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DE RUEHWL #0108/01 1210455
ZNR UUUUU ZZH
R 010455Z MAY 09
FM AMEMBASSY WELLINGTON
TO RUEHC/SECSTATE WASHDC 5851
INFO RUEHNZ/AMCONSUL AUCKLAND 1960
RUEHBY/AMEMBASSY CANBERRA 5506
RUEHDN/AMCONSUL SYDNEY 0838
RHHMUNA/CDR USPACOM HONOLULU HI
RUEHZU/ASIAN PACIFIC ECONOMIC COOPERATION
RUEHSS/OECD POSTS COLLECTIVE
RUCPDOC/USDOC WASHDC 0300
RUEATRS/DEPT OF TREASURY WASHDC
RUEHRC/DEPT OF AGRICULTURE WASHDC
RUCNMEM/EU MEMBER STATES COLLECTIVE

UNCLAS SECTION 01 OF 03 WELLINGTON 000108 
 
SENSITIVE 
SIPDIS 
 
STATE FOR EAP/ANP, EEB, INR, STATE PASS TO USTR, PACOM FOR 
J01E/J2/J233/J5/SJFHQ 
 
E.O. 12958: N/A 
TAGS: ECON EFIN ETRD PGOV PREL NZ
SUBJECT: UPDATE ON NEW ZEALND'S MONETARY AND FISCAL POSITION AS THE 
GOVERNMENT PREPARES FOR ANNUAL BUDGET 
 
WELLINGTON 00000108  001.2 OF 003 
 
 
¶1.  (U) Summary.  On April 30, the Reserve Bank of New Zealand 
(RBNZ) reduced the Official Cash Rate (OCR) by 50 basis points to 
2.5 percent.  The RBNZ move continues a series of dramatic cuts 
since July 2008 when the OCR stood at 8.25 percent.  Economists 
reacted favorably to both the size of the cut and the RBNZ Governor 
hint of possible future cuts.  Meanwhile GNZ fiscal policy came 
under closer scrutiny in a recent OECD country survey with broad 
implications for the pending annual budget priorities.  Finance 
Minister Bill English continues to dampen public expectations in the 
lead-up to the May 28 budget by outlining his concerns about the 
economic storm hitting New Zealand and possibly scrapping planned 
future tax cuts.  End Summary. 
 
Monetary Policy Update 
---------------------- 
 
¶2. (U)  On April 30, the Reserve Bank of New Zealand (RBNZ) reduced 
the Official Cash Rate (OCR) by 50 basis points to 2.5 percent.  In 
making the announcement RBNZ Governor Alan Bollard said, "overall, 
developments since March (2009) point to lower medium-term inflation 
than previously projected - the main factors behind this are weaker 
global growth, and an unwarranted tightening in financial conditions 
via both higher long-term interest rates and a stronger exchange 
rate than expected." 
 
¶3. (U)  The RBNZ move continues a series of dramatic cuts since July 
2008 when the OCR stood at 8.25 percent, taking the OCR to its 
lowest level since it was created in 1999.  Significantly, Bollard 
indicated there may yet be more OCR cuts.  "We consider it 
appropriate to provide further (monetary) policy stimulus to the 
economy - We expect to keep the OCR at or below the current level 
through until the latter part of 2010."  "The OCR could still move 
modestly lower over the coming quarters," said Bollard. 
 
¶4. (U)  In announcing the move, Bollard, as he has with previous 
rate cuts, gave the commercial banks a public nudge suggesting their 
rates could be lowered further.  The commercial banks have been 
complaining about the high cost of borrowing from overseas - which 
makes up about 40 percent of their funding - as the root cause of 
the lack of significant discounting in the commercial interest 
rates.  In reaction to previous lowering of the OCR, the rates the 
commercial banks charge each other for funds rose, as did the New 
Zealand dollar since the last RBNZ intervention.  Long-term mortgage 
rates also rose as thousands of customers clamored to fix rates, 
thinking they might miss out on any possible future bargains. 
 
