Impact of tax switch in 2010 yet to be realised

04:06, Apr 07 2012

He said it until he was practically blue in the face. "The tax reforms we are introducing have been designed to be broadly fiscally neutral," Prime Minister John Key repeated the day after the 2010 Budget.

Across the board income, company and savings tax cuts would have "an initial upfront cost" for the Crown coffers. But tax increases elsewhere and the steeply rising macroeconomic rewards predicted for the economy from the changes would see an initial $460 million cost in 2010-11 become a $175m benefit by 2013-14.

Mr Key, it seems, was more or less right – so far, at least.

A first blush on the impact of the changes appeared in the financial statements that covered the first nine months of the tax-switch package.

Where a $2.9 billion price tag was expected for the tax cuts, a $2.7b hit was absorbed over the nine months they were in place. And where a $2b upside from increasing GST was predicted, $1.6b was netted.

That, Green Party co-leader Russel Norman says, adds up to a $1b revenue hole the Government has dug itself because of its "broadly neutral" tax switch. "The Government has crashed the revenue side of the Budget," Dr Norman says.


He is particularly concerned by further figures out this week showing revenue again coming up hundreds of millions of dollars short of what was expected.

Continued "soft revenue" is partly behind the Government's decision to further rein in new spending in the Budget – winding it all the way back to zero for the second year in a row.

"The forecasts keep getting updated, and a lower tax take does mean you have to be a bit more careful with your spending," Finance Minister Bill English says.

But even with another tight Budget, tumbling revenue must imply more debt, Dr Norman insists.

The Government's borrowing remains a fraction of the private sector's, but it is still growing.

Before last year's election, Crown net debt was forecast to be 25.4 per cent of GDP this year. That has been revised up to 26.3 per cent – and it gets worse. Next year, it is tipped for 29.4 per cent, before peaking at 29.6 per cent of GDP in 2015.

"What household would slash their income sources when times are difficult, thus throwing themselves deeply into debt?" Dr Norman says.

The assault Dr Norman launched at Mr English and Mr Key in the House this week plainly had some impact. Mr English was sufficiently moved to quip that while he disagreed with Dr Norman's analysis, he was "much more astute and persistent about these issues than the four economic spokesmen of the Labour Party".

Mr English, in fact, wound up in the rather unlikely role for a National Party finance minister of loudly proclaiming how the sum of his tax changes had actually boosted revenue. A table prepared by his office was waved about in the debating chamber. It tossed in the fiscal impact of all the other tax changes in the last four years – including the cancellation of tax cuts earlier planned.

Once a cool $1b was banked for the latter, and a further $537m from last year's KiwiSaver and Working for Families changes included, Mr English was crowing about a net $1.4b boost to the tax take in 2011-12.

But his point specifically on the 2010 tax switch is more subtle. Basically, the Government always expected the switch would cost it revenue in each of the first three years of running. By year four, however, the switch would start paying dividends both for the government and the economy. The article of faith for this view is a whopping $435m of revenue the Treasury has sheeted for the "macroeconomic effects" of the tax switch once it has fully stretched its legs by 2013-14. Without it, the tax switch actually gets more expensive in its fourth year.

PricewaterhouseCoopers chairman John Shewan is a believer.

"I think the right steps were taken," Mr Shewan says.

"There is no doubt that we want to come out of this deficit as quickly as possible, and that is dependent on economic growth. But the good news is that it's absolutely clear that lower tax rates are better for economic growth than higher tax rates."

The soft revenue showing up in the Crown accounts at the moment is a reflection of an embattled global economy and has nothing to do with the tax switch, he says.

"I don't accept for a moment the proposition ... that now that we've got a bigger deficit than expected that demonstrates the tax switch was the wrong thing to do."

The first full tax year under the changes only wound up at the end of last week. When the shape of the numbers flowing from those tax returns is known, the impact of the great tax switch of 2010 will finally become a little clearer.

The Dominion Post