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Much of the current resentful mood fastened on the need for tax cuts. Basically, people expect their government to offer relief from global food and fuel prices fundamentally beyond New Zealand’s control. It’s a time of high expectations. Probably, no government can significantly bridge ( with tax cuts, anyway) the gaps between what people earn and the cost of living.
Even so, Labour yesterday bowed to the inevitable and released its Budget tax cut package. By altering thresholds, it at least avoided vastly increasing social and economic inequality – which we could have got by simply slashing the tax rates, and doling out most rewards to those least in need. This morning, Scoop’s Gordon Campbell talked about tax and other Budget matters with Finance Minister Michael Cullen.
Campbell: Since yesterday, you’ve been accused of becoming a tax cut convert, too late. Why offer the public tax cuts now – and not say, back in 2007?
Cullen : Well, in 2007 we were still concerned about the fact the economy was still rolling along quite strongly – which is not the case now. Clearly, the economy has slowed down quite a bit in the last few months. There was a priority to ensure Kiwisaver got off to a really big bang start. So we really put our money into Kiwisaver in the 2007 Budget…This year, clearly we’re seeing more pressure on household incomes, with movements in some food prices but not right across the board. And in petrol prices. The ordinary person is looking for a bit of relief in that area.
Campbell: Given its current mood of disenchantment, do you think the public is capable of taking the assistance offered in this Budget on its merits?
Cullen: I think there’s always a high level of cynicism amongst the public about politics and politicians. That, you just have to recognize. But that cynicism is spread across all political parties, not just the one that happens to be in government.
Campbell: But because the phone is off the hook, no matter how long the government bangs on about doctors visits, low unemployment etc etc etc. the public aren’t listening anymore
Cullen : I don’t think the phone’s off the hook. Certainly, there’s not the kind of deep well of hatred that was there in 1990, when Labour last lost.
Campbell: So the phone’s switched off, but you think its still taking messages?
Cullen: I think people think that this is still a reasonably good government. What the polls tell us is, when asked do you approve of the government’s performance, do you think they’re competent, we still score okay. That’s quite interesting, in the light of current circumstances. I think it is much more an issue that after three terms, there’s this sort of fairness principle : you know, its time for a change. Time somebody else had a go…but that means we can therefore get back into the race.
And what the polling suggests is that things are not actually locked up against us. That’s what our polling suggests. There’s a lot of softness out there. You have to remember also that current polling methods tend to be quite heavily biased against both younger and lower income people. Because they’re based off fixed line phone polling.
Campbell: What the public has said is that they don’t want tax cuts that will result in price hikes or higher mortgages. Given the size of the stimulus this package of tax cuts and spending entails, won’t we now see a delay in interest rate cuts that will negate the political gains from the tax cuts?
Cullen: I don’t think so. People have been trying to guess when interest rates will start coming down. Some people make money, and some lose money as well out of making those guesses. I think if you drill into the Budget there are a couple of things the initial commentary has missed. One is that the net cost of the package over the next two fiscal years is $1.5 billion, then $2.3 billion. That is actually much in excess of the market expectation, which were around about $1.5 billion a year. The second thing, which is added to that, is that a lot of the ‘increased expenditure’ quote, unquote, which is helping to lower the operating surplus because of the much faster uptake of Kiwisaver – and is therefore the government in effect transferring part of its surplus into locked in savings. That’s not going in to directly stimulating the economy.
Campbell: Are you saying that it’s a mis-reading that these Budget measures have now kicked out any fall in interest rates for a further six months?
Cullen: I think there is some mis-reading in that regard. I don’t think they’ve drilled into those numbers quite closely enough. It’s a matter in the end for the Reserve Bank to make a decision. And the key factors around that I think, are less anything around tax cuts, and [more about] what continues to happen in terms of some of the price pressures coming from outside.
Campbell: One doesn’t want to be Pollyanna about this, but doesn’t a high interest rate/high exchange rate regime protect the public and the economy at large from the full blast of global oil prices?