¶5. (U)  Westpac is the only commercial bank so far to announce that 
it will lower its six-month fixed mortgage rate to 5.39 percent from 
5.79 percent following the OCR drop.  Of the six major commercial 
banks currently operating in the NZ market (ANZ, ASB, BNZ, National, 
Kiwi and Westpac) the rates for commercial loans range from a low of 
5.39 to a high of 7.60 percent.  The New Zealand dollar (NZD) 
immediately dropped about three-quarters of a cent against the U.S. 
dollar (USD) following the announcement and was trading around the 
US56 cent range. 
 
¶6. (U)  Economists generally reacted favorably to both the size of 
the cut and the accompanying statement from the RBNZ Governor.  The 
latest National Bank business outlook survey released April 29 
recorded the biggest improvement in sentiment among Kiwi companies 
since the December 2000 survey.  "A turning point appears to have 
been reached for the economy," National Bank chief economist Cameron 
Bagrie said. 
 
¶7. (U)  The currency market reaction to the last OCR reduction in 
March seemed counter-intuitive and caused the Kiwi dollar to rise to 
the annoyance of exporters.  The RBNZ Governor's statement seemed to 
signal that any future cuts were "not likely to see the near-zero 
interest rates of other countries" which led currency speculation to 
assume they had reached bottom, which then lead to the Kiwi dollar's 
rise.  With the latest announcement by RBNZ and the possibility of 
future reductions in the OCR, pressure on the Kiwi dollar is likely 
to subside with improved prospects for exporters. 
 
OECD Biennial Report - Impact on Fiscal Policy 
--------------------------------------------- - 
 
¶8. (U)  The Organization for Economic Co-operation and Development's 
 
WELLINGTON 00000108  002.2 OF 003 
 
 
(OECD) biennial report on New Zealand's economy (released April 16) 
highlighted several dilemmas facing the Government as it finalizes 
the annual budget to be announced on May 28.  First, the OECD warns 
that the recession in New Zealand will be deep and protracted. 
Moreover, it sees little room for further fiscal stimulus and looks 
instead to the RBNZ to deliver more relief. 
 
The OECD Report's major recommendations: 
 
-- Raising the age of eligibility for NZ Superannuation and 
de-linking it from the average wage. 
 
-- Lowering company tax and the top income tax rate but raising 
GST. 
 
-- Privatizing Air New Zealand, KiwiRail, KiwiBank, Solid Energy and 
the three state-owned electricity generators. 
 
-- Overhauling funder/provider relationships in the health sector. 
 
-- Making more use of the toll roads and congestion charging. 
 
¶9. (U)  The OECD report highlights a trio of problems facing the 
Government budget planners.  Two are of long standing, one is new. 
First is the ageing of the population, with its implications for 
higher health and superannuation (social security) costs in the 
future.  Both pension and health spending are expected to grow 
faster in New Zealand than in the OECD as a whole, it says, taking 
up an additional 8.2 per cent of GDP by the middle of the century. 
Second is the underlying underperformance of the economy in terms of 
productivity.  Some of that, the OECD concedes, may be put down to 
being small and remote, but some of it might be improved by better 
policy.  The third, and new, factor is the recession.  The OECD 
forecasts that over the course of 2008, 2009 and 2010 the economy 
will shrink a cumulative 2 percent but inflation should remain low. 
 
¶10. (U)  The tax base by the end of next year will be significantly 
smaller than might have been expected, by tens of billions of 
dollars, leaving the Government with a permanent downward shift in 
the revenue track.  In addition, steeply rising debt, as deficits 
replace the fiscal surpluses of the past 14 years, will add to the 
taxpayer's burden.  Per the OECD, this leaves the Government with a 
delicate balancing act - it has to ensure fiscal policy is not a 
drag on the economy, which would be self-defeating.  The OECD report 
warned, "it is vital that next month's budget presents a credible 
medium-term program that will re-establish a structural surplus, and 
a surplus large enough to cope with the pressures of an ageing 
population - failing that, the Government would need to begin to 
scale back future health and pension spending." 
 
