Time to Take the Road Less Traveled

Last week I attended the Fabian Conference entitled “Fresh Ideas For A Productive Economy” held at Parliament in the Legislative chamber. It’s the third time I’ve been there for a conference and it’s a good place to debate ideas away from the main chamber. As the title says, the focus was on fresh ideas and this was very appealing given the current government has been rather light in that area.

Two key themes developed from the 8 speakers and their various proposals:

1) New Zealand’s financial position and framework must be addressed.

The current debt situation is untenable in the long run. The borrowing binge of the government is driving up the currency and causing serious problems for our export sector. Whilst NZ has, so far, been exempt from the debt dramas of the US and Europe, that may not last forever. The exchange rate is volatile, our interest rates too high and our investment in property has led to a mis-allocation of resources. Market liberalisation has seen financial markets (the capital account) rather than the productive sector (the balance of payments) drive the economy. This has led to severe imbalances within the NZ economy which are leading to entrenched impoverishment for a large section of society.

2) We must invest more in Research and Development in order to create a more dynamic, broad and innovative economy.

Our investment in people is woeful. We are a low wage, unproductive economy heavily reliant on basic commodities to pay our way. We need a revolution in investment in order to boost productivity, innovation and general skills. As a small country and economy, we have to be clever and nimble in how we generate our wealth and the revenue we need to pay for the goods we import. Our good people leave and many don’t come back. Without sustained investment into research, development and education, we will continue to fall behind. This is about building core infrastructure at the human level. See Dr Rhema Vaithianathan’s research at the University of Auckland.

There seems to be a recognition that the current system is not working and that we need to look at alternative options. The ongoing turmoil in the global financial markets is further proof that the system is irreparable in its current form. When you add in dysfunctional welfare systems and a job market seeing huge technological dislocation, then the time has surely come to take a different track.

The policy proposals from the Savings, Tax and Welfare working groups have been disappointing. Perhaps they have been limited by their terms of reference and by the selected participants, but the output shows very much a business as usual approach, looking for solutions from the same place they found the problems. So what’s the new road?

Simply it is nothing less than a revolution in the way we think about income, sovereignty, wealth and entitlements. What is it that we, as citizens, should be entitled to? How should the state pay for it? How should citizens be taxed? and so on.

I believe strongly that the answer lies in a system underpinned by a Universal Participatory Income (UPI). This a variation of the more commonly know Universal Basic Income (UBI) or Guaranteed Minimum Income (GMI). The main difference is that to receive it you must participate in society in one of the following ways: employment, education, volunteering or caring. In other words you can’t sit around doing nothing. There are always jobs to be done even if those are not in formal paid employment. In this way people will be recognised for making a contribution to society and welfare will be seen as a stepping stone to a more fundamentally just system.

The good news is that there are at least fully costed options for a GMI open for discussion. One is from Lowell Manning entitled a “Guaranteed Minimum Income for NZ” and the other is from Gareth Morgan entitled the “Big Kahuna”. They are both similar in that they see the dissolution of the welfare state and the system that supports it. No longer will there be a raft of differing benefits, just one single payment to all citizens. There are similarities in how the new GMI will be funded in that the tax base will shift from income and towards capital. Morgan proposes a Comprehensive Wealth Tax (CCT) and Manning a Wealth Tax (WT). There are slight differences in the broadness of the tax capture but they are minor in the grand scheme. Income tax would be flat and superannuation would disappear.

The key point to note is that this does not remove the incentive to find paid employment but recognises the contribution made to society by non-paid work such as raising children, caring for the sick and elderly, as well as voluntary work. The removal of superannuation would take way the silly idea that all people “retire” at a specific age.

No doubt there will be a great deal of debate around the specifics once people have got their heads around the idea. For example, one question that will be asked is whether people will have lots of children to access lots of GMI. This is easily dealt with by limiting the number of children that will be granted the child amount of the GMI (I would argue for 3, some maybe 2). This would deal with concerns that people might game the system.

One of the main advantages will be a huge simplification in the fiscal framework. No more welfare bureaucracy, a very simple tax system and the knowledge for people that they can move between different forms of work, knowing that they have a basic income to support them. This will lead to a more efficient and productive economy and will ultimately lead to a more cohesive society.

It would be the most revolutionary change in the fiscal systems since welfare was first introduced and now is the time to start discussing and debating the different proposals.

Savings (Working Group): There aren’t any.

I’ve finally finished wading through the paperweight (as is the norm) aka the Savings Working Group report. Having read the initial commentary, I wasn’t that excited about the prospect but often in these reports there are useful nuggets of information. The main noise is around saving more and adjusting savings incentives especially to promote Kiwisaver.

What is not clear though is to what extent we have an actual savings problem. Our gross saving is at the low end of the OECD with Portugal and Greece below us along with two nations that might surprise: The US and the UK (page 121). There is also difficulty in analysing the differences between household and business saving. NZ is a country of small businesses and often business and household financials are closely interlinked. There is no definite conclusion around this issue and the report asks for further research into this topic, especially around data collection.