Cullen: Well, that’s true. One of the underlying structural conundrums for any government moving forward is a clear desire fro some adjustment to the exchange rate….but that could have an upwards pressure on some prices. The difficulty is, when you look at the exchange rate, and dis – aggregate it, we’re not actually out of line with historic norms against the Aussie dollar or the euro. Its really only US dollars. The real story is a US dollar weakness story – which is part of the reason why oil prices look so high. But the fact is, oil is sold in US dollars. SDo if the US dollar strengthens and other currencies weaken against it, then all those other countries other than the US will see further pressure in terms of their imported oil prices.
Campbell: Towards the end of your Budget speech you flagged the $1.75 billion available for out-year spending. A related need for top-down spending re-prioritisation was also flagged. Tell me what that means to you.
Cullen: What it means is that basically we can accommodate a steady as you go social service provision. That allows sufficient room to carry on doing what we are planning to do over the current three year period, at this point. But my message, with respect to both my party and my colleagues is that when we are developing the manifesto for this year’s election, we have to be careful not to have large additional programmes, unless we can identify lower priority programmes which can be scaled back, without having a negative impact on those most at risk,.
Campbell: It also looks that the Santa Claus Michael Cullen this year becomes a skinflint next year – with half billion cuts looming each successive year. The thing people have really picked up on is that you have thereby set a booby trap for National should they win the election.
Cullen: Well, I think the problem for them is the size of that spending allowance does mean that if they want significantly larger additional tax cuts over and above the programme now built in as the default position. They’ve either got to admit substantially larger additional borrowing – and clearly we are moving to the edge of the comfort zone there as well – or they have to start identifying where they can wind back. So far, all they’ve identified is they’ll cut back in Foreign Affairs spending – which is a very interesting way of approaching potential coalition talks with New Zealand First – or, they’re not going to rebuild Government House, which will scarcely be a major impact…
Campbell: That’s why it looks like a booby trap. No room left them for major new tax cuts – except by a major plunge in to debt, or a major rollback of social services.
Cullen: Yes, indeed. Because if the National Party continues to look like they are promising very much bigger tax cuts then….as we’ve seen with the Budget yesterday, even relatively modest tax cuts cost an awful lot of money. Billions of dollars a year. And they are going to have to be a bit more convincing about that, beyond just shooting a few bureaucrats, and not having a Stockholm embassy.
Campbell: One group helped by the change in tax thresholds are those living on retirement invest income. On what other grounds can you make a compelling argument to Winston Peters to go with Labour post election, and not National?
Cullen: That will depend to a significant extent on the outcome of the election itself. Mr Peters is putting some pegs in the ground at the moment. Always happens before an election….
Campbell: But if he is under your umbrella what gains –
Cullen : We offer a much stronger guarantee around some of the things close to his heart. In terms of things like asset sales, a more active role for government in terms of support for the export sector. Yes, we disagree about the Reserve Bank Act in terms of the target, but we have indicated an openness about continuing to discuss the mechanisms for monetary policy – and how that works more effectively without hitting the trading sector so hard when monetary policy is being tightened.
Campbell: Pricewaterhouse tax expert John Sherwan is saying that over time, the gap between the 39 cents top income tax rate and the 30 per cent corporate tax rate is corrosive and unsustainable. Why isn’t that a knockdown argument, socially and politically, for scrapping the top income tax rate?
Cullen: Because we’ve heard this for a long time. And the reality is, we continue to get more out of the 39 cent rate than forecast, when it was originally introduced. Yes, we see some creativity around tax at the margins. Shifting the threshold does reduce the problem, because the major problem is in the self employed / small business sector. And by shifting the threshold we capture a lot more businesses coming down to the 33 per cent rate anyway, if not the 30 per cent rate, at that point. And indeed, it is still normal in most countries for a separation between those two rates, if not a large separation. Australians have still got a 45 : 30 split.
Cullen:I don’t agree with that position. Its [The gap] based around the In Work tax credit which is now a flat $60 for most families with kids where previously it purely related to the size of the family. I think it ignores two things. Firstly, that there are costs of going into employment. And secondly, that it is desirable to create a margin between being dependent on a benefit and being in employment. Otherwise, particularly for families with children you either end up having an entirely inadequate benefit system, or you end up with a benefit system tending to drag down the low wage end of the market.
