The real cost of National’s borrowing programme

Finance Minister Michael Cullen today released figures showing the interest bill on the $3.5 billion National would borrow for tax cuts would accumulate rapidly to over $1 billion a year - and would keep accumulating.

“The figures, based on the ready reckoner provided on the Treasury website, show the cumulative interest rate cost rising to $454 million in Year Three, $795 million in Year Four and to over $1 billion a year in Year Five.

“National’s alternative budget shows borrowing of $3.5 billion over the first term but what many people may not have grasped is that this debt would continue to sit on the Crown accounts and to accumulate burgeoning interest rate costs.

“To borrow for tax cuts is crazy under any circumstances but is particularly bonkers in an economy where total debt is already sitting at 105 per cent of gdp,” Dr Cullen said.

Government debt has reduced from 61 per cent of gdp in 1990 to 25 per cent in 2004 but household debt has moved in the opposite direction, increasing over the same period from 32 per cent to 80 per cent of gdp.

“These are dangerously high levels of indebtedness. To increase them to fuel consumption, because the evidence of past tax cuts is that they have flowed through to increased spending rather than to increased saving, is absolutely barmy,” Dr Cullen said.

He pointed to Berl forecasts showing inflation either close to or above the 3 per cent during the rest of this year and most of next year.

“The effect of National’s tax cuts in this environment will be to force the Reserve Bank to push up interest rates or – at the very least – to keep rates higher for longer, a point many economists have already made,” Dr Cullen said.

Contact: Patricia Herbert, press secretary, 04 471 9412 or 021 270 9013 patricia.herbert@parliament.govt.nz

Attached: table showing additional debt servicing costs under National. Quotes from economists regarding the inflationary impact of National’s tax cuts.

Debt Servicing Costs Incurred by National’s $3.5 b Additional Borrowing

Economists’ quotes:

Brian Easton: The fact of the matter is that National’s tax cuts will raise its borrowing faster than GDP growth. Whatever the words and excuses, it’s the effect of the stimulating fiscal stance which I want to explore. You can think about their fiscal injection in two ways. First income tax cuts will increase household’s incomes. Consumers will spend most of the additional income. But with unemployment as low as 3.7 percent (apparently the lowest in the word) , the economy cannot produce much more. That means that either there will be severe inflationary pressures, or that the extra consumption will be provided by imports or – and this is the most likely – both. Second, there is the additional government borrowing. The two sides lead to the same prediction. Domestic interest rates will have to rise.

Gareth Morgan: Our economy is at full capacity now so there is little leeway for the Reserve Bank to allow the economy to run hotter. If it faces excited spenders letting loose in anticipation of promised tax cuts it will have no choice (remember the pre-gst booms) but to raise interest rates sooner rather than after the event. This risk is slightly higher with National's package as announced, but then National does have a card up its sleeve -- it could declare on "opening the books" that things are worse than it thought when it didn't have access to all the information, and it will have to phase its tax cuts in more slowly.

Ulf Schoefisch: It might moderate the easing cycle when it comes. It might mean we don’t get the last 25 or 50 basis points of interest rate cuts that we might otherwise have got.

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