The macro level is really where the problem can be seen. When looking at the growth in national wealth, it’s clear to see that housing revaluations are the key driver (page 127) of growth since 1999. In fact “property revaluations explain nearly all changes in household net worth since 2001 (page 130). This is another way of demonstrating that we haven’t actually created any productive wealth: we’ve simply revalued our housing base and used that to fund increased consumption. That consumption has been funded by debt and that is why we have a serious debt problem.

So can we save our way out of this problem? Looking at the data on household incomes one would have to say “no chance”. Market incomes have fallen (yes fallen) for the bottom half of the population between 1988 and 2007 (page 140). That is simply astounding. This at a time when house prices have risen 490%. This is the cause of the deepening inequality between the owners of property and the renters. Even with benefits added in income for the first four deciles has remained largely the same (page 141).

Poor choices? Or simply no income with which to save. I think we must face the fact that half of our population is existing on meagre income. They cannot save and are likely to be in debt simply by virtue of not having enough cash to afford purchases or expenses outside of the simple basics of living. Those who have managed to get on the property ladder have prospered primarily because their asset has risen substantially in value. That is where their  savings lie. It should be noted though that, for many, this increased wealth is purely on paper.

At this point it might be worth looking across to data from Australia (page 128. Aussies actually have more of their wealth in residential property than Kiwis do (50% vs 46%). Investment in shares in much the same (8% vs 9%). The big difference is in long term assets. Aussies have 19% in Pensions and Superannuation whereas Kiwis have 2%. To balance that out Kiwis have 22% in business and farm assets against Aussies holding just 9%. So for Kiwis businesses and farms are their pensions. This is not an exact comparison but it’s clear that there is not much to separate the two countries other than Aussies invest in public companies and Kiwis keep it private. It also shows that Australia may have the same debt problem we do though they have benefitted more from the commodities bubble than NZ.

The oft quoted statement (from Ministers, the RB and other officials) that Kiwis should save more is somewhat optimistic. Save more from what exactly?

So what can we do? Well we can look at the other side of the savings coin and that is our expenditure. As a country we have essentially borrowed our GDP for the last 20 years. This is reflected in our current account position which has left us with a Net Foreign Liability (NFL) of 85% of GDP. Poor investment and low labour productivity (not sure where the NZBR gets its numbers from) has left is with nearly 40 years of negative current account balances (pages 20-24). The simple explanation is that we have consumed more than we have sold (plus all that accumulated and compounding interest). This consistent deficit should have seen NZ with a consistently weak currency (to allow the balance of payments to correct) but this has not been the case. NZ’s high real interest rates have been attracting overseas investment looking for a high yielding home (page 26). NZ is seen as a safe place to invest and, in an era of low global rates, has seen major inward flows which have not just funded the current account deficit but also the major revaluation in house prices.

The accumulated current account deficit has pushed interest rates thus forcing up the currency . This in turn has made imports even cheaper fueling the spending boom and embedding the circularity of higher prices in the economy (page 39). The bottom line here is that our currency is too high. This has been noted for some time but successive governments have chosen to ignore the problem, hoping that regular comments will help keep a lid on its appreciation. A 2010 IMF study estimated “that stabilising NFL would require the real effective exchange rate to depreciate by 20%”….that’s to just keep NFl where it is now. To reduce “NFL to 75% of GDP over 15 years would require the real effective exchange rate to depreciate by 25%” (page 36).

That would put the NZ$ at between $0.55-0.60. Ouch!

That is the real story to come out of this report. To summarise:

- We don’t save much because half the population has had no increase in income for 20 years.

- The other half have increased wealth due to large revaluations in house prices.

- The top 2 deciles have seen increases in wages and this is where most of the real saving is coming from (if any).

- Debt funded consumption has seen interest rates rise thereby sucking in more investment flows and boosting the currency.

- We have borrowed to live and really have no spare cash to save.

- The best form of saving is paying down debt, both private and public.

- The only way to improve our position is to export more and import less.

- The primary way to export more and import less is to engineer a significant and lasting depreciation in the currency.

- The second option is to develop and invest further in export based industries.

Adjusting tax incentives and boosting Kiwisaver are not going to help us out of this malaise. Only strong and decisive action can help us from here. So what would I recommend? That’s too much for this post but at a high level some of the following (most of which I have written about previously).

- Lower the exchange rate by direct intervention.

- Cut interest rates as well as bringing down the cost of mortgages which are still very high.

- Restrict bank credit by raising asset requirements.

- Build a self-sustaining energy sector.

- Introduce a basic income to replace welfare and superannuation.

- Liquidate the overseas portion of the Cullen Fund (now whilst markets are at 30 month highs).

- Invest more in the productive export sector.

- Oh and let’s have a land tax whilst we’re at it (this was ruled out by the government in the terms of reference!).

Next week: The Welfare Working Group reports…..can’t wait!