Campbell: Some would say…the supposed need for that incentive gap is a Tory mindset –
Cullen: No. I don’t think it is.
Campbell: – that holds sway at the expense of the children of beneficiaries.
Cullen: No. I think it comes back to the heart of the matter. The Labour Party isn’t the party that says living on a benefit is a preferred lifestyle. Its position has always been that the benefit system is a safety net for those who are unavoidably unable to participate in employment. From its history, the Labour Party has always been about people in employment.
Campbell: But it’s a both/and, not an either /or. Isn’t there an argument for maintaining the difference, at a higher level for both?
Cullen: Absolutely. Contrary to what CPAG sometimes claim, the larger part of the Working for Families package does go to beneficiary families. Because it is the family tax credit, and the things that go with that. Some of the increase yesterday does flow onto beneficiary families. The abatement, the change in the threshold doesn’t of course.. but that’s the inevitable consequence of the structure of Working for Families.
You either have an abatement threshold or you don’t and you either move it, or you don’t. And universality of the current levels of family support tax credits would be enormously expensive. That 25 % of families who don’t get anything – you’d be adding them added in at the back end of the total rates is big, big money. Some countries of course, do have universal tax credits.
Campbell: Even so, people see the cutting of the money available for temporary assistance – to the people in direst need – and will regard it as gratuitous
Cullen: There’s more… the total.. its an area I’m not totally familiar with. I think you’ll find there’s some re-structuring around that. And against that, you’ve got to put certain things. We’ve been very successful at moving people off benefits into employment. And that is a major part of the increase in average household real income over the last eight and half years.
The second thing is we’ve increased significantly the social wage, which flows on to beneficiaries. Reducing the cost of things like going to the doctor. The cost of early childhood education. All of those things beneficiary families benefit from as well as those in employment. So, some of the costs have been reduced. Now, there is workgoing on at the moment to identify where there are groups within the beneficiary population feeling particular pressures at the present time. Primarily, obviously, among those without children, because they have not benefited from Working For Families. And work is being carried out on what can be done to provide some additional assistance to them.
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Cullen: Well, its part of our confidence and supply agreement with United Future to move on that threshold. My personal preference would have been to use that money for a larger increase in the family income threshold across the board. Which would have affected quite a significant number of families of quite modest means. Because the threshold is [currently] pretty low in relation to household income.
Campbell Yeah, it is. Its about $44,000 in joint parental income isn’t it?
Cullen: Yes, I think it may be a bit higher than that now. But it is around that kind of level, below the average household income. That was certainly my preference. We discussed that with United Future. Their preference was to remain with what had been their campaign pledge and in the confidence and supply agreement.
Public Mood and Perception
Cullen: Unreasonable is not the word I’d use. The priomary motivation for structuring the tax package in the way we did, and by having a reasonably substantial package, was to recognise those pressures on the family budget. But at the end of the day, you can’t fully compensate for an external relative price improvement. If the price of oil goes up, we aren’t making more money to compensate for that…it’s the Arabs and the oil companies that are applying the pressure.
Campbell: But isn’t that tendency an index of the public mood – and of the job ahead for Labour?
Cullen: It’s really not like what happened with the first Labour government. You know what they used to say…that they walked to the polling booth to vote us in, then drove to the polling booth to vote us out. I think now…Its mainly because we’ve had this long period of economic growth, real incomes growing, household incomes growing, unemployment falling…The expectations have risen quite substantially. So that when one hears a two income couple with no kids saying “ We’re having trouble making ends meet” and then they say they’re renting in Remuera,… Well hang on a minute…there are other suburbs that are reasonably pleasant to live in.
Campbell: I’d like to return to something asked earlier, from the reverse angle. Haven’t you been too clever by half? Sure, the pundits may be saying well, he’s trapped National by giving them no room to move without incurring (a) significantly more debt or (b) making social spending cuts. But couldn’t you also argue you’ve left things so tidy that National can just govern on cruise control for its first term?
