12 th Annual Public Sector Finance Conference Government Spending Roger Kerr 18 August 2008

Spending, Productivity and Economic Growth “The literature is indeterminate about the relationship between government spending and economic growth” Lazy statement No OECD country has sustained fast per capita growth with government spending at 40% of GDP New Zealand’s current ratio (central plus local government) now 42.4% of GDP Australia 32.9% (second lowest in OECD) Singapore and Hong Kong below 20%

Some empirical findings “Empirical literature increasingly supportive of negative impacts of taxes on GDP, productivity, investment” –Norman Gemmell, Treasury Taxes a major factor in higher productivity of United States relative to Europe –Ed Prescott Winton Bates: How Much Government? The Effects of High Government Spending on Economic Performance Keith Marsden: Big, Not Better?

Comments Quantity matters Deadweight costs of taxation (up to $2 for every $1 of tax at the margin) Quality also a problem Other impacts: inflation, competitiveness, productivity

Labour productivity average annual growth rates % increase NZ Measured Sector AU Market Sector AU Market Sector NZ Former Measured Sector (Source: Capital Economics Limited, Australian Bureau of Statistics & Statistics New Zealand 2008)

Conceptual basis for government spending Need government spending on core roles Public goods and a safety net Might justify spending of 15% of GDP (Ted Sieper) Social outcomes not superior with big government (Tanzi and Schuknecht) Winton Bates: Reducing low quality spending from 40% to 30% of GDP could raise growth by 0.5% pa for years

Quality Widespread view that much spending does not represent value for money Audit Office reports 95% of base spending not reviewed No Treasury criteria for government spending (cf guidelines for regulation) Focus must be on programmes (Is the programme justified? At what level? Is it achieving goals?) and cost of inputs (especially labour)

Examples of poorly justified spending Middle-class welfare - churning Criteria for benefits (US-style reforms) Debt servicing (Cullen Fund, SOEs, Reserve Bank FX injection) Corporate welfare KiwiSaver subsidies John Gibson research on pay differentials Bureaucracy

How to control government spending? Across-the-board cuts make no sense –Would you do that with a household budget? – not all spending of equal value Need a focus on quality plus A top-down tax and spending limit

Obtaining better value for money Start with Treasury spending guidelines Exit private goods activities and contract out Introduce choice and competition (eg health, education, ACC) Review base spending on basis of guidelines Use independent task force (Californian exercise recommended savings of US$32 billion) Reform Local Government Act 2002

Introduce top-down constraint Fiscal Responsibility Act/Public Finance Act not an effective discipline MMP a compounding factor Business Roundtable favours a Tax and Expenditure Limit (eg population growth plus inflation) unless taxpayers approve higher spending via a referendum Surplus revenue to be returned to taxpayers (cf 2008 Hong Kong budget) Many similar concepts: Hong Kong Basic Law, US states, US federal proposal in Friedman’s Free to Choose Apply similar rules to local government