people with higher incomes fall into lower tax brackets. They also promised to extend existing tax credits and offer new childcare support. Finance minister Nicola Willis recently promised in a pre-budget speech that 83% of New Zealanders over 15 and 93% of households would benefit from the planned tax cuts.

In coalition negotiations with Act, National agreed to consider aspects of Act’s tax policy, including flattening the current five-tiered tax system to three rates by 2026/27. This would eliminate the lowest tax threshold of 10.5%, potentially increasing the tax burden on lower-income earners.

“National seems to have backed itself into a corner by campaigning so heavily on tax cuts at a time when the government books were already not in a good state – and making larger fiscal commitments already that leave less room to manoeuvre,” Infometrics principal economist Brad Olsen told The Spinoff.

Are tax cuts a bad idea given we’re already in deficit?

Treasury forecasts a $9.3 billion budget deficit (when spending exceeds revenue) for 2023/24, with a return to surplus not expected until 2027. Some economists predict a larger deficit this year and a slower return to surplus. Forecasts indicate the government will spend $6.1bn more than it earns in 2024/25.

Given these conditions, giving up additional revenue and cutting taxes might seem irresponsible. The government could introduce new taxes, increase existing taxes – both of which prime minister Christopher Luxon has ruled out – or cut spending. National’s heavy campaigning on tax cuts has limited its fiscal flexibility.

“Although there’s no strict rule stating that taxes can’t be cut while you’re running a deficit, National’s approach suggests the prioritisation of an ideological campaign promise over a more prudent fiscal stance,” said Olsen.

Tax cuts don’t make a difference to us – or do they?

Tax cuts benefit taxpayers. Depending on their structure, tax cuts can benefit various groups differently, with higher earners potentially gaining more if tax brackets are adjusted favourably for them.

The left argues that the right panders to wealthy friends by giving them tax cuts while taking away from those who need support the most. The right argues that tax cuts will put more money in the pockets of “everyday” New Zealanders. The specifics often remain unclear until after an election.

Tax cuts can affect different groups in different ways. Lower-income earners might benefit from cuts to lower tax brackets, while higher-income groups may gain more from cuts to higher brackets or reductions in other taxes, like those on dividends or company profits. Recent changes to landlord tax deductibility rules, for example, benefit landlords.

Willis has said the tax cuts being announced on Thursday will be aimed at middle and lower-income workers and will offer “meaningful but modest” relief.

Nicola Willis and Christopher Luxon on the election campaign trail (Photo: Getty Images)

Are tax cuts good for the economy?

The impact of tax cuts depends on various factors, including how they are funded, the state of the economy, and how the additional money is spent. If tax cuts are funded by an equal reduction in government spending, the overall money flow remains the same, it’s just spent by different groups. “There shouldn’t be any particular change to the economy’s total spending,” said Olsen.

Tax cuts can boost growth by increasing disposable income, leading to more consumer spending and investment, boosting production, and creating jobs. However, if households save the additional money or use it to pay down debt, it can reduce overall demand and moderate inflationary pressures. Given the high cost of living, analysts think people will probably be hesitant to spend their hard-earned cash and more likely to put it into savings accounts while rates are high, or pay off debt. This means tax cuts are likely to be less inflationary than the government spending the money on services and the like.

On the flip side, if not offset by reductions in government spending, tax cuts can lead to higher deficits and debt. Increased borrowing to cover the shortfall can worsen the fiscal situation. An example is the tax cuts proposed by former UK prime minister Liz Truss, which led to a government crisis due to increased borrowing and inflationary pressures.

“If you add more money into the economy, especially when the economy is already resource constrained as it has been recently, then you could add more to pricing pressure,” said Olsen.

Finance minister Nicola Willis has promised the planned tax cuts in New Zealand will be fiscally neutral, and will not be funded by more borrowing, to avoid additional inflationary pressures.

Are changes to tax brackets really cuts?

The proposed changes to tax brackets would adjust the thresholds for inflation, aligning them to the equivalent purchasing power of the dollar from the start of 2022. If tax brackets were adjusted for the full effects of inflation since 2010, the reduction in tax revenue would be significantly higher.

The 2010 tax bracket changes, implemented by then finance minister Bill English, were set low, contributing to underfunding in sectors like health and infrastructure. There has been a substantial increase in government revenue over the last decade, partly due to strong inflation.

Brad Olsen (Photo: supplied)

How does the current economic environment in New Zealand compare to past situations when taxes were cut?

New Zealand is currently experiencing high inflation and a budget deficit. This is different from when past tax cuts were implemented during periods of lower inflation and different economic conditions.

“Domestic inflation remains pretty stubborn, sitting nearly three times higher than desired. The economy has been spending at a pace we can’t resource, causing prices to rise,” Olsen said.

New Zealanders are currently spending high amounts, which drives up demand. Combine that with supply issues and New Zealand’s current high inflation levels means additional spending from tax cuts could grow inflation, unless they are offset by reductions in government spending.

So was this just a policy to win votes?

There’s no denying people need help with the massive increase in living costs over the last three years. However, introducing tax cuts now is challenging due to government deficits and areas needing major investment. Better discipline in government spending is a positive outcome, depending on who you talk to.

Staggering or delaying tax relief until fiscal conditions improve could be a viable compromise. Indexing tax thresholds to inflation would create a more transparent tax system, requiring strong justification for any changes.

“If you’re borrowing to fund them, that would be grossly inappropriate,” said Olsen.

What can we actually expect to see in the budget – and beyond?

Willis hasn’t said whether the tax cuts announced on Thursday will be the same as what National campaigned on, but she has said they will be funded through a mix of new revenue streams and savings. At Monday’s post-cabinet press conference, she said more than 240 savings “initiatives” – some of which we know about, and some that will be announced on Thursday – had “freed up considerable cash” for tax cuts.

Experts such as Olsen aren’t expecting inflation to worsen, as the tax cuts will likely be funded by reducing spending elsewhere. However, when it comes to whether or not the government will be more efficient and effective with its spending, “the jury’s still out on that”, said Olsen.

This is Public Interest Journalism funded by NZ On Air.

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