Cullen: The problem for them is that they’ve built up much bigger expectations than that. I find their strategy quite odd. They’re ten, maybe 15 per cent ahead in the polls – ignoring the one which we don’t believe, because its quite inconsistent with our polling – but they’re continuing to make extraordinarily large promises. as though they are five per cent behind. And forgetting that you’ve got to live with those promises.
I think there’s still a mindset, particularly among Key and some others, that they’ve forgotten the rules have changed… You can’t go into elections promising major stuff as your bottom line, and then saying afterwards, we can’t do it. There’s no reason for that. There’s a whole openness now in the Budget position, in the pre- election fiscal update. There are no excuses for going into an election, and saying I am going to do X. Y and Z…and then saying afterwards, oh sorry we now find that we can’t do them. I think they are getting themselves into a position where if they did win, they would lead to big disappointment because of the expectations people have been led to have.
Campbell: Yesterday, I thought National sounded a lot like the Greens did when climate change suddenly went mainstream. In that the centre right now no longer has a virtuous niche all to itself, when it comes to tax cuts.
Cullen: Yes, that’s right. And there was Key on radio this morning saying that tax cuts are no longer the only issue. When it has been the only issue for them for God knows how many years.
Cullen: ( laughs) All else being equal, if you stimulate an economy with tax cuts it will grow faster in the short term. However, that is not a change in productivity, or in long term economic potential. Its simply economic stimulus. Any Minister of Finance can stimulate an economy – whether that be by spending or by tax cuts, in the short term. But that’s not saying anything about the long-term consequences.
Campbell: Well, the tax cut advocates are saying the long term consequences are supremely virtuous.
Cullen: Then, that’s when you come to the second argument. It is a question of degree. Extremely high tax rates do have a significant disincentive, and can lead to lots of strange re-structuring. We saw that when the top tax rate was 66 cents in the dollar…..
But when you’re talking about say, lowering the 21 cent rate to 19 cents or the 33 cent rate to 30 cents the notion that somebody is going to suddenly turn into this sort of capitalist version of a Stakhanovite Worker by keeping 70 cents in the dollar rather than 67 cents seems to be to be stretching credulity an awful long way…
Campbell: Looking at May’s Forbes magazine’s 66-country survey of relative tax burdens, we don’t seem highly taxed. Do you think New Zealand does have an unduly high tax burden by international standards?
Cullen: No. We are very much in the mainstream of developed economies. We are well below most of the European ones, obviously, We are above the US, above Australia. Australia has the joys of minerals and other things flooding into its coffers….
Campbell: Business always seems to be asking for tax cuts. And complaining about an exchange rate against the US dollar that if the Canadians had it, they would be doing cartwheels. Is NZ business simply incapable of competing on global markets without handouts?
Cullen: No, we have a lot of businesses who do compete very successfully, even under the high exchange rate regime of the last two or three years. There are some outstanding success stories…The difficulty of the last few years has been driven more by the weakness of the US dollar than the strength of the kiwi.
I think there is a sort of underlying negativism in New Zealand business, which can be self-defeating, and self-fulfilling. I think it is one of the big differences between us and Australia. Go and talk to the Australian business sector and there’s this underlying optimism. We always seem to be terribly worried…and there’s always some enormous catastrophe just around the corner that we must be rescued from. But of course government shouldn’t do too much. ( laughs) It should just rescue us.
Campbell:That’s right. New Zealand business seems to have this extremely negative view of government’s efficiency and capacity, and yet simultaneously looks to it as its first call for a hand-up…
Cullen: Absolutely. I think there’s a quite contradictory view of government that many of us hold in New Zealand. We see it as both our salvation, and as a subject of condemnation and despair. There is of course, a bit of truth in that. Governments can get in the way of things and governments can overload with compliance costs. That tendency has to be watched. …But governments are also investors in the future. We [ie government] still pay for the vast bulk of human skills acquisition, and human capital is the most important element in the modern economy.
So when people say oh, the private sector is the only sector that creates wealth, I say : but we create most of the human capital. We create most of the infrastructure… And also, we take a lot of the burden of costs off business. ACC for instance, is a hell of a good bargain from this perspective, compared to the US style liability scheme.
So lets kind of .. get a balance in all of this.