Critique of OECD Recommendation 
------------------------------- 
 
¶11. (U)  Opposition Labour Leader Phil Goff said the OECD's forecast 
that the economy would remain in recession through the rest of the 
year was at odds with Prime Minister John Key's view of an 
aggressive recovery beginning late this year or early next year. 
"Two-thirds of the fiscal stimulus which had taken place already was 
in Labour's budget last year," said Goff.  He noted the OECD's 
observation that tax cuts tend to be less effective than increased 
Government spending ("if judiciously chosen") as a boost to demand. 
"The tax cuts at the start of April 2009 were especially impotent as 
they were targeted at those on higher incomes who would be more 
inclined to save them than spend them," according to Goff.  He 
expects the Government will not go ahead with the tax cuts promised 
for 2010 and 2011 which Goff believes wil leave most New Zealanders 
worse off than they would have been under Labour's package.  Goff 
also rejects the OECD's call to sell state assets. 
 
¶12. (U)  The Council of Trade Unions (CTU) economist Peter Conway 
said the report contained some good suggestions but it largely 
missed the point.  "Although there are some good suggestions made, 
overall the prescription is to privatize in electricity, ports, ACC 
(publicly funded accident and disability insurance) and health 
despite the fact that we have just witnessed massive private sector 
failure in financial management which has required huge bailouts by 
the public sector."  The CTU says the OECD's other proposals such as 
lifting the retirement age and breaking up national wage bargaining 
 
WELLINGTON 00000108  003.2 OF 003 
 
 
in the health sector also raise major concerns. 
 
Expectations for May 28 Budget 
------------------------------ 
 
¶13. (U)  Internalizing some of the OECD recommendations, Finance 
Minister Bill English continues to dampen public expectations in the 
lead-up to the May 28 budget.  English recently outlined his 
concerns about the economic storm hitting New Zealand and began to 
put forward a case to scrap planned future tax cuts.  "Because of 
the difficult economic and fiscal circumstances we face over the 
next few years, we've signaled that we are considering the future of 
income tax cuts planned for 2010 and 2011, as well as the 
Government's contributions to the New Zealand Superannuation Fund." 
In a recent speech to businessmen in Christchurch, Mr. English 
repeated much of the dark economic statistics he faces in writing 
his first budget.  The budget will focus on reprioritizing 
government spending, particularly spending for public services. 
There will be no room for significant fiscal stimulus in the budget 
and the rate of increased spending will be lower than in the past. 
He said New Zealand is expected to permanently lose about NZ$50 
billion of output over the three years to 2012 because of the 
recession.  Tax revenue and receipts for the eight months to 
February are NZ$1.8 billion lower than forecast in the pre-election 
update. 
 
¶14. (U)  English said his budget would set ways to preserve 
entitlements at current levels -- such as superannuation payments -- 
and stop debt levels blowing out to 45 percent of GDP by 2013. 
(Note: NZ ranks 29 out of 31 OECD monitored countries -- includes 
Euro area as composite -- in its percentage of debt to GDP just 
ahead of Hungary and Iceland; the U.S. is 16.  End Note.)  The 
superannuation fund had been set up when the Government's accounts 
were expected to stay in surplus for the foreseeable future.  "The 
Government will have to borrow quite a lot of money to make its full 
superannuation fund contributions.  Next year we would have to 
borrow around NZ$2 billion, or around NZ$40 million a week to put 
into the fund, to be invested in what are currently uncertain global 
financial markets." 
 
¶15. (SBU)  Comment:  Despite the National Party's campaign promise 
to deliver on future tax cuts, it seems prepared to accept some of 
the OECD recommendations and face the storm of criticism from 
political opponents rather than exacerbate the country's debt load 
by turning to international financing to maintain current fiscal 
levels.  The National led government has been emboldened by recent 
polling indicating that fifty-two percent of voters favor this 
approach.  Meanwhile, privatization of state owned assets is likely 
to remain on hold, at least in the near-term, but attempts to run 
those enterprises along private sector principles will be expected. 
 
KEEGAN