Quick fix: Pedestrians walk past a Moore Wilson & Co supermarket in Wellington. The success of New Zealand’s reforms are reflected in its fiscal performance, says Ball. — BloombergWELLINGTON: In the early 1980s, New Zealand was on the brink of economic collapse.
Two oil price shocks had saddled the country with high inflation, and the United Kingdom’s decision to join the European Economic Community a decade earlier had cut off access to a key export market.
Successive governments had compounded the pain with a series of policy errors – throwing around subsidies, awarding inflationary pay deals and trying to control prices, while keeping interest rates too low and taxes too high.
The result was soaring unemployment and mounting debts.
No wonder some dubbed New Zealand the Albania of the South Pacific.
Yet over the remainder of that decade, New Zealand was transformed into one of the most prosperous countries in the world.
A new Labour government took office in 1984 and embarked on a form of shock therapy that came to be known as “Rogernomics” after Finance Minister Roger Douglas.
The government removed exchange controls, slashed subsidies, privatised services and handed responsibility for setting interest rates to a newly independent central bank.
New Zealand also introduced a different accounting approach throughout the public administration.
It is impossible to separate out the precise impact of each of these policies.
But Ian Ball, a former senior Treasury official, professor of public finance management at Victoria University in Wellington, and one of the authors of Public Net Worth (Palgrave Macmillan, February 2024), says accounting reform was among the most consequential.
Accounting is notoriously dry stuff. But switching to an accruals-based approach used in the private sector, and away from the cash-based systems traditionally used by governments, forced departments to think long-term and maximise the efficient use of assets.
This is especially relevant in the United Kingdom at the moment with the government on the cusp of major budget reform.
To see what this means in practice, take the case of public sector pensions.
Under a cash-based system, the debt is accounted for when the pension is paid, which could be years in the future.
The government has little incentive to make any provision for it.
But with accrual-based accounting, the cost of the pension commitment must be recorded as a liability when the benefit is earned.
That led the New Zealand government in 2001 to establish a Superannuation Fund to pay for future pensions.
Today, this quasi-sovereign wealth fund is regarded with jealousy by countries that wish they had something similar.
Take another example: Under an accruals-based system, the budget includes a charge each year to reflect the fact assets such as buildings and infrastructure deteriorate and eventually become obsolete.
This is what accountants call depreciation.
Because the cost runs through annual budgets, there is a strong incentive for governments to enhance the value of their assets by managing them efficiently.
Under a cash-based system, there is no such incentive, meaning long-term investment is deferred, and future generations are left to pick up the bill when buildings fall into disrepair and the infrastructure crumbles.
The success of New Zealand’s reforms are reflected in its fiscal performance, says Ball.
“What you see is a very significant change.
“We had had two decades of deficits before these reforms, but once they were in effect, from around 1994, we had basically a trend of strengthening the balance sheet and increasing net worth.
“And as you strengthen the balance sheet, you have the effect of reducing debt too.”
With the exception of the four years after the global financial crisis and the devastating Christchurch earthquake in 2011, which caused damage equivalent to 11% of gross domestic product (GDP), net worth grew every year until the pandemic.
Ball is on a mission to export New Zealand’s experience.
In collaboration with colleagues from around the world, including a historian, a banker, a former UK Treasury official and the former global chief economist at Citigroup Inc, he has written Public Net Worth to explain how this approach could be the answer to the one of the biggest challenges facing almost every government today:
How to tackle excessive public debt, particularly at a time when ageing populations, geopolitical tensions, geoeconomic fragmentation and the costs of combating climate change add to fiscal pressures.
US public debt is close to 100% of GDP and is projected to rise to 122% by 2034.
Many eurozone countries are struggling to bring debts and deficits under control to comply with single currency rules. The situation in many developing countries is even more stark.
Indeed, economists from the International Monetary Fund (IMF) have warned that global public debt may be higher than previously known and getting worse, and that countries will have to make much more significant fiscal adjustments to deal with the problem.
According to the IMF’s latest estimates, global public debt will exceed US$100 trillion by the end of this year, equal to about 93% of global GDP.
Against such a backdrop, the authors argue that accrual-based accounting could improve public sector productivity, helping ease the pressure on cash-strapped governments.
For example, they reckon governments could make easy gains through better management of their public property.
Cash-based accounting values property based on what you paid for it, less depreciation, with no reference to the current market value.
But without up-to-date valuations of assets, government decision-making takes place in the dark.
Should a building be renovated or sold?
How much should the state charge for its services?
A road network, for example, is a valuable public asset.
But in a cash-based system, there is no incentive to generate money from it, whether via tolls or road-pricing or some other mechanism.
In New Zealand, says Ball, one of the early exercises was to work out an appropriate capital charge for public services.
Armed with that information, the government could then decide who was best placed to deliver them: the state or the private sector.
As the old saying goes, what you can’t measure you can’t manage. — Bloomberg
Related posts:
