POLITICS Cullen Faces Tough Calls

After the binge comes the hangover. Next month’s Budget is case in point. The 2005 election was throwback to 1970s-style spend-it-all campaigning. National spent up to the eyeballs in tax cuts, Labour in tax relief via Working for Families, interest rate relief via student loans, swags of money for hip operations and much, much else.
Then Labour did lavish post-election deals with Winston Peters: toll-free second Tauranga Harbour Bridge, one percent on pensions, 1000 more police and racing tax relief. In December it abandoned the carbon tax, by then so full of holes it couldn’t deliver on its original purpose.
This extravagance wouldn’t matter so much if the economy was set to steam along at its pre-election speed. But it is not. And because good deal of the pre-election head of steam was unwise consumer borrowing, the trough we are now heading into will be longer and/or deeper than it might have been if consumers had eased off earlier.
The slowdown will have two significant impacts on revenue and one on spending. Personal income tax growth will slow as employment growth slows or reverses. Company income tax receipts will plummet as profits are squeezed between stuttering consumer spending and cost rises, including wage and rising import costs as the dollar falls.
The risk, economists say, is overwhelmingly on the downside – that is, that revenue will be lower than the Treasury’s comforting projections back in December. The coded messages from Michael Cullen this year suggest the Treasury’s projections in next month’s Budget documents will reflect that risk – that is, they will be less comforting than in December.
Cullen is jealous of his self-awarded reputation for careful budgeting and maintaining surpluses. So is Clark, the daughter of thrifty Waikato farmers.
Cullen regards himself as modern Keynesian. So he let the surpluses pile up during the good times. His second-term Budgets leaned against those good times by sucking more out of the economy than they put in. That, he has said, is “letting the automatic stabilisers” work.
His problem lay in estimating how much of the surpluses were the automatic stabilisers and how much might be structural improvement and thus dispensable by way of tax cuts or long-term spending.
National’s huge tax cuts in effect assessed the 2005/06 surplus as largely structural improvement. Caught in an auction, Labour followed suit.
The question now is: has Labour, as result, committed itself to overspending the past surpluses, that is, digging into the “automatic stabiliser”? If so, there is serious danger that the big spending commitments made before and since the election may carry the Budget from what had begun to look like structural surplus into structural deficit.
This is not to say that any deficit over the next few years is structural deficit, any more than saying the surpluses of the past 10 years were structural surpluses.
That is because “automatic stabilisers” work both ways. In downturns they put in more money than they suck out.
The theory behind this is that by maintaining fiscal consistency the Government can take something off the highs of the business cycle and something off the lows.
That is Cullen’s challenge next month. If he overshoots and drives the Budget into structural deficit, there will be long hard haul to get the government juggernaut back on the straight and narrow. That’s bad for business.
So state sector chief executives have been told to spend no more than the 2005/06 baseline – the equivalent of around three-percent cut after inflation. And string of agency reviews is under way to identify and eliminate low-quality spending.
This would put pressure enough on the Treasurer. But there is another pressure – one Clark and even the unions are sensitive to: growing expectation of personal tax cuts.
Cullen made small, unwilling genuflection in that direction last year with his agreement to raise tax rate thresholds in 2008.
But now the pressure will grow. He has ridden up the huge and growing windfall gains from bracket creep in booming economy. But the cost has been that quite ordinary wage earners are paying higher proportion of their income in tax – or being forced into state dependency under Working for Families.
And Australia is cutting taxes. It will cut them more this year. And National will go on offering the tax cuts Cullen has been denying.
All that makes this his toughest Budget.

Colin James is Management’s regular political writer.
[email protected]

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